To this day, possibly one of the largest derivative trading losses was endured by JP Morgan Chase & Co. A huge trading bet backfired and left the bank with at least $9 billion in losses from the bad trade. The bank’s chief investment officer (CIO), responsible for managing the New York company’s risk, placed a series of risky bets and trades. An article published in The Wall Street Journal reported that “large positions taken in that office by a trader nicknamed ‘the London whale’ had roiled a sector of the debt markets. The bank, betting on a continued economic recovery with a complex web of trades tied to the values of corporate bonds, was hit hard when prices moved against it starting last month, causing losses in many of its derivatives positions. The losses occurred while J.P. Morgan tried to scale back that trade.”
In April of 2012, The Wall Street Journal reported that investors and hedge funds were trying to take advantage of trades made by Chase’s London whale, Bruno Iksil, who worked out of the CIO, by making bets in the market on credit default swaps (CDSs). The CIO group previously had stopgaps in place to protect and prevent the company from significant losses during periods of downturn in the economy. However, the Journal reports that earlier in 2012, “it began reducing that position, [taking] a bullish stance on the financial health of certain companies and selling protection that would compensate buyers if those companies defaulted on debts. Mr. Iksil was a heavy seller of CDS contracts tied to a basket, or index, of companies.” In April of 2012, these protection costs began to go up, which further contributed to the bank’s losses.
According to JP Morgan Chase company filings, Mr. Iksil’s group had approximately $350 billion in investment securities, about 15% of the bank’s total assets, on December 31, 2011. Mr. Dimon (the CEO) said the bank has an extensive review under way of what went wrong. “These were grievous mistakes, they were self-inflicted, we were accountable and we happened to violate our own standards and principles by how we want to operate the company. This is not how we want to run a business.”
Mr. Dimon held a conference call with investors and analysts on May 10, stating, “In hindsight, the . . . strategy was flawed, complex, poorly reviewed, poorly executed, and poorly monitored. The portfolio has proven to be riskier, more volatile and less effective . . . than we thought.” Dimon resolves, “We will learn from it, we will fix it, we will move on, hopefully in the end, it will make us a better company.” Though JP Morgan Chase came through the financial crisis better off than many other financial institutions, this trading loss certainly tarnishes its reputation. Mr. Dimon reported that the loss is “slightly more than $2 billion” in the second quarter of this year. Less than two months later, losses were estimated to be as much as $9 billion.
Could the bank have employed different or additional risk management techniques to mitigate the impact? Explain.
