There are a huge number of brokerages out there, with some being regulated and others not. Many new traders don’t understand the importance of proper financial regulation and end up depositing with unregulated entities only to end up disappointed. When it comes time to pick a brokerage, one factor that you should seriously consider is regulation. Understanding Foreign exchange regulation can be a complicated matter and this article will attempt to guide the reader through the complex maze that is OTC Forex regulation.
Importance of Regulation
Proper financial regulation provides traders with a certain level of basic protection. For instance clients depositing with brokerages regulated in the European Union will be safe in the knowledge that some of their funds are insured through a customer compensation scheme. Should the brokerage suddenly collapse clients will be returned all funds up to the 20,000 Euro mark, though they may lose any funds in excess of 20,000 Euros. Some jurisdictions go above and beyond the minimums set out by MiFID, with the FCA protecting all client funds up to £70,000 mark. Those interested in learning more about MiFID should check out this piece. Regulators don’t only ensure that client funds are protected, they also ensure that the brokerage is complying with all the financial regulation laid out in the law. This means that there is significantly less room for foul play and again provides the trader with additional protection and peace of mind.
Regulation Varies By Jurisdiction
While both EU and the US boast a strong regulatory framework that provides a good deal of protection, not all jurisdictions provide the same level of regulation. In many jurisdictions over-the-counter Foreign exchange is not regulated at all, this has allowed a number of questionable operations to pop up often based in offshore jurisdictions. For instance retail Forex is not regulated at all in Russia and some have accused certain Russian brokerages of foul play. While the situation is not always quite as dire as it is in Russia, there are a number of jurisdictions that only offer rudimentary protection to clients. When picking a brokerage you should ensure that they are regulated in a respected jurisdiction. Depending on where you live, you selection of brokerages may be limited. Those based in the US are only able to deposit with brokerages regulated by the CTFC and NFA.
Dangers Associated with Unregulated Brokerages
While we have focused on the benefits of using a regulated brokerage, we haven’t yet discussed the risks involved when using an unregulated brokerage. Brokerages operating without a proper regulatory framework are in a much better position to take advantage of their clientele. Many of these unregulated offshore entities are nothing more than bucket shops, which often resort to price manipulation in order to profit from customers. They often also fail to properly segregate client funds, so if the brokerage is financial trouble you are likely to lose some or all of your funds. Recently, unregulated brokerage InstaForex informed customers they would only be able to withdraw 50% of funds they deposited through Liberty Reserve. Further they had to actively trade their accounts for six months before being allowed to withdraw anything. This meant many customers were forced to accept significant loses. It should be clear that there is significant danger when dealing with unregulated entities.
Conclusion
When picking a brokerage traders ought to be extremely cautious. Doing thorough research regarding the brokerage and where it is regulated should point you in the right direction. I would strongly advise only doing business with brokerages regulated in jurisdictions with a strong reputation for regulatory excellence. Regulation is one of the more important factors when considering what brokerage to deposit with.
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