FCA Proposes to Clamp Down on CFDs

The Financial Conduct Authority (FCA) is proposing to clamp down on CFDs (contracts for difference) and similar financial products such as binary bets. CFDs are complex financial products that have historically been used by sophisticated traders. But they have been growing rapidly in usage by small retail “investors” and the FCA reports that 82% of them lose money based on a review of such accounts.

CFDs are a way of acquiring an interest in a listed company without paying stamp duty. It is also a way to leverage your investment because for a small stake you can obtain all the return from the growth (or decline) in a share price. In fact you can leverage up to 200 times.

The way these accounts are promoted also causes concerns. The same techniques as used to promote on-line gambling accounts are prevalent – account opening special offers for example.

The FCA proposes:

– Introducing standardised risk warnings and mandatory disclosure of profit-loss ratios on client accounts by all providers to better illustrate the risks and historical performance of these products.

– Setting lower leverage limits for inexperienced retail clients who do not have 12 months or more experience of active trading in CFDs, with a maximum of 25:1.

– Capping leverage at a maximum level of 50:1 for all retail clients and introducing lower leverage caps across different assets according to their risks. Some levels of leverage currently offered to retail customers exceed 200:1.

– Preventing providers from using any form of trading or account opening bonuses or benefits to promote CFD products.

There are several listed companies that provide CFDs – for example IG Group (IGG), CMC Markets (CMCX) and Plus500 (PLUS). Their share prices all fell very substantially after the announcement although one pointed out that it might simply result in clients moving to unregulated overseas providers.

Comment: It is very clear if you look at the way these accounts are marketed that they are promoted as “get rich quick” schemes where you can make lots of money from short term speculations. Indeed they look more like gambling than investment. Investment can be defined as where you invest in the shares of a company on the basis that you will get a long term return (via dividends and capital growth) as that business generates profits. CFDs are rarely investments and it is fairly clear that most retail customers for many CFD trading platforms do not understand the risk profiles and how these products work. Indeed one only has to look at the accounts or prospectuses for companies such as Plus500 to realise how profitable they are (i.e. they make money even if their clients do not), and the high “churn” rate of their customers. The age old question remains though. Should the FCA be protecting consumers against their own foolishness? Or perhaps in a more nuanced version of the question: should the FCA be stopping the worst abuses, or perhaps regulating them in the same way as gambling products?

My personal opinion is that the proposals from the FCA are fair and reasonable and might have gone further to clamp down on the inappropriate marketing and use of these products. But send your comments to ShareSoc with your own views as we may respond to the consultation on this matter. See the FCA press release for further information here:

https://www.fca.org.uk/news/press-releases/fca-proposes-stricter-rules-contract-difference-products

Roger Lawson

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