NEW YORK, OCT. 23 -- An Alabama businessman testified today that convicted financier Michael Milken once arranged a valuable stock deal for him that he assumed was partly a reward for having invested his company's money in junk bonds issued by Milken's firm.

The testimony by Richard Grassgreen, who resigned last week as chairman of Enstar Group Inc. after admitting that he had embezzled money from the firm, was the strongest evidence yet heard at a sentencing hearing here that Milken used questionable tactics to promote the sale of risky, high-interest bonds.

But Grassgreen's account seemed to fall far short of proving the prosecution's allegation that Milken's offer of valuable stock warrants in Storer Communications Inc. -- at a time the company was involved in takeover negotiations -- amounted to bribery.

Grassgreen said that he "assumed" that Milken offered the Storer warrants because of his longstanding relationship with Milken's company, not only as an investor in its junk bonds but also as a corporate finance client. Grassgreen also said that the lucrative deal did not cause him to buy junk bonds he might not have otherwise.

Grassgreen's testimony came in the second week of a hearing called by federal judge Kimba Wood before she imposes sentence on Milken on his guilty plea to six securities charges.

Also on the stand today was Milken's former boss, Frederick Joseph, who testified that Milken had violated internal company policies at Drexel Burnham Lambert Inc. in setting up private investment partnerships that benefited some Drexel employees and clients.

Milken revolutionized U.S. finance by finding new uses for junk bonds, such as in financing corporate takeovers, in the process making fortunes for himself and many of his colleagues at Drexel. But federal prosecutors and securities regulators accuse Milken and Drexel of using unethical and even criminal methods to artificially create a market for the risky securities, and prop up prices.

In particular, Milken has been accused of using membership in Drexel's very profitable private partnerships as a kind of payoff to investment fund managers like Grassgreen to induce them to buy and trade in junk bonds.

Joseph, Drexel's former chief executive officer, testified that Milken broke Drexel's rules by using the partnerships to give "favored treatment" to colleagues and customers. Joseph said he did not even learn of the existence of one of the partnerships, set up to take advantage of the Storer deal, until 1988, nearly two years after it was formed.

Under cross examination, however, Joseph admitted that he was unaware of many details of Drexel's operations during the period in question, and that it was not Milken's responsibility to make public the existence of the partnerships.

Grassgreen testified against Milken after reaching an agreement with federal prosecutors in which he pleaded guilty to two felony counts of embezzlement and false disclosure in connection with his personal handling of various dealings with Drexel.

Milken may take the stand in his own defense early next week, just before the hearings are scheduled to come to a close.

Milken faces up to 28 years in prison, after pleading guilty to six securities crimes in April in a landmark plea bargain. He agreed at the time to pay a $200 million fine and $400 million in restitution to victims of his swindles.