Foreign currency exchanges (forex) constantly run around the world through over-the-counter markets. The boundaryless space allows smooth access. For instance, an Australian trader can trade in euros and Japanese yen through a U.S.-based broker in spite of geographical boundaries.
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Speculative trading in the retail foreign exchange market continues to grow. Thus, there can be intermediaries (banks or brokers) who engage in financial irregularities, scams, excessive charges, hidden fees, as well as high-risk exposure offered through high-leverage levels or other harmful practices.
Internet, as well as mobile app-based trading, allow smooth trading processes; however, they also add the risk of unrecognized sites that may close suddenly and disappear with investors’ money. Thanks to regulations, it is possible to minimize risk factors. Furthermore, regulations are aimed at protecting individual investors and ensuring fair operations to protect clients’ interests.
Keep in mind that the most important criteria when selecting a forex broker are the regulatory approval status of the broker as well as its governing authority.
U.S. authorities and forex brokerage accounts
The function of the National Futures Association (NFA) is to safeguard the integrity of the derivatives markets (including forex). The scope of its activities is as follows:
For example, the NFA provides necessary licenses (after due diligence) to eligible forex brokers to conduct forex trading business. It has to tackle fraud as well as enforce required adherence to essential capital requirements.
U.S. Regulations and main findings
Notably, customers defined as “individuals with assets of less than $10 million and most small businesses,” underlining that these regulations are meant to safeguard the small investor.
Interestingly, high-net-worth individuals may not be covered under standard regulated forex brokerage accounts. Below are a number of further provisions:
It is worth noting that the available leverage is restricted to 50:1 (or a deposit requirement of only 2% on the notional value of a forex transaction) on the major currencies such as the euro so that inexperienced investors don’t take unprecedented risks.
Major currencies are defined as the Swiss franc, British pound, the euro, the Canadian dollar, the Japanese yen, the Australian dollar, the New Zealand dollar, the Swedish krona, the Norwegian krone, as well as the Danish krone.
Furthermore, the available leverage is limited to 20:1 (or 5% of the notional transaction value) when it comes to minor currencies.
When it comes to short forex options, the notional transaction value amount plus the option premium received should be kept as a security deposit.
In the case of long forex options, the entire option premium is required as security.
What you need to know is that the first-in-first-out (FIFO) rule prevents holding simultaneous positions in the same forex asset; that is, any current trade position (buy/sell) in a particular currency pair will be squared off for the opposite position (sell/buy) in the same currency pair. Notably, this also entails no possibility of hedging while trading forex.
Importantly, money owed by the forex broker to the clients should be held only at one or more qualifying institutions in the U.S. or money-center countries.
