Big trouble at Diamond Jamie's casino

Will JPMorgan CEO Jamie Dimon change his bank's behavior after billions were lost on reckless gambles? If you think so, Alan Maass has a bridge to sell you.

JPMorgan Chase building (Thomas Belknap)

THE BIGGEST bank in the U.S. blew billions of dollars on an investment strategy its chief executive called "stupid." But the loss won't make the slightest dent in the banksters' vast reserves of arrogance and greed.

JPMorgan Chase announced last week that a massive gamble made by a top trader in London went bad, costing the bank $2.3 billion in losses so far, with as much as $1 billion more still at risk. Several executives have been fired, and more may walk the plank--maybe even JPMorgan's insufferably smug CEO Jamie Dimon.

The bank's multibillion-dollar blunder came in the derivatives market--the esoteric and complex investment vehicles, far removed from the real economy, that were at the heart of the 2008 financial meltdown and helped detonate the Great Recession.

Casino capitalism is back in style on Wall Street--not that it was ever really out of style. And the banksters are gambling not only with money from depositors and big investors, such as pension funds, but with taxpayer dollars--the trillions injected into the financial system by the Federal Reserve under a variety of programs designed to bolster the banks.

Derivatives trading was supposed to come under greater regulation because of the Dodd-Frank financial reform law, named after its chief sponsors, Sen. Christopher Dodd and Rep. Barney Frank, and passed by Congress in 2010. In particular, the so-called "Volcker rule" is supposed to bar banks from "proprietary trading"--that is, gambling for their own profit rather than for customers.

But big parts of the law haven't even come into effect. The "Volcker rule" doesn't exist yet, because federal officials are still finalizing its provisions--under furious pressure from Wall Street lobbyists who want to poke as many loopholes in it as possible.

Financial commentators are divided about whether a fully implemented Dodd-Frank would have applied to the JPMorgan trades that went so disastrously bad.

But we know for sure that the law won't stop the greater crime--that the bankers can gamble with untold billions of dollars that ought to be used for the good of society, knowing that they'll get even more obscenely rich if they bet right, and they'll get bailed out if they bet wrong.

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THE DETAILS of what happened to JPMorgan are still murky, but the gist is that one of its top traders--nicknamed the "London Whale" because of the size of his gambles--made an enormous bet that the creditworthiness of major corporations would get better because of an improving economy. The now-bankrupt insurer AIG did something similar with housing debt back in the 2000s.

When the financial markets for corporate debt went in the other direction, JPMorgan was on the hook for huge sums. The losses occurred when the bank tried to scale back on the trade. (For an extensive description of what happened, read this article by Heidi Moore of the radio program Marketplace.)

Big losses from gambling on derivatives are nothing new, but in other recent cases, the blame got pinned on "rogue traders" operating in obscure areas of the financial markets. At JPMorgan, the London Whale, also known as Bruno Iksil, was carrying out the bank's standard investing operations--on a massive scale, but with the full knowledge and approval of top executives.

Iksil's trades were designed as a "hedge" for other investments. Like all big financial firms, JPMorgan makes counter-investments to offset potential losses from its portfolio of bonds and loans. The idea is that if those holdings were to go bad, the payouts from the hedges will make up for the losses.

It's worth pointing out that hedging is nothing more than an insurance policy for the gambler. The huge sums spent by JPMorgan on offsetting potential losses do nothing of any socially redeeming value.

The downfall of the London Whale's corporate debt hedges was their enormous size--this attracted the attention of other investors, who in turn bet against JPMorgan.

Why did the hedges get so large? Dimon blamed "sloppiness and bad judgment," but financial analysts say the bank's top management was itself pushing Iksil and its other London-based traders to expand the hedging operation--in particular, to offset a large number of risky holdings that JPMorgan absorbed when it took over the financial firm Washington Mutual as it plunged toward bankruptcy in 2008.

In other words, JPMorgan's trading disaster is related to the wreckage of the 2008 crisis--a symptom of the toxic debts still on its books.

Where did the money come from for such enormous bets? Banks, of course, use funds from depositors and investors in their financial operations, but thanks to the federal government's bailout of Wall Street, there are huge amounts of taxpayer dollars sloshing around the biggest firms. JPMorgan is no exception--according to the Government Accountability Office audit of the Federal Reserve, JPMorgan got $391 billion from various emergency programs between December 2007 and August 2010.

So the London Whale was playing the ponies at least partly on the taxpayers' dime. Rolling Stone's Matt Taibbi made a related point:

If you're wondering why you should care if some idiot trader...loses $2 billion for Jamie Dimon, here's why: because JPMorgan Chase is a federally insured depository institution that has been and will continue to be the recipient of massive amounts of public assistance. If the bank fails, someone will reach into your pocket to pay for the cleanup.

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THERE'S ANOTHER element to JPMorgan's hedging operation that's related to the debate over the Dodd-Frank financial regulation law.

JPMorgan organized its traders around the concept of "portfolio hedging"--which the New York Times described as:

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.

When you're talking about a portfolio of investments as massive and complicated as JPMorgan's, it's easy to see how actions to offset the overall risk of potential losses could be a justification for all sorts of schemes--"a license to do pretty much anything," as Sen. Carl Levin told the Times.

Levin believes giant banks like JPMorgan use the label of "portfolio hedging" as a cover for "proprietary trading"--that is, making trades designed to increase the bank's bottom line, rather than returns for customers. That's exactly what the "Volcker rule" in Dodd-Frank is supposed to stop.

And JPMorgan implicitly confirmed Levin's conclusions with its intensive lobbying operation to create an exemption in the "Volcker rule" allowing for--you guessed it--trading based on "portfolio hedging." As the Times reported:

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...designed by Congress to limit the very kind of proprietary trading that JPMorgan was seeking.

"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.

That's why Dimon could insist that the London Whale's massive trades were in full compliance with the Volcker rule. Many financial journalists agree--which shows how this provision of Dodd-Frank, like all the others, has been so compromised and gutted by Wall Street lobbyists that it will be of little use in curbing the bankers.

When it was passed, the Obama administration and Democrats in Congress hailed the Dodd-Frank law as the "toughest" measure regulating banks and financial firms since the Great Depression. "The American people will never again be asked to foot the bill for Wall Street's mistakes," Obama promised. "There will be no more taxpayer-funded bailouts. Period."

But the law had already been fatally weakened--and by its Democratic authors, who, under pressure from the banking lobby and faced with Republican filibusters in the Senate, discarded one provision after another.

In the immediate aftermath of the 2008 financial meltdown, the sentiment for imposing tough regulations on Wall Street--to prevent "too big to fail" banks from pushing the world economy back to the brink--was widespread, even among Republicans. But by the time lawmakers got around to financial "reform," the banks had returned to profitability--thanks to the federal bailout--with plenty of funds to spare for their lobbyists.

As Sen. Dick Durbin admitted: "[T]he banks--hard to believe in a time when we're facing a banking crisis that many of the banks created--are still the most powerful lobby on Capitol Hill. And they frankly own the place."

And in the world of JPMorgan's Diamond Jamie, that's how it's meant to be.

Unless there's another shoe to drop, JPMorgan Chase will probably pull through the London Whale disaster. After all, the bank had "earnings" of $19 billion in 2011. Dimon--who got an 11 percent raise last year, bringing his total compensation to $23.1 million--had to make a few grudging mea culpas, but you can expect he and his bank to survive with their arrogance intact.

In early May--knowing full well that he would soon be revealing multibillion-dollar losses from a trading strategy he sanctioned--Dimon spoke at a conference at the University of Rochester, where he displayed his contempt for the Occupy Wall Street movement's criticism of the 1 percent. "That's ridiculous," Dimon said. "That's just another form of discrimination."

But the story of the London Whale is a vindication of the message of the Occupy movement--and all the critics of an unstable and irrational system built on greed and power.