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JP Morgan Whale: “Thar She Blows”

Posted by Larry Doyle on May 11, 2012 6:02 AM |

Less than a month ago, JP Morgan released very solid 1st quarter 2012 earnings and put out the following release:

New York, April 13, 2012 – JPMorgan Chase & Co. (NYSE: JPM) today reported first-quarter 2012 net income of $5.4 billion, compared with net income of $5.6 billion in the first quarter of 2011. Earnings per share were $1.31, compared with $1.28 in the first quarter of 2011.

Jamie Dimon, Chairman and Chief Executive Officer, commented on financial results:

“The Firm reported strong revenue1 for the first quarter of 2012 of $27.4 billion, up 24% compared with the prior quarter and up 6% compared with prior year. While several significant items affected our results, overall, the Firm’s performance in the first quarter was solid. The Firm’s return on tangible common equity1 for the first quarter of 2012 was 16%, compared with 11% in the prior quarter and 18% in the prior year.”

Dimon continued: “We are pleased that our results for the quarter reflected positive credit trends for our consumer real estate and credit card portfolios. Estimated losses declined for these portfolios, and we reduced the related loan loss reserves by a total of $1.8 billion in the first quarter. However, with respect to our Mortgage Banking business, we expect to see elevated levels of costs and losses associated with mortgage-related issues for a while longer. Credit trends across our wholesale portfolios were stable and continued to be strong.”

While Dimon drew attention to ongoing costs and issues within its mortgage business, he certainly gave no hint regarding potential reason for concern within the bank’s overall credit exposures. In fact, for an investor with exposure to JP Morgan, when Dimon says. . .

Credit trends across our wholesale portfolios were stable and continued to be strong.

you feel pretty good, and you probably head to the driving range or the golf course to work on your game.

Well, put away the clubs.

Last evening, Mr. Dimon told the market that a portfolio managed within its Chief Investment Office took a $2 billion hit. Widespread speculation has it that this portfolio was managed (I use that term loosely) out of JPM’s London office by a trader designated as “The Whale.”  Well, with a $2 billion hit, it is only appropriate to say, “Thar she blows.”

The Wall Street Journal offers closer inspection of this blowup in writing, Costly Position Was Wager on Corporate Debt Gone Wrong:

The trade that cost J.P. Morgan ChaseJPM +0.25% $2 billion in losses in just six weeks was likely a complex bet on derivatives linked to corporate debt. James Dimon, J.P. Morgan’s chief, didn’t give details of the trade on a conference call with analysts.

But The Wall Street Journal reported in April that a London-based J.P. Morgan trader, Bruno Michel Iksil, had been selling protection on an index of 125 companies in the form of credit-default swaps through most of January and February. That meant he was essentially betting on the improving credit of those companies in the index and would lose money if the market went the other way.

Mr. Iksil did so much bullish trading that he helped move the index, traders said at the time, prompting some hedge funds to bet against him in the belief he might have to exit some of his bullish trades.

Having witnessed traders who have had enormous positions relative to an overall market size, very often the position controls the trader rather than the trader controlling the position. Dimon eluded to this dynamic last evening by indicating the firm will very likely maintain this position for an extended period. Why is that?

JP Morgan could not likely unwind any meaningful part of this position without significantly and adversely moving the market. As a result, the JP Morgan whale is likely all locked up, although still subject to market fluctuations.

Rest assured, every other market participant will be “whale watching” very closely and will welcome the opportunity to extract a pound of flesh whenever possible.

While there will be plenty of whale watching, those holding exposure to JP Morgan should also be livid with Mr. Dimon. The all too often sharp tongued “top banker on Wall Street” had specifically stated that concerns regarding positions within the Chief Investment Office amounted to little more than a “tempest in a teapot.”

Well, that pot more than boiled over and Dimon now deserves to feel the heat.

Did I hear somebody say this type of trading activity is why we need the Volcker Rule?

JP Morgan’s stock is down close to 8% in overnight trading.

Navigate accordingly.

Larry Doyle

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I have no affiliation or business interest with any entity referenced in this commentary. The opinions expressed are my own. I am a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.

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