With the release of Consultation Paper 322 (“CP 322”), the Australian Securities and Investments Commission (ASIC) invited the public to comment on proposed regulatory changes in the CFD space.
In late 2019, the perceived divergence between the proposed regime and the rest of the regulated FX and CFD world caused FX Market uncertainty.
The paper, which proposed eight conditions on FX and CFD providers, included the most contentious leverage restrictions.
In ASIC’s CP 322, the proposed leverage caps are 20:1 for gold and FX; 15:1 for stock indices; 10:1 for commodities excluding gold; 2:1 for cryptocurrency CFDs and 5:1 for shares and other instruments.
This proposal is a marked contrast to the European Securities and Markets Authority’s (ESMA), which allows 30:1 or 25:1 for many underlying instruments.
ASIC’s proposals are noteworthy in that they will provide a disadvantage compared to the European regime. The caps are also lower than Japan (25:1) but in line with Singapore and Hong Kong (20:1) and are competitive against the regime in South Korea (10:1).
Product intervention impact
Product intervention will affect the Australian market with some brokers using offshore entities to onboard clients who have an appetite for higher leverage.
However, the expected impact on total notional volume will not be as severe as anticipated.
This is supported by the case studies of both Europe and Japan post their leverage restriction implementations. ESMA’s recently released Statistical Report on the Derivatives Markets shows that despite leverage caps, notional volumes have, in fact, increased.
In Q1 2018, notional volume was EUR 22 trillion, while in Q4 some months following the introduction of the caps in August 2018, notional volume was EUR 26 trillion.
The Japanese regulator’s implementation of leverage caps hasn’t slowed down the burgeoning Japanese market either. Between January and March 2016, 15,413,316 trillion yen was traded on an OTC basis among Japan’s companies, a 50.2% increase over the previous quarter, and a record until that point.
These cases illustrate an optimistic outlook for Australian brokers in the face of what will be a robust change in their regulatory landscape.
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The changes are another headwind for brokers already pondering the future of the industry.
Globally, there are increasing pressures on brokers from quasi and non-regulatory entities. Large technology firms such as Google and Apple have sought to restrict firms in offering services through the App Store and GooglePlay. Google has already banned ads from affiliates and introducing brokers and requires brokers to be certified before being able to advertise in a given country. Facebook has gone one step further by outright prohibiting the advertising of CFD trading.
Additionally, credit card payment providers have emerged as another friction point for CFD brokers, placing additional compliance requirements and, in some circumstances restricting a broker’s access to processing systems. Mastercard has re-categorized CFDs as high-risk securities merchants resulting in a higher chargeback timeline of 540 days as opposed to 180 days. The change in policy also means that brokers are required to undergo enhanced due diligence, including providing legal opinions that cardholders in each jurisdiction are able to transact with the broker without the broker or trader breaching any laws.
While not impacting the Australian CFD sector specifically, the developments’ effects are being felt locally as well as across the global FX and CFD industry.
Same-Same But Different
Less commented upon, but also of significance in its application, are the best execution duties.
While drafted in terms somewhat different from RTS 27/28 in Europe, this pricing and execution requirement shares a number of similarities. Australian brokers will be required to (1) have an execution policy and make it publicly available, and (2) monitor executions on a regular basis, including the effectiveness of the methodology and the fairness of prices.
It should be noted that as with the ESMA implementation, the best execution requirements are vague. Market practice will develop as the requirements are implemented, including the consequences of providing an ‘unfair’ price, breach reporting, and obligations for refunding or repricing customer tickets. It is hoped that ASIC will provide further guidance.
Australian brokers attempting to do this in-house are facing some key challenges which they may face when meeting these obligations. The obligations will require extensive record-keeping for documentation purposes and linking IT and data systems. Market data in the OTC derivatives markets is expensive and not always readily available in addition to ensuring that the data is an independent price feed to adhere to the condition.
In an industry where competitive advantage is aggressively prosecuted, and regulatory arbitrage is widespread, ASIC’s comparatively assertive approach is another shackle attached to a local industry already facing impediments in the global context.
Sophie Gerber is the co-CEO of TRAction Fintech, a regulatory technology firm providing compliance solutions for brokers, including Best Execution and Derivative Trade Reporting and principal of legal firm Sophie Grace, which provides legal and compliance advice to financial service firms including FX and CFD brokers.