JPMorgan & The London Whale

JPMORGAN & THE LONDON WHALE:
CASE ANALYSIS
Student Name
Class
Date
1. JPMorgan: 2011- Summer 2012 Timeline
In “JPMorgan & The London Whale” (Chen and Zeisberger 2014), JPMorgan, long lauded for prudent risk management strategies, particularly during 2007-2009 global financial crisis, had a substantial reputation damage brought about by a far from prudent misrepresentation of Chief Investment Office (CIO) portfolio market valuations. In essence, Synthetic Credit Portfolio (SCP), created roughly around 2008 (17) to “hedge against the inherently long bias of the rest of the CIO portfolio” (2), was mishandled by responsible investment officers, including Ina Drew, Head of CIO. A series of inadequately protected bankruptcy events, combined by a lack of clear guidelines about market exposures, resulted, however, in unprecedented cascading losses. By late 2011, under a misguided assumption that a successful generation of revenues resulting from bankruptcy of American Airlines (6), CIO, against a clear mandate by senior management to reduce Risk-Weighted Assets (RWA) exposure, risk appetite grew. Specifically, Javier Martin-Artajo, Head of European Equity and Credit and his direct report, Bruno Iksil, Head of Relative Value Strategic Trading, suggested a hedged portfolio recklessly balancing out IG longs and HY shorts in order to keep RWA within mandated limits (7). In January 2012, moreover, Patrick Hagan, a qualitative analysts at CIO, having literally no prior experience in developing risk models, was asked to develop a new risk model, an unusual but not against bank policy step, intended primarily to “mute” CIO rapidly deteriorating PNL position. Critical comments brought about by Model Risk and Development Office (MRDO) against new model dismissed, an unrealistic 50% VaR reduction was reported by late January and February 2012 (9). By end of February 2012, Martin-Artajo – and, for that matter, CIO – had to report to senior management about RWA reduction – without disclosing SCP further exposure nor, of course, what was to amount to a cumulative, negative PNL of $169 million (9). Predictably, by mid-March 2012, based on a misleading model and further portfolio exposures, losses sustained to a staggering amount of $43 million on one single day, March 20th (10). By March 23rd, Drew ordered all “phones down,” meaning no selling after rumors started to came out about a “London Whale” and, not least, an unprecedented $718 million loss (10-11). On March 30th, CIO VCG received a JPMorgan internal audit report identifying an erroneous risk model, which CIO admitted but could hardly justify, following which word came out when The Wall Street Journal contacted JPMorgan, on April 4th, about CIO credit index portfolio (13).
2. Standard Market Risk Management Practices
In balance, SCP made a strategic mistake in portfolio management. Given standard risk management practices – e.g. VaR, Credit Spread Basis Point Value (CSBPV), and Credit Spread Widening 10% (CSW 10%) – SCP did not account, by adopting VaR using historical data, for underlying correlations between different security and asset classes which do not only vary according to...