Perhaps the main consideration when choosing a broker is regulation. When you deposit your funds with a brokerage firm, you want to be sure that all industry standards are enforced and upheld and that your money is held safe and treated right. There are many regulatory bodies in the CFD trading industry, which differ by many factors such as capital requirements, maximum leverage and fair market pricing, to name a few, and we’ll cover the main market regulators in the following lines.
The CFD trading industry in the United Kingdom is arguably the most mature CFD market in the world. As at December 2016, there were 104 firms that have been offering CFDs authorised by the Financial Conduct Authority – the UK regulatory body. The United Kingdom is also one of the largest markets with an estimated 135,000 active traders.
The FCA also ensures that UK-regulated brokerages provide fair market pricing to their customers. Fair market pricing ensures that the price of a CFD on a transaction is in-line with general market expectations, which is an important concept fundamental to a fair and transparent trading market. However, the nature of CFDs makes fair market pricing difficult to implement in practice.
One problem that often arises during very volatile market conditions or when trading less-liquid CFDs is that the price can change in a matter of milliseconds, often before the broker receives your trading order. Nevertheless, this phenomenon, known as slippage, sometimes works in favour of the trader and sometimes to the benefit of the broker. Over a large enough sample of trades, the costs of slippage should become symmetrical and average over time.
The Financial Conduct Authority also makes sure that an FCA-regulated broker maintains enough financial resources to operate properly, that the broker regularly reports on it financial standing, that the employed management team has sufficient professional experience to run a brokerage firm and that the broker has a sound business plan for current and future operations.
FCA-regulated firms also have to hold all client funds in segregated bank accounts. This ensures that every pound that goes through the broker can be tracked to its final destination. In case of a bankruptcy of the firm, client funds are protected by the Financial Services Compensation Scheme to an amount up to £50,000.
Everything combined ensures that traders who trade with an FCA-regulated broker have peace of mind regarding the safety of their funds while trading with a fully-regulated entity that abides by strict industry and regulatory requirements.
Brokers that operate in other jurisdictions outside the United Kingdom have to be regulated by the respective regulatory body of the country of operation.
In Australia, brokers must hold an Australian Financial Services (AFS) Licence, which authorises them to advise and make a market in derivatives and FX contracts. As of June 2016, there were 65 CFD brokerages and around 37,000 active traders in the Australian market. Unlike in the United Kingdom, brokers that operate under the AFS are not required to provide fair market pricing, but the AFS does provide a general obligation on all AFS-regulated brokers to operate “efficiently, honestly and fairly.”
Other important regulatory bodies are listed below.
- The Cyprus Securities and Exchange Commission (CySEC) counts around 181 providers and is an important regulator for brokers that operate in the EU. Due to the EU Passport Rule, brokers that are regulated by CySEC are allowed to offer their products and attract customers from all over the European Union, making CySEC a popular regulator for EU-based brokers.
- In the United States, there are two main regulatory bodies: The Commodity Futures Trade Commission (CFTC) and the National Futures Association (NFA). The US market is quite different from other jurisdictions, as traders don’t have access to CFD trading and brokers have very strict requirements that they must meet in order to offer their services.