So far, JPM’s CEO seems to have ably weathered the storm
If this were Europe, the regulators would be calling for his head. Recall what happened to Oswald Gruebel at UBS and Daniel Bouton at Société Générale.
So why is Jamie Dimon being given a free pass?
When he revealed JPMorgan’s stunning loss a week ago, Dimon gave every appearance of having been truly surprised. If he really was caught unaware, then he didn’t know the extent to which the bank’s Chief Investment Office had underestimated the market risk of its supposedly-hedged $360 billion cache of corporate and mortgage-backed bonds. He also didn’t know that the CIO’s hedging strategy had effectively dominated the global market for credit default swaps (CDS) on investment-grade corporate bonds and that the bank’s hedges could not therefore be unwound quickly or quietly.
In Jamie Dimon’s defense, and no matter how sophisticated a banker he may be, anyone who has ever worked on Wall Street knows that the CEO of a large and complex financial institution like JPM could not possibly follow the day-to-day ins-and-outs of the CIO’s dynamic hedging strategy.
Designed to protect the bank’s balance sheet, the CIO’s hedge strategy reportedly involved multiple successive purchases of near-term corporate credit default insurance coupled with multiple successive sales of longer-dated credit default protection in amounts and at times that were intended to track variations in corporate credit spreads. Behind the trades, inferably, was the CIO’s view that corporate credit risk would increase in the short-term (due to Eurozone uncertainties) and diminish over time, with the hedges mitigating the bank’s bond exposure and ultimately profiting from favorable pricing differences between short- and medium term CDS maturities.
We now also know that the CIO used Value-at-Risk (a risk metric which JPM ironically invented in the early 1990’s) to quantify how much its hedged bond portfolio could lose on any trading day. Simply put, VaR measures the maximum amount a given portfolio of financial instruments could be expected to lose 95% of the time. It does not, however, measure a portfolio’s maximum market exposure during the other 5% of the time (so-called “tail risk”). That particular shortcoming was dramatically revealed during the financial crisis, and it reared its ugly head again by missing the explosion in JPM’s theoretical market risk as the CIO’s multi-layered credit hedge unfolded.
Ina Drew, the 30-year JPM veteran who headed the CIO until last week (and who has not spoken to the press), must have given Jamie Dimon good reason to believe that the bank was not seriously at risk when the “London Whale” story broke last month and everyone then knew that JPM had gained control of the high-end CDS market. At the time, Dimon dismissed the incident as a “tempest in a teapot,” but later had to eat those words at the press conference in which he dejectedly aired the bank’s gigantic loss.
As I see it, Jamie Dimon gets a pass here because he did not take his eye off the ball or foster a culture in which rogue trading could germinate. He clearly trusted Ina Drew who had carefully managed the CIO for years and who was one of Dimon’s highest paid executives. Dimon is further regarded by both Washington and Wall Street as a hands-on CEO who runs a tight ship and who guided JPM through the financial crisis better than any of his banking counterparts. President Obama leapt to Dimon’s defense when JPM’s loss was first disclosed and called him “one of the best bankers we’ve got.” To date, not a single lawmaker, regulator, journalist or JPM shareholder has called for Jamie Dimon’s ouster and so, no matter what any of us may think of a CEO’s responsibility for shocking mishaps on his watch, JPM’s huge, wayward hedge of 2012 will apparently go down in history without taking the bank’s CEO along with it.