2024-06-29
"Is Your Investment Safe? The Front-Running Probe Explained"
Quant Mutual Fund front-running case
The Stock Markets have got a jolt when the Quant Mutual Fund
front-running case came into spotlight. According to sources and the SEBI order
copy, In fact, regulator Sebi recently carried out a search-and-seizure exercise
at offices of Sandeep Tandon’s Quant Mutual Fund over suspicion that it was
being used for front-running activities. At a time when SEBI is expanding its
investigation in mutual fund practices, here's another example of mistaken
identity that has erroneously branded yet another fund house as 'suspect'.
Investors of Quant Mutual Fund are worried about their investment
after SEBI started a probe over suspected front-running activities to the
extent of Rs 93,000 crore. The SEBI had reportedly conducted the raids at
Quant's Mumbai headquarters and in Hyderabad, where many of its suspected
beneficiaries were located as phones, computers and other digital devices
recovered from there would reveal who was leaking confidential information out
of this asset management company for ill-gotten gains. An ET report explains
that the suspicion is two-fold: a dealer from an entity of Quant or a broking
firm through which orders are placed by the AMC.
Quantitative funds are gaining traction in India, exemplified by the
emergence of AMCs like ABSL Quant Fund and the upcoming SBI Quant Fund,
alongside established players such as Motilal Oswal Quant Fund. These funds
employ rule-based, data-driven strategies to construct portfolios, offering a
departure from human-driven approaches prone to biases. By relying on defined
rules and statistical analysis, quant funds aim to minimize decision-making
noise and enhance portfolio efficiency. However, their intricate,
model-dependent operations and frequent trading based on diverse market signals
distinguish them from traditional index and factor-based funds.
The operational intricacies of quant funds, such as the Quant
Quantamental Fund, blend fundamental, quantitative, predictive, and cognitive
insights to optimize portfolio construction. Yet, these models are often
shrouded in secrecy, with AMCs guarding proprietary frameworks. This lack of
transparency has led to quant strategies being labeled as 'black box', leaving
investors with limited understanding of their inner workings. Critics like
Roopali Prabhu of Sanctum Wealth remain cautious due to these uncertainties,
highlighting challenges in assessing the factors driving portfolio performance
over time.
The primary measure of quant funds' success remains their
performance, yet assessing this can be challenging given their relatively short
track records in India, typically spanning 3-4 years. Despite notable
fluctuations, many quant funds have struggled to consistently outperform the
market, though Quant AMC stands out with strong results driven by robust data
analytics. Despite the risks associated with their high complexity and limited
performance history, experts like Santosh Joseph advocate for recognizing quant
funds' potential in leveraging data for substantial gains. Vidya Bala
emphasizes their appeal due to consistent performance, suggesting they warrant
consideration within diversified investment strategies.
What
is front-running?
Front-running occurs when an
individual, usually an insider or broker, trades in advance using privileged
information. This illegal practice involves a broker or other entity executing
orders on a security for their own account, taking advantage of advance
knowledge of pending customer orders. By doing so, they can benefit from the
price movements that are likely to occur once the larger orders are executed,
often at the expense of the clients. For example, if a broker learns that a
significant client is about to purchase a large number of shares in a company
and then buys shares for themselves beforehand, this constitutes front-running.
Such exploitation of confidential information for personal gain compromises
market integrity and can negatively impact investors. The practice is both
unethical and illegal, and it is prohibited under SEBI regulations.
What
occurred at Quant Mutual Fund?
Recently, Sebi's surveillance system
flagged potential front-running activities involving entities suspected of
having prior knowledge of Quant Mutual Fund's trade orders. There are
allegations that executives at Quant may have shared confidential details about
trade sizes and timings with certain beneficiaries, prompting an investigation
by Sebi. In response, Quant Mutual Fund has pledged full cooperation with Sebi,
committing to provide necessary data regularly. They also clarified that they
are distinct from another entity named Quant Mutual Fund, which is embroiled in
the investigation and faces legal action over name confusion.
Quantum Mutual Fund, not involved in the investigation, emphasized
their separate identity through social media and legal channels. They have
filed a suit in the Mumbai High Court to restrict the other entity from using a
confusingly similar trade name. Despite the legal dispute, Quantum assured
investors, distributors, and brokers about the distinction between the two
funds, stressing that the confusion arose due to the later establishment of the
similarly named entity, Quant Mutual Fund.
Meanwhile, Sebi has been questioning individuals associated with
Quant Mutual Fund regarding the alleged front-running, estimated to have
yielded profits of approximately ?20 crore. Sandeep Tandon, CEO of Quant Mutual
Fund, sought to calm investor concerns, describing the allegations as
exaggerated and advising against hasty redemption of investments. In a public
statement, Quant Mutual Fund reaffirmed its regulatory compliance and readiness
to assist Sebi throughout its review process, aiming to address any
uncertainties among investors and stakeholders.
What implications does this have for investors in Quant Mutual Fund?
The fund house faces potential redemption pressures amid negative news
flow, likely leading to NAV declines. Smallcap stocks, where Quant MF holds
significant positions, may experience selling pressure. Kirtan Shah from
Credence Family Office predicts possible underperformance in mid and smallcap
stocks due to these factors, particularly if Sebi confirms front-running allegations,
triggering further redemptions. Despite near-term challenges, Shah notes the
fund's robust stock selection process, highlighting substantial holdings in RIL
for liquidity support. Prime Investor advises caution, recommending exits from
all equity and hybrid funds of the AMC, citing potential sentiment damage and
redemption impacts. They specifically caution against Quant funds, noting their
reliance on momentum stocks, which could amplify the effects of sudden
redemptions and inflow disruptions.
Could your investment be at
risk?
Analysts warn that front-running allegations can damage investor trust
in the fund house, potentially triggering redemptions that affect the fund's
NAV. The uncertainty from ongoing investigations may also deter new investments
and prompt existing investors to redeem until clarity is achieved. However,
experts like Amit Goel from Pace 360 reassure that investor money in mutual
funds is generally held securely, even in the event of regulatory actions
against the fund house, as SEBI prioritizes safeguarding investor interests.
In conclusion, the recent front-running allegations against Quant Mutual Fund have underscored the risks associated with 'black box' quant funds, where complex trading strategies and potential lack of transparency can raise concerns about market integrity. While Quant Mutual Fund has pledged cooperation with SEBI and denied involvement in illegal activities, the episode highlights the importance of investor vigilance and due diligence in navigating such investments. The outcome of SEBI's investigation will be crucial in determining the impact on investor confidence and the future viability of quant funds in India's financial landscape. Investors are advised to stay informed and consider the implications of ongoing regulatory scrutiny on their investment decisions.