The crackdown by pan-European regulators on the contracts for difference (CFD) trading industry, which allows investors to track the price of underlying assets such as stocks, commodities, government bonds and cryptocurrencies, is starting to affect some of the industry’s biggest players in the City of London and beyond.
Last month, the European Securities and Markets Authority (ESMA) opted to extend its new cap on CFDs and forex leverage beyond the initial three-month trial term that was due to conclude on 1st November.
The cap relates to the marketing, distribution and sale of CFDs to retail CFD trading clients, aimed at protecting investors’ best interests. The restrictions have already been felt within the online brokerage industry, with some of the leading brokers in the City of London reporting declining revenues. The ESMA implemented a cap on the CFD industry which introduced a ceiling on client leverage and restrictions on marketing to new customers. Paul McGinnis, analyst at Shore Capital, believes that the earliest indications are that the “regulations have bitten quite hard”. Some CFD brokers may have seen their revenues drop by “north of 50 per cent”.
What does the renewal of ESMA’s restriction on CFDs mean?
The decision to renew the cap on the CFD industry across Europe means that leverage limits on new positions opened by retail clients can be a maximum of 30:1 for leading fiat currency pairs. Maximum market leverage of only 2:1 is offered to retail clients wishing to trade the price of cryptocurrencies via CFDs, which is largely due to the volatility of digital assets at the time of writing. Commodities other than gold and non-major equity indices are restricted to market leverage of 10:1.
The restrictions also incorporate a margin closeout rule, standardising the percentage of margin at which CFD brokers are forced to close out open CFDs made by retail clients. Negative balance protection has become a standardised rule of thumb too. This ensures that retail clients can only lose the amount of money that they deposited into their accounts and not a penny more.
CFD brokerage firms have also been forced to display new standardised risk warnings, such as the percentage of losses on their retail investor accounts, designed to put new clients firmly in the picture. Some CFD brokers may be forced to diversify their services into new markets and territories to circumvent the ESMA’s restrictions. Some retail clients are even feeling the need to move offshore to avoid EU-regulated brokers. Nevertheless, the CFD Compliance and Trading Forum has publicly praised the new restrictions, insisting that the “net effect” of the rules was “excellent for the market” in terms of its integrity and transparency.
A spokesperson for the CFD Compliance and Trading Forum said: “There were times, not so long ago, that you would receive hundreds of calls” from brokerage firms “promising the world” with “lucrative promises and returns”. However, they confirmed that this “has been completely cleaned up”. The renewed ESMA measures will be published in the Official Journal of the EU and will then be applicable from 1st November 2018 until the end of January 2019.
