Running Ahead and Running Amok

I have a piece in yesterday's Financial Express on front running with Rashmi Birmole and Manas Dhagat.

Many will recall the morning of 1^st March 2001 when the proverbial penny, long waiting in the shadows of the tech boom, finally dropped, triggering one of the most significant crashes in Indian stock market history. This canonical event, that went on to inform sweeping structural reforms in the years to come, also exposed an insidious and extensive pump and dump scheme orchestrated by one Ketan Parekh, no relative of the first author, a former broker, and several major players in India’s financial ecosystem. Nearly 23 years later, history seems to be repeating itself with another fraud masterminded by Ketan Parekh, uncovered by SEBI after a months-long investigation into trading records, mobile communications, IP address mappings and statements from key individuals.

The findings, released by SEBI in an interim order on January 2, 2025, expose a fraudulent scheme orchestrated to exploit sensitive, non-public information for illicit gains. This time around, though equally fraudulent, the modus operandi is fundamentally different from the last. SEBI’s investigation has identified several individuals, including Rohit Salgaocar, Ketan Parekh and others, who are found to have colluded to front-run the trades of an overseas institutional client, or ‘Big Client’, of two Indian stock brokers. For the uninitiated, front-running, is a form of market abuse where individuals trade securities based on advance knowledge of large, market-moving transactions by other investors. It allows the perpetrators to profit from predictable price movements, often at the expense of the original investor’s interests and to the prejudice of the public. The investigation also revealed the involvement of individuals who can be categorized into information carriers, front runners, facilitators, who played pivotal roles in enabling this malpractice.

The information about impending trades flowed from Rohit Salgaocar, a Singapore resident, whom the Big Client often consulted on trading decisions in the Indian markets. Salgaocar leveraged this role to access non-public trade information (as contrasted with non-public inside information), which was relayed to the front-runners. To add to this, traders of the Big Client, familiar with Salgaocar, interacted with him while executing trades in Indian securities. These communications typically took place over Bloomberg chats and calls. SEBI’s investigation revealed that Ketan Parekh played a central role in orchestrating the operation and coordinating between the individuals involved. Ketan Parekh and connected entities exploited sensitive trade information from the Big Client’s impending transactions in various securities to generate profits to the tune of roughly 65 crore rupees.

The operation involved three distinct groups. Rohit Salgaocar, based in Singapore, acted as a conduit for non-public information (NPI). By leveraging his role as a director of Strait Crossing Pte. Ltd. and MoUs with brokers, Salgaocar obtained detailed information about the Big Client’s substantial market transactions. Using this information, Ketan Parekh directed employees of stockbrokers, as well as certain individuals who executed trades through private companies. These entities positioned themselves to benefit from price movements triggered by the Big Client’s large orders. The frontrunners used their access to trading accounts and networks to ensure seamless operations, directly communicating with Ketan Parekh. A notable aspect of the operation was the use of novel trading strategies termed as BBSB (Buy-Buy-Sell-Buy) and SSBS (Sell-Sell-Buy-Sell). To illustrate, in the BBSB approach, the perpetrators would purchase shares before the Big Client’s buy order was placed in the market, which they would consistently match in terms of timing, pricing, and quantity, providing strong evidence of prior knowledge and coordinated execution, and then also go on to sell the remaining shares in the open market.

Privileged access to non-public information (NPI) distorts market fairness, which lays the foundation for investor trust. When trust diminishes, individuals and institutions become wary of investing, perceiving the market as inherently unsafe. In this case, the Big Client’s transactions, aimed at executing legitimate investment strategies, were compromised. The illicit profits were found to have been shared among the perpetrators, with Ketan Parekh orchestrating the scheme and distributing trade-related instructions. These coordinated trading patterns were critical to masking the front-running activities and misleading market observers.

The data released by SEBI for 2022-24 reveals a concerning rise in front running cases, with numbers tripling every consecutive year. Between 2020 and 2024, nearly 116 front-running cases have been taken up by the regulator. This highlights a troubling trend of escalating violations emphasizing the need for more vigil. At the centre of these cases lies the information leaker, who, based on past data, has predominantly been a dealer servicing the broker’s institutional clients. While the exponential rise in front-running cases may reflect more pro-active surveillance and enforcement, it is equally important to consider scenarios and systemic issues that make front-running possible and erode trust in the market. The broader policy implications are also significant and any questions around market integrity impacts private investment and capital formation, ultimately weaking economic growth. The lack of adequate oversight has made it easier for front-runners to leak sensitive information, allowing those with access to exploit it for personal gain.

It is time to adopt a more targeted approach to front-running that addresses its root causes. Brokers and other fiduciaries must re-imagine its compliance strategy and contemplate measures that minimize the possibility of front-running in the trading process by design. At the client end such measures, could include rotation of specific brokers by institutional clients, splitting up of large institutional orders between multiple dealers and systematic checks to closely monitor broker activities. Furthermore, introducing stringent accountability frameworks for brokers, accompanied by enhanced oversight of employees engaged in large-volume trading, can also strengthen preventive measures. The broking community, needs to collectively adopt a higher standard of monitoring and surveillance over dealer activities. Additionally, brokers, whose dealers are often the primary source of such leaks, should face stricter liabilities. Restrictions on access to communication channels during critical trading activities, such as proper implementation of dealing room restrictions, should be reviewed periodically to ensure that such restrictions don’t merely exist on paper. Separate dealers can be assigned for institutional trades, subject to a higher level of monitoring. These measures would help reduce the risk of sensitive information leaking and ensure greater integrity in trading operations.

The growing prevalence of front-running cases highlights the urgent need for an innovative strategy that addresses systemic flaws, enforces accountability and fosters a fair trading environment and SEBI’s improved surveillance and heightened enforcement action bode well. But mere enforcement action by the regulator will not suffice and the industry must come up with stringent best practices in internal surveillance and supervision which are adopted industry-wide and become a benchmark before any institutional clients approaches them.