JP Morgan’s Concentration Risk and Outsized Egos
Posted by Larry Doyle on May 15th, 2012 8:38 AM |
How does one firm “lose” $2 billion…and likely more….in the course of less than two months?
Well, it is doable if there is a massive market move. In the case of JP Morgan and the loss it announced last week, though, the markets broadly speaking had not moved that significantly. Certainly nothing like we experienced during the middle of 2011, let alone 2008. So the question begs, how does a firm lose that amount of money?
Concentration risk combined with another factor. What might that be? Let’s navigate. (more…)
Merrill Lynch: Time to Take Some ‘Risk Off’
Posted by Larry Doyle on April 13th, 2012 2:40 PM |
With so many sectors of the market displaying significant correlation, investors and traders have come to define market movements, in general, as ‘risk on’ and ‘risk off’.
Despite the fact that central banks have provided endless amounts of fuel to prop markets, there are still points in time when indicators flash warning signals that markets are overextended. Is now one of those times?
According to Bank of America Merrill Lynch it is. (more…)
David Einhorn Provides Sense on Cents
Posted by Larry Doyle on October 21st, 2009 11:52 AM |

David Einhorn of Greenlight Capital
In the midst of my ‘navigating the economic landscape,’ I thoroughly enjoy reading the work of intelligent people. While I certainly never agree with all that I read, intelligent people force me to think and review my own opinions and beliefs. That process is always healthy. I also enjoy sharing the insights and perspectives of these people with those who read Sense on Cents. High five to KD of 12th Street Capital for bringing just such an individual to my attention.
David Einhorn runs Greenlight Capital, an investment management firm. He recently delivered an address entitled “Liquor Before Beer…In the Clear.” For those interested in an overview of David’s thoughts, I will clip those points I found most informative. For those with a keen interest in the economy and markets, the linked nine page document is a ‘must read.’ I agree with David’s views and welcome highlighting some of his points. Here are excerpts from David Einhorn’s speech:
1. The lesson that I have learned is that it isn’t reasonable to be agnostic about the big picture. For years I had believed that I didn’t need to take a view on the market or the economy because I considered myself to be a “bottom up” investor. Having my eyes open to the big picture doesn’t mean abandoning stock picking, but it does mean managing the long-short exposure ratio more actively, worrying about what may be brewing in certain industries, and when appropriate, buying some just-in-case insurance for foreseeable macro risks even if they are hard to time.
2. As I see it, there are two basic problems in how we have designed our government. The first is that officials favor policies with short-term impact over those in our long-term interest because they need to be popular while they are in office and they want to be reelected. In recent times, opinion tracking polls, the immediate reactions of focus groups, the 24/7 news cycle, the constant campaign, and the moment-to-moment obsession with the Dow Jones Industrial Average have magnified the political pressures to favor short-term solutions.
3. The second weakness in our government is “concentrated benefit versus diffuse harm” also known as the problem of special interests. Decision makers help small groups who care about narrow issues and whose “special interests” invest substantial resources to be better heard through lobbying, public relations and campaign support. The special interests benefit while the associated costs and consequences are spread broadly through the rest of the population.
4. Americans understand that the Washington-Wall Street relationship has rewarded the least deserving people and institutions at the expense of the prudent.
5. The proper way to deal with too-big-to-fail, or too inter-connected to fail, is to make sure that no institution is too big or inter-connected to fail. The test ought to be that no institution should ever be of individual importance such that if we were faced with its demise the government would be forced to intervene. The real solution is to break up anything that fails that test. (more…)
Real-Time Information Is “Everything” on Wall Street
Posted by Larry Doyle on October 7th, 2009 3:45 PM |
One of the overriding reasons why I left First Boston in 1990 to join Bear Stearns was Bear’s advanced real-time risk management system. This system allowed me the ability to more proactively manage my trading risk. In the process, I was able to take more risk in the pursuit of greater profit. I became familiar with Bear’s system during the recruiting and interviewing process and was flabbergasted to realize how far behind First Boston was in its capabilities.
Real-time risk management and real-time data processing are critically important for thorough and proper oversight of any financial enterprise. A regulator will be lost in an attempt to maintain market oversight without the proper systems and access to real-time data.
Having heard and read of the systems deficiencies at both the SEC and FINRA, I am concerned at how far behind the curve these regulators are right now and how long it will take for them to recover.
While pondering this topic, I read in Securities Industry News that the SEC is looking to capture real-time data on derivatives transactions. This commentary, SEC Wants to Gather Real-Time Data on Swaps, addresses the exact topic I broached on July 17th in writing, “Can We ‘TRACE’ JP Morgan’s Business?” I wrote:
There is little to no transparency in the world of customized derivatives and as a result the bid-ask spreads are very wide. Cha-ching, cha-ching. Jamie (Dimon) and his friends on Wall Street are working extremely hard to keep it this way.
In their defense, it is likely not functionally feasible to move many customized derivatives to an exchange. What should regulators compel them to do? JP Morgan and every other financial firm on Wall Street should have to report every derivatives transaction to a system known as TRACE, which stands for Trade Reporting and Compliance Engine. This system currently only covers transactions within the cash markets and not derivatives. What does that mean for investors? No transparency and price discovery for investors in the customized derivatives space. As such, Jamie and friends can keep those bid-ask spreads nice and wide and ring up huge profits in the process.
Securities Industry News writes:
The Securities and Exchange Commission told Congress today to grant regulators “direct access to real-time data” on credit default swaps (CDS) and other derivatives.
The request comes, the agency said, because the lack of such information hampered its efforts to investigate potential fraud and market manipulation in the over-the-counter (OTC) derivatives markets during last fall’s financial crisis.
The SEC’s enforcement actions in investigating market manipulation in OTC derivatives “were seriously complicated by the lack of a mechanism for promptly obtaining critical information – who traded, how much, and when – that is complete and accurate,” said Henry Hu, the director of the SEC’s new division of risk, strategy and financial innovation, in written testimony to the House Financial Services Committee.
Hu testified that “data on securities-related OTC derivative transactions were not readily available, and needed to be reconstructed manually.” He asked Congress to expand the SEC’s inspection authority over trade data repositories and clearinghouses for derivatives.
The comments represented a rebuke to industry efforts aimed thus far at making more information on CDS and other OTC derivatives data more readily available.
What do we learn here? Information is EVERYTHING!! Wall Street is fighting tooth and nail to protect its golden goose within the derivatives space by hoarding this information.
Why is the SEC even asking for the information? If anybody in Washington truly had a set of cojones, they would merely TELL Wall Street how it is going to work going forward . . . take the information, and fulfill their responsibility to protect the public interest.
LD
Don’t Try This at Home
Posted by Larry Doyle on April 18th, 2009 5:08 PM |
Have you ever watched a stuntman spin a sports car in a sharp 180 degree maneuver? Many stunts come with the advance warning: Don’t Try This at Home.
Not that the current actions of both the U.S. Treasury and Federal Reserve are stunts, but their maneuvers also come with a serious warning signal . . . and it reads: INFLATION!!
Given the doubling in size of the Fed’s balance sheet, if and when the economy catches, the multiplier effect on our domestic money supply will be akin to throwing lighter fluid and a match on a field full of hay. That inferno can create a scenario worse than our current economic predicament.
The WSJ reports:
“The key to preventing inflation will be reversing the programs, reducing reserves, and raising interest rates in a timely fashion,” he (Fed Vice Chairman Donald Kohn) said.
Reversing the programs? With all due respect, if people think the Fed or anybody else is uniquely qualified to drain trillions in liquidity from our markets in a precise manner prior to inflation running rampant, then they are sadly mistaken. Please remember that one of the biggest factors in determining the rate of inflation is the mere expectation of inflation itself. In so many words, our economy may start to experience inflation prior to changes in certain fundamentals in the economy.
While the WSJ reports, Fed’s No. 2 Allays Worries About Stimulus, please remember that any medication that is overused, if not unintentionally abused, can be very dangerous if not fatal. We need look no further than the use of CDS (credit default swaps). CDS used properly provide a valid means of hedging risk. Similarly, increasing the money supply via an increase in the use of the Fed’s balance sheet and assorted Treasury programs can be an appropriate medication.
However, have you ever heard a patient indicate an exact point in time when they knew they were using medication inappropriately, if not in an abusive fashion? Have you ever witnessed a patient who has misused medication to be able to turn his life around on a dime?
I appreciate Mr. Kohn’s confidence in the Fed’s abilities, but neither he nor the Fed have experience in dealing with a situation like this.
Don’t think for a second that the cure can’t be worse than the disease.
LD