Analysis: EU Regulation Uncertainty Is Now Officially Over

With regulatory changes here to stay, the brokerage industry in Europe better focus on a long-term survival strategy.

The past two years have been anything but calm for the brokerage industry, but last Friday, the period of turmoil officially ended. The Financial Conduct Authority (FCA) announced that it is proposing to make the temporary restrictions on CFDs permanent, meaning long-term stability for EU regulation is now an official fact. 

In case there’s still anyone out there that’s not clear on what EU regulators will do, allow me to remind you of how all of this started. In December 2016, the FCA was the first regulator to hint of a major change coming to the retail brokerage landscape.

At the time, the British authority issued a consultation paper proposing the changes that took effect in August 2018. The FCA experts had been following the industry closely for some time before identifying the main risks that regulators need to address.

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Since it was always the regulator’s goal to “enhance consumer protection,” the focus was put on the leading causes for clients to lose money. Under the new regulations, clients are expected to lose far less money, the FCA estimates.

According to Friday’s announcement, UK consumers are set to lose between £267.4 million and £450.7 million less per year. But how did the FCA come to this conclusion?

Hard Data Reinforces Direction

As Finance Magnates exclusively reported a couple of weeks ago, the FCA mandated regulated firms to provide it with a massive set of data.

At the beginning of November, the UK regulator asked firms to provide data related to a number of areas. A catalog of 46 basic questions was sent out, dealing with two main segments: retail vs. professional; before August 2018 vs. after August 2018.

The FCA gathered data on total deposits, client funds volumes, the number of trades, exposure, profitability, and much more.

At the time, sources across the industry told Finance Magnates that they saw the effort as a means for the FCA to assess the effectiveness of its measures. Some even went as far as speculating that a change to the “temporary” nature of ESMA’s measures could be in store.

Fast forward a month, and speculation has turned into fact. While an overwhelming majority of market participants expected this announcement, a number of firms remained desperately optimistic about the “temporary” designation of ESMA’s measures.

Last Friday, the FCA’s announcement dispelled any last hopes. As to the ongoing dispute regarding how much more trouble lies ahead for the industry, we are about to find out.

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Second Phase of Consolidation

After speaking with some senior executives at the Finance Magnates London Summit, this writer has come to the conclusion that there is a gap in the market. And that gap is between the sellers of brokerage companies and the buyers of brokerage companies.

There have been a number of firms in the industry that have been looking for acquisitions for years. They have voiced an overwhelming consensus: asking prices are too high.

The mismatch between buyers and sellers has been ongoing for a while. Were those holding out banking on the new EU regulation being “temporary”?

The number of licensed companies in the EU and the UK is staggering, that’s for sure. If we are to take cues from bigger companies, the conditions for survival have also evolved.

Having a subsidiary located outside of Europe is now essential for survival. The massive increase in demand for offshore services on the part of clients, not only led to the rise of unregulated brokers, but also pushed EU-regulated firms to open offshore subsidiaries. While facing some difficulties initially, many have managed to smoothen out their trading volumes.

For those that were swift in creating an adequate offshore entity, the initial shock in August has already been forgotten. Last month, the first brokers even said that they managed to get back to pre-ESMA trading volumes.

Criticism of Offshore Business

Without a doubt, EU regulation has put brokers in a tough spot. On the one hand, they have data to show that they managed to move closer to their goal to have retail clients better protected from risk.

On the other hand, if clients are keenly expressing their desire to take on more risk, can EU regulation do more? For the time being, we don’t know. Some voices across the industry shared in private conversations that they don’t see the offshore trend lasting long.

Others are confident that it doesn’t matter how long it lasts, they just take the opportunity. One jurisdiction which is a safe haven for the industry, Australia, is traditionally playing regulatory catch-up with the rest of the world, with a delay of about two years.

Apparently, that is enough time for the now lucrative license in Australia to cost up to $4 million.

Offshore subsidiaries are much cheaper, but they come with other headaches, such as expensive payment processing, difficulties with bank accounts, etc.

Be that as it may, this writer doesn’t see offshore subsidiaries of EU-regulated brokers closing any time soon. After all, EU regulation focuses on protecting the consumer (or so regulators claim), so if that same consumer is willingly looking for more risk, there is not much else that the ESMA can do. Nor should it.

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