Circular trading is a type of securities fraud that can take place in stock markets, causing price manipulation and often related to pump and dump schemes.
[1] Circular trading occurs when identical buy and sell orders are entered at the same time with the same number of shares and the same price.
[3] Trading volume increases are widely regarded as a signal that something important is happening within a company, such as a new product or a change in management that may be soon announced.
Circular trading is fraudulent because the signal that investors receive to buy shares has no basis in reality and is made with the sole purpose of creating interest where none is warranted.
This issue is most prevalent in India,[4] where companies such as Videocon Industries Ltd had their shares devalued fraudulently by the Brokers Mansukh Securities and Finance Ltd. and Intec Shares and Stock Brokers Ltd.[4] Circular trading has become a particularly important issue since the advent of high-frequency trading in the 1990s, which allows large investors and investor groups to perform an extremely high number of automated transactions in a short period of time.
[5] Powerful computers can be used to buy and sell shares in single stocks at immensely more rapid rates than humans can achieve manually.
The first case to receive public attention was that of Ketan Parekh, a stockbroker who was found guilty of a major stock market scam dating back to 1999.
[9] In April 2012, Parekh colluded with his Singapore-based associate Akshay Natra, executing several synchronised trades in the shares of Nifty Bank.
[9] Another case occurred in 2001 when the Securities and Exchange Board of India (SEBI) discovered that Angel Broking had been creating artificial trade volume in the shares of Sun Infoways Ltd for a period of approximately one month between February and March of that year.
Another case that received public attention was the barring of Shankar Sharma in 2009 from the Indian stock exchange for a period of one year.
Sharma was involved in circular trading through his position as Joint managing director of First Global Stock Broking Limited.
[10] This case created a large scandal in India because the use of circular trading caused investors to lose faith in the accuracy of share prices on the Indian stock market, which affects many more companies than just those specifically targeted.
As a result, SEBI has reportedly been considering varying the price bands based on industries and specific companies to avoid these issues.
[11][12] In 2018, Ramin Salahshoor published a paper demonstrating success in detecting circular trading using a network-based approach, based on data from the Iran Mercantile Exchange.
Further research in this area may lead to methods that will allow for the increasingly swift and accurate identification of circular traders in various types of markets.