On reading this CorpWatch account of more Wall Street goings-on, one wonders if the financial whales are getting closer to facing some meaningful penalties for their seemingly never-ending romance with derivatives.
Wall Street Giants – JP Morgan and SAC – Hauled Up On Fraud Allegations
by Pratap Chatterjee, CorpWatch Blog March 15th, 2013
2010 protest against JP Morgan. Photo: SEIU. Used under Creative Commons license
The Wall Street bank attracted Congressional interest because of a $6.2 billion loss that the company incurred last year when a trader named Bruno Iksil – nicknamed the London Whale because of the size of his financial bets – was outsmarted by a hedge fund. (See “Whale Wars: Hedge Funds Rob Banks, and the Poor Suffer Most” on CorpWatch) On Friday the company was forced to testify about how that happened after a damning Senate investigation showed that the company ignored its own risk rules, rewrote key documents and hid information from regulators.
Notably JP Morgan took federally-insured money and used it to construct a $157 billion portfolio of synthetic credit derivatives which they proceeded to gamble with. As the portfolio started to lose money, the panicked traders substituted mid-point valuations that looked more favorable.
“Chase decided to go into the fiction business and invent a new way to value its crazy-ass derivative bets, using, among other things, a computerized model the company designed itself called "P&L predict" which subjectively calculated the value of the entire fund toward the end of every business day,” writes the always succinct Matt Taibbi of Rolling Stone. “If this all sounds familiar, it's because it's the same story we've heard over and over again in the financial-scandal era, from Enron to WorldCom to Lehman Brothers – when the going gets tough, and huge companies start to lose money, they change their own accounting methodologies to hide their screw-ups, passing the buck over and over again until the mess explodes into the public's lap.”
“The (federal investigators) told the Subcommittee that if the Synthetic Credit Portfolio were an airplane, then the risk metrics were the flight instruments,” wrote the Senate investigators. “In the first quarter of 2012, those flight instruments began flashing red and sounding alarms, but rather than change course, JPMorgan Chase personnel disregarded, discounted, or questioned the accuracy of the instruments instead.”
There is clear evidence that the federal authorities failed in their oversight duties of these risks, according to the Senate. While JP Morgan misled the Office of the Comptroller of the Currency (OCC) by not reporting the increase in the size of the portfolio, it did provide numbers that showed that the bank “repeatedly breached the its stress limits in the first half of 2011, triggering them eight times, on occasion for weeks at a stretch.” Yet nobody at the OCC appear to notice. (Later, in April 2012, risk limits were exceeded a remarkable 160 times!)
Somewhat surprisingly the person who comes through as clear-sighted is the London Whale himself. Iksil – according to the Senate report – repeatedly tried to warn his bosses about the problems but was ignored.
“I know that you have a problem; you want to be at peace with yourself. It’s ok, Bruno, ok, it’s alright. I know that you are in a hard position here,” Javier Martin-Artajo, one of Iksil’s bosses told him at the time.
A key witness at Friday’s hearing conducted by the Permanent Subcommittee on Investigations of the Committee on Homeland Security and Governmental Affairs was Ina Drew, the former head of the chief investment office in charge of trading in London. "Things went terribly wrong," she said, blaming traders like Iksil, claiming that key facts "were not brought to my attention at the time.”
Not only did senior management claim that they had no memory of these problems, they did not mention the accounting changes in an internal bank investigation completed in January 2013. “I don’t believe we called that out in the report,” Michael Cavanagh, co-C.E.O. of JPMorgan’s corporate and investment bank, told the hearing.
Most of the settlement related to the case of Mathew Martoma of CR Intrinsic Investors (a SAC subsidiary) who approached Dr. Sidney Gilman, then a 73 year old professor at the University of Michigan, for information on a clinical trial for an Alzheimer's drug being jointly developed by two pharmaceutical companies.
At the time Gilman was chairman of a board monitoring trials of the drug. He was persuaded to sell SAC inside information ahead of time that allowed the investors to avoid $276 million in losses by selling stock as soon as they learned that the drug trials were going badly.
In addition SAC also paid out $14 million to the SEC to settle charges against Sigma Capital Management for allegedly profiting from early information about the earnings of Dell and Nvidia, two technology companies.