Forex Regulation Around the World

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Hundreds of companies promise instant access to the largest global market. As new names are constantly appearing, traders find it difficult to choose a brokerage. When it comes to transparency, many clients are left at the mercy of their provider. Regulation is an important aspect of what is Forex today.

Forex Market Size Today

The foreign exchange is gigantic. In fact, it is the largest and most liquid market. Its daily turnover is estimated to surpass $5 trillion. Currencies are bought and sold by institutions and retail traders. Most investors act through intermediaries — Forex brokers. Individuals set up accounts and access the market via trading software. 

If you want to see the list of regulated brokers go here

Despite the colossal global Forex market size, this field lacks regulation. There is no universal legislation or international body to police Forex 24/7. Statistics are also approximate. On average, just 5% — a tiny fraction — of all brokers that offer Forex and binary options work under regulatory authority. As a result, abuses are not uncommon. Some brokers defraud clients, seizing their funds.  

Forex regulation

Dangerous Waters of Unregulated Market

Every Forex guide instructs traders to be vigilant to avoid unscrupulous brokerages. Another threat is excessive speculation by institutional participants, a cause of runaway losses. Even if you know all the Forex terms and pursue a strategy, you may never be able to withdraw the profits.

Between 2001 and 2008, the market saw a flurry of frauds. This prompted the CFTC to establish a special task force. Eventually, rigorous Forex market regulation was brought in in the United Kingdom to protect the interests of retail traders. This was the Commodity Exchange Act (CEA).

First, it gave the CFTC jurisdiction over retail FX transactions with leverage. Under the Act, only regulated companies have the right to engage in Forex transactions with retail clients in the country. In addition, registration became obligatory for all online brokers, and they had to comply with the stringent standards of the National Futures Association (NFA). But what about institutional players like major banks? These parties account for most of the daily FX volume (95%). 

The Purpose of Forex Regulation

There is no denying that Forex regulation is essential for the industry. A legal framework should ensure a fair and ethical environment where traders’ interests are adequately protected.  For brokers, Forex must be a level playing field. At the moment, all investment banks, brokers, and signal sellers are obliged to comply with the industry norms and rules imposed in their jurisdictions.

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Every such actor has to meet quality standards to qualify for registration and licence in the country where it is based. There are also regular audits, assessments and reviews that check compliance. Finally, a broker is obliged to have sufficient funds in order to execute their clients’ Forex contracts and provide compensation if it goes bankrupt.  

Violation of the said requirements places brokers and other service providers outside the legal field. Regulatory agencies have a wide enforcement arsenal to protect consumers’ rights. They may use criminal, civil and regulatory means to counteract substandard and unlawful practices.

A regulator may release notices to make sure its decision is transparent. These alerts concern local and foreign parties (companies and individuals). As these are made public, the enforcement action has a stronger deterrent effect. Still, this is not enough. 

The Need for Stricter Measures

Although regulations exist, they do not guarantee the return of funds or equity to a client. This is true even when disciplinary action is taken and sanctions are imposed. Unethical brokers may still get away with their crimes. Regulatory bodies take action against fraudulent providers in accordance with their local legislation. 

But what if the broker is not officially registered? This is the worst-case scenario. Clients of non-regulated brokers have insufficient recourse if they are wronged. Enforcement agencies may use similar measures, but their powers are limited. This is why it is crucial to make sure you are trading through a regulated intermediary. 

Working Together to Fight Forex Fraud

Today, each regulator has its own jurisdiction. Sometimes, these entities may join efforts to counteract duplicity. This is now true for the EU. There, a licence from one member state is deemed valid across the continent. The need to standardize practices is obvious, and steps have already been taken in this direction.

Lawmakers in the EU have made efforts to standardize practices across the bloc. In 2007, the UK saw the introduction of a universal regulatory framework called MiFID (Markets in Financial Instruments Directive). This laid the foundation of the continent’s regulatory system in finance. 

A decade later, the framework was revised with regard to the financial crisis of 2008. The amendments were designed to restore confidence in the industry and provide better protection of investors’ interests. Development and introduction of the second version (MiFID II) took six years.

Not everyone agreed, though, that Forex should be covered by any broader regulation. While MiFID was being revised, protests came from The Association for Financial Markets in Europe (‘AFME’). It warned about adverse “unintended consequences” as tough regulation could prevent brokers from rendering services in a way convenient for traders.

Local Approaches

Today, there is still no universal framework that would cover the entire Forex market size. The legal landscape is a patchwork of local regulations. Each broker has to comply with the rules of its jurisdiction. Some organizations, though, are more proactive than others. 

Such is the Financial Services Authority (FSA) in Japan. Its power extends over all markets including retail Forex. In recent years, the entity has come up with new regulations, such as the limitation of maximum allowed leverage. The EU, in comparison, has more lax leverage conditions in most of its member states. This is also true for FCA Forex regulation in the UK.

Lighter regulations are also used in Cyprus, where the central regulatory body is the CySEC (Cyprus Securities and Exchange Commission). Formally, it is part of the European MiFID regulations. However, Cyprus is very attractive to brokers based elsewhere. The local system allows them to acquire a licence more easily than in other member states.

Forex Regulatory Controversies

Forex regulation changes are necessary. Despite Forex size, the industry lacks universal rules that would protect retail traders. The institutional market is relatively unregulated. This means that a retail clients’ trader must accept a number of risks. These pertain to pricing models, high volatility, and inconsistencies in information. 

For brokerages, working under an authorized regulatory body entails additional expenses. Still, some companies are willing to conduct lawful business. Not all Forex brokers are crooks, but traders need to do thorough research regarding their intermediary’s background. 

Individuals may choose between home-grown brokers and companies based abroad. In most cases, the range of services is similar. Therefore, clients should focus not only on tight spreads. They should check that their provider is officially registered, and its license is valid. Sadly, Forex scams are still widespread. Until a universal regulatory framework appears, shady brokers will keep coming up with new ways to defraud their clients.

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This post is also available in: Indonesia Português

About the author Freddie North

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