Emails from two readers raise some interesting points about the alleged front-running of Fannie and Freddie by swap dealers.
And that’s one of the points. Swap dealers. These were principal-to-principal transactions: the dealers were the principals to the trades. Front running traditionally involves violation of an agency relationship. A broker that has a fiduciary relationship with a customer who trades ahead of that customer’s order is front running. The dealers have no fiduciary duty to their counterparties, as far as I know.
Also, F&F were repeat players, and could refuse to trade with dealers they thought were taking advantage of information about their order flows. Back in the block trading days, firms that “bagged the street” by selling blocks when they were in possession of private information had a difficult time of finding counterparties. As a face-to-face market, something similar should have worked in the swap market.
This correspondent also suggests that F&F might have benefitted from this, and may have let dealers know what was coming so the dealers could hedge, meaning if anybody was hurt here, it was the futures traders who were picked off by the dealers placing their hedges. (But then again, given that this would have happened over a long period of time, the futures quotes should have compensated the traders for the risk of being picked off in this way.)
So, there is some doubt that this is even front running, let alone manipulation.
The other correspondent wonders whether the new Dodd-Frank language banning “any act, practice, or course of business that is fraudulent, deceptive or manipulative.” That could be. The same language is in SEC Rule 10b-5, and this has been used to prosecute front running. So it wouldn’t be surprising to see this used to in the Fannie and Freddie case.