Wake up call
There we were…just sitting in front of our Bloomberg’s on a lazy Thursday afternoon. The hands on the clock slowly crept past 3:30 Central (closing time for the NYSE) and then something happened. The Bloomberg scrolling news headline screen flickers all day long on one of my four monitors as news stories pop up on the screen and then quickly scroll down off the bottom. It is one long continuous flow of binary that converts the pulse of the markets into headlines that keep us informed about everything that happens in the financial world. If the CEO of a big company has a drink spilled on him at lunch we usually see a headline. Given the sheer volume of news it can get overwhelming…so when there is something really important going on Bloomberg usually posts the story with a big red background.
Yesterday afternoon I was going through a mountain of paperwork and I was almost asleep at my desk when a headline with a red background appeared at the top of the scrolling news screen. It read:
“JP Morgan says CIO unit has significant mark-to-market losses” The acronym “CIO” stands for “Chief Investment Office.”
“Wow” I thought…”that is very interesting”. Shortly after that another red block popped up…
“JP Morgan likely to post $800 million loss in 2Q.”
“That’s a lot of money”. A few more minutes pass and we get:
“Dimon says $2 billion trading loss on synthetic positions.” Now THIS is getting very interesting.
“Huge losses on synthetic positions?” Man, this is just like the old days when hedge funds were melting down and Wall Street firms were going under. There is no way I can focus on paperwork now. At this point I’m furiously working the keyboard trying to find out more about what is going on.
Another red headline hits:
“JP Morgan says portfolio strategy flawed…” Dude…understatement-of-the-year.
Five minutes later:
JP Morgan CEO says “this is not how we want to run the business.”
In less than five minutes time the previous “understatement-of-the-year” has been dethroned by that line. He goes on to state:
“These were egregious mistakes…and self-inflicted”
To his credit Jamie Dimon said he didn’t want to use “market disruption” as an excuse for the losses…nor did he want this to necessarily implicate any other bank as he said “Just because we’re stupid doesn’t mean everybody else was…this puts egg on our face and we deserve any criticism we get.”
Achilles Heel
Bloomberg news stated this morning that JP Morgan’s push into the riskier positions that caused these huge losses was led by an employee named Achilles Macris…the irony alone could kill me.
If you pay attention to the articles being written about JP Morgan’s current problem you’ll pick up on the theme that some of the positions they took were so big that even some former employees thought that unwinding them could disrupt whole markets.
That type of statement should sound eerily familiar to market historians. The first thing that came to my mind was Long Term Capital Management. It too was run by a bunch of very smart folks, and it too amassed positions so large that they skewed not only the market…but the historical data they were using with which to make their trading decisions.
LTCM is joined in the history books by a lot of other very smart people who went down in flames by either under-estimating or miscalculating the riskiness of their positions. Others still were destroyed from within due to poor controls that allowed “rogue traders” to circumvent procedures until they did so much damage that the brought down the house (i.e. Nick Leeson who brought down Barings PLC… Britain’s oldest bank).
Food for thought
This event really makes me wonder. If this could happen in what is arguably the most highly regulated period in our financial history, and before the economy could “recover” from the Great Recession, could we have another round of huge financial firms blowing up that drags us back into another recession? And with the overnight rate at 0.25% and a hugely swollen balance sheet…is the Fed in a position where they could handle a second wave of failures? Those questions and many more are simply food for thought. They are the types of things that keep my mind busy when I’m out fishing. But they are worth consideration. The more you ponder those points the better you’ll come to understand the markets and you’ll have a better idea of what could happen as these types of events unfold.
I don’t see this as a regulatory failure...regulations can only do so much (although that fact seems to be lost on those in charge of instituting new regulations). Regulators will never be in a position to know everything an institution is doing. Ultimately you need solid management, proper risk management, and controls in place that keep good and well intentioned ideas from spiraling downward into stupidity and losses.
What surprises me the most is that in this “Post-Great-Recession-and-Financial-Meltdown” era, procedures and risk management are so slack at some institutions that it’s possible to have losses this big...especially considering the number of huge bankruptcies in our very recent history that were caused by similar types of errors. Below is a list of recent hits that should jog your memory…and apparently the hits will keep on comin’:
- Bear Stearns
- AIG
- Lehman Brothers
- MF Global
- CIT Group
- WaMu
- Amaranth Capital rogue trader incident
- Societe General rogue trader incident
- Credit Suisse rogue trader incident
What does the market think?
There is information in pricing…and the price of JP Morgan is down about 5% at the moment. Credit default swaps on their debt are up almost imperceptibly…these metrics don’t indicate that the Market sees this as a death knell for the firm.
The bigger picture is that the domestic stock indices are largely unchanged this morning and the Treasury market is relatively flat out to the 10-year spot on the curve. The JP Morgan story doesn’t appear to be having a widespread effect on the markets. For now it seems that the primary impact of this story will be as a risk management reminder for everyone.
If you have any questions or comments, or if there is anything I can be doing for you just let me know.
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