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Why are front-running cases on the rise?

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Photo: Mint

In the recent past, India’s mutual fund industry has been hit by several charges of front-running. The Securities and Exchange Board of India (Sebi) has acted in three cases, including its ongoing investigation into Axis Mutual Fund. Mint explores the crisis.

In the recent past, India’s mutual fund industry has been hit by several charges of front-running. The Securities and Exchange Board of India (Sebi) has acted in three cases, including its ongoing investigation into Axis Mutual Fund. Mint explores the crisis.

What is it that Sebi has unearthed now?

Front-running is a market malpractice where a dealer, trader or fund manager who is aware of a large upcoming share purchase order buys the same share in advance in bulk. Such bulk orders drive up share price. At Fidelity group, 68 instances of front-running were detected in the shares of Infosys, Power Grid, PNB Housing and Axis Bank. At India Infoline (IIFL) group, it was in the scrips of Kansai Nerolac Paints Ltd, Tata Global and Siemens Ltd. The entities found to be involved in front running have been barred from markets for 2-5 years, asked to return their gains and pay monetary penalties.

What was the modus operandi followed?

At Fidelity International, Vaibhav Dhadda, a trader and now an ex-employee, used to pass on information of the fund’s purchases to his wife and mother, and use their accounts for front-running. Dhadda used other accounts too. In the case of IIFL, the group’s equity dealer Santosh Singh (sacked in 2021) passed on stock-specific information to his friend Adil Suthar, which was used to transact and profit. The duo also used so-called mule accounts, which are demat accounts created in the name of people who are either poor or have low financial literacy. These accounts are lent to the front-runners against a fee.

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How does front-running affect investors, markets?

Personal gains aside, front-running raises a question mark on the sanctity of fair markets and price discovery. Since the bulk buying happens ahead of big purchases by a fund or large investor, the share price has already run up, which affects the price at which the fund ultimately ends up buying the stock, in turn affecting investors in the fund.

What is the fund’s responsibility?

The first level of check lies with the fund house, which must ensure none of its traders and dealers are using privileged information for personal gains. Every fund house has a code of conduct, and it is the CEO’s responsibility to ensure strict compliance with it. Fund houses also need to keep records of calls made by these officials during trading hours. Fund houses in the news for front-running say these are a case of one or two bad apples, and they have zero tolerance towards any non-compliance.

What is Sebi doing in the matter?

These two cases have been under investigation for the past couple of years, and orders passed after investigation was completed. These are not the only cases, though; Sebi is investigating two-three more. The increased scrutiny of front-running is largely because of the changes in surveillance norms to counter new ways of manipulation. Sebi developed an algorithm a couple of years ago, which is equipped to catch the new modus operandi. The regulator is likely to seek more surveillance powers.

 

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