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New CFD Regulations: Don’t Throw the Baby Out with the Bath Water

new CFD regulation opinion

New CFD Regulations: Don’t Throw the Baby Out with the Bath Water

What Happened?

On 18th August 2016 the Belgian Government enacted legislation banning all CFDs, Spot FX and Binary Options. The minister responsible explained:

“Henceforth, it will be clear to everyone that binary options and other speculative derivatives have no place on the Belgian retail market.” At once conflating the risible Binary Option with the legitimate CFD…

On Tuesday 6th December 2016 the FCA announced a package of measures to better regulate the CFD industry, and by extension Spread Betting.

My question is – where is this path leading? Will the FCA end up equating Binary Options with perfectly legitimate products like CFDs?

Upon the release of their statement the shares in CMC Markets, Plus500 and IG Index plummeted between 22% and 38%, so clearly the market is worried…

You can see a full analysis of the rules on the FinanceFeeds website here, but as an overview, the FCA’s new measures include:

  • Introducing standardised risk warnings and mandatory disclosure of profit-loss ratios on client accounts
  • Reducing leverage of traders with <12 months experience to a max of 25:1
  • Capping leverage at a maximum level of 50:1 for all retail clients and lower caps for some products
  • Banning bonuses and incentives to open a trading account
  • Some vague words about how Binary Options are bad…

Good Intentions

I can see what the FCA is trying to achieve. They don’t want FCA regulated firms providing a financial service that is vastly more likely to end up with clients losing money than making money.

According to their own release:

“The FCA’s analysis of a representative sample of client accounts for CFD firms found that 82% of clients lost money on these products.”

The problem with this is that CFDs are better seen, in my opinion, as a financial tool than an ‘investment product.’ The trader still has complete control of their own financial destiny. The fact that trading long enough and well enough is beyond most people is not the fault of the humble CFD.

How many people who buy and sell shares as active traders with no leverage make money in the long run?

They clearly have good intentions, but is it the job of the FCA to police whether people are good traders? If people fully understand the risks of leverage and how to mitigate them, then why should they be limited to 50:1 or even 25:1 on low volatility FX pairs?

Maybe the FCA would be better focussed on shutting down Binary Options firms who effectively steal depositor money – taking it with no intention of ever releasing it back! (Look elsewhere on the Finance Feeds website for more info)

Maybe the FCA would be better served spending it’s time stopping these nefarious firms from passporting in from other jurisdictions (CySEC…) with a nod and a wink and barely any oversight, than in telling clued up traders what they can and can’t do at their own computer?

Unintended consequences

If you limit the leverage ratios on Spread Betting then are you not, in fact, forcing spread bettors to deposit more money in order to be able to participate in the markets? If they are 82% likely going to lose then this just means that  they’ll lose more…

With my current spread betting provider – CMC Markets, a London listed market leader with a long history – I currently get an automatic 500:1 leverage on GBP/USD.

So if a new trader wanted to bet £1 a pip on GBP/USD right now they could control a position of £12,600 with £26 margin.

This sounds insane, but it really isn’t if you understand  spread betting and currencies. The low volatility (in pip terms) means that whilst there are 12600 pips there to lose, the average daily range is only (right now) around 120 pips.

If someone who understands leverage and risk trades with a stop loss, betting £1 a pip then it seems desperately unlikely that they are going to lose all £12,600…

If our new trader wants to open a trade at £1 a pip and is limited to 25:1 leverage then he will need to put down over £500 margin.

So if he wants to have a few trades open he might need £2000….£3000? £5000? More?

So our new trader has gone from opening a £500 account to see how trading works, see if he likes it and see if he can he make himself profitable, to being forced to open an account maybe ten times as large, or more, just to have the margin!

If 82% of traders lose money (or more depending on who you believe), even in the long term, then surely he is just as likely to blow up that £5000 account as he is the £500 account and his losses are now ten times as large.

Limiting his leverage just means he’ll lose his money slower and probably lose more in the long run!

Surely this is a classic example of good intentions that have unintended consequences?

Where does it stop?

Moving away from brand new traders, what are the implications for experienced traders who use these products to make a money or even their whole living?

If these measures began and ended with limiting leverage on CFDs and getting rid of the ridiculous bonuses that brokers offer (which only serve to increase your trading turnover, and thus decrease your likelihood of success) then I’d be reluctantly OK with it.

But my fear is that this is just the beginning.

Reading the FCA release you can see that they were largely prompted by fears about Binary Options – legitimate fears about a shite product usually pushed by disreputable companies.

But a quick scout over the English Channel shows that when countries ban Binary Options they often end up throwing the baby out with the bath water.

As mentioned at the top of this blog, Belgium banned all leveraged CFDS and Spot FX just for good measure when they shut down Binary Options!

These are not the same thing. One is risky trading product that can be used to great effect and the other is a bullshit gambling product that is mathematically weighed against the ‘trader’!

This is step one – where does the overzealous civil servant go next?

Just My Opinions

I have only been at this game since June so I am not going to sit here and tell the FCA what to do.

These are only my opinions and those that know me may well suspect that they are influenced by my natural tendency to be suspicious of all government interference… So take it with a pinch of salt.

But I suppose what I am saying is: By all means ban Binary Options, or at least marketing Binary Options as a trading product; good riddance…

But if the end result of this is a ban on Spread Betting, CFDs and Spot FX even for traders who understand the risk, then that would be a massive f*cking pain in my arse.

Two Blokes Trading

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