JPMorgan and the Alabama Swaps

Amazing story here.... you really need to read the whole thing. The salient point is here:

The county paid JPMorgan and a group of banks $120.2 million in fees for $5.8 billion of derivatives, according to a series of stories published by Bloomberg News in 2005. The payments were about $100 million more than they should have been based on prevailing rates, according to estimates in 2007 by James White, an adviser the county hired after the SEC said it was investigating the deals.

That's six times what they should have cost - that is, six hundred percent of market price or a 500% overcharge.

Must be nice eh? What did they do to get this? Allegedly:

The SEC alleged that JPMorgan, Charles LeCroy, the banker who pitched the refinancing to Jefferson County, and Douglas MacFaddin, the former head of the New York-based bank’s municipal derivatives desk, made more than $8 million in undisclosed payments to close friends of county commissioners. The associates owned or worked at local-broker dealer firms that didn’t do any work on the deals, the SEC said.

Not bad. Pay $8 million in kickbacks and get $100 million in overcharge. The allegedly-bribed weren't very good negotiators - you'd think they would have gotten half, right?

And again, we settle for a fine and of course admit no guilt.

Nov. 4 (Bloomberg) -- JPMorgan Chase & Co. agreed to pay $75 million and forfeit another $647 million in interest-rate swap termination fees to settle a U.S. Securities and Exchange Commission probe into the sale of derivatives that helped push Alabama’s most populous county to the brink of bankruptcy.

If I pulled something like this as a person I'd go to prison for a number of years - maybe 10 or more.

Why don't government officials revoke the corporate charters of firms that pull this sort of crap?

It's pretty hard to argue that executives at the top level of a company "didn't know" when you overcharge someone by 500%. It's one thing if you charge someone $100 for a $90 product - it's quite another when you charge someone $120 million for something that is trading in the market for $20 million.

"I didn't know about it" looks awfully thin from where I sit.

Comments

[optionsgirl:]

Karl: The questions you raise are very good. But, I would like to add just one more:
Why were counties buying derivatives in the first place?

Nov 04 03:33 PM

[Jason722:]

Also, what has happened to the elected officials in the Alabama county that happily handed over $120M of taxpayer money for $8M that went to their friends?

Nov 04 04:10 PM

[PPY:]

In other words, via billions of government assistance, we have been funding JPM to destroy ourselves?

JPM got $29 billion from BSC/Maiden Lane, $25 billion from TARP, $40 billion from TLGP and who knew what else AFTER making billions at the expense of county hospitals, schools, etc?

Unbelievable!

By the way Karl, I want to thank you for all your honest and super informative articles. You are an amazing writer/economist!

*imho*

Nov 04 06:56 PM

[ebworthen:]

At first I thought the article was titled:

"JPMorgan and the Alabama Swamps"

But...it fits.

I worked for a company that did this type of thing, make it so the folks in the field would rip-off the customer to make quota, but never recognize it. New employees learned the game, quit, or got fired. Those at the top new exactly what the game was, but denied any knowledge or acted indignant if honest employees pointed it out.

Imagine how many stories like this involving derivatives across the nation and the world market there are - yet never to be revealed.

You start to see how the FED could possibly need to inject 1.5 Trillion dollars. It boggles the mind - in the swamps.

Nov 04 07:31 PM

[perceptions...:]

How many more???

Nov 05 08:59 AM

[User 418228:]

dead on


On Nov 04 07:31 PM ebworthen wrote:

> At first I thought the article was titled:
>
> "JPMorgan and the Alabama Swamps"
>
> But...it fits.
>
> I worked for a company that did this type of thing, make it so the
> folks in the field would rip-off the customer to make quota, but
> never recognize it. New employees learned the game, quit, or got
> fired. Those at the top new exactly what the game was, but denied
> any knowledge or acted indignant if honest employees pointed it out.
>
>
> Imagine how many stories like this involving derivatives across the
> nation and the world market there are - yet never to be revealed.
>
>
> You start to see how the FED could possibly need to inject 1.5 Trillion
> dollars. It boggles the mind - in the swamps.

Nov 05 10:49 AM

[User241885/...:]

This isn't just about two crooked bankers. If you know the background facts, you see this falls squarely into the slippery slope category.

First, the feds put an unfunded mandate on the county to take on one of the biggest sewer projects in US history, something close to th Big Dig in Boston, except without the feds pitching in one cent.

Then the Alabama legislators refused to back the proposed bond issue with the full faith and credit of the state. You tell me what that means when your own elected officials won't get behind the biggest bond deal in your state's history?

Since the county, the most populus in the state as the writer noted, does not have the same high credit rating as the state, the project was faced with paying higher interest rates. Enter the bankers. One of the orginal hoped for utilities of the derivative product was to offer a low rate where credit enhancement otherwise would have done the job.

Since all this happened my understanding is that the state legislators have come back in and backed the deal but only after the county nearly bankrupted when the swap higher payment terms were triggered.

You really do have to wonder why the state did not act earlier as this has been a major municipal finance event going on two years. Had they acted in the interest of their constituents, there would have been no need for derivates in the first place.

As much as I would like to fault a lot on amoral business people, there is plenty of blame to spread around.


FAMCO

Nov 05 01:18 PM

[Graham and ...:]

What was the Nixonian term to describe the willful ignorance of top management? "Deniability?"

Nov 05 06:44 PM

[obewon:]

This is only one of the many, many ways that JPM defrauds the American people, its federal government, as well as state/ local governments.

@OptionsGirl:
State and Local governments (including county governments) want to boost the returns on their investments. The problem is twofold:
1. these government officials know nothing about leveraged investments, and
2. the smooth-talking crooks from the big US banks infiltrate state/ local governments and convince the government employees that they "have ways" of juicing the returns through various means (e.g. leverage, or derivatives, or credit default swaps, etc.).

Back in the mid 1990s, a CA county (Orange County) was forced to declare bankruptcy for this very reason.
Link: www.google.com/search?...

The Orange County politician was so inept, he didn't even understand what he had gotten into; but I still remember his explanation to an inquiring press: "you all simply do not understand the sophisticated investment techniques that I'm using."

Nov 05 09:06 PM