What do the US, Quebec, Turkey, Belgium, France, UK, Hong Kong, Japan, Cyprus and now Australia, have in common? They all have existing or proposed product intervention-style powers to restrict the offering of various types of OTC derivatives to the public.
What do the following people have in common: The owner of a small, failing grocery store, a self-confessed shopaholic, and a new mum struggling to pay bills? Well, according to a CFDs and margin-forex business testimonial-style advert, they all solved their problems by trading their way out of them.
Government regulatory powers to protect consumers easily pick up advertisements like the real-life example above. However, these new product intervention powers have a far wider reach, which we explore below.
This article focuses on a Proposals Paper issued by the Australian Government on 13 December 2016, titled Design and Distribution Obligations and Product Intervention Power. This is the second proposal relevant to the OTC sector released in as many months – in November, the Australian Government released a proposal to charge OTC Derivative providers an annual levy of $61,400.
The December paper was followed closely by an International Organization of Securities Commissions (IOSCO) Report titled Report on the IOSCO Survey on Retail OTC Leveraged Products which acts as a summary of what’s going on, globally, in this space. It was released on 22 December. In all, the two papers and the report provide you with some not-so-light, Christmas-break reading.
Also, on 6 December this year, the UK regulator told its 104 authorised CFDs providers (including rolling spot forex contracts providers), that it was imposing stricter rules. To quote the announcement directly:
“The new measures include:
- Introducing standardised risk warnings and mandatory disclosure of profit-loss ratios on client accounts by all providers to better illustrate the risks and historical performance of these products.
- Setting lower leverage limits for inexperienced retail clients who do not have 12 months or more experience of active trading in CFDs, with a maximum of 25:1.
- Capping leverage at a maximum level of 50:1 for all retail clients and introducing lower leverage caps across different assets according to their risks. Some levels of leverage currently offered to retail customers exceed 200:1.
- Preventing providers from using any form of trading or account opening bonuses or benefits to promote CFD products.”
Two days later, on 8 December, we coincidentally ran our quarterly CFDs Compliance Forum in Sydney (we allow dial-ins), and the number one question was: Is Australia going to follow suit? At that time, all we had to go on was the Financial System Inquiry proposals to introduce a product intervention power, which came out almost exactly 2 years earlier. A week after the forum, we have a detailed 62-page proposals paper. (For the answer to the leverage question, go straight to numbered paragraph 4, below.)
In the old days, Governments and their financial markets regulators used to subscribe to the efficient market hypothesis. To paraphrase, if you require product providers to disclose their product information, consumers will make the right, informed choice about whether to purchase the product.
Since then, behavioural psychologists have finally made the point that the factors that influence our decisions are far more complex. We trade forex because: our friend does, and she told us how much money she made over the weekend trading AUD/USD. We also trade forex because we trust the issuer’s brand. Some people dabble in binaries because they like to play the odds and keep things simple. But, it turns out that consumers don’t read the 50+ page product disclosure statements on issuer websites. Fancy that!
So, governments around the world have restricted certain products from particular markets in various ways. We have curated legal advice in around 10 non-Australian jurisdictions about offering OTC derivatives, and of course, every country is different. However, many of them are following a trend – move over disclosure, product intervention is the new black.
ASIC’s proposed powers
Australia’s regulator, ASIC, is soon to receive a serious weapons upgrade that will go far beyond the old tools of product disclosure statement stop-orders and misleading or deceptive conduct remedies (although as noted above, these powers would have been more than adequate to stop the testimonial-style advertisement we described at the beginning of this article).
In summary, Treasury proposes that:
- Issuers of financial products to retail clients in Australia, and their distributors, will be caught by the new “design and distribution” obligations.
This means that Australia’s 70 retail OTC derivatives product issuers will be caught – and so will any introducing-broker operators who target people in the Australian jurisdiction.
- Issuers will be expected to identify appropriate target and non-target markets, distribution channels, and conduct ongoing review to ensure distribution is appropriate.
Australian issuers already have ASIC’s RG227 which suggests that issuers maintain and apply a written client qualification policy that meets certain requirements. However, this regulatory guide does not have the force of law, and most brokers elect not to comply with some of the benchmarks on an “if not, why not” basis.
- Distributors will be expected to ensure their products are distributed in accordance with the issuer’s expectations and comply with reasonable requests for information.
- ASIC will have powers to make interventions in relation to the product, a product feature, or the types of consumers that can access the product or the circumstances in which consumers access it.
The paper provides examples such as imposing additional disclosure obligations, mandating warnings, requiring advert amendments, and restricting or banning the distribution of the product.
When looking closely at the commentary, it appears that ASIC may not be able to directly require restricted leverage. Rather, it can restrict who can access high leverage, by saying something like “We think that offering leverage of more than 1:20 to retail clients would cause significant consumer detriment, so stop it.” So, ASIC can achieve the same outcome, but possibly not as directly or easily as the FCA can (the FCA has broad product intervention powers).
The proposal paper is a bit unclear, however. For example, on page 36, it suggests that ASIC could set minimum standards for certain products or product features.
What is clear, is that under this proposal, ASIC could require disclosure of standardised risk warnings, including profit-loss ratio, as well as prohibitions against bonus promotions. It can also restrict certain products, including products with certain leverage levels, from being available to certain client groups.
- ASIC can make a product intervention if it identifies a risk of significant consumer detriment.
This will require ASIC to undertake consultation before making an announcement (the UK’s FCA did this before its leverage/disclosure announcement, too).
- ASIC’s product intervention can only last for up to 18 months under the proposal, during which time the Government will consider whether the intervention should be permanent.
This stretches out the period from 12 months, as initially proposed in 2014. However, it falls short of the UK’s permanent intervention power.
- In terms of timing, the obligations will apply to new products issued 6 months after the reforms become law. Existing products will have 2 years to come into line with the new obligations.
It’s quite possible that these proposals will become law some time next year.
Consultation on the proposal paper is open until 15 March 2017. As we have done in the past, if industry participants have a shared desire to lodge a joint submission, we’re happy to crowd fund something appropriate.
Our lawyers across Sydney and Melbourne have deep expertise in the matters discussed in this paper – which also span across into other product types, including insurance, superannuation, non-cash payments, credit, and managed funds. We would be happy to talk about this article in January 2017, when the office reopens.
About us: Holley Nethercote Commercial & Financial Services Lawyers is a legal practice that focusses on regulatory compliance and commercial law. It has 30 staff across two offices – Melbourne (head office) and Sydney. It runs industry forums that often include government regulator attendance across the following industries: OTC Derivatives, Remittance, Fintech, Financial Advisory. Contact us to attend these forums.