Forex Blog: Currency Trading News & Analysis.

September 7th 2010

CFTC Passes New Retail Forex Guidelines

I have been covering the US Commodity Future Trading Commission’s (CFTC) efforts to revamp the regulatory structure that governs forex, since it was unveiled earlier this year. On August 30, the CFTC formally published the “final regulations concerning off-exchange retail foreign currency transactions. The rules implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act and the Food, Conservation, and Energy Act of 2008, which, together, provide the CFTC with broad authority to register and regulate entities wishing to serve as counterparties to, or to intermediate, retail foreign exchange (forex) transactions.”

Not only has the CFTC clearly established its authority to be the primary regulator of retail forex, but it has also laid out specific regulations. Chief among them is limiting leverage to 50:1 for major currency pairs, and 20:1 for “other retail forex transactions.” [It’s not presently clear which specific currency pairs will be classified as major].  Remember that the original proposal (which, along with my endorsement, generated vehement protest) called for a decline in leverage to 10:1. Due to negative feedback from traders and brokerages, which ascribed malicious political motives to the changes and argued that it would move the entire industry offshore, the CFTC backed down and implemented only a modest decline in leverage. However, it’s important to note that the National Futures Association (NFA) as well as individual brokers will have discretionary power in setting leverage limits lower than 50:1. There will undoubtedly still be some opposition from traders, but I think we can all agree that the new rule represents a fair compromise.

As for the claim that traders would/will move their accounts offshore, this will become largely moot, since all brokerages, regardless of nationality, will be required to register with the CFTC and subject to its rules/oversight. Of course, those traders that are so inclined will still find a way to circumvent the rules by shifting funds “illegally” to unregistered brokers, but they do so at their own risk and will have no recourse in the event of fraud. As Forbes noted, “It seems these new rules will put a stop to Americans trading retail forex offshore to evade CFTC rules. That trend picked up the pace in recent years and it may need to be reversed quickly.”

Brokerages must register as either futures commission merchants (FCMs) or retail foreign exchange dealers (RFEDs).  These institutions will be required to “maintain net capital of $20 million plus 5 percent of the amount, if any, by which liabilities to retail forex customers exceed $10 million.” While this rule will raise the barriers to entry for potential forex start-up brokerages, it will protect consumers against broker bankruptcy. In addition, “Persons who solicit orders, exercise discretionary trading authority or operate pools with respect to retail forex also will be required to register, either as introducing brokers, commodity trading advisors, commodity pool operators (as appropriate) or as associated persons of such entities.”

One final rule change worth noting is quite interesting: brokerages must “disclose on a quarterly basis the percentage of non-discretionary accounts that realized a profit and to keep and make available records of that calculation.” This calculation will be useful both in and of itself, and also in identifying any significant discrepancies between competing brokers. For the first time, we will be able to see whether forex trading is currently profitable (i.e. whether those that profit are in the majority or minority) and whether/how this profitability metric changes over time, in response to particular market conditions.

The new rules go into effect on October 18.

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Posted by Adam Kritzer | in Commentary, News | 4 Comments »

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4 Comments of “CFTC Passes New Retail Forex Guidelines”

  1. Hugh Says:

    Completely ridiculous! I don’t see how they think this is going to protect anyone. People who want to lose their money will figure out how to do it at 1:1 leverage.

  2. Harold Hawley Says:

    Why the 50:1 leverage amount when 100:1 is standard. We’re not talking about 400:1 being standard.
    Another thing I don’t understand is how can the US can enforce it’s own regulations outside the US?
    Forex traders outside the US far outnumber US traders. We could have been protected against fraud a long time ago if one of the US agencies had deemed it necessary. Political? Of course, and the really big brokers can garner more profits from small brokers having to leave the market and in time they be able to control the spread.
    It’s just another case of the fox guarding the hen house.
    Right now what’s not really clear to me is how the regulating agencies will get their piece of the pie.
    Big brother finally got the messages there are trillions of unregulated dollars floating around just waiting to be tapped, and they don’t even have to make a single trade.

  3. Basil Says:

    Hi Adam,

    Can you elaborate on people moving their trading offshore? You said some traders will shift their funds “illegally” (in parantheses). Is that to say that yes it is illegal to do this, but really the U.S. doesn’t have any jurisdiction overseas?

  4. Anthony Says:

    No matter how you look at it, these regulations are intended to do one primary function…to keep poor people from being able to use forex trading to become wealthy. All the 50:1 leverage does is increase the chance of getting a margin call, thereby forcing the small traders to use far smaller positions and thus make far less money for the exact same market moves. At the same time, if you have large sums of money, you can easily make large sums of money with out the risk. They are just trying to enforce the whole “You have to have money to make money” concept into the forex world. For instance…recently a school teacher in China had saved for several months and had been able to come up with $300 to trade the forex with. In three months time he turned that $300 into $250,000. Now…take away his 500:1 leverage and the ability to use hedging. He would be doing good to have made the $300 into $10,000 in 3 months. There are certain things that need to be regulated in the forex trading world. Enforcing low leverage, not allowing hedging, and removing the US residents ability to “take their business elsewhere” has no place in the area of necessary regulations. Let me say it one last time….These regulations are only here for one primary purpose…TO KEEP POOR PEOPLE POOR.

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