Brokers or Bookies? CFD Firms Need to Decide

At the beginning of October, the European Securities and Markets Authority released an update to its ‘question and answer’ document for MiFID II reporting.

As outlined brilliantly by Natallia Hunik over at Advanced Markets, this update told many brokers what they already knew but had hoped wasn’t true – that execution reports have to be published on their websites each quarter in accordance with RTS27 and RTS28 reporting requirements.

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Some brokers have been doing this for months. Others haven’t done it at all. That’s likely because publishing the reports could, totally unsurprisingly, reveal some less than savoury behaviour.

Different company, same owner

To put it in simple terms, the reports show where brokers go to execute their trades. A review of a number of brokers’ reports shows that, for the most part, they are internalising all of their order flow.

Amusingly, many of these companies also claim to be 100% ECN, pure STP, no-dealing desk ‘brokers.’ Some of them achieve this by simply sending all client order flow to another market maker that, despite being based in a different country, is part of the same group that the broker belongs to. Others are just lying.

Writing in the Spectator in 2013, Stuart Wheeler, the founder of IG Index, said that “all spread-betting firms are bookies, whatever gravitas they may attempt to assume.” The same is clearly true today. The question is, why are so many of them reluctant to admit that it’s the case?

From bookmaker to broker

To get an answer to that question, you have to go back to the late 1980s. At that point in time, there were only two major brokers operating in the UK – City Index and IG Index. CFDs were still a few years away and both firms only offered spread betting services.

In the wake of the 1987 stock market crash, clients that had placed bets with the two firms incurred massive losses. Think of it as the Reagan era’s version of the 2015 Swiss Franc debacle.

Many of those clients refused to pay their debts. They also claimed that spread betting was a form of gambling, not a financial product. That was important as, according to British law, gambling debts are unenforceable.

Eager to get its money back, City Index decided to take a client to court. Their aim was to show that spread bets should have been bracketed under Margaret Thatcher’s 1986 Financial Services Act. Those regulations specifically stated that futures contracts should not be considered wagers and, as a result, any debts accrued by trading in them would have to be paid.

“For City Index, litigation was a means to an end,” wrote Claire Loussouarn, a researcher at Goldsmiths University, in a 2013 article for Risk&Regulations.

“[It] wanted the ruling by the courts to establish that spread betting qualified as an investment under the meaning of the 1986 Financial Services Act. City Index won the case and since then spread betting has been regulated as a financial product.”

This landmark case could also be seen as the point at which firms transitioned from being ‘spread betting companies’ to ‘financial brokers.’

Blurring the lines

It didn’t, however, mean that the ties to betting disappeared. Several large brokers founded in the past decade or so, including eToro, Plus500,, Intertrader and AvaTrade, have founders that initially worked in the gambling industry.

Instead, the court decision meant that there was a blurring of the lines between finance and gambling. Firms could legally market themselves as ‘financial’ companies but still operate a business model akin to that of a bookmaker.

As is evident from brokers’ recent execution reports, this state of affairs has continued until today. In fact, the internet, which allows crooks to access customers across the entire world and shield themselves from police and regulators, has almost certainly exacerbated the problem.

On top of that, most companies – desperate not to be viewed as bookmakers – have become obsessed with the idea that they cannot ever be seen as the counterparty to their clients’ trades. That’s why utterly nonsensical terms, ‘STP’ being the worst, have come to dominate their marketing materials. It’s also why trading firms refer to themselves as ‘brokers’ when they often aren’t brokering anything.

Identity crisis

Quite how this obsession developed is unclear to me. It’s probably a reflection of what they think of both themselves and each other that ‘broker’ executives are so convinced that, if someone profits from your loss, they are – by necessity – going to try and screw you over.

This doesn’t have to be the case. Like many other people, I very occasionally bet on football games and, once a year, on the Grand National horse race. I do not expect the bookmaker to simply refuse to give me my money if I win, nor do I have any illusions about the fact that, if I lose, they make a profit.

Conversely, I would be totally unsurprised if a CFD broker refused to give me any cash stemming from a profitable trade – even if that company was claiming to only make money from spreads and commissions.

And therein lies the whole problem. It shouldn’t matter if you are taking the other side of your clients’ trades. If you are an honest business, you should provide best execution to your customers and pay out when you lose.

Brokers, market makers – whatever you want to call them – need to try and rectify the identity crisis that they have been going through for almost thirty years. You cannot be a 100 percent b-book market maker and call yourself a ‘broker.’

This won’t be easy to do. The spread betting and CFD industry does lie at the fault line between gambling and finance. It’s up to the firms in the space to work out how they should proceed.

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