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I feel like this exchange did not go well for Jamie Dimon:
[Elliott Capital’s Paul] Singer said the unfathomable nature of banks’ public accounts made it impossible to know which were “actually risky or sound”. … Mr Singer noted that derivatives positions, in particular, were difficult for outside investors to parse and worried that banks did not always collateralise their positions. Mr Dimon said the bank did for all “major” clients. Mr Singer retorted: “Well, we’re a minor client then.”
Whoops! Guess someone else doesn’t know what positions banks collateralize. I suspect someone at Elliott is already on the phone with JPMorgan to renegotiate their CSA. Also so many other people; I count about $50 billion of uncollateralized (fair value) derivative exposure at JPMorgan, suggesting that it fully collateralizes a little under two-thirds of its trades.1 Perhaps those are the two-thirds with the major clients, but if so that seems a little irrelevant. That’s a lot of minor-client money.
Why does Singer care? Well I guess he wants better collateral terms from JPMorgan? More seriously … there is whatever incentive to say things that always exists at Davos sessions, which I guess is a thing, ugh.2 Then there is the broad question of whether banks are too opaque to invest in. Singer is not alone in thinking that the answer is no; we talked a while back about how a lot of smart people get kind of freaked out by bank financial statements; derivatives, as well as other buzzwords like prop trading and opacity, play a role in their conclusions as well. Also here is a funny article about how 60% of Bloomberg subscribers are basically commie anarchists:
Almost 60 percent of respondents said they were not confident or “just somewhat confident” that banks are taking prudent risks and conforming to the law, and getting smaller was seen as the top fix in the Bloomberg Global Poll, with 29 percent choosing that remedy. …
Solutions suggested so far are “a grab bag of minimalist Band-Aids to patch up the self-inflicted wounds” of the financial system, said Lew Coffey, a poll participant and a fixed-income analyst at Windsor Capital Management LLC in Phoenix. “What’s required to re-establish investor confidence is a series of basic measures to simplify the business, isolate different kinds of risks into different boxes and increase transparency to outsiders.” … When big banks break the law, they’re treated more leniently than individuals doing the same, said David Wren-Hardin, a trader at Ronin Capital LLC in New York. Banks caught laundering money for criminal clients were allowed to “get off with a slap on the wrist,” he said. … The meltdown showed that the whole financial system was a Ponzi scheme, said Henry Littig, the founder of Henry Littig Global Investments AG in Cologne, Germany. …
In one sense this is all perfectly sensible: these people are investors; a lot of the investable universe – particularly in credit – consists of bank securities; it’s hard to invest in bank assets when they’re confusing; you get sad when it’s hard to do your job; Bloomberg comes to you and gives you the chance to vent about how hard your job is; of course you take them up on the opportunity. “Make it easier to invest in banks!” you shout. That doesn’t explain the call for more jail, though, I don’t think, though I guess you’d get pretty mad at people who make your job hard and maybe even want them to go to jail.
One other thing that might be going on is some sort of simple competitive dynamic. Shadow banking – defined veeerrrrrrry loosely as just non-bank institutions that transform maturity by taking in demand-ish money and investing it in credit-y stuff3 – has a lot to gain as an industry from regulatory reining in of banks. Banks can’t prop trade? Less competition for hedge funds from bank prop desks. (Or bank flow desks, too, if you think that “no prop trading” also means “less market making.”) Banks can’t do weird derivatives? Some horrible insurer or hedge fund will pick up the slack. Banks can’t overpay traders? Buy-side funds can hire traders cheaper. Banks can’t have unlimited deposit insurance? Money market funds will be happy to take those deposits. More generally, if banks can’t be giant behemoths that fund cheaply and put that cheap funding to work in every asset class, then specialized investors who focus on one asset class, but don’t have the cheap/subsidized funding of the universal banks, will be better off.
On the other hand, banks don’t have much to gain from the reining in of shadow banks. Bloomberg’s Davos article quotes Jamie Dimon and UBS’s Axel Weber defending shadow banks:
“It’s a free market,” Dimon said in Davos, Switzerland today in response to a question from a participant at the World Economic Forum who said he was a shadow banker. “You’re entitled to build a business and I agree that there are a lot of needs out there and people should find ways to fill them.”
“As long as you can fund institutionally and as long as your investments are capital-markets investments, that’s fine,” Axel Weber, chairman of UBS AG, Switzerland’s largest bank based in Zurich, said in response to the same question while on the panel with Dimon. “I don’t think you’ll see a lot more regulation in any of the entities, it’s more the retail space and deposit space that will be protected in future.”
For one thing: shadow banking can’t really compete much with universal banking in places where universal banking has a free hand; the funding advantage is too good.4 For another: the more regulated universal banks are, the more they depend on the ability to dump off or swap regulatorily dicey things with institutional-funded shadow banks. Basel capital rules create delightful opportunities for insurers/hedge funds/pension funds/somethings to, for instance, get paid fees to provide weird noneconomic capital-relief trades to banks.5 Basel liquidity coverage ratio rules will no doubt create similar opportunities for hedge funds to do LCR-qualifying asset swaps with banks. Each move toward simplification of the banks will push – profitable! – complexity elsewhere. Which might be a reason for the people sitting elsewhere to call for it.
The math is that JPM has $1.7trn of fair value of derivative payables, but $1.56trn of that is nettable under legally enforceable master netting agreements, leaving $131bn of non-netted derivatives. $58bn of that is covered by cash collateral that JPM posts; another $22bn is covered by securities collateral (and then there’s another $11bn of collateral that exceeds the liabilities to individual counterparties). So a total of $51bn of uncollateralized derivative fair value. Not notional.
2. Jamie Dimon being Jamie Dimon, his two responses were of the form “I know you are but what am I” (literally “With all due respect hedge funds are pretty opaque too,” which honestly is kind of a silly response) and “blame the regulators”:
He noted that “in the United States we’ve created more regulators, not less” and argued they were trying “to do too much, too fast”.
He complained that this led to increased bureaucracy: “In the United States five years [after the crisis] we don’t have mortgage rules yet.”
True! I cannot resist mentioning a point that Alea noticed: the Volcker Rule forbids banks from short-term proprietary trading, while the Basel III LCR rules require banks to periodically sell securities that they own for their own account. Well is that prop trading? Is it worth worrying about? Does it suggest regulatory overlap and bureaucracy and over-complication?
Shadow-banking entities include money-market funds, collateralized loan obligations, credit hedge funds and asset-backed commercial paper conduits, according to a 2010 Federal Reserve Bank of New York staff report. They provide “sources of inexpensive funding for credit by converting opaque, risky, long-term assets into money-like and seemingly riskless short-term liabilities,” the authors wrote in an abstract of the report.
And that’s fine though I’m stretching to include things like insurers and hedge funds whose liabilities are not as money-like. Even pension funds which are almost inverse maturity transformers. We’re focusing less on the maturity transformation and more on like provision of credit through non-bank channels.
5. I still think about that trade and smile every now and then. Imagine! You work at an insurer or hedge fund or pension fund or whatever and someone at Credit Suisse comes to you and says “hey, we need capital relief, so we’ll pay you a fee to insure the senior 90% of our CVA receivables.” And you’re like “well let me evaluate the risk there.” And CS is like “well if you need to post any money we’ll lend it to you, and the whole thing will be nonrecourse to you.” And you’re like “well but then what am I …” and CS is like “SHUT UP DON’T THINK TOO HARD ABOUT IT JUST SIGN” and you do. And everyone wins, really.