Front Running: A Flaw or a Feature?
Front running occurs when a market participant exploits early access to information about upcoming trade orders for personal benefit.
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In traditional finance, brokers often engage in front running. By preemptively acting on knowledge about a client's large order, they trade to profit from the expected price shift.
Blockchain technology offers a different perspective on front running. Unlike traditional finance where brokers are key players, in blockchain, front running possibilities are inherent to how the network functions.
Public transaction waiting areas (mempools) exist in all decentralized networks. Validators can manipulate transaction orders within these mempools, potentially prioritizing transactions that benefit them. Although widely viewed as unethical and wrong, it remains unregulated.
The Role of Mempools in Blockchain. Source: cryptor.net
For instance, a miner (validator in Proof-of-Work blockchain) spotting a significant buy order might first execute their transaction, influencing the asset's price before processing the user's transaction. The intent is to capitalize on the asset before the substantial order affects its market value.
Front Running Attack Strategies
Displacement: This method involves an attacker paying a higher fee to ensure their transaction is processed before others. By doing so, they exploit their advanced position in the transaction queue.
Suppression: In this strategy, a front runner floods the mempool with large orders, demoting the priority of a user's transaction. Willing to pay hefty fees, their transactions are preferentially chosen by validators. This can lead to the victim missing out on purchasing the asset or buying it at an inflated price.
Such tactics are often seen in Initial Coin Offerings (ICOs) or markets with artificially inflated demand. The front runner manipulates the appearance of high demand for a token and later sells it off to eager new investors.
Suppression can be used for good, such as thwarting fraudulent transactions. Theoretically, if a user detects an unauthorized transfer, they could introduce higher-priority transactions to block the fraudulent one, giving validators time to spot and reject the illegitimate activity.
Sandwich Attack: Here, the front runner places the user's transaction between two of their own – the first offering a high reward to miners and the second, a lower one.
Validators prioritize the front runner's transaction, allowing them to buy the asset before a large order affects its price. Once the user's transaction is processed, the asset's price rises, enabling the front runner to sell the previously bought asset at a profit.
Example of a Sandwich Attack in Blockchain. Source: securing.pl
Imagine Alex wants to buy 1000 ETH at $2200. The front runner identifies Alex's transaction and, by placing a higher-priority transaction, buys ETH at $2200. When Alex's transaction is completed, it drives the ETH price up to $2250. The front runner then sells their ETH at this higher price, earning a profit of $50 per ETH.
Factors Encouraging Front Running
Front running is driven by the goal of profiting from vital information that influences prices. This includes large orders on an exchange's order book and blockchain transactions.
Key factors that stimulate front running include:
- Large Orders: Significant trades can cause substantial market movements. Front runners focus on these for financial gain.
- Liquidity Pool Volume Changes: Adjustments in liquidity, either added or removed from a pool, can lead to market price shifts of an asset.
- New Token Listings: The introduction of a token on an exchange generates market interest. The rush to buy the asset as quickly as possible is where front runners come into play.
Moreover, any updates in smart contracts, blockchain protocols, or network operations can act as triggers for front running. For instance, shifting to a different consensus algorithm or creating a hard fork might provide opportunities for front running.
Preventing Front Running
To combat front running, measures are required both from the transaction platforms and users. Users can mitigate risk by breaking up large transactions into smaller segments. This reduces the likelihood of being targeted by front runners and the impact on price.
For platforms, several extensive measures are more effective:
- Rollups: Processing multiple transactions as a single unit complicates front runners' ability to anticipate and understand their impact on asset value.
- Zero-Knowledge Proofs (ZKP): This allows proving transaction completion without revealing specific details, crucial in front running scenarios. Both zk-STARKs and zk-SNARKs are applicable for this purpose.
- Random Transaction Order: Randomizing transactions within a block makes it difficult to predict their placement, thereby decreasing the chances of front running. However, this can also affect the rewards for validators.
Additionally, developers can create smart contracts specifically designed to prevent front running, which could impose penalties or nullify such transactions.
Final Words
There is currently no definitive method to completely prevent front running. The suggested approaches are either complex to implement or can compromise network efficiency. It remains to be seen if blockchain enthusiasts will soon develop a viable solution.
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