As a Forex trader or industry professional, you will have noticed the huge number of brokerages competing for business. While the majority of the big name brokerages are based and regulated in jurisdictions where the provision of FX, there are a significant number of brokerages who are based in offshore locations where regulation is non-existent or very lax. People’s opinions regarding unregulated brokerages differs greatly with some advising traders to steer well clear, while others are happy to put their trust and money in such unregulated entities.

Why do brokers forgo regulation?

Regulation is seen by many as adding to a brokers credibility, and this is reflected in the fact that many Forex brokers are keen to point out their regulatory pedigree. Despite this many brokerages choose to operate without being regulated, opting to establish themselves in an offshore jurisdiction where the provision of FX trading services is not regulated.

One of the main reasons that a number of FX brokerages choose to operate without being regulated is that doing so can significantly decrease the brokerages total operating costs. Gaining and maintaining a regulatory licence can be very costly and it has been estimated that the costs of maintaining a FCA licence can run into the millions. Capital requirements set out by regulatory frameworks such a MiFID (For European Forex Traders), can constitute a significant barrier to entry for new brokerages who are simply unable to raise the required capital. In fact there have been a number of instances where new brokerages have operated as unregulated entities for a year or two, until the firm was able to face the costs of regulation. Additionally, as the majority of unregulated brokerages base themselves in offshore tax havens they are able to reduce their tax burden significantly which is another prime reason brokerage opt to continue as an unregulated entity.

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Another reason why brokerages choose to operate without regulatory oversight is that this allows firms to offer a different product range or to cater to customers they wouldn’t be otherwise able to serve. A prime example would be FXCM, who launched an unregulated subsidiary FXCM Markets. This has allowed FXCM Markets to offer up to 400:1 leverage and interest paying accounts to their clients, which are unavailable at the firms regulated subsidiaries. It should be noted that FXCM Markets does not accept clients from the US, Japan, Canada, European Union, Hong Kong and Australia. A number of other brokerage operate unregulated entities which allow them to offer a greater product range while catering to clients who are based in territories where retail FX isn’t regulated.

Not all unregulated brokerages choose to operate unregulated for legitimate business reasons, with some firms opting to operate from offshore locations in order to take advantage of their clientèle. There have been a number of instances where unregulated brokerages most often based offshore have engaged in fraudulent behaviour or rogue practices which have ended up costing there customers significantly. A recent example would 4XP who closed up shop without returning client funds. The fact that 4XP was unregulated has left customers with little recourse and has left a number of traders having to accept significant losses.

Unregulated Brokerages: The Risks

As already touched upon trading with unregulated brokerages can be a nerve wrecking affair. Proper regulatory oversight can help protect traders from fraud and mistreatment, which can be invaluable should anything go wrong. For instance brokerages regulated in a country who are party to MiFID are required to pay into a consumer compensation funds, which ensure that retail traders are able to recover at least some of their deposited capital should a firm suffer a financial collapse. Additionally, the checks and rules enforced by regulators ensure that firms have to abide by the rules which can help prevent customer mistreatment. There have been instances where regulated brokerages have been required to compensate customers who were mistreated. While regulation isn’t a guarantee that you will be treated well by a brokerage it does provide traders with some peace of mind and traders should certainly think long and hard about doing business with an unregulated entity.

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