SEBI to tighten rules to stop front running in AMCs

The Securities and Exchange Board of India (SEBI) recently approved changes to the rules governing mutual funds to prevent the practice of front-running in asset management companies (AMCs).

What is Front-running ?

1. Front-running refers to the unethical behavior of a broker or investor participating in a trade by having non-public information about a significant transaction that could affect the price of an asset, equity or derivative.
2. It is also known as forward-trading or tailgating.
3. Front-running is illegal in India.
4. Front-running can take various forms and can occur in different financial markets, such as stock markets, commodity markets, and others.
5. Common strategies used to execute trades include the Buy-Buy-Sell (BBS) trading pattern and the Sell-Sell-Buy (SSB) trading pattern.

Buy-Buy-Sell (BBS) Trading Pattern:

1. In this pattern, an alleged front-runner places a buy order in advance of a big customer's imminent purchase order, using non-public information about the upcoming transaction.
2. When the large client's buy order is executed, the price of the security increases, allowing the alleged front-runner to sell the earlier purchased securities at a profit.

Sell-Sell-Buy (SSB) Trading Pattern:

1. In this pattern, an alleged front-runner uses non-public information about a big customer's impending sales order to place a sales order before the customer's order.
2. When the big client places the sell order, the price of the security falls, enabling the alleged front-runner to buy back the securities at a lower price to fulfill earlier selling obligations.

Difference between Front-running and Insider Trading:

Feature	Front-Running	Insider Trading
Source of Info	Knowledge of pending orders or anticipated market movements	Material, non-public information about a company
Type of Advantage	Exploiting order flow and market impact	Access to confidential, price-sensitive business information
Relationship	Broker or trader harming their own clients	Corporate insiders or connected individuals
Example:	A broker gets to know that a client is about to place a large buy order for a stock. The broker buys the stock before executing the client's order, then sells it at a higher price when the price rises after the client's purchase.	An official of the company knows that the merger is about to be announced. Before the announcement, they buy shares in the company, expecting the price to rise when the merger becomes public.

 

Q: What are Asset Management Companies (AMCs)?

1. Asset management companies (AMCs) are firms that invest funds pooled from individual investors in various securities, aiming to optimize returns for investors while charging a fee.
2. AMCs maintain portfolio diversity by investing in both high-risk and low-risk securities, including stocks, debt, real estate, shares, bonds, pension funds, and more.
3. AMCs provide investors with greater diversification and investment options due to their access to a larger pool of resources compared to what individual investors could manage on their own.

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