Treasury’s $500 million question

Following the Financial System Inquiry’s Murray report, the Australian Government published its response in October, outlining its intent to develop legislative amendments to improve the protection of client funds held by providers and brokers.

Presently, the Corporations Act 2001 (Section 981D) facilitates systemic risk borne by traders in permitting derivatives providers, including CFD and FX brokers, to co-mingle client segregated monies with their own and use funds for other purposes like collateral or hedging.

The size of the problem in Australia has been calculated to be approximately $500 million of funds “at risk” because some traders are unaware that their CFD provider can use client money to hedge or for other business purposes.

This issue has been extensively examined by ASIC and the Treasury in recent years, although unfortunately most CFD and FX traders are unaware of the risks associated with this practice.

Raising Standards

The CFD & FX Forum was set up to provide a consistent and strong voice for the CFD industry, mitigate investor risk and boost consumer confidence in CFD investing. Making up over 60% of the industry by market share, the CFD & FX Forum members are CMC Markets, GAIN, IG Markets and OANDA.

To focus its efforts on achieving these objectives, the Forum established a set of Best Practice Standards, which encapsulate 16 recommendations to improve the CFD & FX industries and the full segregation of client funds.

As a Forum member, CMC Markets never uses client money to hedge, or for any other business purpose, which other providers have traditionally done.

Paul Casey says at risk investors should ask their CDF or FX trader how to best use their money.

MF Global: Ground Zero

The CFD & FX Forum is active in talking to government about the issues facing traders and how these could be mitigated through new legislation that better meets the needs of users.

The effective segregation of funds to protect clients’ money has been one of the core objectives of the CFD & FX Forum since its inauguration following the collapse of MF Global, which stripped Australian investors of more than $300 million.

Today, as the Australian Government begins its ‘root and branch’ examination of the financial system, the Forum would like to reiterate that current Australian client money rules do not go far enough. They allow undercapitalised CFD providers to use client funds, quite legally, to hedge their own positions, or the positions of other clients.

Does your provider use your funds?

The Forum believes one of the biggest issues facing thousands of Australian CFD & FX traders today continues to be whether local traders have invested their money in a provider that does not fully segregate client money.

Despite the cataclysmic impact of MF Global’s collapse on Australian investors, the practice of hedging with client money is still legal. Traders with these providers could therefore lose their capital overnight without entering into a single trade.

My concern is that CFD traders aren’t aware of this and there could be up to five hundred million dollars “at risk”. Traders should ask their CFD or FX provider how they use their funds.

As a co-founder and director of the CFD & FX Forum, I am mindful that four years on, traders today still face the same risks associated with the safety of their client money. That is why I welcome the government’s response to the Financial System Inquiry findings.

Legislative reform

Legislative reform to benefit and better protect CFD & FX traders is straightforward and should be introduced as soon as possible, in line with the Best Practice Standards for which the Forum gained ACCC authorisation last year.

The regulator has also publicly called for reform, with ASIC Chairman Greg Medcraft telling the Parliamentary Joint Committee on Corporations and Financial Services in August this year that ASIC “raised the matter with Treasury that the law needs to be amended so client monies can’t be co-mingled”.

The Forum has always had the position that using client money would be totally unacceptable in any other industry. To that end, we’d like to see the government establish this into law so CFD & FX traders gain the same protections that are offered in other asset classes and in virtually every other country in the world.

Global sea change

There has been something of a global sea change following a number of high profile cases that continue to crystalise opinion towards better measures to ensure risk mitigation. Here are a couple of examples:

• Following the collapse of MF Global, the US Commodity Futures Trading Commission passed rule 76F33813 in June 2011 saying “customer segregation is the foundation of customer protection” and has acted swiftly in the collapse of MF Global and its shortfall of over US$600 million client money.

• In the UK, the Financial Services Authority revised its Client Money and Assets (CASS) regulations and introduced a measure where a board-level member of each financial institution is personally liable for compliance.

Focus on client money is growing as highlighted by independent research house Investment Trends in there 2015 Australia CFD Report, which states that 20% of CFD traders are saying they selected their main CFD provider for segregation of client money.

Beyond client money

The CFD & FX Forum’s Standards also determine an approach on capital adequacy requirements for providers. Strengthening of capital adequacy is underway in the banking sector following ASIC recommendations for lenders to have stronger capital levels.

In line with the CFD & FX Forum Standards, we want each CFD & FX providers in Australia to be sufficiently capitalised and maintain a minimum level of net tangible assets equal to, or greater than, $2 million, or 10% of average revenue.

The Forum believes this is a fair ‘watermark’ or level of financial capitalisation that all CFD & FX providers should have to meet, considering the potential impact of failures on traders.

Time is Right

All local traders should be demanding the same rights as their international counterparts, and with the government’s current focus on improvements to Australia’s financial sector, the time is now right for Treasury to be considering more seriously the use of client money and capitalisation levels of the CFD & FX industry.

The CFD & FX Forum welcomes your feedback and comments and can be contacted via [email protected]

Written by CFD & FX Forum Director Paul Casey, Head of Compliance at CMC Markets