[Vision2020] The Fine Art of Whoring

[Art Deco]

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May 12, 2012
JPMorgan Sought Loophole on Risky Trading By EDWARD
WYATT<http://topics.nytimes.com/top/reference/timestopics/people/w/edward_wyatt/index.html?inline=nyt-per>

WASHINGTON — Soon after lawmakers finished work on the nation’s new
financial regulatory law, a team of JPMorgan Chase lobbyists descended on
Washington. Their goal was to obtain special breaks that would allow banks
to make big bets in their portfolios, including some of the types of
trading that led to the $2 billion loss now rocking the bank.

Several visits over months by the bank’s well-connected chief executive,
Jamie Dimon, and his top aides were aimed at persuading regulators to
create a loophole in the law, known as the Volcker
Rule<http://topics.nytimes.com/top/reference/timestopics/subjects/v/volcker_rule/index.html?inline=nyt-classifier>.
The rule was designed by Congress to limit the very kind of proprietary
trading that JPMorgan was seeking.

Even after the official draft of the Volcker Rule regulations was released
last October, JPMorgan and other banks continued their full-court press to
avoid limits.

In early February, a group of JPMorgan executives met with Federal Reserve
officials and warned that anything but a loose interpretation of the
trading ban would hurt the bank’s hedging activities, according to a person
with knowledge of the meeting. In the past, the bank argued that it needed
to hedge risk stemming from its large retail banking business, but it has
also said that it supported portions of the Volcker Rule.

In the February meeting was Ina Drew, the head of JPMorgan’s chief
investment office, the unit that suffered the $2 billion loss.

JPMorgan officials declined to comment for this article. But in the
company’s annual report, Mr. Dimon wrote: “If the intent of the Volcker
Rule was to eliminate pure proprietary trading and to ensure that market
making is done in a way that won’t jeopardize a financial institution, we
agree.”

He added: “We, however, do disagree with some of the proposed specifics
because we think they could have huge negative unintended consequences for
American competitiveness and economic growth.”

JPMorgan wasn’t the only large institution making a special plea, but it
stood out because of Mr. Dimon’s prominence as a skilled Washington
operator and because of his bank’s nearly unblemished record during the
financial crisis.

“JPMorgan was the one that made the strongest arguments to allow hedging,
and specifically to allow this type of portfolio hedging,” said a former
Treasury official who was present during the Dodd-Frank debates.

Those efforts produced “a big enough loophole that a Mack truck could drive
right through it,” Senator Carl Levin, the Michigan Democrat who co-wrote
the legislation that led to the Volcker Rule, said Friday after the
disclosure of the JPMorgan loss.

The loophole is known as portfolio hedging, a strategy that essentially
allows banks to view an investment portfolio as a whole and take actions to
offset the risks of the entire portfolio. That contrasts with the
traditional definition of hedging, which matches an individual security or
trading position with an inversely related investment — so when one goes
up, the other goes down.

Portfolio hedging “is a license to do pretty much anything,” Mr. Levin
said. He and Senator Jeff Merkley, an Oregon Democrat who worked on the law
with Mr. Levin, sent a letter to regulators in February, making clear that
hedging on that scale was not their intention.

“There is no statutory basis to support the proposed portfolio hedging
language,” they wrote, “nor is there anything in the legislative history to
suggest that it should be allowed.”

While the banks lobbied furiously, they were in some ways pushing on an
open door. Officials at the Treasury Department and the Federal Reserve,
the main overseer of the banks, as well as the Comptroller of the Currency,
also wanted a loose set of restrictions, according to people who took part
in the drafting of the Volcker Rule who spoke on the condition of anonymity
because no regulatory agencies would officially talk about the rule on
Friday.

The Fed and the Treasury’s views prevailed in the face of opposition from
both the Securities and Exchange Commission and the Commodity Futures
Trading Commission, which regulate markets and companies’ reporting of
their financial positions. Both commissions and the Federal Deposit
Insurance Corporation, which insures bank deposits, pushed for tighter
restrictions, the people said.

Even some of those who have said the Volcker Rule is fatally flawed agree
that, in its current form, the rule would have allowed JPMorgan Chase to do
what it did.

“Would the Dodd-Frank law have stopped this?” asked Peter J. Wallison, a
fellow in financial policy studies at the American Enterprise Institute,
who has been a consistent critic of the postfinancial crisis reforms. “No,”
he answered. “Dodd-Frank specifically allows hedging and market-making
transactions.”

The Volcker Rule was not intended to offer such a broad exemption to the
ban on proprietary trading. People involved with the drafting of the
Dodd-Frank law itself say that the authors fought repeatedly to tighten the
language, in part to specifically exclude portfolio hedging.

In its earliest form, the Merkley-Levin amendment to the Dodd-Frank
regulatory law said that any “risk-mitigating hedging activity” — or
hedging positions that reduced a bank’s risk — would be allowed. Through
several drafts, that exception was steadily narrowed. The final law
permitted only hedges tied to specific investments.

But when the proposed
rules<http://sec.gov/rules/proposed/2011/34-65545.pdf>were released in
October 2011, more than a year after Dodd-Frank went into
effect, the exemptions were much broader, and allowing a bank to use
hedging techniques in a portfolio was included as a potential loophole.

The drafters recognized that the exemption could be a potential problem. In
soliciting comments from bankers, they specifically asked if portfolio
hedging created “the potential for abuse of the hedging exemption” or make
it too difficult to tell whether certain bets are hedging or prohibited
trading.

Paul A. Volcker thinks there is a potential for abuse. Mr. Volcker, the
former Federal Reserve chairman whose advocacy for the proprietary trading
ban was so fierce that his name was attached to it, told a Congressional
hearing this year that with hundreds of trillions of dollars of
derivatives<http://topics.nytimes.com/top/reference/timestopics/subjects/d/derivatives/index.html?inline=nyt-classifier>being
traded, “you have to wonder whether they’re all directed toward some
explicit protection against some explicit risk.”

Mr. Dimon said on Thursday that JPMorgan’s “synthetic credit portfolio,” an
amalgam of derivatives and hedging bets that blew up in recent weeks, was
part of “a strategy to hedge the firm’s overall credit exposure.” But
“Volcker allows that,” he said.

That was not the intent of the law, said Phil Angelides, who headed the
Financial Crisis Inquiry Commission. “I think the regulators need to go
back and sharpen their pencils,” Mr. Angelides said. “The intent of the law
was to stop insured depositories from doing propriety trading with this
kind of risk profile.” And whatever JPMorgan calls it, “it sure looks like
proprietary trading, which Dodd-Frank was designed to stop insured
depositories from engaging in.”

Annie Lowrey contributed reporting from Washington and Ben Protess from
Chicago.


-- 
Art Deco (Wayne A. Fox)
art.deco.studios at gmail.com
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