After giving energy traders a relatively easy deal in a bid to curb speculation in the commodity markets last week, the CFTC (Commodity Futures Trading Commission) has now turned its attentions to forex.
The agency is proposing a dramatic regulatory overhaul for the foreign exchange markets in the US, worth more than $3.6 trillion a day, in an attempt to prevent fraud in the largely unregulated over-the-counter business.
To achieve this the CFTC wants to ensure all foreign exchange dealers are registered with a regulator. This has been welcomed by dealers, so too has the proposal to impose a minimum capital requirement of $20mn, which would act as a capital cushion to protect consumers. However, a proposal to slash the amount of leverage a dealer could offer to a client received a frosty reception.
This new rule, if enacted, would mean that a client would need to increase the amount of money they post in a security deposit account held with their dealer to 10 per cent of the value of each trade from the current level of about one per cent. This would mean that for every $10 you want to trade on foreign exchange you have to post $1 as a security.
This move was unexpected because leverage limits were dramatically reduced six months ago by the National Futures Association (NFA), an industry-wide regulator that over-sees the forex markets- it differs from the CFTC, which is a government appointed organisation. In November the NFA reduced the leverage ratio for foreign exchange trades from 400:1 to 100:1.
Many investors choose to use leverage in an effort to boost their returns and a further reduction is not commercially viable, says Muhammad Rasoul, executive vice-president of GFT, a leading foreign exchange dealer. “It will be the end of the retail FX business in the US, it will drive people offshore.” He says people would choose other places to trade, like the UK, that would not require such a high security deposit.
The history of regulation in the foreign exchange markets in the US is long and complex. In 2004 the federal court in the US ruled that the CFTC could not target fraud cases in the OTC forex markets because they were outside its remit.
In 2008 the US Congress passed legislation that returned regulatory authority of the forex markets back to the CFTC after a raft of cases involving fraudulent foreign exchange dealers targeting retail investors.
GFT’s Rasoul says that, if implemented, the proposed changes could have the opposite effect from what the CFTC is trying to achieve. “If they enact this then the dealers who operate within the law would be driven out of business in the US and all you would have left are the fraudulent dealers who don’t operate within the law anyway.”
The Foreign Exchange Dealers Coalition, which is made up of nine major firms including GFT, is working on a unified response to the CFTC’s proposals. These rules are a “fundamental concern” for the industry, says Rasoul. The coalition is trying to ensure a balance between protecting the consumer whilst not stifling business.
The coalition, along with the public, have a 60-day period to send their comments about the proposed regulation to the CFTC. Rasoul says that it is too early to say what the outcome will be: “My hope is that it will be modified but at the end of the day politics is a very mighty thing.”
But what is bad for the US, could benefit the UK’s forex markets, which are unaffected by CFTC regulation.