From August 1, 2018, ESMA (European Securities & Markets Authority) introduced significant changes in the Forex and CFD financial market. These changes concern retail (individual) customers not only in terms of reduced financial leverage (from 30: 1 to 2: 1), but also the introduction of additional safeguards to protect market participants.
How to calculate lowered leverage?
Let’s say your maximum capital is PLN 10,000. You have them on your bank account. If you were not able to play with the leverage, you deposit PLN 10,000 to the stock exchange. Your investment is huge at the moment because you are blocking all your capital.
Now the second situation. You can play with a 10: 1 lever. This means that by investing 1000 PLN in capital you are able to open a position for 10,000 PLN . You pay PLN 1000 to the stock exchange. At this point, your financial outlays are much smaller, what is more you do not risk PLN 10,000.
How does it look in practice?
Suppose you are opening a position for Silver. This is Long, which means you expect the rate to rise. Let’s say you expect a 2% increase, which is actually not very much the case. You open a position with a 10: 1 leverage, i.e. worth PLN 10,000. Of course, you only paid PLN 1,000. A 2% increase in the silver rate will allow you to cash in at PLN 200.
PLN 200 of profit is 20% of all your real invested capital. Playing without a leverage for 1,000 PLN, you would only earn 20 PLN.
For the current financial leverage we have prepared a summary in the photo below. In the column on the left we can see that to open 1 lot on EUR / USD (for calculations we took the amount equal to € 1000) when the leverage will be limited to 30: 1, we will need exactly 33 times more money. That is € 3,333 for one EUR / USD lot.
Impact of lowering the leverage on the financial industry
The Chamber of Brokerage Houses did not favor the European regulator’s decision. Brokerage houses suffered huge losses shortly after the regulations came into force. Traders can no longer invest so risky in stock contracts or speculate on the forex currency market. The new regulations limited both the potential losses of individual investors and profits that until now could have been realized with relatively low capital expenditure.
According to old rules, with a brokerage account of EUR 1,000, you could trade an underlying asset worth up to EUR 100,000. 100: 1 leverage gave this possibility. Today, the same asset can only be traded at EUR 30,000 – 30: 1 leverage.
With a 1% increase in the price of the underlying asset, we will see a profit of EUR 300. In the event of a decrease of 1% – a loss of the same amount. Operating on the old principles and 100: 1 leverage, you could earn and lose EUR 1,000 in an identical situation.
The new regulations mean that some clients move away from native European brokers and transfer funds to institutions outside the EU . As a result, some customers use the services of companies that are not regulated by law or their protection is much smaller