17 May 2012

Corzine Syndrome: JPM's Stealth Prop Trading Unit Was Crafted for Risky Profit and Reported Directly To Jamie Dimon

I want to put a spike in all this spin around the CEO defense, that poor Jamie could not have possibly known what was going on in London because the company was so large, and he is such a busy man. Sarbanes-Oxley was designed to put a stop to that lame excuse touted out by defense lawyers and apologists in the media every time something like this happens.

The CIO operation was transformed under Jamie's direction as a dodge to the impending Volcker Rule, set to take effect in July, that prohibited this kind of risky prop trading by institutions backed with deposit insured money and both explicit and de facto government guarantees.

He wanted it up to be what it was, an opaque profit center.   It probably sounded like a good idea, taking a risk hedging and reduction function and turning it in to a profit center.   Because of the accounting differential between the CIO and the portfolios it was alleged to hedge,  one could take profits and not realize losses in a quarter, which provided a nice billion dollar cushion for earnings.   Every industry has their accounting dodges like this that allow a company to 'manage earnings.'  In tech it is in acquisition accounting and inventory writedowns.

But in their clumsy piggishness, the JPM CIO traders took their usual overly large and manipulative positions, as they have done in other markets, masquerading as hedges. But this particular credit market was too narrow and specialized, and they stepped on the toes of savvy market insiders.  And it blew up in their faces.

When the media called Jamie on it a few months ago, after traders complained that 'the London Whale' was rigging market prices, he called it a legitimate hedging operation and dismissed it as 'not a problem.'

The same thing is going on in other markets as well, even now, and on a much larger scale with larger positions and more leverage. The difference is that it is smaller traders and the public that are being hurt, while much of the risk is being misrepresented and unrealized, for now.

And so the regulators are sitting on their hands and doing nothing about it because they are being discouraged from taking action by powerful interests in the Administration and the Congress.   JPM has long been known as the government's 'go to guy' when something needs to be done to unofficially intervene in markets.

Remember, it was pressure from the Geithner Treasury and the Fed at the behest of JPM that created the loophole that would have permitted the CIO unit to continue to function as a prop trading unit even after the Volcker Rule supposedly shut such risky ventures down.

And they are afraid of what will happen to JPM if these market positions, particularly in the derivatives and metals markets, are exposed for what they really are, and their own involvement in allowing it to happen for so long.  That is the credibility trap, and the reason for the remarkable lack of investigation and prosecution of financial fraud.

International Financing Review
JP Morgan investment unit played by different high-risk rules
16 May 2012

The JP Morgan Chase unit that lost more than US$2 billion through a failed hedging strategy had looser risk controls than the rest of the bank, according to people familiar with the situation.

The risk of losses is tallied by the bank using a so-called value at risk (VaR) calculation. However, the Chief Investment Office, the unit responsible for the high-profile loss that JP Morgan disclosed last Thursday, had a separate VaR system.

It used a less stringent calculation that gave a lower risk assessment of its trades, according to people who previously worked at the bank.

The unit also reported directly to CEO Jamie Dimon, a factor which allowed it to maintain a separate risk monitoring set-up to other parts of the investment bank, these people said.

It was very large, but was never very transparent, and it wasn’t clear that they had an appropriate funding cost,” said the source with direct knowledge of the CIO. “They were running more risk than the investment bank – and with no peer review process (from those in the investment bank).”

Despite repeated warnings from executives inside the firm as long ago as 2005, the CIO unit remained notably free from oversight.

A source with knowledge of the situation said that these warnings included the size of the CIO, the fact that its risk reporting was not transparent and the scope for the unit to get “bigger and bigger” because it had a lower cost of funding than the rest of the investment bank.

Until April, the CIO unit’s unusual autonomy allowed it to build up risky positions without triggering alarms.

Indeed, the unit was encouraged to be a profit center, as well as hedging against risk, a source with direct knowledge of the unit said. Ina Drew, who headed the unit, earned more than US$15 million in each of the past two years, making her among the highest-paid executives at the bank and one of the most compensated women on Wall Street.

Drew could not be reached for comment... (Did you check under the bus? That is where masters-of-the-universe like Corzine and Dimon throw the ladies when they are done using them to establish plausible deniability. - Jesse)

Read the rest here.