On the same day as FCA's effectiveness was questioned in Parliament as being "weak, toothless and anaemic", it publicly identified serial failings in the CFD sector. There is a real chance that regulatory action will follow on.
The FCA has sent a "Dear CEO" letter to around 100 authorised firms dealing in contracts for difference (CFD's). Such letters are often the pre-cursor to regulatory action in a particular sector and also better position the FCA to complain about future misconduct of a type addressed by the letters. They require to be taken seriously.
The "Dear CEO" letter relates to those firms offering CFD's on a non-advised basis and focusses on obligations (under COBS 10) to assess the appropriateness of CFD's before allowing clients to trade. In essence, COBS 10 requires an assessment of a prospective client's experience and knowledge. If CFD's are judged not appropriate for a client, then the firm must warn the client. Ultimately, however, the decision to trade or not remains with the client.
Getting this process right is seen as crucial for consumer protection, and it is equally crucial self-protection for firms offering non-advised CFD's. These products by their nature enable clients to have leveraged exposure to the market, meaning that the extent of potential losses or gains can be far greater than the amounts originally invested. Clients can quickly get out of their depth and firms need to be able to show that such risks were understood and accepted. The unexpected action of the Swiss Central Bank in abandoning its exchange rate control in January 2015 is a case in point. As was widely reported, the currency movements that followed badly hit many with CFD exposure to the currency, including many disgruntled day traders who featured in much of the press coverage. Such significant client losses are grist to the FCA's mill and may also result in civil litigation and/or mass FOS claims.
Against that backdrop, the FCA's finding that many of the sample firms were not properly conducting their appropriateness assessment is a significant warning shot. The issues identified included using a "scoring system" that gave weight to facts such as age and length of time at an address over the key issues of experience and knowledge, failing to ask basic questions about prospective clients' experience, and asking clients to self-certify their understanding instead of firms assessing appropriateness themselves. Even when firms judged that CFD's were not appropriate, the FCA found that the mandatory risk warnings were nonetheless unclear.
Whilst the "Dear CEO" letter does not provide this detail, it is not difficult to imagine that the identified issues stem at least in part from a combination of attempts to streamline the take-on process and inadequate training and/or understanding on the part of client-facing employees. With proper training and systems, it ought to be possible for firms subject to these requirements to comply with them.
More generally, it is worth recalling that the FCA has as one of its statutory objectives the protection of consumers with express reference to the inherent riskiness of different products and varying levels of consumer knowledge and experience. This gels neatly with the themes of this recent "Dear CEO letter" and the FCA's perception of CFD's as complex products that may result in significant losses, potentially for inexperienced retail clients. At a time when the FCA's "fitness for purpose" is under attack, firms in this sector would be well advised to use the "Dear CEO" letter as a prompt to put their house in order before the FCA's sights start to focus.