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Binary option brokers on the ropes – Forming trade group as a last stand

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When the heat gets too hot in the binary options kitchen, then it is time to set up a trade association, or so it seems in today’s wild and unchecked “all-or-nothing” options industry. As the hottest growing sector of retail forex trading, binary option brokers have seen their arena prosper like wildfire, grow like weeds, turn on itself and its clients, and come under constant derision by regulators, law enforcement officials, the press, and industry pundits alike. With friends like these, who needs enemies?

Reputed to be the latest fad in online gambling by its critics, the kingpins in this industry do not harken from financial institutions, although their websites are cloaked in terms that sound like investment jargon. The truth is that you make a bet, the House sets the odds, and the House always wins, and by a large margin at that. Yes, there are winners, but their gains, the House profits, and the entire cost of running these operations are funded by the losers on the other end of the bet. There is no market or exchange involved, unless you partake of regulated exchanges in the U.S. or Japan that, incidentally, do not resemble anything offered on a popular SpotOption driven website.

Greed is the absolute driver behind these dealings, and, as in other similar venues, it eventually is its own worst enemy, causing unmistakable harm to the public good and promoting a host of shady business practices that border on outright fraud. Yet, there are legitimate proprietors in this rough and tumble arena, trying their best to offer a fair and transparent service, something worthy of a regulator’s favorable eye. Those types of eyes are increasingly difficult to find these days, unless you happen to be on the island of Cyprus, where most of these brokers congregate. The patience of CySEC officials, however, is also beginning to fray around the edges. Something has got to give.

As a result, it comes as no surprise that a secret confab is being convened in Cyprus by binary option industry participants, the ones with something to lose if the current wave of disgust builds to a crescendo, to discuss the formation of a trade group. The name that has been leaked is not exactly one that conveys specificity — the European Brokers Association (EUBOA). In a way, this group of binary option attendees is attempting to appear like a more inclusive club than it truly is. If any traditional foreign exchange or investment brokers are in the room, they may have exited during the first coffee break.

What has happened in the industry to spark the need for a trade group?

The retail foreign exchange trading industry went through a decade of lawlessness, so to speak, from its advent in the late nineties. It, too, was a rough and tumble arena where the reward for early entry was high. New brokers jumped into the fray immediately, competition heated up, and then the crunch occurred when the sector became over populated. Consolidation, shady business practices, irate customers, and public outcries for action followed. Regulators, typically slow to react to a mounting crisis, could no longer ignore the rash of accumulating complaints. They responded aggressively.

The same sequence of events has transpired in the binary options space. Regulators had taken a blind eye to the festering situation, insinuating that it was nothing more than online gambling, and, as such, fell under the domain of local gambling commissions, if there was to be any oversight of the fledgling industry’s activities. Left to its own devices, binary option brokers made no attempt to self regulate, a response that has been common in other industries that suddenly found themselves behind the proverbial eight ball of public opinion. The gambling purveyors’ community has a long history of hiding from the public spotlight, skulking about in the shadows, and refusing to modify or transform its behavior. It is highly organized, entrenched, and lucrative.

Binary options appeared on the retail forex scene around 2008. In their simplicity, they seemed to be a market response for the high casualty rate of newcomers to traditional forex trading. Many of the pitfalls of trading had been removed. Risk parameters were fixed at the outset of a binary trade. There was no need for stop losses, margin calls, leverage, or the angst that accompanies closing a position in a financial market. You bet a chosen amount, guessed up or down from a specified valuation, and were promised a specified reward, upon a specified expiration point. What could be easier than that?

Traders got caught up in the simplicity and immediacy of large payoffs and migrated in droves from all over the investment/trading spectrum. There were only two obstacles to deal with – brokers were in far-off jurisdictions know for casino betting and the 70% posted payoff potential required that you win 60% of the time, just to break even. But these new binary options were fun! Traditional forex trading required a 54% win rate to breakeven, implying that this new medium had roughly a 6% cost to swim in these waters. As a result, casualty rates for beginners surpassed even those for retail forex.

Competition then reared its ugly head in the game. New brokers were joining weekly. Many were just vanilla-type offerings that branded someone else’s white-label service, which ran the backroom and took a percentage of the cut. There was plenty of money to be made, but the dynamics of the operation demanded a continuous flow of new customers, since attrition rates went through the roof. Aggressive marketing bucket shops proliferated, primarily in Israel, which sold their services directly to brokers. Their job was to lure new patrons into the door and keep the account deposits coming.

Costs were escalating, since payoff ratios rose to attract new clients. The global economy was also in decline, putting another pinch on the gambler’s wallet. Many brokers went under, especially after the financial crisis in Cyprus in 2013. Many had to resort to shaving the edges by holding back withdrawals, playing games with valuations at expiration, and tricking clients with phony trades to raise more interest.

Customer complaints began to escalate, as well, reaching the thousands for regulators in every jurisdiction. Reported losses were in the billions, and these estimates were regarded as very low. Regulators in the U.S., Canada, Australia, China, Japan, France, and Belgium, to name a few, forbade the cross-border solicitation of their citizens. What had begun as a market response to the difficulty of online trading had gotten way out of hand. Binary option brokers, both good and bad, had literally been painted into a corner.

Why form a trade association and what is its purpose?

Forming a trade association is nothing new or innovative. It usually happens out of a need of competing companies to address public relations issues. A trade association is typically “an organization founded and funded by businesses that operate in a specific industry. An industry trade association participates in public relations activities such as advertising, education, political donations, lobbying and publishing, but its focus is collaboration between companies.” As more and more unlicensed brokers engage in reprehensible business practices, the greater the need for a collaborative approach of top-of-the-line firms to thwart the bad press emanating from the actions of the former.

Bjorn Krog, the lead attorney for SpotOption and one of the reputed meeting organizers, has said to the press that, “We hope that with the establishment of EUBOA, the online trading industry will mature and pave the way for brokers who want to run credible and reputable operations. Cooperation between all the parties involved is the key to redefining the industry reputation, giving it the fair chance it deserves and taking the action items necessary to protect the interests of traders and brokers around the globe.”

No official actions have been sanctioned, but the talk is that an independent and respected individual will head the new group, ostensibly to “facilitate cooperation between brokers, platform providers, regulators, and other market participants including banks, liquidity providers and other FX industry stakeholders.” It is too early to tell if any regulatory bodies will formally recognize the group. Controversy typically arises when the group appears to be anti-competitive, engaged in price-fixing, and providing little or no benefit for the public interest. Promote best practice standards or be damned.

Is there a positive spin that can be cast over binary option trading?

At the end of the day, the best brokers in the industry and their suppliers are trying to save their respective businesses from public scorn and financial hardship. Can a positive argument be made for binary options in general? As with retail forex, new operating standards, fraud prevention, and consumer education will be foremost in the transformative process. If there is adherence to fair and transparent operating standards, then the case for binary options comes down to the numbers. Payoff ratios of 85% to 90% would ensure fairness and similar odds as with traditional retail forex trading.

These payoff figures must stop being just teaser rates. Consumer protections, like better disclosures of promotional bonus trading requirements and quicker withdrawal request authorizations, are a must. Operating standards that ensure that client sentiment data is truly representative of reality and that expiration values are free from interpretation after the fact are two more issues to be addressed. At the end of the day, unless you are trading on a regulated exchange, you are gambling with a House that fixes the odds in the backroom. Trying to put a good face on gambling and the social stigma that goes along with it will be a formidable task.

Concluding Remarks

Will the binary option conference in Cyprus lead to positive changes in the industry? Will the fifty or so attendees recognize the real issues or merely try to stamp out their competition from offshore? Corralling a group of horizontal competitors together in one room can be a challenge at best, but gaining a consensus, where one part of the group must give up something for the benefit of the whole, requires a strong leader with incredible debating skills.

Can we learn a lesson from the previous retail forex trading experience? Fraud, complaints, and shady business practices were routine not that long ago, but regulators stepped in and cleaned up the place. The problem of unlicensed and unregulated cross-border entities, however, still exists. Today, retail forex trading boasts that only 30% of trading volumes are now unregulated. Estimates for binary option brokers run as high as 90%. The stage is set – More to come later.