Moral hazard: Brokerage business

This is an amazing first hand story in the brokerage business. Once upon a time not long ago I happened to be associated with a stock broker who was the 3rd generation stock market broker. He was the Chairman of a brokerage company which we had floated to become a member of the National Stock exchange.

R bhai is his name and was a typical old school broker – the word mattered – it did not matter whether it was written down or not. Very, very conservative his bank balance would be a banker’s delight. Never would he borrow, but he used to do a lot of lending in ‘badla’ which meant his interest income was very high. Taking a client on meant 2 directors had to check the credentials of the customer. From 1993 to 2000 we had NO BAD debts, and all our BAD DELIVERY problems would get sorted out in 15 days – and we had an exemplary track record with NSE.

However, we got the electrical work done by an electrician who also sold some shares through our company. Those shares came back as ‘fake’ and we had a huge ‘reputation’ crisis – remember this was a 100 year old firm! The electrician could not pay the money and ‘R’ bhai paid from his pocket (how can I tell the other shareholders that the people whom I recruited did not know the difference between a good share and a bad one? was his argument). So technically the company did not suffer any loss – he was only a 20% shareholder but took 100% of the loss. He felt it was ‘reputation premium’. The company had to pay the electrician Rs. 140,000 – which got adjusted so the loss was reduced to Rs. 160,000. This electrician was a young boy so ‘R’ bhai warned him and let him go.

About 6 months later the electrician’s father came with a bundle of Rs. 160,000 – offering to pay for his son’s loss. R bhai heard him out – the money came from selling the old man’s house – as he was now going back to his village, and he could afford to pay. R bhai smiled at him and said “I was greedy for brokerage, your son was greedy to make a quick buck. So both of us took risks. We need to pay the ‘risk premium’. You cannot suffer, take your money and go with a clean conscience. You OWE ME NOTHING. And ah yes…if your son at some stage in life can afford to pay me, I will take it from him.

Ethics and good behaviour is ‘caught’ not ‘taught’. R bhai is not even a graduate. On that day in R bhai’s cabin I graduated about 10 years after Bombay University had given me a Bcom degree.

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3 Responses to “Moral hazard: Brokerage business”

  1. What a story! Compare ‘R’ bhai to today’s suited booted types who regularly burn ‘corporate’ money in travel, research reports, review meetings….but will not go and meet a client! Or Goldman Sachs who will want a bail out from the government at terms very different from what they gave Warren Buffet. It is surprising that WB is quite on the remuneration front – he is normally quite vocal about it! WB had exited G Sachs long long ago after a bail out he had done…this time let us see what he does.

  2. Ravinder Makhaik on August 18th, 2009 at 12:27 pm

    Lesson’s learn’t along the path of life certainly prove more lasting than the one’s taught in classrooms.

    I learn’t more history reading biographies than those text books which classifed it into ages and empires.

    Ethics too is something that does not emerge out of text books but from principals that people you encounter in life follow.

    And there is always a choice – what principal appeals, which one would like to adopt.

  3. Great story !!! hard to see people like him today…


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