July 20, 2011 / 10:01 PM / 9 years ago

U.S. SEC warns small investors about retail forex

* SEC warns investors of risks from retail forex trading

* SEC says leverage, fraud, lack of clearing are all risks

* Warning comes after SEC approved temporary rule on forex

* SEC’s Aguilar had asked the agency to issue the warning

By Sarah N. Lynch

WASHINGTON, July 20 (Reuters) - Small, less sophisticated investors should be very careful before deciding to invest in the risky retail foreign exchange market, the U.S. Securities and Exchange Commission warned on Wednesday.

In an investor bulletin, the SEC laid out the various risks that ordinary investors should know before deciding to enter the off-exchange forex market, including the lack of a central clearinghouse to protect against default, less transparent pricing and the risks of suffering major losses through the use of leverage. It also warns about fraud and other “get rich quick” schemes.

“Individual investors who are considering participating in the foreign currency exchange market need to fully understand the market and its unique characteristics,” the SEC said. “Forex trading can be very risky and is not appropriate for all investors.”

The SEC’s investor bulletin comes roughly one week after the agency approved temporary new rules that would allow brokers to continue offering retail forex trading to investors until the agency can consider whether to implement more robust investor protection rules prescribed by the Dodd-Frank Act.

A failure to act would have prohibited securities brokers from selling retail forex contracts according to the Dodd-Frank law, which will celebrate its first birthday on Thursday.

The bulletin was issued at the request of SEC Commissioner Luis Aguilar, who issued a written statement late last week saying he agreed to the temporary rules on condition the SEC issue a warning to investors about the dangers of retail forex. [ID:nN1E76E1XE]

The retail foreign exchange market is a niche market that lets average investors bet on the direction of currency price movements. But over the years, it also has been a market favored by fraudsters.

Regulators also have been concerned about the risks posed by the use of leverage, which allows traders to deploy a smaller amount of money to buy currency that is worth more than an investor’s capital. The use of leverage, however, can also magnify losses.

Last August, the Commodity Futures Trading Commission adopted retail forex rules for the firms it regulates that would cap leverage at 50-to-1 for major currencies and require forex dealers to hold more capital and abide by certain disclosure, reporting and record-keeping rules.

The CFTC already had planned to adopt these rules before the enactment of Dodd-Frank, but the Dodd-Frank law required the CFTC to speed up the deadline on finalizing the rules.

The Dodd-Frank law additionally required other regulators, including the SEC, to impose similar rules on the retail forex dealers they oversee or else such trading would be prohibited. The SEC is now starting to seek comment about whether or not to craft rules similar to the CFTC’s. (Reporting by Sarah N. Lynch; Editing by Phil Berlowitz))

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