No close encounters of the Dimon kind today, but we get our first sworn testimony on all matters #FailWhale, when Mary Schapiro and Gary Gensler open their mouths at 10:00 am, and confirm what everyone knows - that the TBTF's prop trading desks are alive amd well, that the Volcker Rule was one big misdirection, and most importantly, that nobody has any idea what multi-billion trades the big banks engage in until it is far too late, and even then they refuse to give their investors a snapshot of how big the real losses are.
Until this point virtually every pundit and financial journalist and blogger has opined on JPM, its prop trading operation (as first exposed by Zero Hedge), and its massive loss which due to its pair trade nature has potentially unlimited upside, but likely will top out at $5 billion (as also first explained by Zero Hedge over a week ago and subsequently by the WSJ). The one person who has kept silent so far was the man whose entire philosophy predicted just this epic flare out, by revolving around the assumption that humans operate under the illusion that they understand rare events: they don't (for more details read his books The Black Swan and Fooled by Randomness which by now have been read by all traders in the world, but apparently not those formerly in charge of JPM's CIO unit). Courtesy of this BBC Newsnight interview, he breaks his silence and shares his opinion, which as one may expect are far from laudatory: "JPM has 10-15 times the risk of a regular hedge fund... They should not be using my to play in something that is way too dangerous and too complicated for them... What I want [for JPM] is the following - skin in the game. People when they make money should get the upside, should get the upside; and people should be harmed when they have the downside. Hedge funds have that."... Finally Taleb loses it by comparing Wall Street to the mafia: "I am not an idealist. I am someone who doesn't want to be paying the $14 million dollars for this lady Ina Drew, which is more than John Gotti the mafioso got." Well, neither does anyone else. But, sadly, even Nassim now realizes that it is the financial mafia who owns this country and calls all the shots.
Update: JPMORGAN SAYS DIMON TO AGREE TO TESTIFY TO SENATE. Ummmm, there was an option?
As everyone (or at least Zero Hedge) long expected, JPM's prop trading debacle just got political and senators are about to demonstrate to the world just how little they understand about modern IG9-tranche pair trades. Expect to hear much more about JPM's "shitty" prop deal.
Today, for the first time since the advent of the JPM prop trading fiasco last Thursday, the IG9-10 Year skew has diverged, dipping from -3 bps to -5 bps as the index remained flattish while the intrinsics widened by about 2 bps. While hardly earthshattering, this move likely means that either JPM's CIO trading desk is playing possum and is no longer unwinding its original pair trade exposure (either because it no longer has anything to unwind, or because it can't take the pain any more and is out of the market entirely), or the hedge fund consortium has had enough of pushing IG 9 wider in hopes that max pain would force JPM to cover its synthetic leg. As a reminder, this is where last Thursday we said the time to push JPM would likely end. As for the question of how much additional P&L loss JPM has sustained from Friday through today is a different matter entirely, and we are confident the next announcement from JPM will come momentarily, coupled with the announcement that Bruno Iksil, the last remnant of the CIO desk, and now having completed his duty of unwinding the trade that brought so much pain for Jamie Dimon, has been retired.
We wish to welcome former LTCM trader, and current TBAC chairman, Matt Zames to his new post as head of the world's biggest, government backstopped prop trading desk, with a hearty and sincere "good luck." Because an ex-LTCMer in charge of ~$70 trillion in derivatives? Why, what can possibly go wrong...
As first pointed out here last week, IG9 10Y credit risk has pushed nothing but wider since the JPM news broke. Between the size, common-knowledge, and technical richness of the position, liquidity is providing its helping hand as the legacy credit index is now 25bps worse than last week's lows (and 17bps worse than when JPM announced) - while the on-the-run IG18 is only 10bps wider over this period. Extrapolating the $200mm DV01 we assumed from the initial announced loss and spread movement, this is potentially an additional $3.4bn loss for JPM already (who we can only assume have been trying to unwind). Until the skew (the spread between the index and its components) narrows further - which it is today (though momentum will take over at some point in the index itself) - it is likely that the runaway train will keep going and going, until JPM issues a formal announcement that the firm is fully out of the trade, together with a final tally of its losses, which will probably be double the reported loss as of Thursday. Here is the good news: we are 100.4% certain JPM was the ONLY prop trading bank to be massively, massively short IG9-18 into this epic blow out. Because if other had suffered billion dollar losses, they would all pull a Jamie Dimon and fess up. Right?
Today's Meet The Press PR damage control campaign orchestrated on behalf of Jamie Dimon by the fawning press was just another attempt at redirection, in which a faux contrite Jamie Dimon promises that as a result of being '100% wrong' about his prior "Tempest in a Teapot" description of the Bruno Iksil debacle, he has learned his lesson, and in tried and true American fashion deserves a second chance. The rest was filler. What was not said is that the entire business model of the modern US banking edifice, where due to the Net Interest Margin limitations imposed by ZIRP, is one of prop trading as being a glorified hedge fund is the only way the banks can generate a rate of return above their cost of capital. What was also not said was the glaring lies by Blythe Masters from a month ago who swore up and down to CNBC that JPM does not engage in prop trading. What was also not said is that contrary to "conventional wisdom" where a few prop traders have been sacked (most likely due to not taking enough risk) prop trading is alive and well across Wall Street, even if it has been largely rebranded as 'flow trading' - just as the high freaks are scrambling to come up with a new name for HFT because that will make all the difference. What was also not said, nor discussed, is why anyone would trust or invest in these money center banks when their balance sheets are so opaque, even their CEOs flip flop within a month of what is really happening, with accounting standards so poor, that nobody can figure out what they are investing in, and why Mark-to-Market is still halted (Aren't banks finally quote unquote healthy?). Finally, the most important thing not said, was Glass-Steagall, the one law whose overturning allowed the commingling of deposits and hedge fund activity courtesy of Gramm-Leach-Bliley, hilarious called the Financial Services Modernization Act of 1999. If America is to have even a remote hope of returning to normalcy, Glass-Steagall has to be reinstated. Which is why nobody brought it up on MTP: neither the anchor who is accountable to an organization which needs the status quo for advertising revenues, nor the hungry for TV exposure senator, nor the DCF-expert access journalist. Nobody.
- How do you define market risk?
- Do you take fixed price positions?
- Are you exclusively a hedger or do you “optimize” your assets?
- Do you have a risk policy?
- How do you monitor trading/hedging limits?.
Update: now S&P is also one month behind Egan Jones: JPMorgan Chase & Co. Outlook to Negative From Stable by S&P. Only NRSRO in pristinely good standing is Moodys, and then the $2.1 billion margin call will be complete.
So it begins, even as it explains why the Dimon announcement was on Thursday - why to give the rating agencies the benefit of the Friday 5 o'clock bomb of course:
- JPMorgan Cut by Fitch to A+/F1; L-T IDR on Watch Negative
What was the one notch collateral call again? And when is the Morgan Stanley 3 notch cut coming? Ah yes:
So... another $2.1 billion just got Corzined? Little by little, these are adding up.
JP Morgan may suddenly be finding itself in deep doodoo, with wide-ranging implications for what this huge prop trading loss means for other less than "fortress balance sheet" banks, all of whose trading blotters are surely riddled with comparable attempts at picking pennies in front of steamrollers, but at least "Europe is fine" and its banks are "solvent". So as a reminder, here is what Europe can look forward to next week: in a word - one of the heaviest bond issuance weeks so far in 2012. And no, these are not slam dunk Bills maturing inside the LTRO. Good luck Europe.
We have presented our opinion on the JPM prop trading desk repeatedly, in fact starting about a month ago. Last night, Senator Carl "Shitty Deal" Levin also decided to join the fray, which is to be expected: the man needs air time. And now, in a surprising twist, competing banks, all of whom have more than enough skeletons in their own prop desk trading closet, are starting to speak up against the bank that should not be named. Enter Deutsche Bank's Jim Reid and his take on the Fail Whale.
Having listened to the conference call (I was roaring with laughter), Jamie Dimon sounded very defensive especially about one detail: that the CIO’s activities were solely in risk management, and that its bets were designed to hedge risk. Now, we all know very well that banks have been capable of turning “risk management” into a hugely risky business — that was the whole problem with the mid-00s securitisation bubble, which made a sport out of packaging up bad debt and spreading it around balance sheets via shadow banking intermediation, thus turning a small localised risk (of mortgage default) into a huge systemic risk (of a default cascade). But wait a minute? If you’re hedging risk then the bets you make will be cancelled against your existing balance sheet. In other words, if your hedges turn out to be worthless then your initial portfolio should have gained, and if your initial portfolio falls, then your hedges will activate, limiting your losses. That is how hedging risk works. If the loss on your hedges is not being cancelled-out by gains in your initial portfolio then by definition you are not hedging risk. You are speculating.
A month ago we warned that JPM's CIO office is nothing short of the world's largest prop trading desk. Not only were we right, but what just transpired is just shy of our worst possible prediction. At the end of the day, the real question is why did JPM put in so much money at risk in a prop trade because we can dispense with the bullshit that his was a hedge, right? Simple: because it knew with 100% certainty that if things turn out very, very badly, that the taxpayer, via the Fed, would come to its rescue. Luckily, things turned out only 80% bad. Although it is not over yet: if credit spreads soar, assuming at $200 million DV01, and a 100 bps move, JPM could suffer a $20 billion loss when all is said and done. But hey: at least "net" is not "gross" and we know, just know, that the SEC will get involved and make sure something like this never happens again.
The iconoclastic rating agency, and fully recognized NRSRO to the dismay of some tabloids, which just refuses to play by the status quo rules, and which downgraded the US for the second time last Friday, to be followed soon by other rating agencies as soon as US debt crosses the $16.4 trillion threshold in a few short months, has just done the even more unthinkable and downgraded Fed boss JPMorgan from AA- to A+.
"What Bernanke is to the Treasury market, Iksil is to the derivatives market"