On 27 March 2018, ESMA announced its intention to impose product intervention measures under MiFID II including a total prohibition on the provision of binary options and restrictions on the provision of some contracts for differences (CFDs) for retail investors. A copy of ESMA’s paper can be found here.
These measures would be made under Article 40 of the Markets in Financial Instruments Regulation (EU) No. 600/2014, known as MiFIR, which empowers ESMA to exercise product intervention powers. These powers vested in ESMA by virtue of Article 40 of MiFIR have only been applicable since 3 January 2018 and aim primarily to promote investor protection measures.
ESMA has also published Frequently Asked Questions on 27 March 2018 in relation to its product intervention measures. A copy of the FAQs can be found here.
Prior to reaching its decision, ESMA released a call for evidence on 18 January 2018 which lasted until 5 February 2018 (the Consultation). A copy of the Consultation can be found here. Having considered all the responses and concerns expressed by individuals and CFDs providers, ESMA reached to the conclusion that the use of its product intervention measures is the most appropriate and effective way forward in enhancing retail investor protection.
The agreed product intervention measures
In relation to binary options, ESMA decided on a total prohibition on the marketing, distribution and sale of binary options to retail investors. In relation to CFDs, the agreed restricted measures include the imposition of leverage limits on the opening of a CFD by a retail client from 30:1 to 2:1 which varies according to the volatility of the underlying; a margin close-out rule on a per account basis, negative balance protection on a per account basis to provide a guaranteed limit on client losses; a restriction on benefits incentivising trading; and a firm standardised risk warning.
Under the new MiFIR regime, these measures adopted by ESMA will apply on a three-monthly basis, which can be renewed before the lapse of the three month period.
Most importantly, ESMA’s product intervention measures supersede any national measures taken in relation to the same topic. In other words, they are directly applicable and they will not have to be implemented by any separate domestic action.
The aim behind the agreed measures
In recent years, ESMA along with national competent authorities (NCAs) have raised concerns in relation to the growing demand for CFDs and binary options across the EU. This is mainly due to the fact that CFDs are highly complex financial instruments. ESMA commented in its Additional Information on the agreed product intervention measures relation to contract for differences and binary options (a copy of this can be found here) that the pricing, trading terms and settlement of such products is not standardised, hindering retail investors’ ability to understand the terms of the product. In order to address these concerns, ESMA decided to exercise its produce intervention powers as a means to afford adequate protection to retail investors.
Furthermore, NCAs have raised further concerns on the risks to investor protection posed by these products. In particular, ESMA noted analysis by NCAs that a majority of retail investors have suffered significant losses on investments, with average losses per investor ranging from €1,600 to €29,000.
The way forward
ESMA will adopt these measures in the following weeks and once these measures are adopted, it will publish an official notice on its website. The measures will then be sent for publication in the Official Journal of the EU (OJ). The prohibition on binary options will start to apply one month after its publication in the OJ. The restrictions on CFDs will start to apply two months after their publication in the OJ.
Impact for Cyprus and passporting
The Cyprus Securities and Exchange Commission has issued an announcement notifying Cypriot investment firms of ESMA’s recent measures. The ban will be effective in Cyprus and it will be applicable to any business passported through Cyprus.
It may also be effective in respect to offshore service providers to the extent that a Cypriot investment firm is involved in assisting in the marketing and facilitating the distribution of these products via offshore platforms.