Just recently, Forex.com announced that it will stop offering over-the-counter (OTC) metals trading to its U.S.-based clients by July 15. According to them, they are simply complying with the regulations in the Dodd-Frank Act. In particular, they will be abiding by Section 742 (a) which prohibits “transactions in any commodity with a person that is not an eligible contract participant or an eligible commercial entity on a leveraged or margined basis.”
Section 742 (b) of the Dodd-Frank Act also cites an exemption for retail transactions if the actual delivery of the commodity takes place within 28 days.
In line with this regulation, Forex.com is giving its customers a month to close out their gold and silver positions. All accounts that are still open at 5:00 pm on the said date would then be liquidated. Yikes!
From what I understand, non-exchange trading of metals by U.S. citizens at a leverage greater than 10:1 and with the intended delivery of the product later than 28 days when the transaction was made, will be considered illegal.
On the other hand, those who do on-exchange trading (such as with the CME Group), along with banks who are considered eligible contract participants, or those with significant amounts of gold physical for backing, don’t have to worry about anything.
Now, before you start getting rid of your bling-bling, you should know that there are those who believe that Forex.com is just overreacting. The actual text of the legislation is extremely lengthy and difficult to comprehend. Because of that, it is prone to a lot of misinterpretation.
After almost a year when it was signed into law, the Dodd-Frank Wall Street Reform and Consumer Protection Act has yet to impress market participants. Naysayers continue to have their eyebrows raised about its practical implications.
Among its other provisions, market junkies are worried about the negative effect on liquidity that Section 742 (a) would have on the commodity markets. You see, majority of the transactions made in the gold and silver markets are done over-the-counter. How many investors do you think would want to kick it old school and go through the hassle of locating a gold dealer and conducting the exchange physically?
Err, I don’t think there would be that many.
Now, if you’re saying, “Eh, I’m a currency trader; this wouldn’t affect me,” think again buddy.
We learned in the Intermarket Correlations section of the awesome School of Pipsology that trends in the commodity markets could affect currencies. With this new development in the Dodd-Frank Act seen to weigh down demand for gold, we may see the Aussie take a hit too. Pip Diddy reminds us time and again that the currency from “Down Under” tends to move in tandem with the commodity because Australia is the world’s third largest producer of the precious metal.
On top of that, we could see the U.S. forex industry lose some players. Most U.S. brokers offering over-the-counter gold or silver trading would probably lose revenue. Depending on the extent of their losses, smaller ones may be forced to exit the industry or perhaps merge with bigger brokers.
Consequently, with fewer competitors left, brokers may have one more reason to slack off in providing quality services or charge their customers higher spreads. Uh-oh…
Then again, we also have to acknowledge the fact that the move would keep a lot of novice investors from falling victim to over-leveraging which is prevalent in the spot gold and silver markets. But do you think this is enough to outweigh the disadvantages?