New measures implemented by a Pan-European financial regulatory body are threatening to shake up the forex trading industry. The European Securities and Markets Authority (ESMA) proposals included a ban on binary options, restrictions on leverage, and other measures designed to protect the interests of investors.
Under the new ESMA rules, which cover CFD and forex brokers, leverage for major currency pairs would be limited to 30:1 and 20:1 for non-major pairs. Brokers are expected to implement a margin close-out rule and provide negative balance protection on a per-account basis. In addition, providers are required to include a standardized risk warning on their retail investor accounts, which include the percentage of losses that a trader can experience per trade.
The new rules, which were announced in a release dated 27 March 2023, will be published in the Official Journal of the EU, after which they will be applied. The rules for binary options will be applied one month after publication; those for CFD and forex, two months after. However, ESMA is only authorized to implement the measures on a temporary three-month basis, and will consider if the measures need to be extended for another three months before the initial period is over.
The ESMA agreed on the measures in response to an analysis it conducted in collaboration with the National Competent Authorities across the EU. The analysis found that binary options and CFDs posed significant concerns for investor protection due to their lack of transparency and complexity that made it difficult for investors to appreciate the risks they were taking on. According to the NCAs’ analysis, as many as 89% of CFD retail trading accounts across the different EU jurisdictions lost money, with average losses per client ranging from a low of 1,600 euros to as much as 29,000 euros. Binary options retail traders were also found to have experienced consistent losses.
Since forex traders routinely offer leverage of as much as 400:1, the leverage limits are expected to impact the way they attract clients. With high levels of leverage, a trader would only need to deposit as little as $500 in their account to open a position sizable enough to generate significant profits. However, the new restrictions would require them to deposit at least $5,000.
The required risk disclaimer is also seen to force brokers to work harder to attract clients while providing existing traders better educational resources to improve their skills. Moreoever, they will have to create new products that are more transparent so that traders would better understand the risks and the difficulties of trading forex.