TOPICS > Economy

JPMorgan Chase’s Big Losses, Big Risk: Blip on Radar or Systemic?

June 13, 2012 at 12:00 AM EDT
JPMorgan Chase's chairman and chief executive, Jamie Dimon, testified before the Senate Banking Committee about the massive trading losses incurred at his company. Paul Solman reports as part of his Making Sen$e series. Then, Gwen Ifill and guests discuss the implications of financial regulation on Wall Street.
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JEFFREY BROWN: And we turn to the J.P. Morgan Chase story. The bank’s CEO, Jamie Dimon, testified for more than two hours this morning before the Senate Banking Committee.

It was his first appearance on Capitol Hill since the company reported at least $2 billion and possibly more in trading losses.

We begin with a report from our economics correspondent, Paul Solman, part of his continuing work on Making Sense of financial news.

PAUL SOLMAN: Jamie Dimon had only just arrived at the hearing room when the protests began.

MAN: Jamie Dimon is a crook! This guy should be going to prison.

PAUL SOLMAN: Amid a crush of media, hecklers shouted at the CEO as he sat stoically at the witness table.

PROTESTERS: Stop foreclosures now!

PAUL SOLMAN: They were promptly escorted out and the hearing was called to order.

In his opening statement, Dimon apologized for the losses that from trades that, he said, were supposed to hedge against risk, made in London under the aegis of the bank’s chief investment office, or CIO.

JAMIE DIMON, Chairman, J.P. Morgan Chase: This portfolio morphed into something that, rather than protect the firm, created new and potentially larger risks. As a result, we have let a lot of people down, and we are very sorry for it.

PAUL SOLMAN: Democratic Chair Tim Johnson, who underwent brain surgery six years ago, asked why Dimon had dismissed concerns about these trades as a tempest in a teapot back in April.

SEN. TIM JOHNSON, (D), South Dakota: Why were you willing to be so definitive a month before publicly — publicly announcing their losses, when it appears you didn’t have a full understanding of the trading strategy?

JAMIE DIMON: Let me first say, when I made that statement, I was dead wrong. I had called — I had been on the road. I called Ina Drew, who ran the CIO. I had spoken to our risk officers, our CFO. They were looking into it. There were some issues with CIO before April 13, when we announced earnings. I was assured by them, and I have the right to rely on them, that they thought this was an isolated,small issue and that — that it wasn’t a big problem.

PAUL SOLMAN: Johnson also wondered if the bank would recoup the pay of those responsible for the losses.

JAMIE DIMON: You can expect we will take proper corrective action. And I would say it’s likely, though this is subject to board, but it’s likely there’ll be claw-backs.

PAUL SOLMAN: The committee’s ranking Republican, Richard Shelby, pursued a key line of this morning’s questioning: Were the trades in question really hedges, intended to reduce risk?

SEN. RICHARD SHELBY (R), Alabama: Were you investing or were you hedging? Or is it a combination of both?

(CROSSTALK)

JAMIE DIMON: This was hedging the risk of the company, that would protect the company in the event things got really bad.

PAUL SOLMAN: But then, as Dimon had acknowledged in his opening statement, the hedge morphed into its opposite: taking more risk.á

Democrat Bob Menendez of New Jersey pressed the point.

SEN. ROBERT MENENDEZ (D), New Jersey: When you reduce a hedge or hedge a hedge, isn’t that really gambling?

JAMIE DIMON: I don’t believe so, no.

SEN. ROBERT MENENDEZ: So this transaction that you said morphed, what did it morph into? Russian roulette?

JAMIE DIMON: It morphed into something I can’t justify that was just too risky for our company.

PAUL SOLMAN: And that’s when the hemorrhaging began.

Dimon said the losses in question do not threaten J.P. Morgan Chase, however, or the taxpayers who guarantee its deposits. But Democrat Jack Reed was worried about the implicit guarantee of a bank like J.P. Morgan that’s too big to fail and asked whether the so-called Volcker rule, which would bar banks from making certain trades for their own profit, would have prevented J.P. Morgan’s losses.

SEN. JACK REED (D), Rhode Island: The irony to me is that if there was a good Volcker rule in place, they may not have been able to do this because it clearly doesn’t seem to be hedging customer risk or even the overall exposure to the bank’s portfolio.

JAMIE DIMON: I don’t know what the Volcker rule is. It hasn’t been written yet. It’s very complicated. It may very well have stopped parts of what this portfolio morphed into.

SEN. JACK REED: So there is the possibility, in fact, if it’s done correctly as proposed, which we — I hope it is, that it would have — could have avoided this situation?

JAMIE DIMON: It’s possible. I just don’t know.

PAUL SOLMAN: As for the risks of being a bank that is simply too big, Dimon said size confers key competitive advantages, although it does bring baggage as well.

JAMIE DIMON: Greed, arrogance, hubris, lack of attention to detail.

PAUL SOLMAN: That prompted Republican Jerry Moran to ask:

SEN. JERRY MORAN (R), Kansas: How do you manage a company the size of J.P. Morgan and overcome those — that — that list of adjectives that you described are just a natural occurrence within a large organization?

JAMIE DIMON: Well, they can occur in small organizations, too. You know, look, we hope we have very good people.

(CROSSTALK)

SEN. JERRY MORAN: You aren’t talking about the Senate, surely?

JAMIE DIMON: No.

SEN. JERRY MORAN: OK.

JAMIE DIMON: Definitely not, not now.

PAUL SOLMAN: Next week, Dimon heads to the House for questioning. We will see how his sense of humor holds up.

JEFFREY BROWN: And Gwen Ifill takes up some of those questions raised during today’s testimony and what it says about risk on Wall Street.

GWEN IFILL: For that, we get two views. Dennis Kelleher is the president of BetterMarkets.com, a not-for-profit organization pushing for tougher financial regulation and transparency of Wall Street. And Bert Ely heads his own consulting firm specializing in banking, monetary policy and financial regulation.

Dennis Kelleher, in the end, after all this — the grilling back and forth today on Capitol Hill, did we learn anything that we didn’t know about what happened at J.P. Morgan Chase?

DENNIS KELLEHER, BetterMarkets.com: Well, unfortunately, we didn’t learn enough. One of the things we have learned over time is that JAMIE DIMON often talks quite a bit, but says very little.á

And he wasn’t pressed very hard on what the trades really were about or what the risks were or how the Volcker rule was implicated and why it’s so important to protect our financial system in light of what happened just a few years ago.

GWEN IFILL: Bert Ely, one thing we didn’t know today was how much was ultimately lost. We have heard figures ranging from $2 billion to $5 billion. Does it matter what the number is?

BERT ELY, Banking Consultant: Well, first of all, Jamie indicated that they haven’t been able to quantify the loss yet. They have to work things out totally. Supposedly, we will learn more about the possible ultimate cost of this event when they file their second-quarter earnings reports.

(CROSSTALK)

GWEN IFILL: In July.

BERT ELY: In July, and they will explain more then.

So, I think that while this is a very large loss in absolute terms, there’s no question about that, what I think is important is to keep it in proportion relative to the size of J.P. Morgan Chase. It may potentially equal a quarter’s worth of earnings, but — and maybe — may equal roughly 1 percent, 1.5 percent of the bank’s capital, but it is a loss that they can handle.

GWEN IFILL: Well, explain for our viewers the difference between, as some of the senators were seeming to get at today, hedging one’s bets to protect oneself, and placing bets with other people’s money.

DENNIS KELLEHER: Well, there’s really two points there.

First, as to the amount of money that we do or don’t know, it’s somewhere between $2 billion and $5 billion. And with all due respect, Bert, it’s not — it’s not right to have that type of a measurement to determine how important it is, because we know it’s $2 billion to $5 billion. But it very well could have been $15 billion, $20 billion, $25 billion if the bet had really gone wrong.

And we don’t even know that yet. The reports are that several hundred billion dollars was spent in the CIO unit, which was responsible for dealing with about $357 billion. So, the number shouldn’t make people relax and think things are good and things are fine.

The activity that generated the losses — and that goes to your question, Gwen, which is hedging and proprietary trading.

GWEN IFILL: Right.

DENNIS KELLEHER: If it’s hedging, over time, basically, losses should offset gains, and gains should offset losses. Hedging means to reduce risks.

And the Volcker specifically rule doesn’t allow hedging. It allows risk-reducing hedging, is what it’s called. Proprietary trading is when the banks use their money and they swing for the fences with big bets, very high risk, with potential for very big revenue coming in or very big losses. And we know that that’s very dangerous because, in the 2008 crisis, for example, that type of proprietary trading is what caused many of these banks to either fail or almost fail.

GWEN IFILL: But there is no Volcker rule, as we have heard. It hasn’t — it’s not actually been written fully, and it’s certainly not in effect. What difference would government regulation make in this kind of case that internal regulation didn’t catch?

BERT ELY: Well, I think that’s an excellent question.

I think there’s a good chance that the Volcker rule will just turn out to be unworkable. I think there are some conceptual flaws in it.

GWEN IFILL: And certainly Jamie Dimon has said that before, not today, but he has.

BERT ELY: Right. And many others have said the same thing, too.

There are questions how well the legislation is written. It’s vague in many ways. And the regulators are having a tremendously difficult time of trying to come up with a rule. But even if they come up with a rule, then the question is, how well will the examiners and supervisors out in the banks even be able to monitor what’s going on, much less enforce the rule?

The fundamental problem there is there is not a bright-line distinction between what is hedging and what is proprietary trading. And this particularly is true where a bank is making a market in securities for its customers. It has to buy and sell in order to maintain an inventory to serve its customers. And this is something that I feel the Volcker rule and its advocates don’t fully acknowledge or appreciate.

GWEN IFILL: Let’s talk about Jamie Dimon’s role here and his responsibilities. He said initially this was a tempest in a teapot. Then he said he was wrong about that. He said he was too complacent, that he trusted, but he didn’t verify.

But in the end, was what happened a blip on the radar, as I guess as Senator Corker described it, or was it a sign of something systemic that the CEO should have known about?

DENNIS KELLEHER: Well, fundamentally, he should have known about it and there’s no question about it.

One of the interesting facts that was not asked about at today’s hearing, Gwen, is on April 5 or April 8, both Bloomberg and The Wall Street Journal had detailed articles about the CIO office, the bets it was placing and the losses it was facing, including multibillion-dollar losses.

It took Jamie Dimon and J.P. Morgan until May 10 to find that out. So, the real question is, is why did The Wall Street Journal know a month ahead of time more about what was happening inside his bank than Jamie Dimon did?

GWEN IFILL: Bert Ely, what do you think about that?

BERT ELY: Well, first of all, it took them a while to finally figure out what was going on.

And, again, I think Dimon has been very clear in admitting that they blew it on that and that he shouldn’t have used the tempest in a teapot phrase. I don’t think…

GWEN IFILL: And you believe he didn’t know about it before the newspaper reports?

BERT ELY: I think that the big problem they seemed to have had is really getting a full understanding of what was going on and the risks that were taken.

They put a lot of — once they started to appreciate how bad the problem was, they put a lot of folks on trying to — not only in terms of trying to quantify what the problem was, but equally important trying to figure out how to work out of the situation.

GWEN IFILL: Continuing the question about Jamie Dimon himself, he is a member of the New York Federal Board of Governors, and he also makes a fair bit of money himself.

Today, we heard him talking about claw-backs, repayments from people who have since been fired or whose jobs have somehow gone away. Do we expect anything to happen to him? Is there going to be pressure to step down from the Fed Board, for instance?

DENNIS KELLEHER: Well, things should happen to him. And most importantly, he should be held accountable for what happened at the CIO office.

It has been reported and pretty clear that the CIO office in London used to be a relatively low-risk, high-liquid hedging operation. And it was transformed into a high-risk proprietary trading operation, more like a hedge fund, by Jamie Dimon and at Jamie Dimon’s direction. And the direction included turning it into a profit center.

That’s not a hedging operation. So, he shouldn’t be allowed to blame and fire other people. He should be investigated, as they have said. He also shouldn’t be able to sit with a conflict of interests, a glaring conflict of interests, on the board of the New York Fed.

And the problem — you know, the American people coming out of the crisis are looking at their government and what they’re doing and saying, wait a minute. Is there an unfair playing field? Are there conflicts of interests? How can people get special treatment? They need to not have people like that on the New York Fed, because the American people are not going to have any confidence in them.

GWEN IFILL: But J.P. Morgan Chase says they have a fortress balance sheet, they have a lot of money. They didn’t lose taxpayers’ money on this. They didn’t lose depositors’ money on this, shareholders’ value, certainly. Why is this any of the government’s business?

BERT ELY: Well, I think it’s the government’s business because it is a highly regulated institution. And if a bank fails, then potentially the rest of the banking industry, through the FDIC, is going to be on the hook for the losses.

And we have had substantial losses in bank failures, about $100 billion in the current situation, that is from 2007 to a few years from now. The banking industry is who is going to pay for those losses. So I think there’s a legitimate government concern there.

I think one of the problems is, people place excessive faith in the ability of government to regulate financial institutions, and that’s why we need to have more situations like this where it’s the stockholders that are taking the loss and who are going to insist on changes.

And Dimon indicated they are making changes within the bank, and I’m sure many other banks are going through and re-looking at how they conduct these types of operations.

GWEN IFILL: We will see if that’s true.

Bert Ely and Dennis Kelleher, thank you both very much.

DENNIS KELLEHER: Thanks, Gwen.

BERT ELY: Thank you. Glad to be here.