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Retail client status to professional status brief overview Ragu Dharmaratnam, ACMA CGMA
INTRODUCTION: The ESMA (European Securities and Markets Authority) restrictions on leverage on derivative products are coming into effect from July 2018 and that means private investors should decide whether they want to upgrade their financial spread trading account or Contract for Difference trading account (CFD) to professional status from retail client status if they want to maintain their current (lower) margin rates.
perienced, ordinary investors who may not fully understand the products and risks involved.
LEVERAGE: Both Spread financial trading and CFD’s are leveraged complex financial instruments and it allows investors to trade on price movements without actually owning the underlying asset and simply speculating which way the price might move on instruments such as shares, indices, currencies or commodities. Leverage means that you only need to deposit a small fraction of the overall value of any trade, known as margin. For example, if the margin requirement for a trade is 5% then you would need 5% of the full value of the trade in your account to open the position. If you buy 1,000 shares in Aviva plc and its share price is 500p, your total investment is £5,000. In this example you are only required to deposit £250 to open the equivalent of a £5,000 investment. This is how trading on margin leverages your position, freeing up additional funds to use on other products.
HOW NEW ESMA RULES CAN AFFECT MARGIN TRADERS? The following leverage restrictions apply to retail traders: 30:1 leverage on Major currency pairs such as USD, EUR, GBP and JPY, which equates to 3.33% compared to the existing 0.50%. 20:1 leverage on major indices namely FTSE 100, Wall street, Japan 225, S&P 500. This means retail clients now need 5% minimum margin compared to 0.5% which is currently in place
LEVERAGE MARGIN TRADING – HIGH RISK UK Financial Conduct Authority (FCA) want to crack down the leveraged products mainly because historically they were offered to financially sophisticated retail investors but in recent years these were also offered to inex-
REAL LIFE EXAMPLE: Let’s say that we want to buy the FTSE at 7000 points, with a stake of £1.The percentage of margin required is
FINANCE, BANKING & INSURANCE - Asian Voice & Gujarat Samachar 2018
based on the size of the instrument, so currently, our margin requirement of 0.5% of a 7000 point instrument would be £35.00 (7000 x 0.5%). With the new requirements, to trade the FTSE with a stake of £1, and a margin requirement of 5%, instead we’d need to have £350 in our accounts (7000 x 5%).
HOW CAN YOU APPLY FOR PROFESSIONAL CLIENT STATUS? In addition to qualitative test, you must satisfy at least two of the following three criteria. (1) You must have carried out transactions, in significant size, on the relevant market at an average frequency of 10 per quarter over the previous four quarters (2) The size of your financial instrument portfolio, defined as including cash deposits and financial instruments, exceeds Eur 500,000 (3) You work or have worked in the financial sector for at least one year in a professional position, which requires knowledge of the transaction or services envisaged.
CONCLUSION: The main benefit of professional account status is to get a reduction in margin, but on the down side professional status clients will not get negative protection from the broker so one can lose more than the balance on their account. Brokers may think that because of your professional status you have ample experience and may not explain things unless you ask. You may also say that higher margins result in better client outcomes due to the limits on leverage. All traders maintain the same level of client money protection (under Financial Services Compensation Scheme) and they can switch easily back from professional status to retail status.
Finance Banking Insurance 2018 (Issue 18)