One of the greatest scams in Indian stock market occurred in 1992, valued at Rs 5000 crore, (USD $ 740 million), was by a man known as ‘The Big Bull’, Harshad Mehta. The scam exposed the loopholes in the Indian banking system and the Bombay Stock Exchange transaction system.
Harshad Mehta used those loopholes by using Ready Forward and Fake Bank Receipts to his advantage for getting money from banks which he pumped into the stock market.
What are Ready Forward Deal and Fake Bank Receipts?
In the early 1990s, the banks were required to have a minimum of 38.5% of government fixed interest bonds, called the Statutory Liquidity Ratio (SLR). And the banks also had to maintain profitability. Banks were, however, barred from participating in the stock market.
Banks used ‘Ready Forward Deal’ (RFD) to lend and borrow government securities. Deliveries of securities and payments were made through the broker such as Harshad Mehta.
Harshad Mehta asked for time to give the securities and also asked banks to transfer the money into his personal account. He promised the banks higher rates of interest.
In a normal RF deal, there would be only 2 banks involved. Securities would be taken from a bank in exchange for cash. What Mehta did here was that when a bank would request its securities or cash he would rope in a third bank. And eventually a fourth bank so on and so forth. Instead of having just two banks involved, there were now multiple banks all connected by a cobweb of RF deals.
In the ‘Ready Forward’ deal, securities were not moved back and forth in actuality. Instead, the borrower, i.e. the seller of securities, gave the buyer of the securities a Bank Receipt (BR) which confirmed the sale of securities. A BR promised to deliver the securities to the buyer and also states that, in the meantime, the seller holds the securities in trust of the buyer.
Harshad Mehta got fake BRs i.e BRs not backed by any government securities using the Bank of Karad (BOK) and the Metropolitan Co-operative Bank (MCB), two small and not very well-known banks. Once these fake BRs were issued, they were passed on to other banks and the banks, in turn, gave money to Mehta, assuming that they were lending against government securities.
So how did Harshad Mehta drive the Stock Market?
Harshad Mehta became the pied piper of the stock market, he created artificial scarcity in stocks by mopping up their marketable liquidity, thus increasing the prices to unjustified levels. He lured the gullible investors into believing his self-propagated theories of Asset Replacement Value & Water & Gold.
He invested in different companies such as Associated Cement Company (ACC), Apollo Tyres, Reliance, Hero Honda, Tata Iron and Steel Co (TISCO), BPL, Sterlite, and Videocon. This resulted in a stupendous rise in Sensex. In the period between April 1991 and April 1992, the Sensex returned 274 per cent, moving from 1,194 points to 4,467. That is the highest annual return for the index. Stocks like ACC, Sterlite Industries and Videocon surged. ACC surged from about Rs 200 per share to about Rs 9000.
How was Harshad Mehta caught?
On 23 April 1992, journalist Sucheta Dalal exposed Mehta’s illegal methods in a column in The Times of India about how Mehta was illegally dipping into the banking system to finance his buying. She got interested after she saw him drive up at the State Bank of India offices in a brand-new Toyota Lexus, which had just been released internationally and costed more than Rs 40 lakh at the time.
It has been alleged that the Bear Cartel ganged up on Mehta and blew the whistle on him to get rid of him and the bullish run altogether.
What happened after the scam was exposed?
Harshad Mehta was arrested by the Central Bureau of Investigation (CBI) in November 1992. The scam’s exposure led to the suicide of the Chairman of Vijaya Bank, who issued cheques to Mehta.
Harshad Mehta was convicted by the Bombay High Court and the Supreme Court of India for his part in this financial scandal valued at Rs 5000 crore.
On 31 December 2001, at the age of 47, Harsha Mehta passed away in Tihar jail after a heart attack.
P.S.: Abhishek Bachchan starter, Movie The Big Bull, The man who sold dreams to India, is inspired by the Harshad Mehta securities scam.