ESMA’s Notice on the Product Intervention Renewal Decision

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On 23 October 2018, the European Securities and Markets Authority (ESMA) adopted a Decision to renew the restrictions on the marketing, distribution or sale of contracts for differences (CFDs) to retail clients. ESMA published details of this decision today and confirmed that the renewal of measures will take effect from 1 November 2018 for a further three-month period.

The full text of the Decision, which is published in the Official Journal of the European Union, confirms that the review of existing restrictions draws on a survey of national competent authorities (NCAs) on the practical application and impact of the product intervention measures, as well as additional information provided by the NCAs and stakeholders. Here is a list of the most interesting (and debateable) points:

  • NCAs detected only limited examples of non-compliance with the ESMA product intervention measures, which mainly related to the risk warnings.
  • NCAs reported an overall decrease in the number of CFD retail client accounts, trading volume and total retail client equity over the month of August 2018 in comparison with August 2017; however, the share of profitable retail client accounts decreased slightly but this could also depend on market conditions (which, in August 2017 were bullish in comparison to August 2018) or on the soaring prices of cryptocurrencies in August 2017.
  • Unsurprisingly, NCAs reported an increase in the number of clients treated as elective professional clients over the month of August 2018 in comparison with August 2017.
  • NCAs reported a decrease in the number of automatic close-outs, and a reduction in occurrences where client accounts went into negative equity, under the new rules.
  • Annex II to the Decision includes information about requirements that risk warnings need to fulfil. ESMA has acknowledged that CFDs providers have experienced technical difficulties in using the abbreviated risk warnings due to the character limits imposed on them by third party marketing providers. Therefore, a reduced character risk warning is introduced in this renewal.

ESMA is aware that some CFDs providers are advertising to retail clients the possibility of becoming an elective professional client, and that they are providing other speculative investment products. ESMA is also aware that some third-country firms are actively approaching clients, or that some CFDs providers in the Union are marketing the possibility of retail clients to moving their accounts to an intra-group third-country entity.

CFDs providers are reminded that, without authorisation or registration in the Union, third-country firms are only allowed to offer services to clients established or situated in the Union at the client’s own exclusive initiative. ESMA will continue to monitor the offer of these other products to determine whether any other Union measures are appropriate.

ESMA consider that the renewal of the restriction does not have a detrimental effect on the efficiency of financial markets or on investors that is disproportionate to the benefits of the action, and does not create a risk of regulatory arbitrage. If the temporary restrictions were not renewed, it is said, it would be likely for CFDs to be offered again to retail clients without adequate protection against the risks related to those products to the consumer detriment.

Whilst ESMA’s decision to renew the restrictive measures on the marketing, distribution, and sale of CFDs is not unexpected, it seems that some concerns remain unaddressed, such as the larger number of retail clients who have been categorised as elective professionals to avoid the restrictions, or the fact that retail client losses continue when investing in CFDs.

It should be noted that, once a retail client has been classified as a professional one, their trading results, including potential losses, are no longer tracked (whilst  retail client losses are being monitored to, in part, provide the data displayed in the risk warning). Therefore, a not insignificant number of clients have been removed from the assessment as to the benefit/detriment of these measures.

One could argue that restriction is not the only available solution and that ESMA, and NCAs, could consider alternative measures. These could be based on mandatory education, more stringent requirements in regard to firms’ on-boarding of clients and the on-going monitoring of their trading activities, or on more frequent reporting of quantitative (e.g. % of losses) and qualitative (e.g. on the quality of financial promotions and marketing material) data.