Is JPM Staring At Another $3 Billion Loss?

Tyler Durden's picture

"[The trading loss] plays right into the hands of a whole bunch of pundits...."


                                                         - Jamie Dimon

There are a lot of moving parts in the Dismal tale of Dimon's demise. The starting point is that Bruno Iksil in the JPMorgan CIO Office, under the premise of hedging the bank's credit portfolio's tail risk had placed various tranche trades (levered credit positions with various risk profiles) in the only liquid tranche market that still exists - CDX Series 9 (an 'orrible portfolio of credits with an initial maturity at the end of 2012). These positions were low cost  (steepeners or equity-mezz) but needed a certain amount of day to day care and maintenance (adjusting hedges and so on). As the market rallied, the positions required increasing amounts of protection be sold to maintain hedges (akin to buying into a rally more and more as it rises). His large size in the market left a mark however that hedge funds tried to fix - that was his index trading was making the index extremely rich (expensive) relative to intrinsics (fair-value).

This is the 10Y IG9 credit index (dark blue) and its fair-value (light blue) and the difference or skew (orange). What is clear is that the index remained massively rich to its fair-value through this period (red oval) and it was not until the last two months or so that the skew (red arrow) began to compress as perhaps Iksil got the nod and more and more people realized the arb...(or understood from where the technical pressure was coming in the index rallying)...

Hedge funds began to try to arb this position and got frustrated at the lack of convergence -  and this is how we initially got to hear about Bruno Iksil - the London Whale - since those funds suggested someone was 'cornering' the index market in credit.

Critically - this is akin to looking at the 500 names in the S&P 500 - weighting them and seeing the S&P 500 index should trade at 1200 but it is trading at 1400 so you sell the index 'knowing' that the index is mispriced - (this never occurs in stocks since they are instantly and everywhere arbed between the index and its components - but can occur in credit because of illiquidity or in this case flow - what we call 'technicals').

This was very evident when one looks at the net notional being soaked up by the Whale and this 'hedge' position had clearly grown extremely large as it became a momentum trade not a hedge (at which time we suspect Iksil started to lose control). In early April, as news of this broke across the market, the credit and equity markets were beginning to quiver again at European contagion and US macro data and as a proxy for the volatility JPM must have been feeling we can see very significant (2-3 sigma) swings in the credit index they held. This would more than likely have triggered a risk manager to come along and look over the trader's shoulder - suggesting humbly that he exit/hedge/don't panic.

This is IG9 10Y spreads (upper pane) and their rate of change (lower pane) - (h/t @swaptions for idea) and as is clear the 3-sigma multiple day move likely scared a few risk managers (and Iksil) into fessing up...

Evidence from the HY market suggests that the trader used more liquid on-the-run indices to hedge as the spread of the HY18 credit index blew notably wider relative to intrinsics and net notionals dropped modestly. The market calmed down a little and it appeared from net notionals and the index skews that he tried again last week to unwind some more of the huge position that had clearly tripped various risk limits and VaR controls. This is where we find ourselves now - the net notionals remain huge (and implicitly on JPM's shooulders), his lack of selling has left the credit index maybe 20bps rich to where it might trade given its rough correlation with the S&P 500 and this would imply at least $3bn of losses already in addition at fair-value.

As is evident, IG9 credit index and the S&P 500 have moved in a very correlated manner - and IG9 net notionals (the amount outstanding in IG9 CDS) has risen alongside these moves as JPM built a bigger and bigger longer and longer credit position. The red vertical arrow shows the current dislocation if one assumes the cessation of Iksil's unwind efforts stalled IG9's selloff - which is the $3bn loss that remains to be seen and the black dotted line is an indication of the kind of notional unwind that would occur - which with a market moving as it is - would be highly disjointing.

Of course, the situation is far worse because 1) any efforts to unwind such a huge position will lead to the market yawning wide and swallowing him in illiquid bid-ask spreads; and 2) the rest of the world knows their position - so why would the hedge funds not push their position. Perhaps this explains why JPMorgan's CDS has remained relatively wide while its exuberant stock price shot up on stress-test ebullience - only to plummet back to CDS reality this evening. Critically, JPM will need to use whatever method they can to hedge this now over-hedged and over-long position - which likely means credit instruments such as JNK, HYG, HY18, and IG18 will all get their share of strange attraction as the trader mispriced not just the basis risk (the volatility between the hedge and its underlying) but the attraction of running with a trend when you have a bottomless pit of money to cover it - until now.

It is already evident in the on-the-run liquid indices - HY18 for instance has exploded wider twice now - in line with the net notional reduction and hedging moves from JPM's IG9 position...

This chart somewhat relates to the IG9 skew chart above in that it represents how far above 'fair' the spread of the index trades relative to the underlying names - the spikes show that there was huge technical demand for the index protection relative to the underlying risk of the portfolio.

and perhaps there was already concern in the market with regard JPM's counterparty risk or exposure from hedgies' trades as CDS has been far less exuberant than stocks...


Of course noone knows for sure what exact positions Iksil had on - though it is clear what hedging he needed to do to manage his hedges. As Peter Tchir ( @TFMkts ) noted this evening - perhaps this mark-to-model irregularity is what the Fed discovered and gathered all the banks last week to ascertain just who has what exposure to whom? As we tweeted earlier, perhaps Iksil just got carried away - and please understand that while CDS do indeed provide leverage, so do many other financial instruments - it is not the instrument that caused this - it is the trader as "you don't hedge risk when you bet on momentum continuing you idiot!"

Addendum - VaR is almost entirely useless as a risk statistic in regard to the kind of highly non-linear positions that we are talking about here and so the doubling of JPM's VaR suggests the tail-risk (or conditional VaR) is considerably larger.

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Deo vindice's picture

I'll save you some time.  Here are some definitions of abbreviations:

An abbreviation (from Latin brevis, meaning short) is a shortened form of a word or phrase. Usually, but not always, it consists of a letter or group of letters taken from the word or phrase. For example, the word abbreviation can itself be represented by the abbreviation abbr., abbrv. or abbrev.

And for even more definitions try

Miffed Microbiologist's picture

Count me in too! I'm just getting a lot of satisfaction knowing some asshole somewhere is feeling some pain even though i can't understand why. Not enough for me to be truly happy but at least it's a start. Damn, wish this was really enough to bring them down! Of course, what's a minnow to a whale.


Nobody For President's picture

Ditto - ZH is like a post-grad course in real-world finance, and it has been run like hell or get drug sometimes. (Drug - not drugged, though that can help sometimes also.) I read the above twice, and am primed for a third go-round. I googled out on 'tranche trade' and found this article from only a few days ago about CIO and the stresses being set up by them, for those of us struggling to get this stuff:

Even with diagrams, this stuff can make your head hurt.

There are also links from this article with further explainations.

Hope this helps another - I've been helped along plenty this past year.

D-2's picture

It isn't meant to be understood. It's all a huge gimmick. The whole economy of the entire world is one huge gimmick.

Buckaroo Banzai's picture

Let me simplify it for you. They took a bunch of free money they printed up, then fucked a lot of hookers and snorted massive amounts of cocaine. Then they made a bunch of guaranteed, lead-pipe cinch one way bets...that worked fantastic until they went the other way.

Then they left the shareholders and the taxpayers holding the bag.

Chaffinch's picture

I get it now!

So now we are just wondering how many IOUs are inside the bag?

Buckaroo Banzai's picture

Then when we are done wondering, we pay for them.

Chaffinch's picture

For the hookers? We have to pay for their hookers? Is that going to add a lot onto the bill?

Can we look in the bag yet?

Tijuana Donkey Show's picture

You don't have to pay, if you tell them your with the Secret Service. 

Papasmurf's picture

I tried that. They assumed I was American and didn't know the value of money.

knukles's picture

A second time, if you will.
It was our money they lost first and then we whose money was lost have to pony up a second time to make the loss whole.

No kidding.
That's whatthefuck is going on.
And yes, I do understand this shit, fully.


See, it's like MGF.  Corzine's minions take the money from client accounts.  Say it (for sake of ease of computation) was $500MM.  Placed into the firm's accounts and the "lost" it. 
OK, with me to here?
But, and here's the fucking but....

They didn't post any collateral into the client accounts when they "borrowed" the money, and now it's gone.
So how much is missing?

The original $500MM PLUS the Collateral which never got posted of another $500MM, for a total of $1.0B.

That's how this shit works.

Then, they run it through London (as in City of, not tourist horse shit) and one can take the supposedly disappeared $500MM and before it went bye-bye, post it as collateral a bazillion times over again and again for other transactions.
No kidding.
That's what infinite re-hypothecation means, kids.

Now, of you got it, it sounds like too good to be true, what a fucking ripoff, they can't do that, etc., you gotta be fucking kidding me.
Sound like it's worse than Madoff, eh?
Yeah, because it is!

Hold on tight.
That's right.
You got it.

Welcome to the Peasantry looking through the fences at the New Versailles form the Way the Fuck Outside.


But this case was just wrong leveraged bets that they claimed weren't bets.  With depositor's/lender's monies of one form or another.  This is simple shit.  Just done with a variety of conjured up synthetic nobody knows or really cares imaginary financial instruments that in the end are no fucking different than a Casino.
With full regulatory approval.
And nobody's gonna go to jail... Unless it's the Whale who gets pegged as broke the rules, etc.  Nobody senior will even sweat it.  And will still get a Big Fat Bonus.


PS and with MFG it was actually 3x as the money was once stolen in the US without collateral (second) then sent to London (3x) then rehypothecated (+infinity).  But thats where it does get too confusing to even bother.....

Future Jim's picture


What I'm wondering now is why they needed to use depositors' money at all given fractional reserves and rehypothecation.

Also, if they have any assets remaining, then why couldn't they use those to make depositors' accounts whole?

Perhaps they are just SAYING that was depositors' money to get a bailout?

delacroix's picture

the depositors were the only ones with any real money in the game. the huge fake losses, are just the ruse, to hide the original theft, of real money

Rubbish's picture

It's nice to be poor, you can just slip right into FREE !

TonyCoitus's picture

It all works until it doesn't.

Jack Burton's picture

+ 1,000,000 Buckaroo Banzai! These JPM financial engineers, many probably in their mid 20's with no real experience in the work world or the financial world are turned lose to create poison financial positions inbetween spending their massive bonuses on butt fucking bimbos while snorting 50K $$ worth of coke a night and then going to some trading desk and working out skimming schemes to steal from the real economy.

Useless pricks. I'de like to see them all shipped to Afghanistan and sent out on patrol with minimal training and a shortage of ammo. The friggen Taliban would sort those useless cocain heads out in double quick time.

Decapitate the useless pricks!

Buckaroo Banzai's picture

Decapitate them??

Q: who let them print up the free money in the first place?
A: we did.

knukles's picture

Needs apply the Soprano rule.

I lets you do it and I gets no fucking taste?

I forgot where it came from but's something like this: I get my taste or your dogs get killed in front of your kids, your kids get killed in front of your wife and your wife gets killed in front of you. And then you don't wanna know.

ihedgemyhedges's picture

Oh Jack how correct you are.  The originals were in their mid 20's and no's all right here:

Chaffinch's picture

De-capitation is too good for them.

Hulk's picture

I'm thinking Human meat slicer, 2.5 mm thick slices. Feet first...

CuttingEdge's picture

Testicular removal with a blunt spoon works for me.

kahunabear's picture

Funniest thing I have read all day, year maybe.

The Alarmist's picture

"Wow I wish I could understand all this shit!  This must be how these bastards get away with this shit.  Not enough people that matter can understand any of this."

Yeah, first we sell you the product, then we give you the results, but we never show you the model, so you really never know if the results we are giving you are real or not. Oh, and you pay us 2&20 for the privilege of being screwed.

Nice work if you can get it.

Bill D. Cat's picture

 So ...... when does Moody's whack the rest of these fuckers ?

The Big Ching-aso's picture



Correction:   Is The Taxpayer Staring At Another $3 Billion Loss?

Dingleberry's picture

No. The Taxpayer is looking at a 3 billion INVESTMENT. At least that's what CNBC would call it.

ihedgemyhedges's picture

And God knows we need a LOT more investment in this country!!!

Sincerely, one of Professor Paul Krugman's students

bigkahuna's picture


reTARD's picture

And as an added taxpayer bonus... any predictions on how big the JPM bonuses would still be this year?

Buckaroo Banzai's picture

Correction to the correction: Is The Taxpayer Staring At Another $9Billion Loss?

You forgot to apply the MF Global 3x rule.

Captain Archer's picture

The Jungle takes care of their own.

ultimate warrior's picture

JPM is To Big To Fail...aka a little bitch that gets bailed out for bad behavior. The tax payers will be forced to "help out."

New American Revolution's picture

There is a God, and it is not the one that Lloyd Blankenfien refers and prefers.   I call this divine retribution.

vamoose1's picture

to  new american


    right  on,  thats  what  this  is,  the  irony  is  breathtaking,  no  thats too mild  divine  retribution  is  right,  if  these  swaps  start dominoeing  through the  banking  system,  its  mel  gibson  running  the  fed,   check  that,  mel  gibson   president.

Raynja's picture

The only real question is does jp morgue survive the weekend.
Bankia, greece, mf global, dexia. Someday someone will report one of the whores missing.

goldcoastgirl's picture

And I thought the first shoe to fall would be BofA



EmmittFitzhume's picture

With all the collusion on wall street, who thinks JPM is the only one to be caught with their pants down?

blunderdog's picture

I don't think Congress would step up for TARPing right now.  No one'll see anything for at least three months.

SIOP's picture

Surprising they came out of the closet today and not wait 24 hours till friday after the market closes for the weekend. That makes me think this is kinda sorta big deal.  (snicker)

xela2200's picture

And apparently in a surprise call. Fishy.

HarryM's picture

Was thinking same thing - give em the weekend for damage control -- makes absolutely no sense unless someone was going to blow the whistle - 

Looks like not much reaction from the Far East Markets - probably thinking - 3 Billion is really chump change - Gates could write you a check


Nobody For President's picture

It had to be a desperate knowledge that someone was about to spill the beans big time, maybe to Financial Times/Alphaville or even Business Insider or wherever, to make this surprise call after Thursday market close and not wait until Friday close. Must have been ready to explode, so Jamie stepped up with the mega mea culpa "sorry about that, but we got it covered" story.

He at least took a hell of a lot more responsibility than Corzine. (Damning with faint praise.)

HarryM's picture

3 billion is a rounding error these days - 

Not enough money to change a thing - 

But the Fear Factor could tip it

Solarman's picture

My question for the author, will this cause JPM to also unwind their massive PM short positions to bring overall Var into a lower state?