Pre-Hedging Ahead of a Client Order

The instruction creates several serious issues:

• Front-running / misuse of confidential information: the fund manager has disclosed an intention to trade. That information is confidential and not yet a firm order. Buying €100m ahead of the client order, using that information, is trading ahead of a client and is a classic conflict of interest.
• Client priority: the desk would be positioning itself to profit from the client’s expected market impact, potentially at the client’s expense. The client expects confidentiality, not pre-positioning by the bank.
• Policy breach: the bank’s policy permits pre-hedging only after a firm order is received and in line with a written pre-hedge policy. Neither condition is met.
• Market abuse risk: trading on non-public information about an impending large order can create a misleading impression of demand and may breach market-conduct rules.
• Remuneration conflict: the senior trader is incentivised by desk P&L, which increases the risk that client interests are subordinated.

The existing €50m short does not justify using the client’s information. The desk can manage its own risk through normal market hedging, but not by trading ahead of the client’s confidential order.

Once a firm order is received, the desk may act within the bank’s written pre-hedge policy. That does not automatically authorise buying €100m immediately.

• Prompt execution: the order should be handled promptly and in line with best execution. The desk should consider the size, liquidity, timing and the client’s instructions.
• Permitted pre-hedging: if the policy allows, the desk may hedge the risk arising from the order, but the hedge should be proportionate to the expected risk, documented, and disclosed where required. It must not be a proprietary position based on the client’s information.
• Best execution: buying €100m before executing a €200m client order could move the market against the client. The desk should consider execution algorithms, staged execution, or hedging after execution, depending on the mandate and disclosures.
• Record-keeping: record the order receipt time, instructions, execution strategy and any pre-hedge, with rationale.

The key distinction is that pre-hedging is risk management of a received order, not anticipatory trading before the order exists.

Immediate actions

1. Do not execute the €100m buy. There is no firm order and the instruction relies on confidential client information.
2. Escalate immediately to compliance and your line manager, and inform the senior trader that the instruction is not permitted under policy.
3. Keep the fund manager’s information confidential; do not tip off other desks or clients.
4. If the client later sends a firm order, handle it under the pre-hedge and best-execution policy, with any required disclosure.

Records to keep

• Time and content of the fund manager’s call, including that it was an intention, not a firm order.
• The senior trader’s instruction and your refusal.
• The escalation to compliance, including time and response.
• Any subsequent order details, execution strategy, pre-hedge decisions and disclosures.

Follow-up Ask compliance to review whether the senior trader’s instruction should be treated as a conduct breach. The desk’s €50m short should be managed independently of the client information, for example through normal market hedging within risk limits.