[Newsflash n. 45]
On 27 March 2018, ESMA announced its resolution to impose temporary measures to restrict contracts for differences and prohibit binary options.
After the entry into force of MiFID II on 3 January 2018, this is the first product intervention activity undertaken by ESMA pursuant to its power of intervention set out by Article 9 (5) of EU Regulation 1095/2010 and Article 40 of MiFIR. Before such action at EU level, in 2017 CONSOB (the Italian financial authority) issued for the Italian market a warning to investors concerning the marketing of contract for difference (CFD), rolling spot forex and binary options (see our Newsflash n. 24).
The above are temporary measures with a duration of three months and will start to apply, in case of binary options, one month after the publication in the Official Journal of the European Union and, in case of CFDs, two months after such publication. Assuming that the publication will take place by the end of April/beginning of May, we expect that the restrictions will take effect respectively in June and July.
Contracts for differences
Definition. For the purposes of the agreed measures, a contract for differences is any derivative other than an option, future, swap or forward rate agreement, which enables an investor to speculate on the rise of the price, level or value of an underlying asset class. They are typically offered with leverage, which can lead to losses that exceed the initial investment.
Scope. ESMA has confirmed that, notwithstanding certain similarities with CFDs, warrants and turbo certificates are not in scope. On the other hand, “securitized derivatives that are CFDs are not explicitly excluded from the definition of CFDs. Although ESMA is not aware of securitized CFDs at this stage, the wrapper of a security and the tradability on a trading venue do not change the key characteristics of a CFD. In case such products were to be launched, these products would be in scope of this agreed measure.”
Content. The measures consist of: (i) imposition of leverage limits on the opening of a CFD position, (ii) margin close-out rule of 50% on a position-by-position basis (in accordance with Articles 24 and 27 of MiFID II), (iii) negative balance protection, (iv) restriction on the incentivizing practices of CFD trading, (v) inclusion of risk warnings in any communication or information relating to the marketing, distribution or sale of a CFD.
Binary options
Definition. Binary options are complex financial instruments enabling the investor to get a fixed pay-out if an underlying asset meets certain predetermined conditions, generally within a particular time-frame. “The agreed measure will also include binary options that have several different predetermined conditions which have to be met (or not met) before the payment is provided” (including, for instance, binary options providing payments of (i) a predetermined amount if the value of the underlying rises on a specific date, as well as (ii) an additional predetermined amount (a ‘bonus’) if the value of the underlying rises above a certain percentage).
Binary options differ from other options with returns within a continuous range rather than providing for a fixed pay-out.
Scope. “All binary options, regardless of whether they are traded OTC or on a trading venue and regardless of the names under which they may be marketed, distributed or sold, will fall within the scope of the agreed measure. For example, all-or-nothing options, up-or-down options, trend options, digital options and one-touch options are included. Furthermore, securitized binary options will also be in scope.” Such wide scope may raise doubts as to whether securitized derivatives embedding some digital options also fall under the ban or only single options in securitized form are included.
Content. For binary options, no quantitative restriction is imposed, as the measure involves the absolute prohibition on the marketing, distribution or sale to retails.
These measures will be directly applicable to product providers (and not to investors) that are required to comply with the measures as of when they become applicable under the supervision of the relevant competent authority.
This ESMA’s action marks the expansion from a supervision on the behavior of intermediaries, focused on rules of conduct such as adequacy and appropriateness test, to a top-down supervision on the distribution of products that empowers ESMA to select in an authoritative manner the financial instruments that may be sold to retail investors.
The documents are available at the following links:
Press release: https://www.esma.europa.eu/press-news/esma-news/esma-agrees-prohibit-binary-options-and-restrict-cfds-protect-retail-investors
Additional information: https://www.esma.europa.eu/sites/default/files/library/esma35-43-1000_additional_information_on_the_agreed_product_intervention_measures_relating_to_contracts_for_differences_and_binary_options.pdf
Please do not hesitate to contact us should you need any clarification or assistance in relation to the above ESMA measures.
Contacts:
Vito Vittore
Partner
Elena Pagnoni
Partner
Chiara Di Torrice
Associate
