# JP Morgan Screws Up With Derivatives Trading **URL:** \ **Category:** Great Debates\ **Created:** [May 11, 2012, 6:49pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633 "2012-05-11T18:49:42Z")\ **Posts on this page:** 20\ **Page:** 6
**Author:** ![John\_Mace](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/john_mace/32/185_2.png) [@John\_Mace](https://boards.straightdope.com/u/John_Mace)\ **Post date:** [May 15, 2012, 10:57pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/101 "2012-05-15T22:57:28Z")
> [@Trom](#): > > Uhhh, you made the claim. How do I cite something that hasn’t happened? Cite back at you. Let’s not worry about it. My point was really that it wasn’t the government or the taxpayers taking the hit. Whether it’s JPM or JPM’s investors is the same thing in my book. > [@Voyager](#): > > Every investment has a risk. Investments with greater risk yield greater returns when they are going well - and also crash harder. Management, who want to increase returns, clearly are going to move to investments with higher risk. It is the job of the risk management departments to stop them. > Okay so far? OK so far. > [@](#): > > 2008 and this situation have clearly demonstrated that risk management departments are not up to the job. The $2 billion loss was not an acceptable result of trading - it got the manager responsible fired. That is different from it not blowing up the company. Why did risk management fail? It might be the pressure to make a better return, it might be because the products are so complicated that they aren’t understood, or the models might be wrong. > But it is clear that banks cannot regulate themselves, even well-run ones, thus we need regulations imposed by someone who doesn’t have a duty to increase their short run profitability. I can’t think anyone but the government who can do this, can you? > If by “this particular risk” you mean whether there should be a regulation to stop the exact thing they did, then no one I’ve seen agrees. If we ban one trading strategy five more will pop up. What this particular risk did was falsify the claim that much of the proposed regulation was unnecessary because the banks wouldn’t make that kind of mistake again. That’s where you lose me. How does this particular loss compare to the kinds of losses that created the meltdown in 2007/2008? What if the loss had been $5M? What if they had gotten lucky and made $2B instead of losing it? I don’t care about the loss, itself-- that is, the $ amount. I want to understand what it is about the nature of this particular loss that ties it to the kinds of losses that occurred in 2007/2008. I’m just not seeing it in anyone’s post so far. ---
**Author:** ![Hbns](https://avatars.discourse-cdn.com/v4/letter/h/8edcca/32.png) [@Hbns](https://boards.straightdope.com/u/Hbns)\ **Post date:** [May 15, 2012, 10:58pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/102 "2012-05-15T22:58:10Z")
NM **John Mace** was kind enough to concede the point. 🙂 ---
**Author:** ![Hbns](https://avatars.discourse-cdn.com/v4/letter/h/8edcca/32.png) [@Hbns](https://boards.straightdope.com/u/Hbns)\ **Post date:** [May 15, 2012, 11:09pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/103 "2012-05-15T23:09:08Z")
> [@John\_Mace](#): > > I don’t care about the loss, itself-- that is, the $ amount. I want to understand what it is about the nature of this particular loss that ties it to the kinds of losses that occurred in 2007/2008. I don’t know that it is tied to 07/08 other than this again seems to be a case of driving up a derivative until someone is left holding the bag. Scuttlebutt I have heard is that the JPM trades were sufficient to influence the market and by extension the derivative fund, and this was being actively and successfully done until enough other traders took opposite positions to quell the upward manipulation. Hell I don’t even have a problem with that really. The market was self correcting as it should be. The only thing that bothers me is the multiplied exposure that these derivative funds seem to have. It seems to be easy for the firms to overlook just how exposed they are or have become, and this isn’t a good thing. ---
**Author:** ![Trom](https://avatars.discourse-cdn.com/v4/letter/t/958977/32.png) [@Trom](https://boards.straightdope.com/u/Trom)\ **Post date:** [May 15, 2012, 11:22pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/104 "2012-05-15T23:22:14Z")
> [@Hbns](#): > > NM **John Mace** was kind enough to concede the point. 🙂 Investors in JPM are not the same as people who use JPM as a custodian of their accounts. The claim that people using JPM as custodian of their accounts could lose money from this is what I was responding to. It’s an important distinction. ---
**Author:** ![John\_Mace](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/john_mace/32/185_2.png) [@John\_Mace](https://boards.straightdope.com/u/John_Mace)\ **Post date:** [May 15, 2012, 11:31pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/105 "2012-05-15T23:31:56Z")
> [@Trom](#): > > Investors in JPM are not the same as people who use JPM as a custodian of their accounts. The claim that people using JPM as custodian of their accounts could lose money from this is what I was responding to. It’s an important distinction. Yes, I agree. If I have 401k invested in the S&P500 at JPM, I better not be affected by this. If I own JPM stock, then I’m SOL. I hadn’t noticed that he was talking about both those situations earlier. ---
**Author:** ![elucidator](https://avatars.discourse-cdn.com/v4/letter/e/8edcca/32.png) [@elucidator](https://boards.straightdope.com/u/elucidator)\ **Post date:** [May 15, 2012, 11:54pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/106 "2012-05-15T23:54:49Z")
> [@Hbns](#): > > …The market was self correcting as it should be… I’ve heard this phrase many a time, and I’m not quite sure I believe, or maybe just don’t understand it. Is that “self-correcting” in the same sense as lemming population control mechanisms? ---
**Author:** ![FinnAgain](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/finnagain/32/12500_2.png) [@FinnAgain](https://boards.straightdope.com/u/FinnAgain)\ **Post date:** [May 15, 2012, 11:57pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/107 "2012-05-15T23:57:59Z")
[Lemmings do not work like that.](http://www.snopes.com/disney/films/lemmings.asp) ---
**Author:** ![elucidator](https://avatars.discourse-cdn.com/v4/letter/e/8edcca/32.png) [@elucidator](https://boards.straightdope.com/u/elucidator)\ **Post date:** [May 16, 2012, 12:17am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/108 "2012-05-16T00:17:04Z")
I go then to the river, to perform the Ancient Albanian Ritual of Self-abasement, accompanied by a Chorus of Bitter Virgins, intoning dirges of woe and humiliation. ---
**Author:** ![Voyager](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/voyager/32/133_2.png) [@Voyager](https://boards.straightdope.com/u/Voyager)\ **Post date:** [May 16, 2012, 6:07am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/109 "2012-05-16T06:07:24Z")
> [@ralph124c](#): > > Why doesn’t the government encourage banks to invest in state lottery tickets? They could buy up huge blocs, ensuring a steady return..and they would be helping with state finances. > Sounds like a plan! Hush! Someone might be listening. ---
**Author:** ![Voyager](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/voyager/32/133_2.png) [@Voyager](https://boards.straightdope.com/u/Voyager)\ **Post date:** [May 16, 2012, 6:20am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/110 "2012-05-16T06:20:33Z")
> [@John\_Mace](#): > > That’s where you lose me. How does this particular loss compare to the kinds of losses that created the meltdown in 2007/2008? What if the loss had been $5M? What if they had gotten lucky and made $2B instead of losing it? > > I don’t care about the loss, itself-- that is, the $ amount. I want to understand what it is about the nature of this particular loss that ties it to the kinds of losses that occurred in 2007/2008. I’m just not seeing it in anyone’s post so far. In 2007 the risk management departments of banks in some way decided that the housing market would never go down nationwide. Beyond that, an article in the Times magazine about a risk evaluation tool everyone was using (which I think was developed by JPM) said that the fatal flaw was that the rules allowed the risk to be cut to 1% or something - except everyone created instruments that had 1% risk, which simple probability tells you was a guaranteed disaster. Basically the goal of everyone was not to reduce risk, but to play the tool so that they got the maximum allowable risk (and return). In this case the risk management formula was changed in a way that reduced the risk of this investment. (I’ve seen no evidence that this was deliberate.) The Times article I mentioned before said that the Chief Investment Office brought in risk management people they were friendly with, and that New York didn’t really understand the complexity of the trades being done in London. (Which should also ring a bell.) Even when the alarm bells went off in April, with very erratic trading sessions with big gains and big losses, the amount invested increased. Dimon was busy with other problems until it was too late. And just like 2008, this did not happen from anyone being crooked or breaking any laws. The bank of course says that its risk management is just fine - I think the results say otherwise. So we have more or less out of control traders dealing in trades no one understands without enough supervision. That is why it is similar. ---
**Author:** ![Voyager](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/voyager/32/133_2.png) [@Voyager](https://boards.straightdope.com/u/Voyager)\ **Post date:** [May 16, 2012, 6:25am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/111 "2012-05-16T06:25:49Z")
> [@Trom](#): > > Investors in JPM are not the same as people who use JPM as a custodian of their accounts. The claim that people using JPM as custodian of their accounts could lose money from this is what I was responding to. It’s an important distinction. Well, yes and no. Joe Nocera’s column today discusses this. It seems that the money used as the base of this investment came from insured JPM deposits. Instead of investing these in safe loans, they decided that to get higher returns (and it doesn’t seem these returns would go to the investors) they would invest in corporate bonds. The first level hedge was basically insurance on the bonds (like what AIG sold) and the second level was a hedge on the hedge, which no one seems to really understand. I don’t know if investing insured deposits in riskier trades to make more money for the bank is proprietary trading or not. The authors of the bill think so. But it is exactly the kind of thing Glass Steagall prevented. ---
**Author:** ![Trom](https://avatars.discourse-cdn.com/v4/letter/t/958977/32.png) [@Trom](https://boards.straightdope.com/u/Trom)\ **Post date:** [May 16, 2012, 1:26pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/112 "2012-05-16T13:26:11Z")
> [@Voyager](#): > > Well, yes and no. Joe Nocera’s column today discusses this. It seems that the money used as the base of this investment came from insured JPM deposits. Instead of investing these in safe loans, they decided that to get higher returns (and it doesn’t seem these returns would go to the investors) they would invest in corporate bonds. The first level hedge was basically insurance on the bonds (like what AIG sold) and the second level was a hedge on the hedge, which no one seems to really understand. > > I don’t know if investing insured deposits in riskier trades to make more money for the bank is proprietary trading or not. The authors of the bill think so. But it is exactly the kind of thing Glass Steagall prevented. Customer accounts are _sooooo_ far down the list of things that get touched in the event of failure it’s pretty much just fear-mongering to bring it up in this context. The institution would have to essentially fail, stock go to zero, preferred stock go to zero, bond holders take a hair cut/get wiped out, SIPC insurance (which covers $500k per account) be exhausted, and then the insurance covering deposits not covered by SIPC (in the neighborhood of [hundreds](https://personal.vanguard.com/us/whatweoffer/stocksbondscds/accountprotection)of millions of dollars for large institutions) would have to be burnt through. Then customers _might_ have to be worried. Most likely another institution would purchase the customer accounts and the only thing people would notice would be a different bank’s name at the top of their monthly statement. ---
**Author:** ![Voyager](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/voyager/32/133_2.png) [@Voyager](https://boards.straightdope.com/u/Voyager)\ **Post date:** [May 16, 2012, 6:59pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/113 "2012-05-16T18:59:14Z")
> [@Trom](#): > > Customer accounts are _sooooo_ far down the list of things that get touched in the event of failure it’s pretty much just fear-mongering to bring it up in this context. The institution would have to essentially fail, stock go to zero, preferred stock go to zero, bond holders take a hair cut/get wiped out, SIPC insurance (which covers $500k per account) be exhausted, and then the insurance covering deposits not covered by SIPC (in the neighborhood of [hundreds](https://personal.vanguard.com/us/whatweoffer/stocksbondscds/accountprotection)of millions of dollars for large institutions) would have to be burnt through. Then customers _might_ have to be worried. Most likely another institution would purchase the customer accounts and the only thing people would notice would be a different bank’s name at the top of their monthly statement. Nowhere did I say or claim that customer accounts were at risk. The point was whether trading using customer money but for the bank’s profit can be considered proprietary trading or not. If the customers had bought a bond fund, then it is clearly not proprietary trading, including the hedges. In this case the first hedge is allowed. That seems pretty clear. And that is not where they lost the money. The first hedge was going down in value as the underlying investment went up. Now, if this was a pure hedge that would be expected. You can’t expect both sides to make money. But because the Chief Investment Office was a profit center, they did the second level of hedging which is where they ran into trouble. And that one seems proprietary to me. ---
**Author:** ![Trom](https://avatars.discourse-cdn.com/v4/letter/t/958977/32.png) [@Trom](https://boards.straightdope.com/u/Trom)\ **Post date:** [May 16, 2012, 7:25pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/114 "2012-05-16T19:25:13Z")
> [@Voyager](#): > > Nowhere did I say or claim that customer accounts were at risk. The point was whether trading using customer money but for the bank’s profit can be considered proprietary trading or not. If the customers had bought a bond fund, then it is clearly not proprietary trading, including the hedges. > In this case the first hedge is allowed. That seems pretty clear. And that is not where they lost the money. The first hedge was going down in value as the underlying investment went up. Now, if this was a pure hedge that would be expected. You can’t expect both sides to make money. But because the Chief Investment Office was a profit center, they did the second level of hedging which is where they ran into trouble. And that one seems proprietary to me. You quoted my post in which I was rebutting the statement that customer funds were at risk. So, I figured I’d clarify - they aren’t. I don’t care to argue about whether or not the trade was a proper hedge or proprietary, as I don’t think it is really the issue. ---
**Author:** ![Voyager](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/voyager/32/133_2.png) [@Voyager](https://boards.straightdope.com/u/Voyager)\ **Post date:** [May 17, 2012, 4:12am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/115 "2012-05-17T04:12:00Z")
> [@Trom](#): > > You quoted my post in which I was rebutting the statement that customer funds were at risk. So, I figured I’d clarify - they aren’t. > > I don’t care to argue about whether or not the trade was a proper hedge or proprietary, as I don’t think it is really the issue. I guess you missed where I said insured deposits. ---
**Author:** ![Randvek](https://avatars.discourse-cdn.com/v4/letter/r/a6a055/32.png) [@Randvek](https://boards.straightdope.com/u/Randvek)\ **Post date:** [May 17, 2012, 6:45am UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/116 "2012-05-17T06:45:32Z")
> [@Trom](#): > > I don’t care to argue about whether or not the trade was a proper hedge or proprietary, as I don’t think it is really the issue. Agreed. “How” isn’t nearly as important as the fact that this entire loss is on the shoulders of _one man_ who doesn’t even have the decency of getting himself elected before playing recklessly with that kind of money. ---
**Author:** ![Trom](https://avatars.discourse-cdn.com/v4/letter/t/958977/32.png) [@Trom](https://boards.straightdope.com/u/Trom)\ **Post date:** [May 17, 2012, 3:23pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/117 "2012-05-17T15:23:04Z")
> [@Voyager](#): > > I guess you missed where I said insured deposits. 😕 I don’t follow you. All I’ve attempted to do in this thread is rebut this false statement: [QUOTE=Hbns] There is no secret reserve stash to replenish the funds that were traded to take this losing position. **Those people with IRA’s and 401k’s in JPM administered funds are most likely who are going to cover it.** [/QUOTE] ---
**Author:** ![ralph124c](https://avatars.discourse-cdn.com/v4/letter/r/8797f3/32.png) [@ralph124c](https://boards.straightdope.com/u/ralph124c)\ **Post date:** [May 19, 2012, 10:44pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/118 "2012-05-19T22:44:58Z")
JPMC is now hinting that the losses may be quite a bit higher…stay tuned!😃 ---
**Author:** ![elucidator](https://avatars.discourse-cdn.com/v4/letter/e/8edcca/32.png) [@elucidator](https://boards.straightdope.com/u/elucidator)\ **Post date:** [May 19, 2012, 11:22pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/119 "2012-05-19T23:22:01Z")
A little higher. A few hundred million, maybe. No biggie. ---
**Author:** ![Evil\_Captor](https://avatars.discourse-cdn.com/v4/letter/e/f17d59/32.png) [@Evil\_Captor](https://boards.straightdope.com/u/Evil_Captor)\ **Post date:** [May 20, 2012, 4:18pm UTC](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633/120 "2012-05-20T16:18:34Z")
Basically, all the pro-JPM positions I’ve seen are just saying, “Hey, the company wasn’t ruined _this time._” But what about next time? There won’t be one? Jamie Diamant said there wouldn’t be a THIS time! [Previous page](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633.md?page=5) [Next page](https://boards.straightdope.com/t/jp-morgan-screws-up-with-derivatives-trading/621633.md?page=7)