In addition to understanding how the off-exchange forex market works and some of the risks associated with this product, there are other unique features about the market that you need to understand before you decide whether to invest in this market and which dealer to use.
Who regulates off-exchange foreign currency trading?
The CFTC has some regulatory authority over retail off-exchange forex markets. The Commodity Exchange Act (CEA) allows the sale of OTC forex futures and options to retail customers if, and only if, the counterparty (the person on the other side of the transaction) is a regulated entity. These regulated entities include the following: financial institutions, such as banks and savings associations, registered broker-dealers and certain of their affiliates, registered futures commission merchants (FCMs) and certain of their affiliates, certain insurance companies and their regulated affiliatess financial holding companies, and investment bank holding companies. Under the CEA, the CFTC has the authority to shut down any unregulated entity that acts as a counterparty to forex futures oroptions transactions with retail customers. The CFTC also has the authority to take action against registered FCMs and their affiliates for violating the anti-fraud and anti-manipulation pro-visions of the CEA in connection with OTC forex transactionsinvolving retail customers, but the CFTC cannot adopt rules toregulate these transactions. NFA has rules to protect customers in the retail off-exchange forex market. As mentioned later in this article, firms that introduce customers to forex dealers do not have to be regulated enti-ties. NFA’s rules provide, among other things, that a forex dealer FCM must take responsibility for the activities of unregulated entities that solicit retail customers. Additionally, NFA’s rules require forex dealer FCMs to: observe high standards of commercial honor and just and equitable principles of trade in connection with the retail forex business; supervise their employees and agents and any affiliates that act as counterparties to retail forex transactions; maintain a minimum net capital requirement based on the value of open customer positions; and collect security deposits from those customers. NFA’s forex rules do not apply to all FCMs and their affiliates, however. Therefore, you should ask the dealer if NFA regulates its forex activities.
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