“Sloppy, stupid, bad judgment, too much risk, barely vetted and barely monitored. A terrible, egregious mistake.” These were the epithets used by JPMorgan Chase’s Chairman and CEO Jamie Dimon on Meet the Press, following the disclosure that his bank had lost more than $2 billion in an imploded hedging strategy. Press reports for over a month had rumored that a JPMorgan trader in London nicknamed “the London Whale,” was making vastly outsized, speculative trades designed as hedges, which were so large that they were distorting the market and risking the outsized losses that eventually occurred.
Hedging, when properly executed, allows financial institutions to make trades to offset the normal risks that they face by virtue of their corporate and mortgage debt holdings. In this case, JPMorgan’s speculative the strategy to hedge against risk became a major liability. According to news reports, the $2 billion in losses came about through a complex series of trades in credit derivatives and credit default swaps the same instruments that are tied to the banking crisis of 2008. The use of those instruments, which are not cleared through an exchange, and cannot be quickly sold without losing value, raises the all-too obvious question of whether the trades truly were hedges, or merely bets. Although JPMorgan is large enough to absorb the losses in this case, other banks engaging in similarly-risky trades may not be, leaving taxpayers on the hook to bail out insured depositories that find themselves on the losing side of their bets.
