Since 2018, ESMA imposed new rules that lead to brokers offering different services for retail and professional traders. Read further to find out the differences between the two.

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Over the years, the popularity of online trading has increased by a mile, attracting traders from various parts of the world. The year 2018 in particular, has brought a few fundamental changes for CFD and forex traders in the EU. It was the year when the European Securities and Markets Authority (ESMA) introduced new regulatory requirements for CFD brokers, resulting in new and different trading terms for retail and professional clients.

The new regulation essentially talks about changes in leverage restrictions for retail traders who trade forex or other CFD products with a broker that is regulated within the European Union, including Cyprus and the United Kingdom (regulated by the FCA). Thus, some big names in the brokerage industry have been heavily affected by this change.

Such restrictions do not apply to professional traders. As a result, the question of who can be classified as a professional trader has risen up for a while now, becoming one of the key issues that ESMA and EU brokers have been struggling with.

Pro vs Retail Trader

 

About the New ESMA Regulation

The new ESMA regulation came into effect on the 1st of August 2018. There were several changes made, which affected both traders and brokers. One of the biggest changes was regarding the maximum leverage limits available to the different client classifications. As we have briefly mentioned before, the rule only applies to retail traders. Meanwhile, professional traders are still able to trade with much higher leverages.

See also: List of Forex Brokers with the Highest Leverage

The following is the new leverage measures on the opening of a position by a retail trader:

  • 1:30 (3.33% margin) for major currency pairs.
  • 1:20 (5% margin) for non-major currency pairs, gold CFDs, and main index CFDs.
  • 1:10 (10% margin) for commodity CFDs other than gold.
  • 1:5 (20% margin) for individual equities (equity CFDs) and other reference values.
  • 1:2 (50% margin) for CFDs on cryptocurrencies.

The following is the leverage limits for professional traders:

  • Up to 1:500 (0.2% margin) for major currency pairs, non-major currency pairs, some of the indices (ASX200 DAX30, DJI30, FTSE100, NQ100, SP500), and commodities (gold, silver, XAUAUD, WTI, BRENT).
  • Up to 1:200 (0.5% margin) for remaining indices and bonds.
  • Up to 1:100 (1% margin) for remaining commodities.
  • Up to 1:25 (4% margin) for forex exotics.
  • Up to 1:20 (5% margin) for individual stocks (equity CFDs) and CFDs on cryptocurrencies.

Keep in mind that the maximum leverage for professional traders depends on the notional position value of the currency they use, so larger positions may not qualify for the highest leverage.

 

Why did ESMA Make Different Client Classifications?

Following MiFID II regulations, any CFD brokers in the EU and the UK must differentiate between retail and professional clients. The reason is that CFD trading is leveraged, which means, while it can multiply the potential of profit, it can also multiply the potential of losses. ESMA considers that not all investors are suitable for such leveraged trading. As a result, the new restriction only applies to retail traders as a means to save them from the high risk of losing all funds in a short time.

Even so, it is possible for any trader to request to be categorized as a professional. There are specific qualitative, quantitative, and procedural requirements that must be met, which we're going to discuss later in this article.

As a professional client, there are several advantages that you can get, such as:

  • Reduced margin requirements (increased leverage): you're allowed to open position at 15-25 times lower margin trades than retail traders, with leverage up to 1:500 (depending on the instrument you use).
  • Bonus programs : get full access to all provided features as well as bonus programs and special offers from a broker.
  • Priority access to new products: you'll have the opportunity to trade and invest in new products even before they're released to other clients.

However, it's worth mentioning that aside from the obvious benefit of having much higher leverage, there are several drawbacks that also come with the professional status. The most crucial one is that professional clients will no longer be covered by some of the safety measures that protect retail traders, including compensation schemes against loss, negative balance protection, segregated account, etc. Bear in mind that this condition may vary across brokerages, so make sure to check the terms and conditions before you register and apply for professional status.

Although ESMA restricted the use of high leverage for retail traders, there are several unique advantages that you can get as well for being a retail trader, namely:

  • Unlimited negative balance protection: this feature is useful if your account balance falls below zero due to unexpected market changes. When that happens, the system will automatically reset your account back to zero, so it will never be negative. The goal is basically to ensure that you won't lose more than your initial deposit.
  • Stronger regulatory protection: all regulatory protections will fully protect you from fraudulent practices, which includes the opportunity to use the Financial Ombudsman Service.

 

How to Become a Professional Client

Traders who wish to be classified as professionals must first state their request in writing and provide the essential documents to support their claims. After that, they are required to sign a waiver, which states that they understand and are aware of the measures of protection they will lose following their status change. That being said, the broker is not allowed to lure the trader into changing their status as it will remove some of the rights retail traders can enjoy.

In order to be classified as a professional trader, one needs to qualify for at least 2 of the ESMA established criteria:

  1. Size of portfolio: the trader must have an investment or financial instrument portfolio with a size equal to or greater than EUR500,000.00. The portfolio can include stocks owned, cash savings, mutual funds, and trading accounts. Property, luxury cars, and other non-tradable products are not included.
  2. Professional experience: the trader must have worked in the financial services industry in a professional capacity with the relevant leveraged products for at least one year.
  3. Trade size and volume: the trader must have acquired trading experience, which means they have carried out significant trades at a frequency of more than 10 per quarter.

Suppose you're still not eligible for the professional status, you can maintain your status as a retail trader to enjoy full protection as well as other features offered by the broker. You can find further details about all of the features that you will get as a retail or professional trader on the broker's website.

 

Are You a Retail or Pro Trader?

The new ESMA regulation has brought a pretty impactful change for forex and CFD traders. In this article, we have explained the characteristics of each category along with its advantages and disadvantages. As a professional trader, you are not subject to the new regulation, so you are allowed to trade with high leverage and aim for higher profit.

However, holding the professional status means that you will lose several vital protections, which means your trading risk is relatively high. On the other hand, as a retail trader, you can enjoy full protection from the broker such as negative balance protection. Still, you will have to obey the new leverage restriction imposed by ESMA.

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When it comes to choosing which classification is the best choice, there is no definite answer that can be applied to everyone. You should make your own judgments and decide based on your trading needs and preference.

If you're new to forex and CFD trading, it would be wise to start as a retail trader because it will give you complete protection, lower risk, and lower leverage. Meanwhile, if you have had enough trading experience and you're confident about your skills, it’s only natural to apply for professional status.

In the end, select the one that will benefit you the most. Remember that sometimes leverage can be a double-edged sword because not only can it multiply your profit, but it can also increase your losing risk. This is something that many traders often forgot, so they end up losing so much money. With that being said, trading with high leverage is not always the greatest option, especially if there's no extra protection.

There are many forex brokers that are imposed to ESMA's new rules as the majority of popular brokers come from the European Area. To maintain their global operation, many of them have been working with multiple licenses. Some examples are Admiral Markets, NordFX, Exness, and TriumphFX.

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