Explained: Front-Running In Nft Trading

Think of front running as a type of insider trading. When a person uses publicly undisclosed information to his advantage while making a trade, it is called insider trading. Similarly, when a person leverages information ‘about upcoming deals’ to make trading gains, it qualifies as ‘front running.’

Front running has been happening in the stock markets, the decentralized finance (DeFi) space and the Non-Fungible Token (NFT) markets for a while now. Insiders from NFT marketplaces find out about upcoming launches well before they are marketed and showcased on relevant online platforms.

They can use this information to purchase those NFTs much sooner than their listing and at a much lower price. As soon as bidding begins, the price of the NFT skyrockets and the individual can exit the trade at an inflated price.

For instance, in September of 2021, the head of product at the OpenSea NFT marketplace, Nate Chastain, was accused of purchasing NFTs moments before they were posted on OpenSea’s front page. Nate then sold the NFTs for a profit after their ads were featured and hype was created around them.

How is front running beneficial on a decentralized exchange (DEX)?

Blockchains are designed to prioritize and pick transactions involving higher gas (transaction) fees. Users pay this additional gas fee to ensure their transaction is processed before others who have attached a lower gas fee. Incoming orders for owned assets are visible if the DEX is built on a public blockchain like Ethereum’s.

Hence, if a trader has access to list of buy/sell orders for his digital asset(s), he can just up the ante on gas fees, make a slightly higher bid, and compel others to make higher bids. Since the system is like that by design, this is considered to be within the trader’s rights.

Front running bots

The Ethereum smart contract system puts all transactions in the ‘mempool’ first, where they wait for the miner to pick them up for scrutiny. How long they wait depends on the gas fees paid by the transactor. While the unpicked transactions are waiting in the mempool, front running bots can skim over them and gather all data they need regarding the asset under consideration.

Front running bots are nothing but automated traders that place bids with inflated gas fees on underlying assets to drive up the bidding prices. Instead of having to study the market and determine ‘the perfect time to make a trade,’ these bots simply browse through available bid data and execute a one-up on them.

Moreover, these bots are blindingly fast. Cointelegraph reveals that the bots can skim through transaction data, determine the right bid size, and place an optimum bid within milliseconds, a feat that’s impossible for a manual operator.

What is the legal standpoint?

The world of cryptocurrencies is a decentralized space, and its dependence on the internet means that information dissemination is ridiculously easy. Traders on a DEX only use the available information on the publicly accessible blockchain ledger.

Cointelegraph explains that this technically means that the system has not been circumvented but used instead. Therefore, front running in the crypto world has not yet been deemed illegal. However, front running is banned in the traditional stock market trading as publicly unavailable information is used to manipulate the market.

Such a structure promotes front running, contrary to its purpose of ensuring fairness through decentralization.

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