Over the past few weeks we have received offers to acquire a strategic stake in some of the EU regulated retail FX brokers, some are STP and others are market makers. We are receiving such offers every now and then but usually it is just one company at a time and the contact is initiated by a consultant. This time it is different as there are almost 10 companies on the table and some of the proposals have come directly from the shareholders of these companies. With a few of these offers you could sense some urgency.

Since we are not special then I assume that these offers have also been received by other members of the industry.

What we have also noticed over the last weeks is that there is an increased activity in the FX related job market (especially in Cyprus and in the UK) and what is strange is that some of the CVs we receive are coming from the mid-level people that have been working for years at quite respectable FX firms. Is the industry downsizing?

Changing market dynamics

It is surely not a surprise to the industry participants that the dynamics of the FX markets have changed over the recent months. What is visible for a trained eye is that whereas historically when the retail FX market had accumulated a massive position in any FX pair or other margined product then the market used to move aggressively against this crowd and ultimately pushed them out with losses. This provided a big bulk of trading profit for hundreds of market making brokers but even more profits for the banks who are the ultimate source of the liquidity. It’s not the case for months now.

Markets have lost the aggressiveness, especially when the large aggregate retail positions emerge, either because a) the market makers have become weaker (I believe it is unlikely) or b) because at certain elevated size of retail positioning the market making brokers rush to the market to hedge the open wrong-sided positions of their client portfolio and thereby push the market in the desired direction of the retail traders. I believe its probably the b.

FX brokers under stress

The retail FX brokers are currently under visible stress because the profitability has decreased, the regulatory environment in the EU is getting much stricter and the competition in general is increasing globally. These are probably some of the reasons why we see so many brokers approaching the M&A market.

I also believe that a lot of the EU regulated market making brokers and especially the Cyprus ones have seen their revenue streams deteriorating over the last couple of weeks as they are not allowed anymore to give deposit bonuses to their bonus-hungry clients and the imposed reductions of the maximum allowed leverage is also taking its toll. Some of the brokers have their whole business model and organizational structure built around the bonuses. Starting internally from their sales and marketing teams and ending externally with IBs, they have all been striving on +50% deposit bonuses. And now what?

Obviously, when you take away the bonuses, then the clients who relied on them will move to other brokers who still provide them and that is good for the business of offshore brokers. This applies also to imposed reduction of maximum allowed leverage which will force the clients to move offshore to less capitalized and more marketing-aggressive brokers. In essence, the EU regulated brokers will lose some revenues, staff reductions shall follow, clients will end up in the hands of offshore brokers where the regulators have no oversight and they are therefore exposed to much higher risks.

I am sure that in 6-12 months we will see a lot of EU regulated retail FX brokers closing down or letting people go. This will affect negatively a lot of folks out there who still have a job today.

FX brokerage industry is overcrowded

A recent trend as well is the shift of binary brokers into the retail FX brokerage business. The smartest people in the binary business have figured out that selling a 30-second option contract to a generally not sophisticated client is not something that the regulators view favorably. Over the coming months there are going to be some major negative news in the EU regulated binary industry.

What the binary brokers miscalculate, however, is that the retail FX brokerage industry is already extremely overcrowded.

We entered the retail FX market with Armada Markets almost 6 years ago, when there were practically no real ECN brokers out there. One of our key strategic partners at that time was LMAX which had been founded just a year before us. I remember we had these nice energizing discussions with their top BD guy Andreas that both of our companies want to bring transparency and solid trading services to the retail FX industry and we even used the word revolution. We were clearly on a mission.

The time was right at that time and pretty much all of the good folks who shared a similar vision have managed to build up a good business with a satisfied client base.

Compared to our starting point with practically no real competition, the ECN brokerage industry today is extremely overcrowded. You see the firms that had the EURUSD spread at 3.0 pips just 5 years ago, advertising themselves today as ECN brokers.

Regulatory changes that would work

I would really like to see our industry getting to the level where the next visit to a major retail FX expo would enable us to meet much more people that have a long-term business perspective and who strive, at least in a much larger extent than today, on a vision to actually provide a high-quality brokerage service to the clients.

We would also like to see initiatives from the regulators that would eventually consolidate the industry in an organized way but at the same time leave ample time and breathing room to adjust for the companies that in fact are serious about this business.

One of the best ways for the regulators to really organize our industry would be to raise the minimum share capital requirements for the brokerage firms. This would make sure that only the firms who have enough capital and effectively are safer for the clients would remain in the industry.

To be perfectly frank, I still don’t understand how it is possible that an STP broker that has a 125K EUR share capital can have a brokerage firm licence. The same applies to the market making firms with a 1M EUR share capital. These days, a 125K EUR doesn’t even buy you a nice 2-bedroom appartment in most of the European capitals and yet firms with such a low capital base can be part of the financial system. Strange. If we compare the systemic risk that the clients have with a 125K EUR firm or a group of companies such as Tickmill with a strong +20M EUR of net equity capital then clearly there is a massive disparity in terms of the counterparty risk. Most of the retail clients do not comprehend this.

Some of the issues that I discussed above will affect a lot of people in our industry over the coming months. I hope that everybody can find a way to grow their business and be part of it also in 5 years when it shall be more organized with much fewer players.

As for the brokerage companies that are currently for sale, I hope that the sellers will find the buyers but more importantly I hope that the buyers would actually know what to do with these companies.

Stay tuned for more and trade with Tickmill!

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