The United Kingdom’s Financial Conduct Authority (FCA) is among the strictest regulators worldwide. It is responsible for ensuring the safety of the financial markets in Britain. The Authority has achieved much when it comes to this goal. Forex traders from the United Kingdom enjoy some of the best protections worldwide. That is why if you are looking for a good company to deal with, an FCA-licensed FX broker might be just the thing you need.
Yet, even though it has built one of the most respected regulatory frameworks, there are still challenges in place for the UK retail trader and investor. According to its data, CFD traders lose around 80% of their funds. This is why in December 2022, the market watchdog has indicated it would shift its policy to best protect their interests. The two angles it has targeted is an overhaul of the Financial Services Compensation Scheme (FSCS), as well as new rules regarding the disclosures that brokers and other investment firms are required to make to their clients. Here is everything you need to know about these changes and their possible consequences:
An overhaul of the FSCS
One of the biggest safety nets of the UK Forex trader is the FSCS. Simply put, this is a guarantee that if the firm they are dealing with goes insolvent, their money will not be lost. The FSCS consists of a fund, to which all FCA-licensed firms contribute. This fund is then used to cover the damages from one of them going under – up to £85 000 is restored to each affected customer, based on their total investment.
The process of improving the rules regarding this scheme started a while ago. During the initial months of the pandemic, there was a large increase of claimants as some firms turned insolvent. In December 2021, the FCA announced it would review the scheme and opened a discussion. Till March 2022, it listened to what interested parties – the companies it oversees and their clients, had to say about its proposed changes. Concerns were raised by the subjects of the regulatory body in the following regards:
Some worried that a proposed increase in the amount of money each firm has to pay would put a huge burden on smaller companies. They would essentially be priced out of the market. Furthermore, it was claimed that firms need to be more financially resilient. That way, the current rules regarding the FSCS would not need to be tightened. Instead, the necessity of using the fund in the first place would diminish, as firms adopt more risk-averse approaches to the markets.
After receiving the feedback, the FCA published a press release, outlining its proposed actions. Here is how the regulator plans on going about its new approach to the FSCS:
Less “polluters” on the UK markets
The approach that is to be adopted by the Authority is, as was described by Sheldon Mills, its Executive Director of Consumers and Competition, that “the polluter pays”. Though it is not explicitly clear, that would imply the introduction of some kind of change in the tiering system for funds. Currently, this system determines the amount of money contributed to the FSCS by each firm. It is possible the contribution of high-risk enterprises, as well as high-value ones, is raised at the expense of smaller firms. This policy change could lead to a democratization of the markets and allow more smaller participants on them, encouraging competition.
Another goal of the regulator is to ensure better outcomes for the trader “at the gate”, which would mean there is no need to access the compensatory funds at all. This would be done via the introduction of stricter vetting requirements for which firms are granted a license in the first place. New rules regarding the internal structure, capital requirements and so on, of companies could be imposed, to make sure only ones which meet the challenges of the markets can access them.
The regulatory body also stresses that it has already begun taking the first steps towards enacting the second policy – the higher vetting requirements for firms. It states that, in 2022, one of five companies which applied for a license with it was rejected. Its rules regarding financial promotions were also enforced much stricter. This brings us to the next major policy area where the FCA has moved to improve its market oversight:
Tighter rules for disclosure of trading risks
One of the effects of the mass adoption of the Internet has been the dramatic easing of market access for the retail client. There are a lot of positive effects to that, with the ability of everyone to engage with Forex trading and investments freely making these fields infinitely more friendly to new clients. However, there have also been risks associated with malicious companies selling these unqualified traders and investors risky assets.
The FCA has cracked down on the promotion of these assets to retail traders. In 2022, it has come up with a new regime for the offering of high-risk investments to the trader. This is especially important when it comes to investments in highly volatile assets, like crypto, which is becoming more popular. There are many particular rules to this new approach, with one of the most interesting being the introduction of a 24 hour “cool-down” period. In essence, first-time investors would need to be unable to invest for a day after opening an account with their financial service provider. This would allow them to reflect on the risks they are taking on. There are also the requirements to introduce several different risk warnings and bring them to the client’s attention – both personalized and generic ones.
The next angle of risk the FCA tacked is rogue financial promotions. It analyzed a large volume of ads and identified several malicious practices that CFD providers engaged with. These had to do with ads creating unrealistic profit expectations for clients, or otherwise downplaying the risks associated with trading. It then contacted each of the CEOs of the companies that are licensed by it. The regulator bid them to stay away from abusive tactics and identified several ones that UK forex brokers sometimes were discovered to engage in. Besides poor risk disclosure, it was found some of these firms engaged in high-pressure sales tactics to squeeze the money from their unaware clients.
Finally, the watchdog has addressed the developers of mobile trading apps in particular. According to it, some of the elements of their app’s design contribute to a rather new phenomenon, called “gamification”. In it, the user of a certain app is encouraged to continue and increase their usage with design elements, often employed in video games. This creates a more engaging experience, but, when it comes to trading, there is also a danger associated with it. The clients of such gamified apps could expose themselves to higher risks, as the FCA explained. They would over leverage their assets, they would take on higher levels of risk and they could even end up borrowing money to continue trading way past the reasonable time to call it quits. The Authority states at least 92% of traders in the UK borrowed funds that way in 2022.
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