ASIC Orders CFD Brokers to Halt Margin Discounts Immediately

In a recent Market Integrity Update given in July 2024, the Australian Securities and Investments Commission (ASIC) voiced serious concerns about some derivative issuers' conduct in the Contracts for Difference (CFD) market. ASIC has discovered that some brokers may be providing “margin discounts” to retail clients who hold opposing long and short positions, a practice that directly violates the ASIC Corporations (Product Intervention Order - Contract for Difference) Instrument 2020/986, also known as the CFD PIO.

This guidance is a harsh warning from ASIC, encouraging CFD issuers to discontinue such margin discount activities immediately to avoid possible legal penalties.

Understanding CFD's PIO Compliance Requirements

The CFD PIO, which went into effect in October 2020, is intended to govern how CFD brokers operate in Australia, especially their contacts with retail consumers. The primary goal of this rule is to guarantee that ordinary investors are sufficiently protected from the significant risks connected with CFD trading. The CFD PIO requires CFD issuers to closely follow a set of requirements when delivering CFDs to retail consumers.

One of the key restrictions mentioned in Section 7(2) of the CFD PIO is the initial margin requirement. This section requires an initial margin of a particular proportion of the notional value of a CFD, which ranges from 3.33% to 50%, depending on the underlying asset.

The legislation expressly bans CFD issuers from deducting the notional value of opposing CFD holdings in a retail client's account when computing the necessary initial margin. This implies that, even if a customer has both long and short positions, the margin must be computed separately for each position, with no discount.

Sections 7(3) and 7(4) address another critical component of the CFD PIO: margin close-out protection. This protection is determined as the total initial margin necessary to open CFDs in a retail client's trading account. The rules once again restrict the netting off of opposing positions when determining the total close-out protection amount. This safeguard is designed to protect customers against the danger of unexpected and significant losses that might arise if the margin close-out protection fails to activate owing to discounted margins.

The Risks of Margin Discounts for Retail Clients

ASIC's Market Integrity Update identifies various dangers linked with providing margin reductions to retail customers. First and foremost, such approaches may push customers to hold overly leveraged positions, increasing their risk of large losses. Furthermore, margin reductions may result in higher overnight financing expenses, known as swap fees, for retail customers.

Another significant risk is the possible failure of margin close-out safety measures. If a customer incurs severe losses on open positions and margin discounts are imposed, the close-out protection may not work as expected. Retail customers may face rapid and unexpected increases in the necessary margin when one of their competing positions is closed. The absence of the discount or netting effect may result in customers being compelled to offer substantially greater margins to preserve their remaining holdings.

ASIC has made it plain that any violation of the CFD PIO may result in serious civil and criminal consequences. The agency is presently examining cases of margin discount activities and is prepared to take action against anyone who violates these restrictions.

What Actions Should CFD Brokers Take?

Following ASIC's orders, all CFD issuers operating in Australia must take urgent measures to guarantee compliance with the CFD PIO. Brokers should start by properly evaluating their disclosure documentation to verify that margin discounts do not violate regulatory standards. Brokers must assess their present policies to identify any instances where margin discounts were imposed on retail customers with opposing holdings.

If any violations are discovered, brokers must determine whether they form a reportable situation that needs notice to ASIC. Prompt and appropriate action should be taken to correct such breaches, and recompense impacted retail customers for any losses, including related fees and charges.

The Importance of Compliance in Retail Client Protection

ASIC's latest warning serves as a timely reminder to CFD brokers about the necessity of following regulatory frameworks established to safeguard retail customers. The CFD PIO is in place to reduce the risks involved with CFD trading and prohibit actions that may damage investors. Brokers must ensure that their activities conform to these requirements to avoid the harsh fines that may result from noncompliance. They not only safeguard their customers but also ensure the integrity of the Australian financial markets.

CFD issuers in Australia are encouraged to respond quickly to ASIC's instruction, examining and changing their policies as needed to achieve full compliance with the CFD PIO.

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