What is Front Running in Mutual Funds

What is Front Running?
Front running is when a broker has exclusive details of a stock being bought or sold in large quantities and trades that stock to benefit from it. Front-running is also called tail-gating. 

Is Front running legal?
The practice is illegal as well as unethical in India, as in most parts of the world. Front-running is illegal and unethical because it leverages private information that is not publicly available. Its a breach of the confidentiality clause that they signed for.

How Front-Running Works?

Here's a straightforward example of front-running: Say a broker gets an order from a major client to buy 500,000 shares of XYZ Co. Such a huge purchase is bound to drive up the price of the stock immediately, at least in the short term. The broker sets aside the request for a minute and first buys some XYZ stock for their own personal portfolio. Then the client's order is put through. The broker immediately sells the XYZ shares and pockets a profit.

This form of front-running is illegal and unethical. The broker has made a profit based on information that was not public knowledge. The delay in execution may even have cost the client money.

Is Front Running similar to Insider Trading?

Front-running is similar to insider trading, with the minor difference in the case of front running, the broker works for the client's brokerage rather than inside the client's business.

Axis Bank - Recent Example

In a very recent news of 6th May 2022 [click here to read news article], Axis Fund house has suspended two if its fund managers. Both the fund managers have been suspended on allegations of front running. However, there was no confirmation from the fund house. 

The seven funds that have seen the management change are: Axis Consumption ETF, Axis Banking ETF, Axis NIFTY ETF, Axis Arbitrage Fund, Axis Quant Fund, Axis Technology ETF and Axis Value Fund.
None of these funds have ever been recommended in the ELITE Program.

Summary
Front Running is illegal and that's why the Axis fund house has taken action. At the moment, mutual fund investors should not make any changes to the schemes. All the funds that have seen the change are managed by multiple managers and hence I don't see a reason to panic right now. Investors should not make any changes to their portfolio till the rumours are confirmed and there is a statement from the fund house.
Even after that, if at all it changes anything for your particular scheme has to be seen, and must be done only in consultation with your financial advisor.

Regards

Manoj Arora

Official Website