Finance: What is Front Running?

What is Front Running? Front running happens when brokers know that a block trade (very big trade) is about to be made and they make a trade that will help them profit from the block trade. In other words, they know the big trade will affect the share price so they either buy or sell according to what they know will happen.

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Transcript

00:26

c and bp group knows that you've been a hankering

00:30

for a big position in mega soft which has traded

00:34

down tto only fourteen times earnings well the bank has

00:38

set up meetings for you with senior management it's given

00:41

you reams of its own research on personal computer sales

00:44

declines and all kinds of dope on how mega soft

00:48

is doing so they know you're interested Then comes along

00:52

and ugly day in the overall market and mega soft

00:55

drops from twenty three bucks a shared a twenty two

00:58

along with everything else that's down big for five percent

01:02

You think now it's my time toe act a different

01:06

kind of acting meaning now it's my time to buy

01:08

twenty five million shares and yes that's a lot of

01:11

shares but you do that all the time in your

01:13

mega fund and twenty five million shares at twenty two

01:17

Bucks is now scootch over five hundred million dollars Since

01:20

your fund is twenty five billion in assets and while

01:23

that's only a two percent position for you So how

01:26

is your broker thinking about this Well she could sell

01:32

you those shares all of them and get a two

01:34

cent a share commission for the pleasure If she sold

01:37

you all twenty five million shares well that would be

01:41

half a million bucks in commission for one trade Yeah

01:45

nice work if you can get it But she has

01:47

her eye on the executive suite of nah Graham nad

01:51

lob c n b p group and really wants the

01:54

private bathroom with the waterfall rumored to be on the

01:58

fifty second floor So she thinks if i whisper to

02:02

my trusted trader tt that megha is buying twenty five

02:07

million shares while tt could go in front of mega

02:12

sze buying i front run him buy up everything at

02:16

twenty two dollars and then deal off the top of

02:19

his deck or sell two mega the shares he bought

02:22

it's a you know a twenty cent a share profit

02:24

like he buys it Twenty two even sells them at

02:27

Twenty two twenty on their way to twenty three and

02:30

higher The mega fund manager would even notice that twenty

02:34

cent difference Probably not Not if the bank does that

02:38

quickly and quietly and maybe brings in its foreign partners

02:43

to do so Well if they did this if they

02:45

front ran the mega mutual fund and bought shares ahead

02:49

of it on their own proprietary account well they'd make

02:52

twenty cents a share buying him in the morning and

02:54

selling in the afternoon That's twenty cents times twenty five

02:58

million shares now that's five million in gains tow her

03:02

firm Not just that measly two Sent to share commission

03:05

five hundred grand She'd keep like twenty percent of the

03:08

total here So um is it worth it Is it

03:11

worth it The five million twenty million dollars Well she

03:15

ponders and ponders and then decides it wasn't because front

03:18

running is patently illegal and her firm forbids it at

03:23

least notionally where they can control the behavior So her

03:27

career's over and she goes to jail Yeah moral don't

03:29

do this Hey at least she has a long string

03:32

to chat with tt on the men's side of the

03:34

prison too So you really don't want to do front 00:03:36.935 --> [endTime] running