By Gene Kirsch
Thursday, JPMorgan Chase & Co. (NYSE:JPM), the nation's largest bank by asset size, stunned financial markets when it announced $2 billion in gross trading losses incurred in the prior six weeks. The bank said it could face an additional $1 billion in second-quarter losses due to market volatility. But CEO Jamie Dimon said he could not disclose where it will be in the next quarterly release.
The losses stem from large synthetic derivative positions taken by a London-based trader in the bank's Chief Investment Office. Understandably, JPMorgan shares dropped sharply following the announcement. Friday, the stock closed at $36.96, a 9.28% drop on the day. This is clearly a dramatic market overreaction.
Financial stocks were blasted Friday as the news spread, affecting the largest cap stocks and national banking centers the most with the KBW Banking Index (BKX), a narrower index of the 24 largest banking centers down 1.15%, and the S&P Bank Index (BIX), a broader based index, up 0.26%.
The losses come at a time when regulators are debating implementation of the Volcker rule aimed at restricting banks from using their own funds to make risky, speculative trades. The rule, named for former Federal Reserve Chairman Paul Volcker, is a provision of the 2010 Dodd-Frank financial reform law. Naturally, large banks have opposed the added regulation. And its implementation has been hotly debated by the financial community and industry regulators.
Such large, unanticipated losses will certainly be used to support the proposed regulation intended to reduce the complexity and reach of banks such as JPMorgan that are considered "too big to fail."
But let's take a closer look. JPMorgan losses are reported to be actually $800 million in Q2 with the potential for legal and other losses up to $4.2 billion over a longer period of time, possibly exceeding one year.
At this point, the impact appears to be isolated to just JPMorgan. Of course, we will need to watch the market for other banks reporting losses to see how far reaching the problem is. Banks will need to disclose material losses before Q2 closes on June 30.
Losses of the size JPMorgan disclosed are never good, but when you take out the market noise and consider the makeup of this bank, you get a more balanced perspective.
The banking unit of JPMorgan Chase alone made $12.4 billion last year. The holding company has over $2.26 trillion in assets and is the largest U.S. bank and 8th largest in the world. The holding company made $29.9 billion in operating income and just over $20 billion in net income for 2011.
So, this initial loss of $800M represents approximately 4% of its total net profit for all of 2011, less than 2.7% of its operating income. Certainly it's not a good thing. But the reported losses, in and of themselves, are not likely to have a dramatic impact on JPMorgan's long-term financial stability.
It is unfortunate that after weathering the recent financial crisis better than most of its peers, the circumstances behind the losses have tarnished the bank's reputation. In a conference call with analysts and investors, the CEO, Jamie Dimon, called the bank's strategy "flawed, complex, poorly reviewed, poorly executed and poorly monitored. "
You have to give him credit for admitting the mistakes. Now, they'll have to address those issues to move on.
Markets that are already on edge tend to react dramatically when bad news like this comes out of the blue, but given the relative size of this loss to the bank's overall financial condition, JPMorgan is not likely to fade into oblivion any time soon. Buying opportunity, anyone?