FCA letter a warning to CFD providers

CFDs have long been of concern to the FCA given their high-risk nature and the risk they can pose to both its consumer protection and market integrity objectives. There have been a number of supervisory, policy and intervention communications in this sector in the last few years as a result.

The FCA letter

The FCAwrote to providers (6 pages / 157KB PDF) on 1 December 2022 to highlight concerns over the risk CFDs can pose to the regulator’s consumer protection and market integrity objectives. The FCA told the CEOs of CFD providers that their board or executive committee “should consider which of the risks we highlight are applicable to your business and how to address them. We expect you to take action to mitigate these risks and ensure that your firm meets our requirements. You should be prepared for scrutiny of your response to this letter and any actions you have taken.”

This latest intervention shows that the FCA remains wary of the risk that CFDs could pose to its objectives, and the letter should be seen as a warning to providers that this focus is not going away any time soon. This is particularly true in light of the new ConsumerDuty and an economic downturn.

Consumer Duty

In its letter, the FCA reminded CFD providers that they should be putting customers’ first, adding that whenthe new Consumer Duty comes into effect, they will need to ensure that products deliver good outcomes for retail customers. The regulator noted four areas of the Consumer Duty that may be most relevant to CFD providers:

• cross-cutting rules on acting in good faith;
• rules on price and value;
• rules on customer services; and
• rules on communications.

Notably, the letter specifically highlighted CFD providers’ need to act in good faith in respect of conflicts of interest. This is because conflicts of interest are typically inherent in CFD firms’ business models: firms can profit when customers are persuaded to trade more frequently and/or in larger volumes than they would otherwise, and where the market risk from firms’ customer activity is under-hedged, CFD providers can directly profit from customer losses.

Referring to these conflict of interest issues the FCA said: “Current market volatility and the cost-of-living crisis could also be used to encourage excessive trading not in customers’ best interests. We expect all firms to have analysed all relevant [conflicts of interest] inherent in their business model and to comply with and consider all relevant FCA rules and guidance respectively.”

In the coming months the FCA will be communicating to explain further the impact of the Consumer Duty on CFD providers.

Financial crime and market abuse

The letter also reminded CFD providers of the need to have due regard for financial crime systems and controls, particularly those used to prevent and detect insider dealing. In that regard, the FCA highlighted its recent Market Watch newsletter, in which all relevant firms were told to note:

• the benefits of having comprehensive, accurate and up-to-date market abuse risk assessments.
• the importance of, and regulatory obligation to, periodically review arrangements to ensure order and trade surveillance remain effective.
• that they may want to consider whether they could benefit by creating policies and procedures that provide a level of guidance in how work should be undertaken to monitor market abuse.
• that when outsourcing aspects of their surveillance to another part of their organisation, or a separate organisation, they must ensure that all aspects of surveillance are appropriate with adequate oversight and governance over arrangements.
• that when identifying its own employees undertaking potential misconduct or market abuse, a firm subject to Article 16 of the UK Market Abuse Regulation (MAR) should consider the requirement to submit a Suspicious Transaction & Order Report (STOR) without delay once it has a reasonable suspicion that the relevant conduct could constitute market abuse.

Prudential and operational resilience

The letter also highlighted how CFD providers can reduce harm from firm failure by testing the adequacy of their Investment Firms Prudential Regime (IFPR) implementation, including their internal capital adequacy and risk assessments (ICARA), as well as their recovery and wind-down plans. It said they should also ensure that systems, governance and oversight are robust enough to protect client assets and, where relevant, ensure their operational resilience can minimise preventable harm to consumers and markets.

The FCA’s letter provides a useful indication of the areas the FCA is likely going to focus on in respect of CFD providers in the new year. Notwithstanding the need to ensure they are ready for the new Consumer Duty, CFD providers should seek to check and improve as necessary their systems and controls around financial crime, market abuse, prudential and operational resilience, and client asset protection.

Dealing with problem firms

While less relevant to the majority of CFD providers, it is nonetheless worth noting the FCA highlighted its concerns with some business models that use, for example, fake celebrity endorsements, pressure-sales tactics to persuade people to invest increasing amounts of money, or inducements being given to customers to upgrade to elective professional status despite clients not meeting the criteria and losing protection under FCA rules.

In recent years, the FCA has been active in this area working hard to increase protection for consumers. In 2020 and 2021, FCA action stopped 24 firms marketing CFDs in the UK to retail customers. It said the interventions in 2021 prevented an estimated £100 million of harm to UK consumers. Further FCA action has been taken in 2022 and will continue where justified.

Co-written by Tom Aries of Pinsent Masons.