JPMorgan did its third-quarter earnings call this morning, and even though the London Whale was a pretty minor presence on the call I was still going to throw up a picture of a whale here because (1) why stoke Jamie’s ego further and (2) who doesn’t like whales, but then the operator asked for closing remarks, and Jamie Dimon closed the call by saying “I’m just surprised no one mentioned how handsome Doug Braunstein looked in that article in the Wall Street Journal,”1 and, well, that happened, and we’re each going to have to deal with it in our own way, but in any case, Doug Braunstein, ladies and gentlemen.
I HAVE NOT FORSAKEN YOU WHALEDEMORT and we’ll talk about him in a bit when I can get my emotions in check but for now I guess we owe it to that handsome cherub to your left to talk about JPMorgan’s business a bit so let’s do that.
JPMorgan’s business: It is good! Records were set, expectations exceeded, the stock … um, opened down, but got better. (Then got worse again! I don’t know.) The other day I suggested that underwriting 30-year investment-grade bonds is sort of a bad business because you make 87.5bps now, but then your client is all set for 30 years, so it’s really only 3bps a year, which is not much compared to basically any other method of providing money to companies, except ironically actually lending them money (if they are high investment grade), which is just a pure loser. I more or less stand by that in a big-picture sense, but of course 30 years is well into IBGYBG territory and it feels great to make 87.5bps now, so now you’re happy. JPMorgan is I guess underwriting a lot of 30-year bonds; more to the point it’s underwriting a lot of 30-year mortgages.
A toy model you could have of the mortgage market is:
- everyone who could possibly refinance a mortgage, ever, did that yesterday,
- at the lowest interest rate in the history of all time both past and future;
- JPMorgan made all those loans;
- and JPMorgan sold them on to GSEs at a 200+ basis point margin instead of the more usual <100bps margin.2
That model would explain JPMorgan’s record production revenue in mortgage banking this quarter. It would also make you worry about future production revenue, since (1) everyone who could refinance has and (2) there is no incentive to re-refinance since rates will never be lower. So perhaps no one will ever get a mortage again.3
Jamie Dimon will soothe your worries, though. In the future you will not have huge servicing expenses for charge-offs, since everyone’s house will be worth more and they will have no problem paying for it at like a 3% interest rate. (Also, um, prepays?) In the future, you will not have huge expenses for getting sued by everyone over 2007 vintage mortgages, because 2007 will be more years ago than it is now. In the future your 200bps margins will dissipate, but you’ll make it up on volume, which loses me a bit because, remember, in this model, all the mortgages got done this year so where is that volume? But all in all, yes, I was soothed.
Mortgages were the topical highlight, but things seem to be good everywhere, especially on the capital front, where Jamie Dimon said roughly this4 during the Q&A:
The 8.4% Basel III estimate phases in everything we know about today, but doesn’t phase in our runoff over the next two years and our ability to build models to reduce RWAs. So it includes all the bad things, but none of the good things. We think we’d be at 9.5% with the runoff and building models to reduce RWAs.
I am pretty sure that I heard a record-scratch sound effect in the background when he said that but perhaps I was hallucinating, did you hear it too? Honestly, how can you not love Jamie Dimon? Let’s recap some highlights of his recent career:
- Oversees huge opaque credit hedge position designed to optimize regulatory capital treatment.
- Tweaks VaR model for that position to be all wrong, understating risk and thus probably overstating capital ratios.
- Adjusts that position in dubious, risk-increasing ways, driven by capital treatment.
- Loses a zillion dollars.
- Trivializes that zillion-dollar loss.
- Announces a material weakness in internal controls regarding, y’know, that.
- Is all better.
- Tweaks VaR model again to show less risk.
- Gets on pugnacious earnings call in which he says he will ask regulators for additional stock buybacks in next year’s stress tests.
- Brushes aside a question from a UBS analyst to the effect of “do you think your material weakness in internal controls will impact your ability to do buybacks?”
- Says “our capital levels will be higher than you think because we will tweak our internal models to get them there.”
The name of the game in banking these days is tweaking your internal models to make your capital position look better in light of the particular flavor of dodgy crap you’ve decided to load up on. But, y’know, doing that quietly. Especially if your internal models have been subject to doubt in the recent past. But “quietly” isn’t how JPMorgan works; it’s not just the handsomest, but also the most honest bank in the world.
2. That margin is basically (1) interest rate on loans JPM makes minus (2) interest rate on GSE RMBS that it sells. Why is it so big? Jamie Dimon’s view is that the high volume of refinancings “clogs up the system,” allowing for higher prices, which is either (1) a strange thing to say or else (2) a way to say “supply and demand,” which I guess has to be the answer, since it’s always the answer. Peter Eavis’s view is, like, BANKS ARE PROFIT GOUGING, which I think is also either strange or “supply and demand.” The mechanism of that supply and demand is somewhat opaque to me.
3. I know I won’t, ZING.
4. Paraphrase, sorry, I’ll update with the transcript if I remember.