Reluctant UK regulator warns on binaries

15 April 2015

The UK's Financial Conduct Authority will eventually be tasked with regulating binary options once the consultation and interim period are done with. However, the resulting uncertainty as to which regulations binary options fall under as an igaming product will leave the FCA, Gambling Commission and operators unhappy and in limbo.

By Scott Longley

The question of just who is responsible for the trading of binary options in the UK took another couple of turns this week.

Just days after the Gambling Commission had issued a reminder that regulatory oversight for the instruments should properly rest with the Financial Conduct Authority (FCA) than it was forced to issue a ‘binary options scam warning’.

One financial trading source suggested the move to give the FCA a role in relation to binary options was to be welcomed as the product would then be subject to “proper oversight” and that a level playing field would exist across Europe.

By coming under the purview of the FCA, binary options would take their place alongside other financial trading products such as spread betting and foreign exchange trading. This, according to sources, should be thought of as “good news”.

But the consultation document pinpointed the regulatory tangle that forced the UK authorities into making this change.

While binary options were considered to be a gambling product in the UK, this was not the case in other parts of the EU, notably Cyprus, which back in May 2012 moved to classify binary options as a financial trading product to be regulated by the Cyprus Securities and Exchange Commission (CySEC). 

What seems like an arcane regulatory oversight wrangle counts because under MiFID rules – the EU statute that covers the ‘passporting’ of financial services provision – this stamp of approval from CySEC meant binary options could be marketed across the EU.

As the gambling industry well knows, this is not the case with gambling products.

The Treasury consultation document ‘Transposition of the Markets in Financial Instruments Directive II’ is dated March 2015, but was given an airing in the Gambling Commission’s weekly bulletin late last week.

EU states' differing approaches
The consultation explains that when MiFID was first introduced, the UK followed the line taken by the Committee of European Securities Regulators (CESR) that binary options were not considered to be a financial product and therefore fell outside the directive’s remit.

However, the document notes that with other member states taking differing approaches to the question, “inconsistencies” were created as to whether binary options could be passported with the concomitant issues of confusion on the part of the consumer.

With the European Commission also taking an alternative view – suggesting that it viewed some binary options as financial products – it has forced the UK government to reconsider its position.

As the consultation document states: “The government is now of the view that binary options, where they relate to specific underlyings, are appropriately viewed as MiFID financial instruments. It therefore proposes to bring activity in relation to these instruments within the regulatory perimeter, where they are derivatives in relation to which an investment firm or credit institution is providing or performing investment services and activities on a professional basis.”

The document goes on to state the “strong policy reasons” for changing the status of binary options.

In particular, the specific binary options in question (related to currencies, stock indices, individual shares, commodity prices and economic statistics) present “similar risks to derivatives” and classifying them as financial instruments would “ensure that providers would be subject to specific regulatory requirements in relation to… organisational and capital requirements” and that the range of investor protection rules in MiFID would also apply.

“It would also mean that the specified binary options are brought within the scope of the market abuse regime,” the consultation paper states.

Though the government goes on to invite contributions from interested parties, it would very much appear its opinion is settled on the matter.

However, this still leaves an awkward interim period, hence the element of confusion deriving from the messages issued by the Gambling Commission.

In giving a warning on Monday against binary option scams, the Commission was forced to admit that while it remained the regualtor of UK-licensed operators, other operators in “reputable jurisdictions will have their own domestic regulators, most of whom will have similar online registers”.

The scam notice then directs any further enquiries to the Commission holding page on binary options where it makes the confusion plain.

“For the time being,” the advice states, any UK-based binary options operator – or any operator that has “key equipment” in the UK, “must hold an operating licence from the Gambling Commission in order to trade”.

Interim confusion
However, it then states that binary options operators that are based overseas “do not need a Gambling Commission licence to market to UK customers”.

It adds: “Reputable operators will, however, be licensed in the jurisdiction in which they are based.”

While binary options providers will be partly cheered by the government position as stated in the consultation document, it is unlikely it will welcome the interim regulatory confusion.

For now, the Gambling Commission advice would seem to leave it to individual consumers to decide whether any given operator is kosher.

“If you have any doubts about whether an operator is licensed, do not use them,” it says in its binary options scam warning. “An unlicensed operator is likely to be acting illegally.”

The status of binary options remains unclear until such time as the government closes the consultation. That period of stasis might last for some time.

The consultation is due to run until June 18, after which it is understood the government will publish its response document, and legislation would then be needed to effect any changes.

The wheels of government do indeed grind slowly.

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