Proprietary Trading and Global Regulation
In recent years, a new field called “prop trading” has emerged. It enables traders to trade financial products such as stocks, commodity bonds, cryptocurrencies, CFDs, and forex products without using their own money, but rather using the prop trading company’s funds instead. This is in order to generate profits for both the trader and the prop trading company through a predetermined profit-sharing arrangement.
Prop trading companies obligate traders to undergo “evaluation” or “challenge” tracks, which assess the potential trader’s suitability to trade the company’s funds, using a simulated trading account. Participation in the evaluation track entails paying a fee that serves as an “entry pass” to the track. Typically, the fee varies depending on the chosen track. (The fee is higher for tracks that include a higher initial asset sum and a promise of substantially higher profit sharing.)
The CFTC and Prop Trading
In August 2023, the US Commodities Futures Trading Commission (CFTC) stunned the industry by filing a lawsuit against the prop trading company Traders Global Group Inc., behind the popular brand “My Forex Funds.” According to the lawsuit, My Forex Funds offered its users an opportunity to become “professional traders” by using the company’s funds for trading.
The statement of claim alleges that My Forex Funds promised that the company’s success was linked to the success of its clients. However, in fact, the company acted in various ways to reduce its clients’ chances of making a profit, by closing accounts for vague reasons, imposing hidden fees, using technologies that caused clientsto lose money during transactions, and imposing restrictions on successful traders in order to prevent them from making profits. Although the lawsuit concerns a specific company’s fraudulent and deceptive practices, it raises many questions about the conduct of all prop trading companies.
The ESMA and Prop Trading
Prop trading is also under the scrutiny of European regulatory authorities. This past May, reports came out that the European Securities and Markets Authority (ESMA) had conducted a preliminary examination of prop trading companies. We can assume the ESMA is collecting data, analyzing the field, and examining the potential need to regulate the field by enacting specific regulations. Regulatory authorities in Italy, Belgium, and Spain have also issued warnings to the public recently about the risks involved in the services offered by prop trading companies, after they received several complaints from users.
What Is the Situation in Israel?
Although the Israeli regulatory authority has not opined about prop trading, according to the existing legal situation, it appears that particular prop trading business models may amount to being a “trading platform” as defined in the Securities Law. Such businesses would thus be obligated to obtain a trading platform license from the Israel Securities Authority. Furthermore, it is important to examine, for each company, if the receipt of trading data from users’ trading activities and their use by the company is tantamount to “investment advice” or “portfolio management,” as defined in the Regulation of Investment Advice, Investment Marketing and Investment Portfolio Management Law. This is in addition to important issues relating to consumer protection, which require separate handling.
While prop trading companies offer new opportunities in the capital market, it is important to note that these models may be subject to both securities and consumer protection regulations. Examining the legal implications is an important step to consider before entering this arena.
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Adv. Andrey Yanai, a partner, and Adv. Avihai Tal, an associate, in Barnea Jaffa Lande’s Capital Markets Department, are at your service if you have any questions about prop trading or any other questions about trading platforms, licensing, etc.