The rules will echo ESMA’s temporary measures, however the FCA will extend the CFD restriction to capture closely substitutable products (such as turbo certificates).
By Rob Moulton, David Berman, Charlotte Collins, and Gabriel Lakeman
The FCA has launched two consultations on:
- Banning the sale, marketing, and distribution of binary options to retail consumers (CP18/37)
- Restricting the sale, marketing, and distribution of contracts for difference (CFDs) and similar products to retail customers (CP18/38 and Annex)
These measures are largely the same as ESMA’s temporary product intervention measures in relation to CFDs and binary options, which were first announced in March 2018 (see Latham’s related blog post for more detail). The ESMA measures, which apply for a maximum of three months at a time, but can be extended by ESMA, have already been renewed twice. At the time ESMA’s measures were first announced, the FCA stated that it expected to consult on whether to apply them in the UK on a permanent basis.
Given that the ESMA measures will fall away due to Brexit (although the timing will depend on whether or not a transitional period is agreed), it makes sense for the FCA to act now to ensure that the measures will continue to apply if the UK leaves the EU without a deal.
The FCA proposes to go further than ESMA by extending its CFD restriction to capture closely substitutable products (such as “turbo certificates” and “knock out options”). The FCA previously warned firms that it was concerned market participants could try to circumvent ESMA’s measures on CFDs by selling other products of a similar complexity to retail clients, instead of CFDs.
Firms operating in the CFD industry should note that the FCA has also identified firms trying to evade the restrictions by persuading clients to opt-up to professional status, or by encouraging clients to trade with affiliated firms outside the EU. The FCA states that it will continue to focus on these issues in its supervisory work.
Further, following feedback from firms and consumers, the FCA proposes to set leverage limits for CFDs referencing certain government bonds at 30:1 (rather than ESMA’s 5:1). The FCA considers the limit of 5:1 to be disproportionate for these types of products.
The FCA may also cast the restrictions on CFDs even more broadly in future. The FCA’s consultation on CFDs includes a discussion as to whether other complex derivative products — such as exchange-traded futures or similar over-the-counter products — may pose similar risks of harm to retail consumers, and whether these products could benefit from similar rules. Although the FCA understands that futures are not commonly sold to retail investors in the UK, the FCA is concerned that CFD providers could start offering these products more widely to retail clients in future, in particular as an alternative to CFDs.
Binary options ban
The FCA is proposing to impose a ban in line with the original scope of ESMA’s measures. When ESMA renewed the measures in August 2018, it excluded securitised binary options from the scope of its ban. However, the FCA believes that these instruments should be in scope.
Scope of application
The measures have, for now, been drafted on a pre-Brexit basis. They would apply to both UK and EEA MiFID investment firms (and UK and EEA banks carrying on MiFID investment services and activities), and to UK branches of third-country investment firms, in relation to the sale, marketing, or distribution of relevant investments in or from the UK. This application deviates from the usual scope of FCA conduct of business rules, as the measures would apply to EEA firms with no physical presence in the UK that are providing services cross-border into the UK.
The FCA notes that, if the UK leaves the EU on 29 March 2019 without a deal, the FCA will redraft the rules to capture the same firms and activities outlined above, taking into account the UK’s new status vis-à-vis the EU.
Market participants have until 7 February 2019 to respond to the main proposals in the consultations. The FCA plans to publish final rules by March 2019, which would come into force shortly afterwards (but with a two-month delay for the CFD measures in relation to closely substitutable products). Interested parties may offer feedback on the discussion of other complex derivative products in the paper on CFDs until 7 March 2019. If the FCA decides to go ahead with proposals to extend the measures in this way, the regulator will consult on this “later in 2019”.
The FCA also provides an update on the expected timing of its further planned consultation on a potential ban on the sale of derivative products (including CFDs) that reference cryptocurrencies to retail consumers. This consultation was announced in the Cryptoassets Taskforce Final Report in October 2018 (see Latham’s related Client Alert), and was originally meant to be launched by the end of 2018. However, the FCA now states that the consultation will be published in early 2019.
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