ESMA speculative financial products crackdown plans could increase risk, says expert

In a statement issued last week ESMA said it had been concerned about the provision of speculative products such as CFDs, including rolling spot foreign exchange products, and binary options to retail clients for a “considerable period of time”. It is already conducting ongoing monitoring and supervisory convergence work in this area and some regulatory authorities have adopted national measures to limit the provision of these products to retail clients.

However ESMA said despite these actions it was still concerned that the risks to investor protection were “not sufficiently controlled or reduced” and it was now considering using the product intervention powers granted in the second iteration of the Markets in Financial Instruments Regulation.

The proposals include a ban on the marketing, distribution or sale of binary options and CFDs to retail clients. With regard to CFDs, ESMA is also proposing leverage limits on the opening of positions, depending on the volatility of the underlying asset; a margin close-out rule; negative balance protection to provide a guaranteed limit on client losses; and a restriction on benefits incentivising trading.

Financial services regulation expert Michael Ruck of Pinsent Masons, the law firm behind Out-Law.com, said: “ESMA’s proposals will severely reduce the extent of online leveraged trading in the EU."

“As with other restrictions on retail customer access to financial services products, the risk is that those wishing to trade go elsewhere in order to do so. With regard to CFDs this would include retail customers seeking to trade via offshore, unregulated brokers which offer higher levels of leverage and therefore greater risk,” Ruck said. 

“ESMA will need to carefully consider such consequences, and others which may not be foreseen but increase the risks to retail customers, if it pursues prohibition of retail customer access to CFDs rather than implementation of a structured regulatory framework to control trading of the same,” Ruck said.

ESMA said it would hold a public consultation in January 2018 on the proposals, when its powers under the Markets in Financial Instruments Directive II come into force.

The UK Financial Conduct Authority (FCA) said it supported ESMA's approach. The FCA is continuing domestic policy work on permanent intervention measures which would apply to firms offering CFDs and binary options to retail clients, having previously delayed the introduction of new rules pending confirmation of ESMA's approach.

CFDs are complex financial instruments offered by investment firms, often through online platforms, including the likes of spread bet and rolling spot foreign exchange products. They effectively enable investors to bet on the extent to which the value of an underlying asset, such as equity shares or foreign exchange rates, will rise or fall. For a small deposit, traders will place the bets on behalf of customers at leverage rates of as much as 200:1, which can cause financial detriment if the bet fails.