Indian stock markets or stock markets all over the world have always been prone to the scam . Scams that have been disclosed are known to all but there are numerous scams that were or are never divulged, and to be honest they can never be stopped or completely eradicated because where there is involvement of money there comes a sense of covetousness or greed in simple phrases  .

Greed is an abyss , the more you eat the hungrier you get ,so the question arises who are they ? How do they scam people ? Isn’t there a regulatory body to restrain these things?? Well this article will squelch your curiosity very soon.

They are the people or corporations with lots of money,also known as operators in terms of the market. They could be a mutual fund , an insurance company ,a big billionaire and maybe someone from inside who knows all the secrets about the stocks.

Here in this article we will be looking at an intriguing story of Ketan Parekh the man behind Scam 2001.

Who is Ketan Parekh?

Ketan Parekh  was born on 18 December 1966 in a Gujarati family. He was raised by his family and educated in commerce which laid his way towards being a C.A and later formed the foundation of his career as a stock broker in Bombay stock exchange .

The Dalal Street of Bombay has always been known to change the fate of people and so did it to Parekh too, the simple boy from a Guajarati family was turned to Pentafour Bull.

Ketan Parekh earned the nickname “Pentafour Bull” due to his significant involvement in manipulating the stock price of a company called Pentafour Software and Exports Ltd, among other stocks.

Allegations:

In the late 1990s and early 2000s, Ketan Parekh became involved in large-scale stock market manipulation. He primarily targeted stocks from the information technology, media, and communication (ICE) sectors, which were collectively referred to as the ‘K-10’ stocks.

Ketan Parekh  considerably studied the” Pump and Dump” scheme employed by Harshad Mehta. Known as the Big Bull, Mehta unlawfully  obtained  finances from banks and  fiscal institutions. He  employed this capital to buy large amounts of specific stocks, causing their prices to soar. Investors believed that any stock  named by the Big Bull would  inescapably increase in value. As a result,  further people would buy these stocks, further inflating the prices. When the stock prices peaked, Mehta and his associates would  sell off their  effects for substantial  gains.   Parekh aimed to exploit this  system to his own benefit, but with some  variations.   He’d a strong conviction in the implicit growth of companies within the Information, Communication, and Entertainment( ICE) sector. During the  fleck- com  smash of 1999 and 2000,  numerous of his stock  prognostications proved to be  relatively accurate, allowing him to inflate the share prices of several  enterprises. Still, Parekh sought to push this strategy further by  prevailing  institutional investors to invest in the stocks he’d manipulated. He believed it would be more manageable to  impact large institutional investors compared to retail investors, who had different interests and perspectives.

Mechanisms of the Scam:

1. Circular Trading: Parekh used a technique known as circular trading, where he would buy and sell shares within a group of companies and associates to artificially inflate stock prices.
2. Funding and Bank Involvement: He secured significant funding from banks, notably the Madhavpura Mercantile Cooperative Bank, which provided substantial loans that were allegedly used to manipulate stock prices.
3. Market Manipulation: By driving up the prices of selected stocks, Parekh created a market frenzy, attracting more investors and driving prices even higher, which allowed him to sell at inflated prices for huge profits.

What is circular trading:

A group conducts a series of buy and sell transactions among themselves. These trades are executed in such a way that it appears there is a significant amount of trading activity, for instance suppose there is a group of four big money players namely “A”,”B”,”C”,”D”.Now to entice even more big players or bigger players to buy a stock  there needs to be lot of volume in it ,volume means more people willing to buy or sell a stock. So to create this volume this group starts to trade the stocks amongst themselves, A sells the stock to B, B to C and C to D this creates the price inflation of the stock price and volume  and this cycle continues perpetually until a big institution enters to buy the stock due to its good performance and at that very moment this group sells all the stocks at a higher price to this big institutional entity rendering  the price to fall rapidly and creating a panic selling in the market. 

Investigation:

Key Phases of the Investigation

Initial Discovery

The scam was highlighted in early 2001 when an abrupt crash in stock prices triggered panic among investors. Banks and institutional investors , which had lent heavily to Parekh, began to experience deep liquidity issues. The Reserve Bank of India (RBI) initiated a probe into the matter.

Role of the Joint Parliamentary Committee (JPC)

To examine the depth and breadth of the scam, the Indian government established a Joint Parliamentary Committee (JPC). The JPC was tasked with examining the stock market manipulations, the involvement of banks and financial institutions, and regulatory lapses that allowed such a scam to happen.

Involvement of Securities and Exchange Board of India (SEBI)

SEBI, the market regulator, conducted an extensive investigation into Parekh’s trading activities. SEBI identified that Parekh had used shell companies to route funds and manipulate stock prices. It also found evidence of circular trading and price rigging.

Bank Involvement

The probe revealed that several banks, including Madhavpura Mercantile Cooperative Bank (MMCB), had extended large sums of money to Parekh without adequate collateral. MMCB, in particular, had a substantial exposure to Parekh’s companies, which contributed to its eventual collapse.

Custodial Interrogations

Parekh was detained in March 2001 by the Central Bureau of Investigation (CBI) and faced multiple interrogations. The investigation revealed that Parekh had significant influence over institutional investors, including mutual funds and foreign institutional investors, whom he persuaded to buy and hold stocks at inflated prices.

Forensic Audits

Forensic audits of Parekh’s financial transactions highlighted the intricate web of deceit. He had used a network of brokers and entities to channel funds into the stock market, creating an illusion of liquidity and driving up prices artificially.

Judicial proceedings:

The judicial proceedings following the 2001 Ketan Parekh scam were extensive, addressing multiple aspects of financial fraud and its impact on the Indian stock market. Here is a detailed account of the legal actions, highlighting the specific sections and laws applied:

Arrest and Initial Charges

Ketan Parekh was arrested by the Central Bureau of Investigation (CBI) in March 2001. The initial charges included:

• Cheating and Dishonest Inducement (Section 420 of the Indian Penal Code, IPC): Parekh was accused of cheating various banks and financial institutions by dishonestly inducing them to part with large sums of money.
• Criminal Conspiracy (Section 120B of the IPC): This section was applied to address the conspiracy between Parekh and his associates to manipulate stock prices and defraud financial institutions.
• Forgery (Section 468 and 471 of the IPC): Charges of forgery for the purpose of cheating and using forged documents as genuine were also included.

SEBI’s Investigative Role

The Securities and Exchange Board of India (SEBI) played a pivotal role in the investigation and enforcement actions:

• Prohibition of Fraudulent and Unfair Trade Practices (Regulation 3 and 4 of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices) Regulations, 2003): SEBI found that Parekh had engaged in manipulative practices to artificially inflate stock prices.
• Trading Ban: SEBI imposed a trading ban on Parekh, barring him from accessing the stock market for 14 years, under various regulatory provisions aimed at preventing market abuse.

Court Proceedings

1. Madhavpura Mercantile Cooperative Bank (MMCB) Case: One of the major cases involved MMCB, which had extended substantial loans to Parekh without adequate collateral:
   • Banking Regulation Act, 1949 (Section 46): Violations of banking norms and regulations were addressed under this act.
   • In 2008, the Bombay High Court sentenced Parekh to one year in prison for his involvement in the MMCB scam.
2. Special Court Trials: Several cases were filed against Parekh in special courts dealing with economic offenses:
   • The Securities Contracts (Regulation) Act, 1956 (SCRA): Violations under this act were scrutinized, particularly in relation to manipulation of stock prices and market practices.
   • The Companies Act, 1956: This act was applied to examine the fraudulent activities conducted through various shell companies.
3. Supreme Court Involvement: Parekh appealed against the lower court verdicts in the Supreme Court of India:
   • In 2011, the Supreme Court upheld SEBI’s order, reaffirming the 14-year ban on trading, underlining the need for stringent actions to maintain market integrity.
4. Penalties and Fines: Besides the prison sentence, Parekh faced significant financial penalties:
   • Section 11 and 11B of the SEBI Act, 1992: SEBI used these sections to impose fines and take necessary actions to protect the interests of investors and the securities market.

Legal Reforms and Impact

The judicial proceedings led to significant legal and regulatory reforms in India:

• Strengthened Regulatory Framework: SEBI introduced stricter regulations to prevent market manipulation, including enhanced disclosure requirements and better surveillance mechanisms.
• Tighter Lending Norms: The Reserve Bank of India (RBI) also tightened lending norms to prevent misuse of funds by market participants

Conclusion:

The Ketan Parekh scam of 2001, often referred to as “Scam 2001,” remains a significant event in the annals of India’s financial history, highlighting the vulnerabilities within the stock market and the critical need for regulatory vigilance. The scam, orchestrated by stockbroker Ketan Parekh, involved the manipulation of stock prices through illegal means such as the “Pump and Dump” scheme and circular trading. This led to massive financial losses for banks, financial institutions, and retail investors, shaking the very foundation of investor confidence in the Indian stock market.

Parekh’s modus operandi was an adaptation of the techniques used by his predecessor, Harshad Mehta. He focused on stocks in the Information, Communication, and Entertainment (ICE) sector, capitalizing on the dot-com boom. His ability to influence major institutional investors further exacerbated the market manipulation, making it more challenging to detect and control. The fallout from Parekh’s actions was swift and severe, leading to his arrest and a series of judicial proceedings that underscored the gravity of his offenses.

The investigation and subsequent judicial actions revealed several critical weaknesses in India’s financial regulatory framework at the time. SEBI, the central regulatory body, played a pivotal role in unearthing the fraudulent activities and imposing necessary penalties, including a 14-year trading ban on Parekh. The judicial proceedings, which involved various sections of the Indian Penal Code and other relevant financial regulations, resulted in significant legal and regulatory reforms aimed at preventing future occurrences of such scams.

The 2001 scam underscored the need for a robust regulatory framework to ensure market integrity and protect investor interests. In its aftermath, SEBI and the Reserve Bank of India (RBI) implemented stricter regulations, enhanced surveillance mechanisms, and tighter lending norms. These measures have contributed to a more resilient financial system.

In conclusion, the Ketan Parekh scam serves as a stark reminder of the potential for financial malfeasance and the ongoing need for vigilant regulatory oversight. It also highlights the importance of transparency, accountability, and ethical conduct in maintaining the trust and stability of financial markets. The lessons learned from this episode continue to inform and shape the policies and practices of financial regulation in India.