Who Regulates Binary Option Brokers?
Attractive returns and freedom to choose trade timings are the primary reasons for scores of individuals belonging to varied walks of life to get attracted to binary options trading. However, this nascent industry is plagued with fraudulent brokers who look for every opportunity to rip their clients. To protect clients’ interests, regulatory agencies across the world are doing their best to streamline the operations of the industry. From a trader’s perspective, ultimately, protection of capital is vital while dealing with any binary broker. In this regard, let us study the manner in which the binary options industry is regulated by the prominent government authorized agencies.
Cyprus Securities and Exchange Commission (CySEC)
Binary options trading came under the watchful eyes of Cyprus Securities and Exchange Commission (CySEC) on May 4, 2012. Being the first country to regulate OTC binary options industry, CySEC leads other regulatory authorities in framing rules for the governance of the industry. Invariably, most of the big binary brokers have their headquarters, or at least their regional office, in Cyprus. The country is a member of the EU. Thus, finance related firms, including binary brokers, operating in Cyprus are governed by the rules of European Union’s Markets in Financial Instruments Directive (MiFID). By having an office in Cyprus, a binary broker is legally allowed to market their products to European clients. Thus, CySEC plays an important role in the overall functioning of the binary options industry.
Advantages of having office in Cyprus
- Lowest corporate tax regime in the European Union. Cyprus Investment Firms (Forex, binary brokers, etc.) are charged only 12.5% on net profits.
- No withholding tax on dividend, interest, and royalties paid to
non-residents. There is no capital gains tax, barring immovable property.
- There are no exchange controls in Cyprus.
- Advanced telecommunication facilities
- Enables companies to have access to clients in EU member countries.
- About 35% to 40% cheaper than Western Europe.
- Binary brokers are governed under the CIFs and Investment Firms Law of CySEC.
- The minimum
paid-upcapital required for a binary broker depends on the nature of services provided and the risk profile. The final decision on the capital requirements is decided on a case by case basis. In general, a binary broker dealing on own account should have a capital ranging between €730,000 and €1 million. If the broker is safeguarding clients’ funds, then a capital ranging from €125,000 to €200,000 is required. Finally, a broker who does not safeguard clients’ funds must maintain a capital of about €80,000.
- Licensing fee ranges from €4,000 to €10,000. It takes around 5–6 months to complete the formalities.
- There should be at least two executive and two independent
non-executivemembers in the Board of Directors of the binary brokerage firm. Additionally, the majority of members should be Cyprus residents.
- A binary broker should act in a fair and transparent manner. All details pertaining to an option contract (nature of the asset, the actual exchange in which the asset is traded, trade timings, etc.) should be provided before a trade is made by a client.
- Continuous price feed of the underlying asset should be provided in a prominent manner in the trading area. The binary broker should also provide necessary explanations of technical jargon through
pop-upmessage or in any other easily understandable format.
- A binary broker should explain the manner in which a strike/expiry price is calculated (for example,
Bid + Ask / 2). All the formulas relevant to the calculation of strike/expiry price should be provided. If the price feed is not available for any particular asset, then the last quoted price along with trading volume should be provided.
- A broker is responsible for granting clear access to the details of the data feed provider. If a binary broker uses more than one price feed, then a clarification of the exact selection of data should be provided.
- In case a binary broker applies rounding of price data at the time of expiry of an option, then a detailed explanation of the rule applied should be provided.
- Detailed records of bid/ask price and last traded price at the expiry of the option should be maintained. A client should be able to access the data pertaining to executed trades.
- Clear, accurate, and
real-timegraph should be provided. Additionally, the graph should clearly show the bid/ask price and buyout/reference price with necessary explanations.
- A client should be allowed to place orders at any time when the option is available. In case a broker does not accept more orders for a particular contract, necessary clarifications should be provided.
- If a buyout option is available, a clear explanation of the early exit rules should be provided.
- If a binary broker allows a client to cancel a trade, then a time period of more than 3 seconds should be provided for the cancellation, after the purchase of the contract. Additionally, all the necessary terms and conditions should be provided in detail.
- Binary brokers should not offer trading in 60-second or shorter term options. In fact, all binary option contracts should have a minimum tenor of 5 minutes.
- Other general rules pertaining to Cyprus Investment Firms apply to binary brokers as well. This includes availability of trained staff without criminal record, refraining from providing investment advice, avoiding aggressive tactics to receive additional investment from the client, taking necessary steps to prevent money laundering and terrorist financing, and applying standard withdrawal charges.
Powers at CySEC’s disposal
- Conduct investigation.
- Issue warning. Time and again, CySEC issues warnings about binary brokers who are found to break the rules or conduct business without approval.
- Penalize. If a binary broker is found to violate one or more rule, then CySEC can impose fine after considering the level of seriousness of the offense. For example, binary broker OptionRally was fined €138,000 in September 2016 for violation of multiple rules.
- Suspend license. CySEC can suspend the license of a binary broker if it believes that the latter can harm the interests of clients by their activities. In March 2017, CySEC suspended the license of Leadtrade for violation of rules.
UK Gambling Commission
In the United Kingdom, binary options are considered as gambling products. Thus, the Financial Conduct Authority (FCA) does not regulate binary options brokers. Binary brokers who target the UK residents or have their servers in the UK are regulated by the UK Gambling Commission. The organization was established in 2005 to regulate commercial gambling and national lottery. The Gambling Commission also protects vulnerable people from being exploited while preventing crime and disorder.
- Any binary broker having their servers (gambling equipment) in the UK should compulsorily apply for a license from the Gambling Commission. Even brokers who advertise to consumers in the UK must voluntarily apply for a Gambling Commission license. All the licensed companies are listed in the register.
- Depending on the nature of operation, a binary broker may need either one or all the three kinds of license, namely, operating license, personal management license, and premises license.
non-refundablelicense fee would range from £2,933 to £25,777, depending on the annual turnover. The fee should be paid 30 days after the license is issued and renewed at the end of every year thereafter.
- From April 6, 2017, Gambling Commission is accepting applications through online mode only. It takes about 16 weeks to receive an operating license after all the information is provided.
Rules and compliance requirements
- Binary brokers are expected to act with social responsibility, follow the rules of
anti-moneylaundering, and comply with various reporting requirements.
- A binary broker should compulsorily provide a
third-partyAlternate Dispute Resolution (ADR) provider.
- The binary broker should clearly illustrate the manner in which customer funds are protected during insolvency.
- Gambling commission will not be able to recover the money lost from unregistered binary brokers or offer any kind of compensation.
The UK government is currently studying the possibility of treating binary options as a financial product. A legislation passed in this regard would bring the binary brokers under the supervision of the FCA.
Powers at Gambling Commission’s disposal
- Issue warning.
- Impose fine.
- Suspend license.
Malta Financial Services Authority (MFSA)
In July 23, 2002, the Malta Financial Services Authority (MFSA)was established as an autonomous body to supervise the activities of financial firms, stock exchange, and the FinanceMalta initiative. Until 2013, taking a lead from the UK’s FCA and Gambling Commission, binary brokers used to apply for a license under the Remote Gaming regulations of the Lotteries and Gaming Authority of Malta (now — Malta Gaming Authority). However, in July 2013, the MFSA declared binary options as a financial instrument. That brought brokers under the ambit of the Investment Services Act.
Before studying the manner in which MFSA regulates the binary options industry, let us briefly look at the manner in which the supervision was conducted previously by the Gaming Authority.
The Gaming Authority is the sole independent regulatory body governing all online and
Once MFSA took over the regulation of binary options, detailed rules and regulations were framed as detailed below.
- A binary broker must apply for an Investment Services License to carry out binary brokerage business from Malta.
- A minimum
paid-upcapital of €730,000 is a must for a prime binary broker. A Category 3 license is required. Additionally, a local office is a must.
- A white label broker should apply for a Category 2 license. The minimum paid up capital required is €125,000.
- Clients’ funds should be kept segregated in a reputed bank.
- A binary broker would provide transparent pricing mechanism and ensure fair practice.
- MFSA will not issue licenses to new and unknown binary brokers.
- The board of directors governing the binary brokerage company should have extensive experience in derivative markets.
- The trading platform used by a binary broker should be a popular one rather than custom built. If the binary broker insists on using a proprietary trading platform, then it has to be certified by a reputed
- It is the duty of the binary broker to maintain adequate
off-siteback up of all the data related to transactions.
- A binary broker should also display appropriate warnings, explaining the risk of losing the entire capital, on their website.
- Binary brokers should abide by the guidelines of the European Securities and Markets Authority (ESMA).
Powers at MFSA’s disposal
- Issue warning. MFSA issued a warning against Stock Binary when it claimed to be regulated by the former.
- Impose fine.
- Revoke license.
Australian Securities & Investment Commission (ASIC)
It is the corporate, market, and financial services regulator of Australia. Setup under the Australian Securities and Investments Commission Act 2001, the autonomous body monitors the financial sector (superannuation, managed funds, shares, company securities, derivatives, and insurance), promotes confidence among investors, enforces transparency and accountability of organizations, and provides information to public about important developments related to a company. Binary option trading is legal in Australia as long as the broker has an office in that country and holds an AFS (Australian Financial Services) license from the ASIC.
- A binary broker interested in AFS license should fill the online application form and pay a processing fee of A$1,609.
- The ASIC would reply within two to four weeks about the status of the application.
- Additional details would be requested if the binary broker’s application is accepted. It normally takes three to four months to receive an AFS license after all the formalities are completed. Legal and other documentation charges may run up to A$30,000.
- Binary brokers should maintain net tangible assets (NTA) of $1 million or 10% of average annual revenue (whichever is greater). At least 50% of the required NTA should be maintained in cash or cash equivalents. The rest should be in the form of liquid assets.
- If a binary broker’s NTA remains below the required levels for two months, then it should be immediately informed to the ASIC and investors in prescribed format. If the NTA falls below 75% or less of the required NTA, then the binary broker should not process any transactions that would further increase its liabilities.
- A binary broker should hold the client’s money in a trust account. Any amount received from the client should be deposited before the end of the next business day.
- A binary broker should not use general operational accounts to clear client funds. Thus, the use of overseas money managers or payment systems is not allowed.
Non-clientmoney should not be deposited into client trust accounts under any circumstances.
- A binary broker should regularly reconcile and clear out company profits from client trust accounts.
- Complete details regarding option contracts (underlying asset, strike/expiry price calculation,
counter-partyrisk, market risk, platform details, contract availability timings, etc.) should be provided to clients.
- A binary broker should lodge a copy of financial statements and other reports annually in a prescribed format.
Powers at ASIC’s disposal
- Conduct investigation.
- Issue warning. On February 2015, ASIC issued a warning to public about a broker named Opteck for operating without an AFS license.
- Impose fine.
- Cancel license and initiate legal proceedings.
Financial Futures Association of Japan (FFAJ)
In Japan, since 2013, the Financial Futures Association of Japan (FFAJ) is regulating the binary options industry.
Rules to be followed by binary brokers
- Binary brokers should not offer any kind of bonus.
- Contracts should have a minimum expiry period of two hours.
- Binary brokers should offer a transparent trading environment. Details regarding price, expiry period, and reward for successful trade should be provided with clarity.
- Binary brokers should conduct a test, as per the regulatory authority’s guideline, to understand investor’s knowledge of derivative markets. Only if the binary broker is totally satisfied, the client should be allowed to open an account.
- Depending on the risk profile of the client, transaction volume limit or loss limit should be set by the binary broker and the details should be informed to the client.
Commodity Futures Trading Commission (CFTC)
The enactment of Commodity Futures Trading Commission Act resulted in the formation of the CFTC. The main objective of the organization is to monitor the US derivative markets (futures and options) and to ensure transparency in functioning. The Commission works to protect investors from fraud and abusive practices related to derivatives that come under the Commodity Exchange Act. The organization was initially monitoring only the DCM (Designated Contract Markets) for agriculture products. Over time, the CFTC started monitoring the DCM for commodities (petroleum products, precious metals,
It is also noteworthy to mention that the CFTC does not permit
- All the exchanges offering binary options are supervised by the CFTC as per the Commodity Exchange Act.
- The exchanges should only facilitate transactions between a buyer and a seller. The exchange offering binary options should not be a part of the trade.
- None of the employees of the exchanges are allowed to participate in the market.
- Traders’ funds should be compulsorily maintained in segregated
- The exchange should provide a standardized option contract. Details such as tick size, tick value, minimum tick increments, and position limits should be provided to the client in detail.
- The expiry price calculation should be elaborated to the client. In the case of NADEX, the expiry price is calculated as follows:
- Choose the last 25 trade prices in the underlying market.
- Discard the highest and lowest five prices.
- Average the remaining 15 prices and round to one decimal point past the precision of the underlying market.
- Detailed statements, showing the net profit or loss, should be sent to clients on a daily basis.
- A monthly statement of accounts, clearly indicating the account balance, should also be sent to clients.
- Exchanges should maintain a detailed KYC report.
Other Regulatory Institutions
Previously in New Zealand, there was no obligation for
Israel Securities Authority (ISA) does not permit binary options to be offered to its citizens. Recently, the Israel Ministry of Finance had published a draft amendment to the Securities Law governing binary options transactions. The legislation would empower ISA to act on all binary brokers.
The situation is not much different in Canada. On March 23, 2016, the Canadian Securities Administrators (CSA), comprised of securities regulators from each of the ten provinces and three territories, cautioned Canadians to stay away from binary options. Furthermore, the CSA categorically stated that it is illegal to offer binary options trading to the residents of Canada. The association also clarified that there are no registered binary brokers operating in Canada. The organization has also proposed a ban on advertising, offering, and trading in binary options.
Traders around the globe will not have a second thought about regulating the binary options industry. However, a majority of traders might not support a blanket ban. Practically, it will be feasible in an era of virtually borderless world. In this regard, the organizations discussed above have taken a commendable step to regulate the industry.