Choosing a forex broker: regulation, ESMA leverage limits, spreads versus commissions
Check a forex broker's regulation, understand EU retail leverage and margin rules, and compare spread-only and commission accounts by real cost per lot.
What you will learn
- How to check that a forex broker is authorised and which protections apply to retail clients in the EU.
- The ESMA leverage limits for currency pairs, the 50% margin close-out rule and negative balance protection.
- How to compare a spread-only account with a raw-spread-plus-commission account in euros per lot.
- Which other costs and execution features belong on your checklist.
Explanation
General broker basics and order types were covered in the course "Trading"; this lesson focuses on what is specific to forex. In the EU, retail forex is mostly offered as CFDs (contracts for difference) or rolling spot contracts: you never receive the currency, you hold a leveraged position that is financed overnight through swaps.
Regulation
A broker serving clients in Germany should be authorised by the Federal Financial Supervisory Authority (BaFin) or by another EU/EEA regulator that "passports" its licence into Germany under MiFID II (the EU Markets in Financial Instruments Directive), for example the Cyprus Securities and Exchange Commission (CySEC). Practical checks:
- Search the exact company name and licence number in the BaFin company database or the regulator's public register, not only on the broker's own website.
- Check which legal entity your contract is with. Many groups also run offshore entities that do not offer EU protections.
- Check the investor compensation scheme. For German securities firms this is the EdW (Entschädigungseinrichtung der Wertpapierhandelsunternehmen), which covers 90% of eligible claims up to €20,000; other EU countries have their own schemes. These schemes do not cover trading losses. Check the current rules for your broker's entity.
ESMA retail rules for CFDs
The European Securities and Markets Authority (ESMA) introduced product intervention measures for retail CFD clients in 2018, which BaFin and other national regulators have since adopted in national rules. They include:
| Rule | Content |
|---|---|
| Leverage limit, major currency pairs | 30:1 (margin at least 3.33% of position value) |
| Leverage limit, non-major pairs, gold, major indices | 20:1 (margin at least 5%) |
| Margin close-out | Positions must be closed when account equity falls to 50% of the required margin |
| Negative balance protection | A retail client cannot lose more than the money in the CFD account |
| Risk warning | A standardised warning with the percentage of the provider's retail accounts that lose money |
Under ESMA's definition, major pairs combine two of these currencies: USD, EUR, JPY, GBP, CAD and CHF. Pairs such as EUR/TRY or AUD/NZD count as non-major. Some brokers offer "professional client" status with higher leverage; you only qualify if you meet strict criteria, and you give up retail protections such as these leverage limits.
Spread versus commission
A spread-only account includes the broker's mark-up in a wider spread. A raw-spread (often called ECN) account shows a tighter spread but charges a fixed commission per lot. One standard lot is 100,000 units of the base currency; on EUR/USD one pip (0.0001) per lot is worth $10.
Other checklist items
- Swap rates for your pairs, and whether triple swap is charged on Wednesday nights.
- Spreads around rollover (about 23:00 in Germany) and around major news, not only the "typical" spread.
- Slippage policy: are positive and negative slippage both passed on?
- Deposit, withdrawal, currency conversion and inactivity fees; account currency in euros.
Worked example
Hypothetical example: you trade EUR/USD with an account in euros. Assume EUR/USD = 1.10. Swaps and slippage are excluded.
Account A (spread only): average spread 1.2 pips. Cost per round-trip lot = 1.2 × $10 = $12 = 12 ÷ 1.10 ≈ €10.91.
Account B (raw spread): average spread 0.2 pips plus a commission of $3.50 per lot per side ($7 round trip). Cost = 0.2 × $10 + $7 = $9 ≈ €8.18.
At 40 lots per month, the difference is 40 × $3 = $120 ≈ €109 per month in favour of Account B.
Margin: a 1-lot EUR/USD position is €100,000 of notional value. At 30:1 the required margin is 100,000 ÷ 30 ≈ €3,333. The broker must start closing positions when equity falls to 50% of that: about €1,667.
Common mistake
Practice activity
You expect to trade 25 lots of EUR/USD per month. Broker X: average spread 1.0 pip, no commission. Broker Y: average spread 0.1 pips plus $6 commission per round-trip lot. Calculate the monthly cost in dollars for each, and the difference.
Show solution
X: 1.0 × $10 = $10 per lot; 25 × $10 = $250. Y: 0.1 × $10 + $6 = $7 per lot; 25 × $7 = $175. Difference: $75 per month in favour of Y.
Limitations: real spreads vary by time and volatility; measure them on a demo or small live account at your trading hours.
Key takeaways
- Verify authorisation in the regulator's own register and check which legal entity you contract with.
- EU retail CFD rules: 30:1 for major pairs, 20:1 for non-major pairs, 50% margin close-out, negative balance protection.
- Compare accounts by total cost per round-trip lot: spread × pip value + commission.
- Check swaps, news and rollover spreads, slippage policy and fees before opening an account.
Next step
In the next lesson you will look at currency risk from the investor's side: how exchange rates change the returns of a euro-based portfolio, and simple ways to hedge.
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