The criticism of Jamie Dimon, the CEO of JPMorgan, and his firm after the announcement of $2 billion in hedging and trading losses has been like the bursting of a dam wall. It seems over done to me. Overall, Dimon has been a terrific CEO for JPMorgan. Citigroup shareholders must rue the day in 1997 that Dimon was fired by the then Citigroup CEO Sandy Weill. JPMorgan’s losses in the GFC were small compared to most of the other large banks because of Dimon’s risk management as COO and then CEO in the years leading up to July 2007. His purchases of Bear Stearns and then Washington Mutual were good for JPMorgan shareholders and for the US economy. In a crisis as deep as the GFC having strong banks to absorb the failing banks is tremendously helpful. If there had been one more big healthy bank to take over Lehman Brothers in September 2008 then a global disaster would have been averted. Today, JPMorgan is nearly as profitable as it was before the GFC, making $18 billion per year.
What should we make of the $2 billion in losses announced a week ago? It is hard to know without more information. What do we know? We know that JPM has $350 billion invested in credit market instruments, but we don’t know what they are. We know that JPM was actively hedging a portion of the credit risk in this portfolio, but we don’t how exactly. We know that something went wrong with the hedging strategy, but we don’t know what. We know that market-to-market losses in the hedging portfolio are more than $2 billion and may go as high as $4 billion, but we don’t know anything about matching gains in the portfolio that is being hedged. It has been reported that gains in the $350 billion portfolio are more than $6 billion, but we don’t know whether that is right.
It is not surprising that JPM has a large portfolio of corporate bonds, mortgage backed securities and CDO pieces. At the moment these investments are better investments than making new loans. These instruments are risky, so it is good that they are being hedged and the hedging portfolio should not be viewed in isolation of the portfolio that it hedges. It is always misleading to view natural exposures and the hedges separately.
Consider for instance the hedging of fuel costs by Qantas. Imagine that Qantas hedges against a rise in its fuel cost by taking a long position in oil futures contracts with delivery dates in different months in 2013. Now imagine that after putting the hedge in place the price of oil falls. Qantas will suffer a loss in its hedging portfolio. Should the CFO of Qantas be sacked for that? For losing money by speculating on the oil price with futures contracts. No, of course not — the hedging portfolio must be considered in the context of the underlying exposure that is being hedged.
The same is true for JPM. The bank lost $2 billion in their hedge portfolio. What is the overall position, considering both the $350 billion portfolio and the hedge portfolio together? We don’t know, but we need to know before we call for Dimon’s head.
Something has gone wrong with the hedging. Dimon has been clear on that. It appears, from what traders in the credit markets are writing, that JPM has cornered itself in a very large and illiquid position in the credit markets. The best discussion of what is known about the pieces of the hedge is on the FT Alphaville site, starting here.
I can understand that many people are excited to finally have a banker who can be referred to by name and be scorned and become the focal point for all that frustration and vexation. Someone to blame and vilify. Someone to bring low. But, in Jamie Dimon I think they have the wrong guy. Overall, Dimon is one of the good guys in the GFC. Even if it turns out that the $3 billion loss was the result of pure speculation, it doesn’t offset the good things that Dimon has done at JPM. If every large bank in the world had someone of Dimon’s prudence and ability at the helm then we would not be in the mess we are in.