JPM's Bogeyman IG9 Notionals Soar On Most Active Week Of Year

Tyler Durden's picture

DTCC just released the latest and greatest details on the CDS market's net and gross notional exposure and it makes for fascinating reading. Simplifying considerably, gross notionals somewhat represent activity and net notionals proxy exposure. We see gross IG9 index notionals (the index most at the centre of the JPM debacle) jumped but IG9 tranche gross notionals were steady; but net tranched credit notionals jumped and net untranched fell. This suggests an unwind of a delta-hedged tranche position with considerably more index impact than tranche impact - which smells just like what we think JPM was struggling with (and it appears is far from over). However, there was a huge jump in the number of trades done in the on-the-run index IG18 - last week was the most active of the year by far which fits with the surge in gross notional that we saw - as it would appear (as we noted previously) that the focus is now on using liquid indices to hedge whatever risk remains on JPM's book - which further helps to explain why IG18 has underperformed so much recently relative to HY credit and stocks.

IG9 net notionals for tranches rose while net index notionals fell in the last two weeks (suggesting the unwind of a hedged tranched credit position in size) - though note the minimal shift in index net notionals compared to the last few weeks (more to come - and remember this is aggregated across all maturities, not just 10Y)...

but gross notionals are higher for both tranched and dramatically so for untranched IG9 as activity picked up...

which is reflected in the fact that IG18 had its busiest week of the year - it is clear that the instrument of choice for hedging the hedge or reducing the risk is the on-the-run index...

as gross notionals jumped dramatically for IG18...

and while IG9 is contonuing to underperform - especially post Dimon's admission call...

it is clear that IG18 is suffering the most now as liquidity is coming at a premium for the bank to hedge its exposure...

Data: CMA

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Hal n back's picture

who really understand all this?

Dr. Engali's picture

Certainly not Jamie Dimon.

runlevel's picture

I dont login often, but when i do, its for funny shit like that. 


nope-1004's picture

It means JPig is scrambling for liquidity to hedge the pressure put on them by other banks, who smell blood.  JPig won't publicly admit they are feeling the heat, but these graphs show it.


Dr. Engali's picture

I think we all get that...It's trying to understand the trade itself.

AlaricBalth's picture

This might help. (From Forexer out of Singapore)


I feel it is imperative for all market participants to have a general understanding of how JPM's hedge blew up, something that some espouse as a black swan (think LTCM in 1998 & probably the exposing of MFGlobal's corzining of investor capital to cover losses on sour speculative bets). The MSM has been quick to cover this story on JPM's alleged felony with regards to its risk management and how a "hedge turned speculative". Whilst there are bits of true facts and opinions presented, a good chunk of it is quite literally bosom-dung. Zerohedge has put up a meticulously detailed analytical piece on how things went wrong and puts the CIO (chief investment office) decision making tree in soft focus - A must read for folks who want the fresh juice of the entire edifice on a grand scale. I'm merely going to share my analysis which contains alot of the stuff in Zerohedge's piece but also delve deeper into where more explanation is warranted. This isn't child's content, it is deep stuff (think quantitative finance) so take some time to really understand every sentence in this post and in Zerohedge's piece. 

What was JPM Hedging?
Although no non-insider knows for certain, point and shoot guesses would likely be commercial loans on the books of JPM's commercial banking arm. I think this is an aggregated book meaning the portfolio of loans originated from US corporations and probably a few hundred million Dollars in consumer loans. Reasons for this is because due the CIO's hedging instrument of choice (read on for more details later). The size of this portfolio is unknown but should be huge, very huge (large enough that risk models weren't able to detect micro seismic faults before the markets turned against their hedge. I read that Jamie Dimon (JPM's CEO) has expressed willingness to testify infront of congress (remember Goldman's "$hity deal" buzzword during hearings on allegations of conflict of interest; "Timberwolf securities" ect...). Let's hope more light will be shed on this very elusive subject on what was actually being hedged and in what quantities.

The Hedging Instrument of Choice
As Zerohedge pointed out, the CIO probably wanted a cheap hedge against extreme tail risk (think global systemic risk; ie: Europe falling apart; non-idiosyncratic credit risk (non-company specific credit risk); many corporates defaulting at once) that would payoff (covering/lowering cash losses on the underlying loan book) amidst utter chaos and financial cataclysm. It is much cheaper to hedge such risks in aggregated form rather than buying protection on individual names.

Zerohedge rightfully opines the CIO's sole intentions were to protect against adverse market movements which risks' cannot be immunized through conventional covered loan risk management strategies.

To wit:

Quote: Originally Posted by Zerohedge 2) JPM traders/risk managers are not stupid - can manage curves/levels in 'normal' market but firm needs 'extreme' risk hedge.

Critically - these guys are not dummies - they don't simply buy/sell index protection or curves (as some have suggested) in ultra-massive quantities (since risk models would flash) unless there is an edge. More importantly, they can manage risk at desk levels on term structures and exposures (and even jump-to-default risk to some extent) but on the aggregate portfolio there is a lot of un-covered risk of an extreme event (which seems ever more present) occurring.

The CIO decided to long the super senior tranche (a cocktail mix of 5Y, 7Y, 10Y maturities) of the CDX.NA.IG index. CDX.NA.IG is a composite CDS index of 125 individual US corporates (reference this back to the underlying portfolio being hedged).

Zerohedge explains that the CIO chose the super senior tranche due to its relative cheapness over subordinated tranches (junior, mezzanine, equity) due to the higher leverage it offered (less funding requirements, somewhat resembling a SS tranche of a synthetic CDO where upfront payments aren't necessary because potential losses will be buffeted by the lower tranches), but more importantly SS offers "(sensitivities) to spread movements (low), volatility (medium - due to hedging gaps), andcorrelation (high)." Correlation risk was what the CIO was implicitly hedging against. A rise in correlation indicates increasing latent systemic risks; hence the hedge needs to be highly sensitive to correlations.

The SS tranche also protects against conterparty risk (risk that the writer of the CDSs fail to payup in a credit event). Conterparties can include SPVs that structure synthetic CDOs. Losses due to such risk will be passed to the lower tranches before it hits the SS tranche (if the losses are huge enough). Hence the CIO's decision to be long the SS tranche was based on their prescient knowledge that only deep shocks would require such hedging and the SS tranche was perfect for this purpose. 

Quote: Originally Posted by Zerohedge
These characteristics appear fantastic at first glance - not too sensitive to spread movements overall (ceteris paribus), volatility will cause some drama (as the position will need to be rebalanced), and while correlation is a big sensitivity it is directionally in our favor and has relationships in line with spreads that should help us.

The hedge would appreciate in price as spreads widen along with SS tranche correlations (IG index falls). There would be some form of payouts if any component defaults and will filter through the SS tranche before running down to the junior tranches. I would believe the CIO paid a slight upfront payment (a small percentage of the initial notional) and periodic interest payments (since CDX.NA.IG is trading on a conventional spread rather than upfront; again offering more leverage and making the hedge cheap). 

Informed guesstimates of the initial notional (in the SS tranche) ranges from $200bn-$300bn. Again, no one knows the exact figure but from the monthly Depository Trust & Clearing Corporation (DTCC) report on outstanding notionals one can make a ballpark guess.

So What Went Wrong?
The CIO's hedge fared relatively well in Q1-Q3 '11 courtesy of European contagion and the Greek spillover, and the downgrade of US by S&P. Remember the panic ensuring the proverbial US downgrade (recruit pitting at Hitler's face)? Yes, as Zerohedge intelligently points out, that was just about the peak of tranche correlations as the markets settled down in a consolidation before beginning their arguably benign march higher - the bears would reminisce how odious it was. 

To Wit:

Quote: Originally Posted by Zerohedge 10) Nov2011: Fed/ECB start coord. global easing program -> starts to crush correlation as systemic risk is 'supposedly' removed from system.

And here comes the critical aspect of our story! The actions of the Fed/ECB/rest-of-world with massive and unprecedented easing efforts was perceived by the market as a tail-risk crushing event - i.e. they removed the systemic risk from the system once again.

11) JPM CIO office forced to sell IG9 protection to manage tranche position as correlation drops (think: delta rebalancing).

What this meant was very important. The tranche - which had been purchased as a hedge for JPM's aggregate (likely long) book required rebalancing as the 'models' used to price and risk manage such positions would have demanded some hedging of the hedge. This is similar to maintaining a delta-hedge on an option position as the market moves one way or another and volatility (a secondary parameter) changes. The trouble is - these systemic risk tranches are HIGHLY sensitive to this somewhat 'magical' measure.

The gist matters have already been succinctly presented by Zerohedge. The FED's Operation Twist (Maturity Extension Program) and cross currency swap lines with the ECB, and the ECB's 3Y LTRO having commenced in Dec11 proved detrimental to credit tranche correlations. IG credit (proxied as CDX IG9) rallied along with equities post the binary collusion of the two central banks. Zerohedge likened correlations to deltas (ie: RoC of an option's price relative to the underlying's). Although there are broad similarities, I would meekly note that deltas have either positive/negative empirical relationships to price whilst credit tranche correlations do not have - their relationship can be described as slightly idiosyncratic (meaning correlations may rise even if IG spreads compress, not necessarily when spreads widen). Regardless, the CIO wasn't concerned about IG spreads rising or falling but about correlations tanking to never seen before levels. 

This is the bane of hedging via tranched credit products as the CIO undertook - correlations have to be dynamically managed. What was just described above marked the inflection point for matters over at the CIO's desks. As a result of a very rapid decline in correlations, the CIO needed to neutralize a good part of its 'short' credit exposure by shorting IG9 or by writing CDS protection on IG9 (same ends, different means). Zerohedge believes that the CIO did almost all of the re-balancing by shorting IG9 outright. The extreme RoC of correlations meant that the CIO couldn't sell IG9 protection in a gradual fashion that would preserve market normalcy; but rather frantically offer heavily into the index day after day after day... So much so that this operation created a gaping skew between the IG9 index and its intrinsic fair value (summation of individual names). 

To wit:

Quote: Originally Posted by Zerohedge 13) Mar/Apr 2012: JPM CIO corners IG9 index market as forced protection seller on tranche tail-risk hedge position.

This meant that the JPM CIO office began to sell more and more protection at the index level which forced the index to trade differently to its intrinsic or fair-value. These kinds of disconnect are often arb'd by sophisticated hedge funds - but this time the arbs were being frustrated by a SIZE player dominating the market and soaking up their demand for protection (the funds would be buying protection on the index - the opposite of JPM CIO - while selling the underlying names protection).

Note: Iksil (the "London (wriggly sperm) whale") was inherently "long" IG9 index because he was selling IG protection (ie: short the spread, long the index). The Zerohedge description pertaining to the arbitrage opportunities simply means that the arbitrageurs would buy IG9 protection and sell individual protection (hence "short" IG9 index and "long" corporate credit) hoping that the basis would narrow when IG9 spread eventually widens.

What happens next is from the devil within all flesh: Greed. What was a "hedge of a hedge" (IG9 protection selling) turned into a market chasing, momentum trade which Iksil was overly effervescent about. He was chasing his own tail; the more he sold protection, the harder the index was bid, the larger the 'profits' on his hedge trade, the more he sold... ad infinitum in a vicious circular reference spell. 

And then things start to change fundamentally; the mirage vanished while Iksil and the entire CIO realized the hideously obscene blunder they have committed being one of the top prop trading desks on Earth. I'm going to quote Zerohedge for the following sequence of events that makes me cringe.

Quote: Originally Posted by Zerohedge
15) European sovereign, China slowdown, and US growth risks spur deterioration in credit risk - meaning losses on IG9 index position.

Between his huge size and the velocity of the shifts in the index as things began to go wrong fundamentally, Iksil was in trouble. Not only that but 'correlation' began to pick up and so the hedge of the hedge needed to be unwound...

16) JPM CIO faces huge losses from small move in spreads since they have sold so much protection and tranche unbalanced.

He found himself the dominant long player in a market in which fundamentals, technicals (arbs), and his own models (correlation) were saying unwind/short - which starts the pain trade for Ina and Bruno and more than likely this is when the bells started to go off in risk manager's ears and Dimon got the call...

The vulture phenomenon kicks in: The Hedge funds that knew the plight JPM was in started to short the basis and with much passion indeed (not only did they buy tons of IG9 protection along side the CIO but also shorted all other related credit indices, adding more pressure to the CIO's overloaded long exposure whilst also squeezing every last but of liquidity from the IG9 market like a blood thirsty daemon in a wild, unfathomable hallucination. In the days preceding Dimon's call to inform the world about JPM's $2bn material loss, IG9 spreads started soaring ad Iksil started to unwind his then-turned speculative trade. The spike in spreads accelerated post Dimon's call. Add the broad risk-off environment that has been buffeting global equity and credit markets for the last 2-3 weeks and one would see why actual losses would uncountably surmount $2bn. Zerohedge estimates losses will be north of $3bn. 

And to end things off with the FED's curse:

Quote: Originally Posted by Zerohedge 22) Summary: JPM tail-risk hedge imploded thanks to Central Banks' Systemic Risk reduction - unintended consequence...

The key factor is that if systemic risk had remained in even a 'normal' range of possible regions based on history, then the JPM CIO office would have had no need to over-hedge their tail-risk hedge position, no greed-driven need to press the momentum, and no need for such an epic collapse as we are seeing now.

The point is - this was a trader/manager with a good idea (hedge tail risk) that was executed poorly (and with arrogance) but exaggerated by the unintended consequences of the Central-Banks-of-the-world's actions (and 'models behaving badly' as Derman would say). 

My synopsis of this tragedy? Over reliance on mathematical modelling (on hedging and risk management premises), human psychological weaknesses (greed), and sheer unfortunate luck. What could have been better done? Contrary from that MSM squawk about, JPM did the right thing initially. The hedge was operationally sound (loan books need to be hedge in out current environment of heightened credit and default risk) and the dynamic management of the hedge was routine and somewhat rudimentary. However, the trimming of the initial hedge exposure should have been conducted on a broader scale. Rather than performing this operation on a single OTC and relatively illiquid credit index, it could have been diversified through shorting protection on individual names, going long synthetic CDOs on similar IG credit and then having a much smaller position outright long IG9. It is not the sole error of over positioning a trade and the posterior consequences but the decision making dynamics behind the CIO's path actions. Risks of human error were not spread out, per se and that is one of the key take away points of this saga.


W10321303's picture

Hedging a hedge is called Hedginess

sdmjake's picture

I appreciate the synopsis (and use of ZH notices throughout) but don't wholly agree. In conclusion this 'forexer' says it was a good, albeit rudimentary, hedge and that it just lacked some diversification. YET, that diversification would have violated the CIO primary goal, to wit: finding very cheap leverage to hedge the tail risk. 

The reality is these c*cksuckers got too smart for their own britches (bitchez) and Murphy's law required a good ol fashioned smackdown.

q99x2's picture

ZeroHedge is a hedge against corruption.

OtherPeoplesMoney's picture

Mmmm.... If you own super senior protection and correlation drops you get LONGER credit. Why would you then go out and sell more protection to get longer still? Certainly not to "hedge the hedge". Basically this argument is bullshit.

Also beware of drawing too many conclusions from DTCC data, From the DTCC's own "Explanation of Trade Information Data " document.

"These publicly available reports may not contain all live positions in the Warehouse as of a specified
date if disclosing such positions could reveal, directly or indirectly, proprietary or confidential,
financial, operational or trading data of a particular Warehouse participant ("User"), or inappropriately
arranged groups of Users in such a way that may indicate the identity of the User or User group."

document available on - 



Nobody For President's picture

Thanks for this - I have spent way too many midnight hours trying to get my head around this blow up, and I sorta-kinda-almost get it with your post.

I DO understand that I really don't get Delta yet...


Cupid Stunt's picture

There's me thinking that IG9 was an Apple product.

runlevel's picture

When i read this stuff, i read it the same way i listen to other languages i dont know. at some point im reading so fast its a blur and you think you understand what they are talking about until you step back and realize you dont even know wtf IG stands for.. 

fuu's picture

Intentional Gambling?

W10321303's picture

Casino Royale...All Hail EMPEROR JAMIE!

Itch's picture

Investment grandeur.

Mark123's picture

You can rest assured that our brave, noble regulators are completely on top of all this and looking after our welfare.


Really though, I can now understand why they spend their days watching porn.

resurger's picture



Our very own ZH


or this


The official name of this index is CDX.NA.IG.9. It includes 125 equally weighted reference entities that are liquid in the Investment Grade CDS market.

Coupon: Varies depending on the trade

The IG CDX index trades based on spread. For example, ig9 recently closed around 120 bps. This means that if you go long the index, you receive the annual coupon, paid quarterly, as well as an upfront to adjust the equivalent spread to the traded level.

Credit Events: When a Credit Event, such as bankruptcy or failure to pay, occurs on one of the names, if you are long the index you are responsible for the loss. The loss depends on the recovery rate of the name, which is determined in a market auction (click here for auction primer). For example, if the recovery rate was 40%, the loss would be 60%, so you would owe 60% * 1% weight of the name * your notional of trade.




Amish Hacker's picture

Every now and then I catch myself thinking, "Gee, if only I understood all this CDX.NA.IG.9 stuff, I'd be rich." Then I remember that the people who do understand it (or claim to) just blew themselves up.

Oh, well. This kind of trading isn't a life, it's a life sentence, and I'd rather be free than rich anyway.

ebworthen's picture

Hal n back asked:  "who really understand all this?"

Vegas Version:

JPM using deposits, bailout cash, and FED backdoor loans at 0.05% to gamble.

Their magnets on the bottom of the roulette table stopped working right when they had a 30-to-1 bet on 00 Black.

Other gamblers eyeing all of JPM's chips still on the table and licking their lips as they bet the red and the wheel spins.

Todd Horlbeck's picture

That is the problem.  The managements that created this have long since been replace.  The new managments create new securities, and then they are replace.  The ones that stick around and warn of problems, get fired. Can someone at JP Morgan really say they have a grasp of a ten year old derivitave that they didn't create?  The insentive is too large to remain quiet even if they did understand it.

SqueekyFromm's picture

I don't understand it, and I am not just totally stupid or anything. I read all the stuff here about the IG9 thingies and they don't make any sense to me about what exactly is being hedged, or how this helped protect JPM or anybody else. What, do you place some bets on the Roulette Wheel, which is mostly random luck, to hedge your bets on Texas Hold 'Em, which is mostly skill???

The really bigger question is, what has all this activity done to create anything tangible???

Squeeky Fromm, Girl Reporter


Boxed Merlot's picture some bets on the Roulette Wheel, which is mostly random luck, to hedge your bets on Texas Hold 'Em...


As long as the cocktail waitress keeps coming by it's all good.


superbroker1's picture



ruffian's picture

So does this mean JP's losses are getting close to that whispered $100 billion mark or that they've stopped the hemorraging?

sdmjake's picture

No i understand it, their total exposure wasn't much more than 100b with this IG9 piece. They were essentially trying to hedge their other corporate bond exposure [its the Morgue so you know thats gotta be 250+Bil] against complete market calamity. So they bought an index of CDS that holds the good stuff (AT&T, HomeDepot,etc) as well as the bad stuff (Fannie, Freddie, countrywide,etc). Very cheap levered way to cover the risk. They are so big they effected the pricing. it blew up. they had to unwind BUT their losses will not be "total". It didn't go to zero. It's just such a giant, levered bet that it only needs to move a little and you lose billions.

poldark's picture

All above my head!!

Dead Canary's picture

Uhh... so, does that mean I should keep my silver?

Canadian Dirtlump's picture

iI keep a bag by the door in case a solicitor comes by. BOFF! Homie don't play that game.

Dr. Engali's picture

I think it's pretty safe to say I won't be putting on that trade.It's way above my pay grade. Anybody want to talk options?

Mark123's picture

The fact that this sort of "investment vehicle" even exists proves we are totally screwed.


Ponzi on boys.

Canadian Dirtlump's picture

Now that someone more qualified than me has done the intellectual heavy lifting, I'll add my 2 cents.


blythe's pussy smells like an open grave and jamie is the name of a prepubescent boy, not a CEO ( James ) .

Dr. Engali's picture

Have you been sniffing around that thing?

fonzannoon's picture

I like when Tyler sums it up in big bold letters and says things like "This is bad". It helps.

Canadian Dirtlump's picture

LIke when you are lost in a conversation with people and wait to react by copying their reactions..

PaperBear's picture

JPM are toast, it’s just that the guillotine mechanism has been triggered yet. Apologies for mixing my metaphors.


WhyDoesItHurtWhen iPee's picture

"It's all spilled milk under the bridge."

PaperBear's picture

Oops ... guillotine mechanism has NOT been triggered yet.

poldark's picture

Tyler, maybe when you have a few days to spare you can explain what all this means!

Dr. Engali's picture

I started researching the trade on the net after a little study I thought to myself..."what the hell do I need to know this for? I will never use it".

CommunityStandard's picture

I've previously researched the IG-9, but there's hardly anything on the IG-18.

Downtoolong's picture

Suddenly the slogan “We Are The Market” is no longer the banner of pride and achievement it once was.

It makes me think of that old AIG slogan, “We Know Money”, which easily converts with a few strokes of the delete button to “We No Money”.

firstdivision's picture

Who is levitating the EUR for the past hour?  Hardly any movement.