Cyprus Investment Firms’ regulatory obligations when providing binary options

The Cyprus Securities and Exchange Commission (“CySEC”) has published a consultation paper (CP 2017-01) setting out proposed reforms to the regulatory framework governing the provision of investment services in binary options by Cyprus Investment Firms (“CIFs”). The full text of the consultation paper is available on the CySEC website.

According to CySEC, the proposed reforms aim to enhance the nature, characteristics and trading methodology of binary options offered to retail investors. New proposed standards for digital options contracts will seek to eliminate causes of concern that commonly arise and ensure that firms act honestly, fairly and professionally. CySEC aims to improve investor protection by standardizing trading in binary options, resulting in greater transparency and better terms for investors when executing orders.

CySEC proposes five fundamental reforms in order to eliminate deficiencies in the existing regulatory framework and encourage CIFs to:

  • act honestly, fairly and professionally in accordance with the best interests of their clients;
  • provide adequate information to clients about the financial instruments they offer;
  • execute orders on terms most favourable to clients; and
  • execute clients’ orders, promptly, fairly and expeditiously.

The proposed reforms include the following measures:

  • Removal of opaque strike pricing: in order for clients to know the exact strike price before the contract is tradeable, the calculated strike price at execution must be exactly the same as the strike price communicated when the order is placed. Strike prices must be the same for all clients and floating strike prices are not permissible.
  • Provision of real-time information on potential outcomes: in order to enhance pre-trade transparency prices must be quoted as an evolving bid-ask spread, representing clearly the relative probability of an outcome occurring.
  • Removal of restrictions on exiting trades: in order for clients to be able to exit their positions at any time in the life of the contract, CIFs must provide continuous, two-way pricing. Clients must not have to wait until the expiry of the contract to exit the position.
  • Prohibiting sub-5 minute tenor trades: in order to remove shorter-term volatility and protect against “binary bets”, contracts must have a minimum tenor of 5 minutes.
  • Standardising trading and settlement methodologies: in order for the expiration value to be a fair representation of the true market at the moment the digital option contract expires, and to avoid manipulation, algorithms for the calculation of expiration and settlement values of the underlying market must follow CySEC’s predetermined methodology. CIFs may not use their own individual methodologies.

The consultation period will run until 3 March 2017 and CySEC will issue a circular setting out the definitive changes to the regulatory framework shortly after then.