Lots of ink has been spilled over the loss of at least $2 billion in JPMorgan Chase's Chief Investment Office in London. And nothing, so far, has been learned.
Indeed, even Jamie Dimon hasn’t been able to articulate what, if anything he will do differently to avoid larger explosions. His remedy every time (mortgages, retail, CIO) is simply to dump the long-time close associates on whom the bad result is pinned. And go on holding his famous twice-a-day telephone conference meetings. Not exactly a systemic solution.
It's natural for regulators and legislators likewise to learn nothing from Jamie’s mess-up. After all, the same thing happened repeatedly in the past, and nothing significant has been done to eliminate the causes.
Consider Long-Term Capital Management, the hedge fund that unraveled in 1998. It was by no means the largest hedge fund, and it was run by geniuses, Nobel prizewinners.
We're told that LTCM's excessive and catastrophic derivatives holdings threatened the world economy. These positions were so disproportionate to market liquidity that it took months to unwind them. The perpetrators received financial concessions to induce them to stay and apply their "expertise" to unwinding the positions.
All that didn't lead to tighter regulation of derivatives. It didn't lead to tighter regulation of hedge funds. Neither did the financial crisis that took place a decade later.
Instead, we've got the Securities and Exchange Commission's attempt to make money market mutual funds look worse to investors. Happily, that effort is now bogged down in politics. Best possible outcome.
Then, there was AIG, another loss to taxpayers that (as with GMAC, now called Ally) President Obama would prefer that we forget. A major perpetrator, in London, was Joe Cassano. Many months before the company cratered, Joe was somehow prevailed upon to stop emitting more of the toxic credit default swaps. But his position was not unwound. Too big. AIG owned the market. Any attempt to reduce the exposure would have drastically accelerated recognition of the losses and would have called attention to AIG's fatal vulnerability. Sound familiar?
The market somehow continued to function after Joe stopped writing bad paper. Evidently the "liquidity" he was providing was not indispensable.
When AIG ultimately was downgraded and became insolvent, the positions still couldn't be liquidated. So, as I understand it, the taxpayers, through our ownership of AIG, paid Joe $1 million per month to help dump the losing positions.
Thus, JPMorgan's Ina Drew, Achilles Macris, Bruno Iksil and Jamie have worthy and well-rewarded predecessors. This is just history warmed over, for the bewilderment of those who didn't and won't learn.
Meanwhile, Jamie's lobbyists, Goldman Sachs' and others are said to be out there, opposing any and all position limits. Opposing common sense and advocating unlimited risk to Too-Big-to-Fail institutions and to the entire financial system. All in the name of providing unnecessary "liquidity."
The principal reason lobbying against salutary and necessary regulation often works (except in the immediate aftermath of a systemic crisis) is not campaign contributions—although those help. Rather, it's the continued need of people in Washington to believe, contrary to all evidence, that we have brilliant, incisive, selfless people running our financial institutions. (Because, if we don't, then how can we sleep at night?)
You're reading this, so you probably know someone who works as an investment professional. Ask her whether there is an absolute limitation on the size of each position her institution takes or holds, relative to daily trading volume for the instrument. To that question, I always get the answer, "YES, OF COURSE." Every single time. If you can't be confident of liquidating quickly, then your potential loss is at least 100% for long positions, such as Greek bonds, or unbounded for short positions. But someone's brother-in-law, running risk at Jamie's CIO, hadn't learned that.
Behold the pious and learned nodding over how wonderful it is that Jamie’s admitted loss was "only" $2 billion, and that Jamie has a "fortress balance sheet."
The loss could be $4 billion or more before this "hedge" is unwound. And the loss up to now came very quickly, from only minor market fluctuations. Maybe it will be $40 billion if the shattering of the euro causes a systemic blast.
Who besides Jamie will sign for the proposition that Chase actually has a "fortress balance sheet"? How many $100 billion exposures has Chase accumulated that haven't made the headlines yet?
Well, tell me some good news. I've yet to hear of a financial institution that was saved from disaster (rather than sunk) by CDS's. I've yet to hear why it is necessary or appropriate for banks to deal in them. But I'm always ready to learn. Until then, my proposed position limit for CDS's at insured institutions would be zero.
Andrew Kahr is a principal in Credit Builders LLC, a financial product development company, and was the founding chief executive of First Deposit, later known as Providian.