Turbos – what are they and can they really circumvent CFD leverage restrictions?

Turbo Trading

Similar to contracts for difference (CFDs), turbos are high-risk leveraged products, however they are not subject to the same leverage restrictions as CFDs. With regulators across the globe quick to emulate the CFD intervention measures made by the European Securities and Markets Authority (ESMA); are turbos the new answer to high risk, big profits (and potentially bigger losses) which retail traders are seeking?

What are turbos and how do they differ from CFDs?

Turbos are leveraged products with which investors speculate on the upward or downward movement in price of an underlying financial asset. Unlike CFDs, turbos have a built-in stop loss causing positions to close automatically once the stop loss is reached, ‘capping the risk’ retail traders are exposed to. Moreover, turbos are traded on a trading venue (ToTV), meaning they are captured under MiFID II/MiFIR and subject to pre- and post-trade transparency requirements, contrary to CFDs which are traded over-the-counter (OTC). This enables investors to assess sentiment and trade with a more informed strategy, so to speak. Furthermore, turbos are not margined products nor do they have contingent liability for the retail client. Meaning the investor can only be liable for commissions, transaction fees or other related costs and is not liable for further payment when the transaction is completed or the position closed.

Who’s trading turbos?

Turbo trading has gained rising popularity in certain European jurisdictions including The Netherlands and Germany. IG Group’s German-based multilateral trading facility (MTF), Spectrum, is a key player in the turbo trading space offering the Turbo24 product. Turbo24s are turbo warrants with indices, currencies and commodities as the underlying financial product.

Spectrum intends to expand its turbo product offering as the number of turbo investors on the MTF increase. Other major turbo providers include ABN Amro, ING, BNP Paribas, BinckBank, Raifeisen, Commerzbank and Erste Group.

What are the regulators saying?

The increased popularity of turbos hasn’t gone unnoticed, with regulators keeping a close eye on the product, particularly The Netherlands Authority for the Financial Markets (AFM). The AFM has stated that retail investors are not adequately protected against the risk of turbos with previous research demonstrating an average loss of €2,680 suffered by investors. As of 1 October 2021, the AFM will impose restrictions on the offering of turbos to Dutch retail investors, an intervention that has been backed by ESMA as “justified and proportionate”. The restrictions include:

  1. leverage limitations to reduce the financial risk to retail clients;
  2. a mandatory risk warning to help investors make better-informed decisions; and
  3. a prohibition on incentives offered to trade turbos.

In ESMA’s recently issued opinion on the topic, the regulator “encourages all National Competent Authorities to monitor turbos in their respective markets to assess whether similar risks for retail investors as those identified by the AFM could arise there.”

So, are turbos really the alternative answer to CFDs?

On the surface, turbo products pose certain similarities to CFDs however, not so much so that they could effectively circumvent CFD restrictions. Without the factors of margin and contingent liability, the revenue brokers make off turbos is limited in comparison to that of CFDs, even with leverage restrictions in place. As stated by Mazhar Manzoor, Director of Risk, Regulation and Financial Crime at ESMA Compliance Consultants, “a CFD is an OTC contract and the…provider company dealing as principal has a profit equal to the client’s loss on any position it has not hedged. For a turbo…the potential gain has a maximum of the amount paid by the investor.”

Consequently, widespread adoption of turbos as an alternative to CFDs remains unlikely as brokers continue to stand by CFDs. Although, it is important not to rule out scope for the broader adoption of turbos in the long-term as a response to the progressively stringent regulatory environment and in jurisdictions that have outright banned the sale of CFDs such as the United States and Hong Kong.

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