One of the most important components to look for when choosing a broker is whether or not it is covered by a regulator. The rise in forex brokers has grown that many of them are operating without any regulation or a legitimate supervision.
Regulatory bodies are given the task of acting as watchdogs for their own respective markets and providing financial licenses to organizations which are considered in good standing and have an ample amount of funds to run a brokerage business.
Since the number of forex trades continue to grow, the need of higher scrutiny and regulation has also heightened.
The regulation process is difficult and can take a long time to complete, which is why several brokers have chosen not to bother themselves with undertaking it.
What makes the process demanding is that the regulatory environment is not the same in all locations. Different territories have their own set of individual rules and legislation corresponding to the regulation of financial services in that particular country.
The largest risk of non-regulation involves illegal activity and schemes. Fraudulent activities include steep commissions by customer accounts, high-pressure “boiler room” tactics, Ponzi schemes and misrepresentation.
CySec, FCA and MIFID
The most widely-recognized forex regulatory bodies in Europe are the Financial Conduct Authority (FCA) and the Cyprus Securities and Exchange Commission (CySEC).
These organizations cooperate with the Markets in Financial Instruments Directive, or MiFID, which allows forex operators from one EU country to operate business with all other European Economic Area (EEA) countries.
A broker that claims it is regulated in the European Union means that it follows MFID rules. The extent of forex regulation varies among countries, therefore regulation in one territory could be more strict compared with others.
MiFID regulation grants traders with security to some extent but at the same time it does not cover all measures. It provides the need for an amount of mandatory investor compensation through a refund of deposited funds just in case the brokerage claims bankruptcy.
It also summaries minimum capital requirements needed by the broker as well as the need for segregated client and operator funds.
Several brokers prefer to set up their business in Cyprus under the CySec regulation due to many reasons.
The rate of corporation tax is at its lowest in the EU. Since the financial sector is big and advanced, forex providers see the business environment as quite advantageous.
Furthermore, since Cyprus is a member of the EEA and the EU, Cyprus-based forex operators are directly under MIFID regulation.
The Commodity Futures Trading Commission (CFTC) under the Commodity Exchange Act (CEA) has jurisdiction on leveraged forex transaction offered to retail clients and allows regulated entities to act as counterparts for transactions with retail customers.
All online forex dealers must be registered and should meet financial standards by the National Futures Association (NFA).
The U.S. has one of the tightest regulatory structures in the world. Due to its heavy regulation, only a few foreign brokerages are allowed to do business in the country or offer trading opportunities with those who reside in the U.S.
Forex brokers can choose to be regulated by the Financial Conduct Authority (FCA) or be registered with the Financial Services Authority (FSA) UK.
The EEA Authorized status is offered to companies that are authorized in another European Economic Area (EEA) state and was given a “passport” by FSA UK to provide cross border services to the nation’s citizens, according to MiFID.
As of the moment, Russia and other CIS countries do not have a regulatory framework for the provision of particular over-the-counter financial services, like Spot FX and CFD trading.
RAFFM, the Russian Association of Financial Markets, is one of the self-regulatory organizations that was set up to protect clients to deal with unregulated brokerages.
RAFFM has four member firms which makes it one of the smaller self-regulatory organizations.
The Russian government is currently working on regulating the provisions of retail forex and CFD trading in the country.
The regulation of retail forex is in the hands of the Australian Securities and Investment Commission (ASIC). Brokerages must acquire an Australian Financial Services license.
The country’s regulatory agency, Capital Markets Board (CMB), or Sermaye Piyasasi Kurulu (SPK) in Turkisk is also strict and only a few forex brokers have met its criteria and received permission to operate in Turkey.
Belize grants tax benefits and provides regulation under the International Financial Services Commission (IFSC), which offers traders basic protection clauses and has stringent accountability demands of FX brokers.
The Israeli Securities Authority (ISA) introduced new regulatory stipulations to tighten reporting, provide transparency, limit leverage and other conditions.
New regulations were recently introduced which helped bring Israeli regulation in line with regulatory definitions elsewhere in the world. Companies that are regulated in other jurisdictions are also required to obtain an ISA license if they wish to seek customers based in Israel.