ESMA Regulations: Impacts on Trading in Forex and CFD

  • By Learn CFDs

  • June 13, 2018
  • 12:52 am BST

The most recent development in trading regulation guides is the publication of the ESMA CFD intervention. This regulation is, in essence, a set of measures that affects investors as it will “prohibit binary options and restrict CFDs”, according to an official press release. These new regulations will directly affect online brokers in the European Union, and here’s how.

What is the ESMA regulation and how does it affect CFD trading?

The European Securities and Market Authority (ESMA) has been created to attempt to protect European financial stability and investors in the EU. These CFD and forex regulations will be obligatory to all EU trade members. Through this, maximum leverage caps will be implemented according to each instrument’s volatility. The leverage ratios will be:

  • 30:1 for major currency pairs
  • 20:1 for minor currency pairs, gold and major indices
  • 10:1 for commodities and minor indices
  • 5:1 for individual equities and 2:1 for cryptocurrencies

The majority of online brokers offer between 100 and 1,000 times this amount for capital, but the new regulations will require 3.3% of their capital as a deposit for major FX pairs, and possibly more for other instruments.

How will investors be affected by the ESMA regulations?

 The immediate results of ESMA on retail trading show that up to 89% of clients are losing a considerable amount on their investments, averaging between €1,600 to €29,000. And while retail investors are losing out, the new CFD regulations give amateur traders, with little understanding of risk management, an advantage. Brokers like Plus500, eToro and Interactive Brokers, to name a few, will be affected by the ESMA regulations. However, the general consensus regarding this implementation among brokers was positive.

Further changes on the horizon include the protection of negative balances, standardized ruling to close positions once they drop below 50% of the margin and a risk warning on CFD retail investor accounts.

Brexit and the effects on the UK’s CFD brokers

 The UK is currently part of the EU, of which all members are affected by the ESMA regulations. Should Brexit successfully withdraw in March 2019 as planned, the UK should no longer be bound to these ESMA terms. However, the FCA is consulting as to whether or not these regulations should be applied to all CFD brokers supplying to retail traders, regardless of whether or not they are part of the EU. ESMA regulations will be applied from 2 July 2018, for retail traders and 1 August 2018 for CFD and FX traders.

What does Learn CFDs make of all this?

 At Learn CFDs, we believe that the move towards a more client-friendly CFD industry will be beneficial for both clients and the industry at large, especially regarding the limited binary options, restricted CFDs and limited maximum leverage. While many clients are unfamiliar with CFDs, the ESMA regulations could provide essential knowledge to European clients on aspects like risk management and leverage concepts. A comparison of CFD trading fees finds that these fees may be inaccessible and difficult to compare for the retail investors themselves.

The demand for cryptocurrency trading is high and should therefore also be considered during the forthcoming change. The risks of this type of exchange through crypto exchange providers lie in the fact that they aren’t well regulated, making CFD brokers a better option. CFD brokers are well regulated, more stable and safe, and the investors are protected by the country’s investor protection amount.

The best option for traders to prepare for these changes is to reanalyse their positions and be sure that they are aligned with the ESMA CFD regulations, so as not to be affected negatively by the new regulations when they are put in place.