Are brokers creating a dangerous situation with the new “Pro” status?
Today I called the FCA. I wanted to hear with my own ears what the watchdog of the financial service industry in the United Kingdom had to say about brokers, which are converting their clients from “retail traders” to “professional traders”.
You can’t have missed these communications from your broker. ‘Our brokers are keen to get you to consider becoming a “professional trader” because it means you can maintain trading with 200:1 margin, rather than the boring 20:1 margin.’
Why is the broker so keen on that? Otherwise, he will lose revenue as your trading size will be significantly lower. It makes sense for all parties to seek to maintain the higher margin. As I pointed out in another article a few days ago (New ESMA Rules & Brokers Outside EU), there is not much fun trading a pound a point, if you are used to trading 10 pounds a point.
Of course, it is not so easy to achieve the “pro” status. You need a sizable chunk of money, as well as being able to demonstrate that you have some trading experience.
I decided to speak to the highest power, so I placed a call with the FCA, and I asked the following question:
“If a retail client is converted to “professional status”, is he or she still protected by the FSCS?”
Before I tell you their reply, let me enlighten you about retail traders and the FSCS.
FSCS stands for the Financial Services Compensation Scheme. It is a scheme that protects the ordinary man in the street against unexpected financial disasters, such as your bank or broker or insurance company going belly up.
Say you have £5,000 in a trading account with a CFD broker, and the company goes under – for whatever reason – you are going to be compensated for your monetary loss by the FSCS.
Sounds good, right?
You have other rights too when you are a “retail trader”. You can complain to an Ombudsman, for example, if you have a dispute with your broker, and generally, you will be favoured rather than the broker, should a dispute arise.
The professional trader though is not so lucky. He is unable to complain. I imagine many people are less worried about the ability to complain and are more concerned about whether their account balances are protected by the FSCS.
So, I asked the FCA, and they said: “Professional investors are likely to lose their ability to claim compensation with the FSCS, but you should really contact the FSCS directly.”
I hung up, thinking that was a vague answer from an institution that is meant to safeguard the public against malpractice of financial firms. What does “likely” mean. Will they or won’t they lose their account protection?
So, I called the FSCS. I can’t begin to tell you how utterly unprofessional that conversation was. I might as well have been trying to explain basic calculus to a new-born. “How do you spell CFD’s?” the lady asked me. She told me to email the FSCS legal team with my question, which I have. I am still awaiting their reply.
As I was sitting trading anyway, and I had little else to do, I went online to a couple of brokers, who have these neat online chat facilities, where you can ask questions.
I spoke to Activ Trades, and asked them this question:
“I have a question regarding the new ESMA rules. If I become a pro client, am I still protected under the FSCS?”
The answer was so laconic and so quick, I was startled. “Yes”. That was it.
I pressed a little harder. Here is the transcript of the conversation:
ME: are you sure? The FCA says no, but they referred me to FSCS
Activ Trades: As a professional client you receive the same protection as an individual client
So ACTIV TRADES says I receive the same protection as a retail client. That is simply not what I hear elsewhere. A “pro” client will not have the risk warnings. A pro client will not have the new ESMA rule of Negative Balance Protection. I guess Active Trades were not told that, or maybe they misunderstood my question.
I didn’t think one broker should be the basis of my investigation, so I contacted the grandfather of the CFD industry: IG MARKETS.
I spoke to the IG customer service team, posing as a new client. I asked them the same question I had asked Activ Trades, and I was put on hold.
The voice came back and said that the credit team had advised him that nothing would change. I would still be protected even if I was a “pro”.
I explained what the FCA had said, and I asked to be put through to the credit team. The credit team explained a slightly different story.
The credit team of IG explained to me that the main difference between a “retail trader” and a “pro trader” is that the retail traders trading account deposit is placed in a “segregated” bank account. This means that a company like IG cannot use the client’s funds for business purposes. Your cash just has to sit there, ring-fenced.
For the “pro” trader, however, it is an entirely different proposition. His account is not segregated. His funds are used as collateral with prime brokers and to facilitate the general cash flow of the business.
The guy explained to me that some clients are professionals but still have segregated accounts, while other professionals do not have segregated accounts. The difference was often that the non-segregated accounts were big individual stock traders. Their funds were often used as collateral with the prime brokers.
BUT HERE IS THE REAL KICKER OF MY CONVERSATION WITH IG: IG does not have a LEGAL obligation to segregate the funds of professional traders. The credit team went to great lengths in explaining that as a matter of good business practice, they would segregate the accounts of “pro” traders, but they were not legally obliged to do so.
So, I asked them a simple question: so, IF you as a company were forced for liquidity or cash-flow reasons to use the account deposits of the professional traders, you could do so legally?
I never really got a yes or a no. I think he knew where this was heading. He might as well have said, “hey, while all is well, your funds are safe with us, but if the shit ever hit the fan, we can legally do whatever we want, and there is nothing you can do about it”.
He went on to explain that professionals also lose the Negative Balance Protection, something that Activ Trades told me was entirely the same. As I said, maybe Activ Trades just misunderstood my question.
Talking of Activ Trade, they have written on their website, that as a professional client you will normally be eligible to make a claim against the FSCS,…..as long as your account with them is not your main trade or business.
Can you hear how contradicting this sounds? You are a “professional”, but it is not your main occupation. If someone said to you “I am a professional dentist, but it is not my main occupation. I am a car salesman”, would you not shake your head?
Anyway, moving on to ETX Capital, where I spoke to a really cool compliance lady who was not in the mood for platitudes and vague answers. Thank you ETX.
She said: “No, you are not protected. When you opt for the professional classification, you basically hand over the funds to the company, and if the company goes bust, you become a creditor, and you have no FSCS protection.
Short and sweet – and to the point. You become a creditor if you are a “pro”, and your brokers become insolvent. There is no dear mamma FSCS for you, according to ETX Capital. Their story is very different from IG’s story and Activ Trades story.
The final phone call of the day was placed to Core Spreads. At this point my Dow position was moving, so I began to lose my enthusiasm for this self-appointed fact-finding crusade I had started, and was more interested in Donald’s comments about the EU.
Core Spreads is a small but very ambitious brokerage company, run by a bunch of competent and thoroughly nice people. They went to great lengths to explain to me what was up and down of this whole business of “pro” and “retail”.
Look at their Terms and Conditions, because you will find their wording in all the other companies wordings too, and it just proves one thing: IF SHIT HAPPENS, and we get another “2015 Swiss Bank 20% move” or another “Flash Crash” or some other event that wrong-foots a bunch of traders and brokers in a bad enough way, you haven’t the slightest chance of recovering your funds.
Here is the legal wording, you need to know:
11.5 If you have been classified as a Professional Client or an Eligible Counterparty by us, we may agree, in accordance with the Applicable Rules and Regulations, that money we hold on your behalf may not be treated as client money, and your money will not be held in accordance with the Client Money Rules. We will acquire full ownership of any sums which are not treated as client money for the purpose of securing or covering your present, future, actual, contingent or prospective obligations. Such sums may not be segregated from money held in our own account and may be used by us for the purposes of our business. You will rank as a general creditor of our firm only in respect of this money in the unlikely event of our insolvency.
That is a lot of “may”.
I also contacted CMC, SPREADEX and Plus 500. I am aware of the length of my post, but you have let me entertain you with the responses I received from these companies:
CMC: “No, if you become Pro, you are not protected, but if it is something you want, we can look into it for you.”
SpreadEx: “No protection” – end of story.
Plus 500 was clearly uncomfortable with my questions. I was told after a good online chat that “Your query will undergo a thorough review by the responsible department, to give you a more accurate answer. I am forwarding it now, and you will be contacted through an e-mail shortly.” This was after the operator told me that the FOS and the FSCS were the same.
Here is my concern and I am not the only one sharing this concern, I can assure you of that:
1/ Clients are being converted to “pro”, and I doubt they understand the implications.
2/ FCA and ESMA will investigate it, and as if this industry wasn’t in a dire strait before, we will be if clients have been converted to professionals using wrong assumptions.
3/ How long do you think it will be before some of these new “pro” clients lose their funds, and they claim they were mis-sold and they didn’t know what they signed up to. As a friend of mine said: This is a PPI disaster in the making.
If you have any comments or questions, email me on email@example.com