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Unlawful practices of stock market

Ever wondered if you knew about Reliance acquisition and investment before it came public. That information in March would have made you a fortune by now. Read out to find more about such unfair practices.

Unlawful practices of stock market basically refer to the use of various deceptive, fraudulent, or unethical methods in the market to influence the prices of the stocks or any activity which may cause losses to one or more investors (others) or may result in unusual profit for the person involved in the activity.

In India under CPA 2019, a consumer may file a complaint in the event there has been a disclosure of his / her personal information to any third parties unless such disclosure is made under the provisions of any law for the time being in force. In the United States, unfair trade practices are addressed in Section 5(a) of the Federal Trade Commission Act, which prohibits “unfair or deceptive acts or practices in or affecting commerce.” It applies to all individuals engaged in commerce, including banks, and sets the legal standard for unfair trade practices.

Insider trading refers to the practice of purchasing or selling a publicly-traded company's securities having material information that can substantially impact the investment decisions of an investor, and the information is not legally out in the public domain.

For example, a person in government knows about the economic report of the government before it is released for the public. Every jurisdiction has there different definitions of "insider” for example few may consider the people related to company officials as insiders, or few may consider people within the company with direct access to the information as an “insider.”

The CEO of a company divulges important information about the acquisition of his company to a friend who owns a substantial shareholding in the company. The friend acts upon the information and sells all his shares before the information is made public. One more example can be that the wheat exporting firms are likely to benefit from some new government measures and you buy the shares before this information is public.

For a realistic example let's take the case of reliance industries, The Securities and Exchange Board of India banned RIL from the derivatives sector for a year and levied a fine on the company. The exchange regulator charged the company with the intention of making profits by skirting regulations on its legally permissible trading limits and lowering the price of its stock in the cash market.

Front-running is trading stock or any other financial asset by a broker who has inside knowledge of a future transaction that is about to affect its price substantially. A broker may also front-run based on insider knowledge that his or her firm is about to issue a buy or sell recommendation to clients that will almost certainly affect the price of an asset.This exploitation of information that is not yet public is illegal and unethical in almost all cases.For example, a broker got an order from a major client to buy 600000 shares of a company, so here the broker keeps this aside and buys share for his personal portfolio because 600000 shares will affect the price at least for the short run. Then the client's order is put through. The broker immediately sells the company’s shares and pockets a profit. The delay in execution may even have cost the client money.

Front-running is similar to insider trading, with the minor difference in this case is that the broker works for the client's brokerage rather than inside of the client's business.

Another form of front running is acting upon recommendations that have not been published yet.The analysts constantly issue "buy," "sell," or "hold" recommendations for specific stocks. These go directly to clients first and then are picked up by the financial media and reported widely. A broker who acts upon that recommendation for personal gain before it reaches the company's clients is front-running.

Index front running in index funds is not illegal because it is done based on who is attentive and is paying attention and this is considered as a trading strategy. FOR EXAMPLE, S&P 500 announces that a certain company will be added to the index the next day. The next day, high-frequency traders may quickly purchase the company’s shares before the index funds can buy the company’s stock. The index funds will push the stock price up because of the large volume of their orders. Therefore, the high-frequency traders profit from the front running the index funds.

Few of the most noticeable scam include the Harshad Mehta scam,Ketan Parekh scam,Satyam scam.The majority of the securities market scams that took place in India eventually led to a lot of financial distress to the retail investors. They adversely affected the normal functioning of the markets and degraded the trusts of lakhs of investors on the Indian share market.

How do you think it affects the retail investors?

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