The Financial Conduct Authority (FCA) has warned it will not hesitate to take further action against firms over trading influencers, after winning a summary judgment against 24HR Trading Academy Limited in March. The case involved a fee-based "signalling" service sent over social messaging apps WhatsApp and Telegram.
"We continue to monitor firms for their compliance with regulatory obligations, including on inducements. Should we become aware of firms not meeting their obligations or firms or individuals providing unauthorised investment advice, for instance, we will take action," a spokeswoman for the FCA said.
The High Court found that the "signalling" service offered by 24HR Trading Academy Limited, which was run by Mohammed Fuaath Haja Maideen Maricar, amounted to unlawful investment advice contrary to the Financial Services and Markets Act 2000 (FSMA). 24HR Trading encouraged clients to open trading accounts with 'partnered brokers' to place their trades. Maricar received sign-up and other commissions from these brokers. The judgment found this conduct constituted both financial promotion and making arrangements with a view to clients acquiring investments.
The court also made orders preventing 24HR Trading from further breaching FSMA, and requiring Maricar to pay restitution of £530,695 plus interest.
24HR Trading was not authorised by the FCA; however, the explosion in social trading means that an ever-increasing number of investors are following influencers' instructions on when and what to trade. The practice also gained increased attention from regulators after a chatgroup on the social media site, Reddit, ramped up the shares of GameStop, among others, in January.
Social trading has two main forms: signalling and copy trading. Signalling involves an individual following the investment "advice" sent via WhatsApp, Reddit, or Telegram. Copy-trading involves investors on neo-broking sites signing up to copy the trades of "star" investors. The FCA has previously stated that copy trading is considered investment management and thus requires portfolio management permissions, the spokeswoman said.
There is a potential read-across to copy trading from the 24HR trading judgment's findings on signalling and investment advice, lawyers said.
"Absolutely yes, but when reading it in a purposive manner. Under a strict reading of the rules copy trading is probably okay. If I'm a successful trader and I am happy to make my signals available to people who subscribe to them, I'm not advising them. I'm just telling them what I'm doing. That's the key. I'm not saying: 'make this trade at this time'. I am saying this is what I'm doing and people can choose to follow that or not. But I think the FCA and the courts will apply a purposive approach: especially where it has proved so challenging to identify 'ringleaders' in social media-driven retail trading phenomena such as GameStop, AMC and physical silver. The FCA is going to find that is problematic," said Sam Tyfield, a financial services partner at Shoosmiths in London
The FCA has previously issued a public warning about an unregulated firm targeting UK investors using influencers. However, whether signal provision requires an [FCA] authorisation "depends on the facts and circumstances of the case, including the product design", the FCA spokeswoman said.
The FCA has not updated its guidance on copy trading since 2016. It omits any reference to the Markets in Financial Instruments Directive ( MiFID) II ban on selling/marketing contracts for difference to retail investors, introduced in 2018.
The FCA was considering the need for further statements following the 24HR judgment, the spokeswoman said.
The eToro example
What may tip copy trading and social investing into the UK investment advice bucket is remuneration and inducements. For example, FCA-authorised neo-broker eToro promotes "Get copied, Get Paid" on its website.
"The Popular Investor Program enables talented and experienced investors to potentially generate a significant level of income...by being copied by other clients on the eToro platform," eToro said, explaining its reward scheme to potential Popular Investors.
"I don't understand how you can get away with an individual who advises, who lets their trade signals be known, and gets paid for how many people follow them without some sort of quasi-regulation applying to you," said one UK-based financial services lawyer.
eToro says its top-tier Popular Investors earn up to 2.5% annually on their assets under management – calculated as the total assets pledged to copy their trades. The highest revenue-generating Popular Investors are rewarded with tickets to Premier League football matches. According to its website, the neo-broker has sponsorship deals with Crystal Palace, Everton, Leicester City and Southampton. In the 2020/21 season it also had sponsorship deals with football clubs in Germany, Denmark and Monaco. Others are eligible for a wide range of perks, such as free subscriptions to the Financial Times and the Wall Street Journal.
eToro's website, and others like it, says content on its social trading platform is generated by members of its community and does not contain advice or recommendations by or on behalf of eToro.
"You can clearly say it's not MiFID advice because it's not a personalised recommendation to someone. That's a requirement to be MiFID advice, but in the UK, the definition of advice is wider. If you're not regulated, any advice to buy or sell, acquire or carry out an investment activity can be considered advice. So, this kind of copy trading can be considered advice under UK law, even when it's not the MiFID European view. Another question is, are you doing [copy trading] by way of business?" said Tim Cant, partner at Ashurst in London.
"Now, it's often quite difficult to find cases in finance where people aren't doing it by way of business. You've got to look at whether these people have been renumerated in any way for this, whether it's directly or indirectly. And if there is any renumeration then you'd have a hard time saying it wouldn't be by way of business, even if it is simply a flat fee or a variable fee from the provider," Cant said.
After the GameStop episode, there have been concerns about who influencers are and their motivations for trading. For example, Keith Gill, a social media influencer known as Roaring Kitty involved in the GameStop episode, was questioned by the Massachusetts securities regulators and the U.S. House Committee on Financial services, regarding his role in the event. Steven Maijoor, then chair of the European Securities and Markets Authority (ESMA), suggested in February that the "pump-and-dump" tactics of Reddit users might amount to market abuse, for example.
Neo-broker customers must rely on the platforms to perform their anti-money laundering (AML) and know-your-customer (KYC) checks as well as having trade surveillance and monitoring in place. Knowing who these influencers really are and what might motivate their trades is an "utter minefield", lawyers said.
A spokeswoman for eToro said it carries out AML and KYC checks on its Popular Investors.
"eToro uses electronic verification (EV) when onboarding clients, which checks an individual's identity against official government registers. Clients who we cannot verify via EV, or who are flagged as an AML risk, are subject to further checks and will be required to manually upload documents. In addition, when applying to join the Popular Investor Programme, clients will face additional screening from [our] investment office. This varies depending on individual circumstance but may include a one-on-one interview, fact checking an individual’s academic background or employment record," she said.
At present, eToro's 260 Popular Investors are not required to have any investment management qualifications. From October 2021 the neo-broker is introducing a requirement for the top two tiers (there are four in total, cadet, champion, elite, elite pro) of Popular Investors to hold qualifications from the Chartered Institute of Securities and Investments (CISI). This will mean its 20 elite Popular Investors will have to be CISI level 3 qualified in either capital markets, or wealth and investment management. The eight Popular Investors with elite pro status will be required to hold a CISI level 4 qualification in either investment management or international advanced wealth management.
Potential platform misuse
Some eToro Popular Investors are also using their profiles to tout other services to those copying their trades. Imran Lakha's eToro profile and LinkedIn page claims he is a former head of European index options trading at both Citi and Bank of America Merrill Lynch. His LinkedIn profile says he was an employee of hedge fund Blue Crest Capital Management until 2018.
Most posts in Lakha's eToro feed refer followers to his options trading academy, Option-Insights, which charges £300 for one-to-one hour-long training sessions, or £600 for a two-day group course. Options-Insights also charges £49 a month for its subscription service which it says includes access to a "real-time market chatgroup on social messaging site Telegram". 24HR Trading Academy used Telegram for its subscription service.
Options-Insights is not authorised or regulated by the FCA.
The eToro spokeswoman said the firm monitors its platform for activity that contravenes its terms and conditions.
"eToro has community guidelines in place and actively monitors both the eToro platform and our social media channels. We take appropriate action against any behaviour which breaches these guidelines which can include removing posts, restricting user access or notifying relevant regulators," she said.
It is unclear what checks are being made by the UK regulator to confirm that those copy trading are not retail investors. Nikhil Rathi, chief executive of the FCA, has repeatedly raised concerns about the ease at which inexperienced investors can be coached into declaring themselves to be sophisticated.
eToro offers its users the ability to trade equities, cryptocurrencies and contracts for difference (CFDs). The latter are banned from sale to retail investors in the UK and can only be bought by someone certifying themselves as sophisticated. On May 26, the FCA banned Cyprus-based broker ICC Intercertus Capital Ltd (trading as EverFX) from selling CDFs to UK investors. The firm which was in the Temporary Permissions Regime is the sixth Cyprus-based broker to be banned by the FCA in recent months.
The supervisory notice, said that among other wrongdoing EverFX had been issuing signals to investors on when to trade.
The regulator is consulting on toughening up its rules on sophisticated investor status.
Despite Rathi's concerns, however, the FCA has not conducted a thematic review or mystery shopping exercise to check the extent of the mis-classification problem.