As is to be expected given the gravity of the financial crisis in Cyprus, the country’s forex and binary options companies have been diverting client funds away from the island en masse.

It has been confirmed to Forex Magnates that a large majority of existing companies have acted on the implementation of the withdrawal restrictions imposed on Cyprus bank accounts in the advent of a potentially punishing haircut on all accounts held at Bank of Cyprus and Laiki Bank by contacting their payment providers and instructing them to change the credit card deposit destination bank account for client funds to non-Cypriot banks. While existing companies are directing client funds to accounts outside of Cyprus, new entities are establishing their accounts overseas from the outset.

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Following the complete collapse of Laiki Bank and Bank of Cyprus, it has been made clear by the Eurogroup that Cyprus as a nation will require considerably more funds than initially estimated to be injected even before the actual bailout is brokered. This could result in the sale of the island’s 400 million Euros worth of gold reserves, further weakening the country and denting its credibility.

According to Forex Magnates’ research, the vast majority of forex and binary options companies based in Cyprus have opened client accounts in other jurisdictions. Danielle Lebhar, VP of Sales and Marketing at NetPay explained that the vast majority of NetPay’s clients are opting to have their client deposit funds transmitted to non-Eurozone countries such as Latvia and Romania. Subsequent to opening a new account away from Cyprus, forex companies have asked their payment processing providers to route the funds to these accounts when a client makes a deposit via the company’s website ensuring that no further money is deposited in Cyprus.

Latvia Gains Popularity

Latvia is a popular choice as it is still in the European region, but is outside the Eurozone and this hints at a large proportion of forex companies which set up in Cyprus as a means of reaching the European market via their regulations under MiFID are avoiding any Euro-currency country in which to operate with client money.

In March however, Latvia made an application to join the Eurozone, and it is of course not possible to tell how this will affect the confidence of forex industry executives who are choosing this country because of its independence from potential future seizures of funds due to a legal precedent that may be set in Cyprus to enable all Eurozone countries to carry out haircuts. However, at present it has a strong economy and an increasing GDP of 5.7% based on last year’s figures.

In addition, contrary to the majority of European countries which have seen their credit rating downgraded by Moody’s over recent years, Latvia is on the up with its credit rating having been upgraded one notch to Baa2 from Baa3 in March 2013, further garnering confidence. This is useful at a time when customers of forex and binary options companies based in Cyprus are extremely concerned about the safety of their funds.

Earlier this year, Forex Magnates spoke to Martins Priede, Chairman of the Board at Latvian broker Renesource Capital, who outlined the method in which the Latvian banks will work with the European Central Bank once the country joins the Eurozone, and the regulatory criteria which will have to be met.

Although a small country, Latvia is home to an established domestic forex industry, further bolstering the confidence of company executives who have been made very cautious as to where to invest due to the Cyprus situation.

Latvian Forex Industry Background

The establishment of a number of domestic forex companies in Latvia appears to be due to the rapid economic growth that took place in the country until 2008, which attracted forex brokers to begin marketing to the population. There are established banks offering private banking services and trading to high net worth individuals, as well as standard retail trading options for smaller size accounts.

What is unique about Latvia’s forex is the bank presence within the industry. In much of the world, banks were late entrants to retail forex trading, and only entered the market to provide new revenue streams after the global financial crisis. However, in Latvia, the banks were the early adopters and began to offer forex trading in the early 2000’s. As such, while retail trading for smaller clients is expanding, the banks continue to have an active role in the direction of the forex market. Leading Latvian banks with an FCMC license include Rietumu & Norvik Banka.

At Rietumu Bank, customers can trade not only forex but also stocks, bonds, and futures. Rietumu also offers asset management. What is rather unusual in this case is the high entry barrier – Initial deposit for forex accounts is 50,000 USD and minimum transactions size is 100,000.

Non-bank brokers include Renesource Capital. After being established as a brokerage in 1998, the firm was bought out recently and began to offer Forex trading in 2009. The broker offers Forex, CFD and Futures trading through the MT4, JTrader, and Strategy Runner platforms. Among foreign brokers entering Latvia, Estonian Admiral Markets has been aggressively marketing in Latvia, thus adding further credibility.

Forex Magnates conducted extensive research on the forex industry in Latvia. The full report is available here.

Alternatives Inside and Outside the Eurozone

Another location in which Cypriot forex companies are directing client funds is Romania. An emerging market economy, it is different in its entire financial make up to Latvia, however it offers ease of doing business and good terms to corporate account holders, and is still outside the Eurozone. Interestingly, Bank of Cyprus has not been able to freeze accounts in overseas jurisdictions such as the UK or Russia, but they have succeeded to do so in Romania, where its entire operation has been closed for over 2 weeks.

Sarel Tal, CEO at Algocharge has witnessed his company’s clients taking a slightly different course of action in that a large proportion are keeping funds within the Eurozone as it is cheaper from a merchant services perspective, and maintains the ability for firms to pay their expenses without the cost of exchange.

Firms which choose to stay within the Eurozone have tended to make a distinction between operational capital and client money accounts and place them with tier 1 banks in the UK or other parts of the Eurozone, usually in Germany or France in order to be nearer to their clients and make it easier for customers to deposit, and to enhance credibility to generate client confidence. Algocharge has contacted all forex companies with bank accounts in Cyprus to notify them that they had ceased to allow payments to be transmitted to Cyprus bank accounts, and asked corporate clients to provide alternative banking arrangements outside of Cyprus to ensure that there are no circumstances where new funds will become locked in Cyprus.

Implications and Liability

Brokers looking to move their funds away from Cyprus have to consider not just a solution by which they are not sending any new funds to Cyprus, but also how they can avoid potentially punishing liabilities such as inability to settle the merchant by having the rolling reserve locked in a Cyprus bank account.

The rolling reserve is an additional amount which is held in a segregated bank account over and above the sum of the clients own deposited funds, which varies according to the merchant and type of business which the merchant conducts. It must be provided by the forex broker and is often either a fixed security deposit amount, or a percentage of the deposit (often varying between 5% and 10%). Its purpose is to cover fees imposed by Visa or MasterCard in the event of a chargeback. Brokers that kept this amount in a Cyprus bank account will not be able to access it, and therefore will be liable in the event of any chargeback to settle this to the merchant from other funds, theoretically causing the amount to have to be paid twice.