Most mutual funds have barred use of mobile phones in their dealing rooms to prevent front-running, though regulations didn’t require them to do so until recently. Last week, the Securities and Exchange Board of India (Sebi) made this ban official on the heels of its recent order, which pulled up an equities dealer at HDFC Asset Management for leaking information of its planned trades to a few other investors.
In a communication to mutual funds, the market regulator, in addition to the ban on mobile phone usage in dealing rooms, also asked asset management companies (AMCs) to record telephone calls from or into dealing rooms. Also, recorded calls by dealers should be regularly monitored by its compliance department, Sebi said.
Mutual fund officials said the practice of front-running is unlikely to cede, following the new rules by Sebi, as most AMCs already have such systems in place. “It doesn’t say anything more than what we are already doing,” said a top official with a private mutual fund.
Mutual fund officials said more steps are already in place to check front-running than what are mentioned in the circular. These include having restrictions on the rates at which dealers can place the ‘buy’ or ‘sell’ order in a day and checks on any changes in their lifestyles.
“If a dealer suddenly manages to buy a house in a plush locality or even a luxury car, then, we step up our vigilance. Similarly, we look if any particular broker talks more to a particular dealer than the fund manager…These are leads for us,” said the chief investment officer with a private mutual fund.
In a mutual fund, the practice of front-running harms unitholders, as it increases the cost of share purchases or reduces the realisations from share sale, thereby depressing returns.
Some mutual fund officials and brokers said Sebi’s emphasis to tackle front-running only in the dealing rooms is misplaced. “The focus is more on the small fish (dealers), while big sharks (some fund managers and market operators) have been let off the hook,” said a fund manager with a bank-owned mutual fund. “The profits made by the dealer (HDFC AMC) and his associates are paltry compared with what is being made outside the dealing room,” he said.
The three investors, who placed orders in the same set of stocks just before those were traded by dealer Nilesh Kapadia on HDFC AMC’s behalf, made combined profits of about `2 crore in four months, according to the Sebi order on June 17.
Brokers said fund managers, who usually buy or sell shares ahead of their employers, escape the regulatory radar by spreading their trades across various brokers. “Fund managers ensure that there is no pattern in the way any person or broker, who has been assigned to buy shares on their behalf, has done the trade,” said a broker, who is familiar with such trades. “There is no way that the regulator can catch them in the existing regulatory situation,” he said.
