Front Running in Stock Markets: How It Manipulates Markets & Hurts Investors

How Does Front Running Work?
A broker receives a large buy/sell order from a client.
Instead of executing the client’s order first, the broker places their own trade to benefit from the expected price movement.
Once the client’s large order is executed, the price moves favorably for the broker, allowing them to sell at a profit.

Why is Front Running Illegal?
Unfair Advantage: Brokers misuse confidential client data for personal gain.
Market Manipulation: Artificially inflates or deflates stock prices.
Erodes Trust: Investors lose confidence in the fairness of financial markets.
Example of Front Running
If a mutual fund plans to buy a huge quantity of a stock, a broker privy to this information may purchase shares in advance. When the fund’s large order pushes the price up, the broker sells at a higher price, making an illegal profit.

SEBI’s Crackdown on Front Running
The Securities and Exchange Board of India (SEBI) has strict regulations against front running to ensure market transparency. Recently, SEBI banned the director of IIFL Securities along with other entities for engaging in this malpractice.

Why SEBI Takes Strict Action
Protects Small Investors: Prevents exploitation by insiders.
Maintains Market Integrity: Ensures a level playing field for all participants.
Deters Future Violations: Heavy penalties and bans discourage unethical practices.

Impact of Front Running on Markets
Reduces Investor Confidence: When traders suspect manipulation, they may avoid investing.
Creates Artificial Price Movements: Front running distorts real supply and demand.
Legal Consequences: Those caught face fines, bans, and reputational damage.


Sample Questions & Answers on Front Running
1. What is front running in stock markets?
Answer: Front running is an illegal practice where a broker or trader executes orders based on non-public information about a large upcoming transaction to profit from anticipated price movements.
2. Why did SEBI ban IIFL Securities’ director?
Answer: SEBI banned the director of IIFL Securities for engaging in front running, which violates market fairness and investor trust.
3. How does front running manipulate stock prices?
Answer: By placing trades ahead of a large order, front runners artificially influence prices, leading to unfair gains at the expense of other investors.
4. What are the consequences of front running?
Answer: Consequences include regulatory penalties, trading bans, loss of investor trust, and potential legal action.
5. How can regulators prevent front running?
Answer: Regulators like SEBI enforce strict surveillance, penalize offenders, and promote transparency to deter front running.