Irish Contracts for Difference punters are alive, well and still managing to lose money
You would think Sean Quinn's €2.6bn loss on Anglo Irish Bank CFDs would be salutary lesson for investors with an appetite for high risk. Quinn went from being the richest man in Ireland to a bankrupt in a very short space of time after punting massively on Anglo Irish Bank shares using Contracts for Difference (CFDs).
He wasn't alone in taking a massive gamble with these financial instruments and at the height of the Celtic Tiger madness around 2006, it has been estimated that close to half of the trades in Irish-listed shares were connected to CFDs.
The real risk, and the real return if it goes well, lies in the fact that you don't have to actually buy the share and you don't have to put up all of the money required to make the investment. So when everything crashed in 2008 (the stock market, lending, the economy and the exchequer), so too did CFDs purchases here.
So it was a little surprising to find out this week through a Central Bank survey of CFDs, that between 2012 and 2014, around 39,000 investors used CFDs through Irish registered providers. There are around nine of them providing CFDs and financial spread betting. Around 5,000 of the investors were Irish residents.
It wasn't so surprising to learn that 75pc of them lost money, with an average of loss of €6,900. Stock markets did rather well during this period and if an investor simply bought the index, they would have done well. But "CFDers" are a little different.
CFD providers don't just allow investors to bet on what will happen to the price of a share in the future, they actually allow them punt on everything from the stock market, to oil prices, to commodities, to derivatives. In fact they offer CFD trading on 10,000 markets.
Some of their clients are share traders who get paid to make trades and may use CFDs as part of their job or simply to make an extra few quid - if it goes well. But even a professional trader couldn't possibly be informed about everything from wheat futures in the US to the latest technology IPO in Hong Kong. But he can take a sizeable punt on them and for some people that is very tempting.
Here is how it works. You believe that shares in ABC plc are undervalued and will rise. You decide to buy 4,000 CFDs in share ABC at a price of €10 per share. Your position is therefore €40,000. You only have to put up a margin of 5pc so you only have to invest €2,000 of your own money.
If the share price rises from €10 to €10.50, you will make €2,000 on your €2,000 investment - a profit of 100pc. If it falls to €9.50 you have lost all of your money. If it falls to €7.50 you have lost €10,000 - a 500pc loss.
CFDs are similar to financial spread bets and many of the providers will offer both. CFDs don't carry a 1pc stamp duty, the way normal share trades do. Spread betting is Capital Gains Tax-free because it is essentially a bet.
I only ever placed one spread bet in my life. It was on the outcome of the 2007 general election and I had the benefit of the wisdom of a very experienced political correspondent to guide me.
I won around €2,000 and haven't placed a spread bet since.
This is a little less risky than punting on commodity futures because I had some knowledge (and top advice) on what I was betting on.
CFD providers are very strictly regulated and clearly, the Central Bank is watching. Back in 2011 it conducted an inspection and made some unnerving findings including, a lack of sufficient information gathered by firms, inadequate assessment of appropriateness of CFDs for the client, misleading marketing information and inadequate risk disclosures.
A lot of those problems appear to have been picked up by the industry and have been improved. This time round the Central Bank is focussing on the fact that 75pc of clients lost money. The regulator said some firms went over the requirements on assessing appropriateness, in others "the clients' knowledge and experience may have been overestimated."
It still pointed to shortcomings on the part of some firms in relation to complaints handling, record keeping and presenting marketing in a sufficiently balanced way. But its tone was less concerned than back in 2011.
You would think the best deterrent from losing a load of money you don't actually have, would be to realise that 75p of people lose. But people and punting don't work that way.
Some CFD providers advertise the fact that the investors will only have to put up, in some cases, 0.2pc of the money required to take the position in the market.
As you drift into the red you may be asked to make margin call payments every day. That is a sobering thought if your bet is really drifting the wrong way. However, closing the position or introducing a stop loss system, which many CFD providers offer, won't always work.
Investors never like to realise their loss. So if they have a CFD that says the share price of a company is going to go up, and it starts to fall, many will convince themselves their judgement was right all along and it will turnaround.
This was shown from the reluctance of Sean Quinn to get out of his Anglo Irish Bank CFDs and realise his losses. Instead he kept increasing his exposure, believing he was right all along, and he could only recoup his losses by acquiring more Anglo CFDs.
Sometimes for high-risk investors admitting you got it wrong is difficult. When it comes to CFDs, time can be vitally important.
They require constant monitoring over a short period of time. Stock market volatility not to mention commodities prices, can change your fortunes quite quickly.
Liquidity is another risk. There is the risk that your CFD cannot be traded at the time you want to trade. Keeping your position open, so it can turn around for you, may cost more money in the short term as you have to cover your losses with the CFD provider.
The lower the margin required, the greater the risk. Even a stop loss can be rendered ineffective where there are rapid price movements or the market has closed.
Some CFDs providers allow investors to trade when the market is closed but prices for those trades can differ a lot.
Despite the solid regulation and the safeguards put in place by the providers, human nature is what it is. It can be very difficult for regulation to protect people from themselves. But that doesn't mean it shouldn't be tried.
For me CFD investment is really a form of gambling. I remember interviewing Paddy Power co-founder Stewart Kenny about the relationship between the bookie and the regular gambler.
"You are not going to make money betting," he told me. "Betting is an entertainment… over a lifetime they realise they probably won't make money. Some do, but very very few."
Stick €20 consistently with the bookies and "you will get back €17. We will get €2.50 to €3", he added. But the punter is getting a weekend's TV entertainment and heightened excitement, Kenny said. Sean Quinn might disagree.
Those who enjoy a risk see the world differently. When I read that 75pc of CFD investors lose money, they read that 25pc actually did make money and wonder how much it was.