Weekend Economists Ride With Sally into the Sunset July 27-29, 2012

[Demeter]

63. JPMorgan Blaming Marks on Traders Baffles Ex-Employees

http://www.bloomberg.com/news/2012-07-16/jpmorgan-blaming-marks-on-traders-baffles-ex-employees.html

JPMorgan Chase & Co. (JPM)’s assertion that traders at its London chief investment office may have intentionally mismarked trades, masking losses that total at least $5.8 billion, makes little sense, according to former executives with direct knowledge of the unit’s operation. The bank restated first-quarter results, paring profit by $459 million, in part because an internal review revealed that U.K. traders had priced their books “aggressively,” Mike Cavanagh, head of Treasury & Securities Services, said in a July 13 meeting with analysts. The mispricing made losses on a portfolio of credit derivatives look smaller than they were, and executives concluded that traders may have sought to hide the “full amount of losses,” JPMorgan said in a presentation.

JPMorgan requires traders to mark their positions daily so the firm can track their profits, losses and risk. An internal control group double-checks the marks against market prices monthly and at the end of each quarter, said three former executives from the CIO and a senior executive in market risk. The firm uses the control group’s prices, not what individual traders submit, to calculate earnings, making it difficult for one trader or trading desk to rig prices, the people said.

“We just have questions about whether the traders were doing what they need to do for accounting, which is put a mark on their positions where they think they can exit,” Cavanagh, who led the internal review, said on a conference call with reporters. “Instead, it felt more like they were pricing their marks a little bit more aggressively, but generally inside the bid-ask spread.” The spread is the difference between what an investor would pay to buy a security and the price at which someone is willing to sell the same asset.

Bruno Iksil, known as the London Whale because his positions became so large, ran the credit derivatives book that generated the losses. He personally apologized in recent weeks to almost everyone in the London unit for causing turbulence within the group, according to one of the former CIO executives who had been told about it by two people in the unit...JPMorgan, led by Chief Executive Officer Jamie Dimon, has seen its market value plunge $36 billion since April 5, when Bloomberg News first reported the London unit’s illiquid bets on credit derivatives were big enough to move markets. The trade, a wrong-way bet on credit derivatives, cost the bank $5.8 billion in the first six months of this year and the tab could climb by $1.7 billion, the bank said...JPMorgan, the largest U.S. lender by assets, shut down all synthetic trading at the chief investment office and transferred the rest of the position to the investment bank. The CIO has retained an $11 billion short position in “basically liquid indexes” to hedge other credit assets, Dimon, 56, said during the meeting with analysts. Positions in Series 9 of the Markit CDX North America Investment Grade Index, a credit-swaps benchmark known as IG9 that’s at the heart of much of the loss, were cut by 70 percent, he said. The investment bank has the expertise to manage it, Dimon said. The bank transferred about $30 billion of risk-weighted assets to the investment bank, an amount that is “down substantially” from an earlier peak and back to levels at the end of 2011, he said.

Federal Investigations

The stock jumped 6 percent on July 13 as investors expressed “relief that it wasn’t worse,” said Gary Townsend, head of Hill-Townsend Capital LLC, said of the trading loss. It was “substantially better than many of the estimates that I was hearing,” he said. Agencies scrutinizing the bank’s handling of the loss include the Securities and Exchange Commission, U.S. Justice Department and Federal Bureau of Investigation...Ohio Attorney General Mike DeWine said July 14 that he is seeking to lead a proposed class-action lawsuit against JPMorgan after state pension funds lost more than $27.5 million due to the “alleged fraud.” Two funds for state employees held about 10.2 million JPMorgan shares as of March 31, data compiled by Bloomberg show.

“Pension-fund managers acting on behalf of Ohio retirees were given false and misleading information by JPMorgan Chase that hid the true nature of the bank’s risky trades, causing Ohio teachers, school employees and public employees to lose tens of millions of hard-earned retirement dollars,” DeWine said in a statement.