Front Running: Another illegal broker activity


You would think that after two consecutive posts on illegal broker activities we might just have had a compliance presentation at work… and you would be right. :)

QuestionMark.jpg But nonetheless: Front running is another bad behaviour that carries stiff fines from the regulators but there is almost no way of knowing when your broker is doing it.  Fortunately not many brokers can get away with it as this is another activity that is monitored by internal surveillance teams and the broker’s branch manager as well.

It basically involves the broker entering in trade orders for their own account before entering similar orders for his clients.  For example, if a broker owned 5,000 shares of Microsoft and his overall client base owned 50,000 shares and news came in overnight that would lead to a change in share price then whoever acts first will either gain the most (if buying more shares) or lose the least (if selling shares).

A broker’s duty is to call and inform all his or her clients of the ratings change from the analyst (or deliver the news on the company), give the clients the option of buying, selling or doing nothing, and then make all the clients’ transactions before entering the trades in the broker’s own account.

Perhaps a good practice is to get into the habit of asking your advisor about their own portfolios? Both when initially starting your relationship with the advisor – to see what they invest in themselves – and then on an ongoing basis as they make recommendations – if they hold the same securities, are they following their own advice?

Keep in mind that their risk tolerance may be different than yours though – usually advisors tend to be on the moderate-aggressive or higher side of things… :) 

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Preet Banerjee
Preet Banerjee
...is an independent consultant to the financial services industry and a personal finance commentator. You can learn more about Preet at his personal website and you can click here to follow him on Twitter.
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