Front Running: Ahead of the Curve? Or ahead of the Law?

This article deals with the essence of what Front Running means and how the same is dealt with by the Securities and Exchange Board of India.

What is Front Running? 

Let us first understand what the term - Front Running a.k.a. game of seconds means. Imagine you’re in a race. Everyone is lined up at the same starting point – hearts beating fast, adrenaline pumped up, in hopes of being the first one to finish the race and winning the title. Everyone is waiting for the signal, anticipating a head start solely through the power and accuracy of their reflexes. But one runner already knows exactly when the whistle will blow. Naturally, they are able to dash ahead before anyone else even processes the signals and begins their race, giving this person a favourable position. Is it really a fair race anymore? Will anyone be able to place their trust into races anymore? How will this affect the participation in the future races? 

Now ofcourse, we’re not really here to discuss races. However, what happens in Front Running can be glued back to this example. Front Running happens when someone – say a broker or a dealer has advance information about a big order and uses it to trade ahead of the client. Say you are a mutual fund manager who regularly deals in trades of large amounts of INR 100 to 200 crores on a daily basis. You plan to buy stocks worth INR 500 crores of a Company where the stock is not very liquid. This means that the stock prices are highly sensitive to the huge order you’re about to place tomorrow and such order will rally up the prices of the stocks substantially. You’ve the upper-hand to exploit this information in the market and book huge profits. However, explicitly buying the stock in your or your family’s name will attract regulatory violations and land you in trouble. So, to avoid that you gently tip a third party in hopes of receiving a commission from the profits that the other party is able to gain unfairly. Since, you as the fund manager have personally not utilised this information, it will make it difficult to come under the radar of the regulatory authorities. This illegal-activity is known as Front Running. 

This is exactly what had happened in the recent Axis Mutual Fund Scandal wherein 2 fund managers, Mr. Viresh Joshi and Mr. Deepak Agarwal were caught due to their extravagant lifestyles which did not match with their incomes and hence landed them under scrutiny. They were eventually caught and held liable for Front Running.  

How do the Indian Regulators see it? 

SEBI (Prohibition of Fraudulent and Unfair Trade Practices) Regulations, 2003 clearly identifies and penalises the offence of Front Running. 

The relevant provision is set out below: 

Sub-regulations under Regulation 4(2)(q) identify any intermediary buying or selling securities in advance of a substantial client order or whereby a futures or option position is taken about an impending transaction in the same or related futures or options contract as a fraudulent and unfair trade practice.

Further, the contention of whether Front Running must be practiced by a registered intermediary for it to qualify as an offence was scrutinised by the regulatory authorities in the case of SEBI vs. Kanaiyalal Baldevbhai Patel [(2017) 15 SCC 1] wherein the Supreme Court clarified that the language was not so constrained. It held that any person who commits Front Running would be liable for such offence.

Penalty of Front Running

According to Section 15HA of the SEBI Act, individuals or entities involved in Front Running can face monetary penalties of up to Rs 25 crore or three times the amount of profits made or losses avoided through the practice, whichever is higher. 

They may also attract restrictions on their trading activities in the form of bans ranging from a few years to permanent prohibition. Criminal proceedings could also be initiated in case of serious offenses, with up to 10 years of imprisonment and/ or Rs 25 crore fine. SEBI can also impound the monies made as wrongful gains.  

Why should you care? 

Front Running is a substantial part of not just anyone’s life who Invests in mutual funds, stocks, or SIPs but also those who believe in accountability, who care about the markets and their working, who care about not gaining profits at the expense of others. You may not be a lawyer or trader but Front Running matters to you because your money deserves fairness.  

Closing Thought 

The securities market is a dual market. If a person gains, another one loses. Therefore, if a person gains unlawfully, an innocent investor suffers not because of their miscalculation but because of being a victim of unfair treatment and exploitation of law. 

Front Running isn’t just a technical violation in securities law. It is a reminder why spirit of law is just as essential as letter of law. Ethics matter as much as efficiency to ensure that in a world where milliseconds can mean millions, the true race is not about being first, but about being fair.  

Remember “Speed Kills – not just on highways, but also in markets where front runners drive trust off a cliff and it’s the investor who pays the price.”