Date: May 14, 2012

Is JP Morgan as Dumb as the Rest?

 As you will read below, I don’t think this is the beginning of another leg in the financial crisis, nor do I think we will see more of this from JPM or other banks.  When you trade and invest, you don’t always win and sometimes the losses can be large, especially if people make some pretty stupid decisions en masse. This is Jamie Dimon’s first real black eye since taking the helm at JPM years ago.

My takeaways are that Jamie Dimon will not let this happen again on his watch and this just gives proponents of Dodd-Frank more ammunition for regulation.

NEW YORK – Big bets gone wrong aren’t supposed to happen at best-of-breed banks like JPMorgan Chase, which is headed by Jamie Dimon, one of Wall Street‘s most respected and successful bankers with a reputation for managing risk well. But it did.

  • JPMorgan Chase's headquarters in New York City.By Spencer Platt, Getty ImagesJPMorgan Chase’s headquarters in New York City.

By Spencer Platt, Getty Images

JPMorgan Chase’s headquarters in New York City.

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The CEO, who steered the financial giant safely through the 2008-09 financial crisis, came clean in a conference call with investors after the market closed Thursday and acknowledged that the bank has suffered a $2 billion trading loss, mostly occurring in the past six weeks.

News of the unexpected loss, which will result in an estimated second-quarter loss of about $800 million for that segment of its business, resulted from what Dimon says was a “flawed” and “sloppy” derivatives trade executed by the bank’s chief investment office, whose job it is to manage or hedge the bank’s own risk. The division had been expected to show a profit of $200 million.

“This portfolio,” the bank said in a regulatory filing Thursday, “has proven to be riskier, more volatile and less effective as an economic hedge as the firm previously believed.”

In a conference call with investors, Dimon described the trade as “poorly executed and poorly monitored.”

Shares of JPMorgan (JPM), which closed up 10 cents to $40.74, fell nearly $7 in after-hours trading.

The news packed a not-so-pleasant public relations punch, causing a hit to the firm’s credibility and reputation.

“It is one of the largest, safest and best-managed banks out there,” says Michael Farr, president of money management firm Farr Miller & Washington and a JPMorgan shareholder. “Part of me now says if it can happen there it can happen anywhere. This is the kind of surprise investors don’t like.”

The admission of the huge loss, which was paritally offset by gains from sales of other securities, could put a dent in investor trust in markets and the financial sector.

“It sure does not inspire confidence,” says David Kotok, chief investment officer at Cumberland Advisors. “JPMorgan is the darling of the banks. It has jilted its lover.”

Adds Paul Schatz, president of Heritage Capital: “The story wouldn’t be so bad if it was any other bank but Jamie’s. He set the standard, post-crisis, and now an awful lot of investors are going to question his risk management and if this is the first cockroach.”

The controversial loss comes at a time when the government is trying to rein in risks at banks via more regulation and tighter controls.

Indeed, it shines a brighter spotlight on the so-called Volcker rule, which forbids banks to use their own cash to bet on the market. The rule, which was part of the Dodd-Frank legislation passed in the summer of 2010 but which has yet to go into effect, has been aggressively attacked by banks.

But the trading mishap at JPMorgan will give Volcker rule backers more ammunition in pushing for tougher sanctions on banks’ risk taking, says Farr.

“The Volcker rule will have more support as a result,” he says.

In the conference call, Dimon admitted as much, noting that the bad trading loss “plays right into the hands of a whole bunch of pundits out there.”

The latest trading mishap on Wall Street sends a message that banks are still taking too much risk, says Gary Kaltbaum, president of Kaltbaum Associates.

“It opens back up the fact that these banks are still (using their own cash) for trading and that there are still trillions of dollars in derivatives that no one knows the downside,” he says.

If there is a silver lining, it is that it is not likely the “beginning of a crisis or contagion,” says Schatz. “It’s (just) one event that involved some pretty stupid decisions.”


Paul Schatz, President, Heritage Capital