What the past 10 years tells us about the next decade for the CFD industry

Rare is the company that marks a successful decade in business by pressing the reset button and looking for an entirely different type of customer.

But that’s exactly where we in the CFD industry find ourselves, after an unprecedented period of increasing regulation that has eclipsed the scale of intervention seen in other sectors.

These are intriguing times, and we already know the sector will look radically different in another 10 years.

But how different? To understand why the process of evolution is set to continue, it’s worth reflecting on how we got to where we are today.

The regulatory revolution for CFDs has been swift. CFDs won a massive audience around the globe thanks to the leverage they offered to a broad church of investors and traders keen to increase their exposure without increasing their risk capital.

However with that success came unexpected issues, as customers were attracted from both ends of the spectrum. Many sophisticated retail investors, who were already familiar with the stock market, began to embrace the way CFDs could help them turn the same amount of money into a greater number of investments with lower trading costs. So far, so uncontroversial.

More and more firms sprang up with ever more sophisticated trading platforms.

Simultaneously, as the world of spread betting pulled in those who were newer to financial markets but still fascinated by them, many of them eventually graduated to CFDs once they felt they had grown in skill and understanding. These clients knew CFDs were favoured by professional speculators because of their tax advantages and saw CFDs as a natural next step. But some of those attracted to the industry were less experienced than they might have been and proved hard to engage in education.

The industry, as it sprang up in the early 2010s, was not to last. And if we are honest with ourselves, the industry could have done more to keep in step with regulators. Most CFD providers think the leverage ceilings now imposed in developed markets by the EU’s ESMA rules are too draconian, but how much higher they might have been if the sector had embraced voluntary caps earlier is still a matter for debate.

And so it was that, at the end of the last decade, this hugely successful sector had its wings clipped as regulators capped the amount of leverage available.

Their aim was to protect those investors who they feared would either not seek out the right knowledge or overleverage themselves — or both.

Regulation certainly has brought with it unintended consequences. The main one is the way tighter regulation in home markets has pushed some investors and traders into far-flung corners of the world where they might be more vulnerable to bad actors taking advantage of weak regulations and oversight.

Rumours have also circulated that the industry can no longer survive in home markets but this is unfounded and firms like Infinox — currently celebrating its tenth anniversary — are proudly staying put.

The reality is actually more nuanced than that.

If the sector is to continue to thrive, the problem is an obvious one — regulation has changed the character of who our customer is. If clients cannot trade at 200:1 and the business models that were designed around these customers are redundant, then it is the business model that has to evolve.

We have to move with the times and the customer of the future will no longer be trading at more than 30:1. The industry has to deal with that.

So if a highly leveraged trader is the customer who defined the past 10 years, who is going to define the next decade? The answer brings us to probably the most interesting unintended consequence — a mass-market future for CFDs.

The true mass-market has scarcely been courted until now, for the simple reason that the industry didn’t need to. But a core of stock market investors who have already discovered the advantages of trading shares using CFDs already exists, and these clients are not that concerned about leverage caps.

They are financially sophisticated, they remain customers for years, if not decades, and they love the technology on offer that they can’t get from traditional share dealing accounts.

There are many millions of them, they live conventional lives and they are also easy to bring through the KYC process.

These people must be the CFD clients of the future who will help the sector operate within an increasingly complex regulatory framework. Greater numbers of customers who are more loyal will also help providers overcome another problem that has grown in size over the past decade — the cost of RegTech.

Most providers turn to technology to meet the KYC and anti-money laundering challenge, knowing if they don’t get it right the punitive costs could be devastating. But they’re not cheap and there is no scope to deviate from a regulatory framework that is being shaped not by genuine investors but by financial crime.

Broadening the customer base will be the best way for the CFD business to plug the hole left by the leverage cap, which the FCA itself estimates will dent providers’ profits by up to £55.3million.

The sector has been told it has a new customer base and it’s now up to companies to go and find them. That’s going to take time but it’s not impossible. Far more consumers are investing and trading than ever before and customers using less leverage are likely to show greater loyalty.

Short-term gains will gradually be replaced by long-term aspirations with lower risk. This is actually something that our educational offerings can much more easily support. Clients’ success rates will inevitably rise, and with it the lifecycle of the typical customer will grow longer, much as it does now with traditional stockbrokers. These clients of the future won’t miss the high leverage, because they never had it.

A seismic change has torn up assumptions the CFD industry thought it could rely on only a few years ago. Reorientation beckons and the sector has its work cut out, but it’s not mission impossible.

Soon we’ll bridge the divide between the present and the brave new world by using a combination of innovative products, greater integration and more intuitive education.