Risk Management

Deutsche Bank Takes A Jab At JPM's "Fail Whale"

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.

Guest Post: Does Jamie Dimon Even Know What Heging Risk Is?

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 sheetIn 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 riskYou are speculating.

The "World's Largest Prop Trading Desk" Just Went Bust

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 Next Circle Of Spain's Hell Begins At 5% And Ends At 10%

Three weeks ago we discussed the ultimate-doomsday presentation of the state of Spain which best summarized the macro-concerns facing the nation and its banks. Since then the market, and now the ratings agencies, have fully digested that meal of dysphoric data and pushed Spanish sovereign and bank bond spreads back to levels seen before the LTRO's short-lived (though self-defeating) munificence transfixed global investors. However, the world moves on and while most are focused directly on yields, spreads, unemployment rates, and loan-delinquency levels, there are two critical new numbers to pay attention to immediately - that we are sure the market will soon learn to appreciate. The first is 5%. This is the haircut increase that ECB collateral will require once all ratings agencies shift to BBB+ or below (meaning massive margin calls and cash needs for the exact banks that are the most exposed and least capable of achieving said liquidity). The second is 10%. This is the level of funded (bank) assets that are financed by the Central Bank and as UBS notes, this is the tipping point beyond which banks are treated differently by the market and have historically required significant equity issuance to return to regular private market funding. With S&P having made the move to BBB+ this week (and Italy already there), and Spain's banking system having reached 11% as of the last ECB announcement (and Italy 7.7%), it would appear we are set for more heat in the European kitchen - especially since Nomura adds that they do not expect any meaningful response from the ECB until things get a lot worse. The world is waking up to the realization that de-linking sovereigns and banks (as opposed to concentrating that systemic risk) is key to stabilizing markets.

"Volatility At World's End" - Visualizing Two Decades Of Stock Market Volatility

Several days ago we published the latest seminal paper by Artemis Capital Management, a must read for everyone confused about market dynamics in the "central-planning normal." Since a core focus of Artemis' long-running narrative has been the impact of endless interventions in markets, and their distortions of volatility, the firm's Chris Cole has prepared the following addendum animation showing the vol curve over the past 20 years, which ultimately has led to what we have dubbed a "centrally-planned, liquidity addicted, temperamental abortion".

Guest Post: 10 More Years Of Low Returns

sp500-realprice-deviation-041612Ten more years of low returns in the stock market.  If you are one of the millions of baby boomers headed into retirement - start saving more and spending less because the stock market won't bail you out.  Now that I have your attention I will explain why this is the likely future ahead for investors. In this past weekend's newsletter I wrote that “If you put all of your money into cash today and don’t look at the market for another decade – you will be better off..."  I realize that this statement is equivalent to heresy where Wall Street is concerned but there is one simple reason behind my apparent madness - the power of "reversion". This is not a new concept by any means as witnessed by Bob Farrell's rule #1 - "Markets tend to return to the mean over time."  However, the reality of what "reversion" means is grossly misunderstood by Wall Street, and the mainstream media, as witnessed by the many valuation calls that "stocks are now cheap because the market is now trading in line with its long term average."

No Hints Of QE In Latest Bernanke Word Cloud

Addressing his perception of lessons learned from the financial crisis, Ben Bernanke is speaking this afternoon on poor risk management and shadow banking vulnerabilities - all of which remain obviously as we continue to draw attention to. However, more worrisome for the junkies is the total lack of QE3 chatter in his speech. While he does note the words 'collateral' and 'repo' the proximity of the words 'Shadow, Institutions, & Vulnerabilities' are awkwardly close.

Bernanke's Right Hand Dove, Janet Yellen, Hints At ZIRP Through Late 2015

Last week we had the Fed's hawks line up one after another telling us how no more QE would ever happen. We ignored them because they are simply the bad cops to the Fed's good cop doves. Sure enough, here comes Bernanke's right hand man, or in this case woman, hinting that one can forget everything the hawkish stance, and that ZIRP may last not until 2014 but 2015! Which, by the way, is to be expected: since ZIRP can never expire, it will always be rolled to T+3 years, as the short end will never be allowed to rise, until the Fed has enough FRNs in circulation to absorb the surge in rates without crushing the principal, as explained yesterday.