Here is a link to the verbatim “transcript”
of the May 10 JPMorgan
(JPM) conference call that everyone is talking about, but it would seem many only listened to it with selective hearing. This is my analysis of what was actually said and what it could mean.
Jamie Dimon comes clean about the loss. It is $800 million after taxes. Just over $2 billion on the trade, offset by about $1 billion in gains from an Available for Sale (AFS) account run by the CIO’s office.
The CIO has a portfolio of $200 billion. It is clearly not all mark-to-market, but they had $8 billion in unrealized gains in the AFS at the end of Q1.
The timing of when the company noticed the losses is discussed during the Q&A. It’s clear JPMorgan saw them in the first quarter, but weren’t concerned, and as losses grew in the second quarter, the company became more focused. This is important, because in assessing how much risk they had to manage in advance of the call is key. He goes on to apologize to analysts, saying that he knew about the losses during analyst week but couldn’t say anything about it.
My best guess is that the company was working on this for at least two weeks and knew that it had until the release of the 10-Q to work on cleaning up the position in secret. Just to be clear here, it looks like the regulators knew, just not the market in general. Throughout the call, he is clearly trying to convey that the regulators were informed, though obviously subject to some of the same bad data JPMorgan was relying on.
There is some back and forth; the company is largely not willing to go into detail, but it says that it is being managed. It could get worse. That message comes across loud and clear and has been repeated a lot. The hope of getting out without a loss was mentioned, but I haven’t seen this idea repeated very often.
By page eight, Dimon says that the company won’t make calls every time the portfolio moves around by $0.5 billion. Not sure how frequently we will see updates, but expect the next one to be either that it has been largely closed down (unlikely any time soon), or that the position has had a gain or loss of $1 billion.
The stock purchase program still seems set to go, and nothing about their capital plans (dividends) has been changed.
Page 10 is where it starts to get interesting. As I read this, I think they started last year with some shorts, I believe in HY CDS tranches. The company made money if you'll remember the jump to default risk in Eastman Kodak
(EKDKQ.PK) and American Airlines
(AAMRQ.PK). Then it seems like rather than cutting those positions, it decided to sell protection (on IG9 tranches, and others) to offset the cost. Again, this is clearly a global portfolio and wouldn’t have been all, or even primarily, domestic.
Reading between the lines, there is some anger that I can only guess was about the fact that the people involved were doing trades even after they had caused the market to move...so at best, they weren’t getting good value; at worst, they were keeping the P&L smoother than it really was. That would explain the backlash internally against the group better than a backlash about the fact that they had the positions, which Dimon must have been aware of. The shift in VAR is supportive of that; it was the “tranche” risk rather than outright risk which was the primary culprit. You can hit F9 as often as you want, and the risk in IG9 doesn’t change much, but the risk in an IG9 tranche could shift dramatically with some changes in correlation assumptions.
I like that he repeats over and over that the company will manage this for “economics,” and that it has patience and can absorb volatility to do it correctly. My guess is that JPMorgan has done a lot of “hedge and wedging” since it first focused on the short IG18 now vs. long IG9 tranches. Not a great hedge, but better than trying to cover a trade that would be hard to hide. Same with high yield. At some point, the company will want to reduce the basis, but it has probably put on trades that will control the larger directional risk.
By the end of the call, it is back to talking about the AFS portfolio. Depending on market moves, what was in, etc., there should still be $7 billion of unrealized gains that it could try and take. Actually by page 17, Dimon says it is higher now than it was then, although no specific number is cited. JPMorgan could sell these positions and monetize the gains, he says. For tax purposes, the company does not like to do it, but that is a pretty nice cushion against this trade.
The trade in question is fully mark-to-market, so gains and losses immediately flow through P&L. The hypothetical gain that is remaining has never been taken as P&L and is just waiting to be plucked if the company chooses to.
If I were a lawyer for the CIO group, I would focus on the answers near the bottom of page 17. Dimon goes through the trade and how it made money in the past -- but you get a feeling that something about marks, or size, or something else, wasn’t done the way it should have been. Or maybe he is just annoyed that they've taken this hit after he has been so vocal against regulation.
My take is that the situation won't get much worse. Ignoring the doom and gloom crowd (for which I have temporarily lost my membership card) is the right trade here. Single stocks aren’t my focus, but the reaction to the news and ignoring so much of what was said on the conference call seems like a dangerous decision.
Editor's Note: For more from Peter Tchir, check out TF Market Advisors.
No positions in stocks mentioned.
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