Regulator: JPMorgan changed risk strategy in late 2011; agency probing ‘breakdowns’ at bank

WASHINGTON – Starting late last year, JPMorgan Chase & Co. reduced the amount of hedging it was doing to contain potential losses, according to a top federal regulator.

That decision backfired this spring when the bank suffered a $2 billion-plus trading loss that has renewed calls from lawmakers and Obama administration officials for tougher regulation.

U.S. Comptroller of the Currency Thomas Curry, in testimony prepared for a hearing Wednesday by a Senate panel, said that his agency is examining JPMorgan’s risk-containment policies in the weeks before it suffered the trading loss.

Curry’s agency, which is part of the Treasury Department, oversees about 2,000 banks and has had about 65 examiners onsite at JPMorgan’s offices.

The agency is conducting an extensive analysis of the JPMorgan loss that “will focus on where breakdowns or failures occurred,” he said.

JPMorgan spokesmen declined to comment Tuesday. The bank’s CEO Jamie Dimon acknowledged the loss May 10, weeks after dismissing concerns about the bank’s trading as a “tempest in a teapot.” He more recently called the loss “a black mark” for the bank.

Dimon has said the loss came from trading in credit derivatives that was designed to hedge against financial risk, not to make a profit for the bank.

Managers at the bank changed the risk-containment strategy and decided to reduce the amount of hedging against potential losses, Curry said. When the new strategy was used in the first quarter, performance on trading “deviated from expectations, and resulted in substantial losses in the second quarter,” he said.

The comptroller’s office and the Federal Reserve are conducting reviews in the bank and are sharing information with other regulators, Curry said.

Another federal agency, the Commodity Futures Trading Commission, is also investigating JPMorgan’s ill-timed bet on complex financial instruments that led to the trading loss. And the Securities and Exchange Commission is reviewing what the bank told investors about its finances and the risks it took weeks before suffering the loss.

Regulators say the loss underscores the need to tighten rules mandated under the 2010 financial overhaul law.

Along with Curry, other regulators testifying at Wednesday’s hearing by the Senate Banking Committee include Federal Reserve Gov. Daniel Tarullo, Deputy Treasury Secretary Neal Wolin and Martin Gruenberg, acting chairman of the Federal Deposit Insurance Corp.

Sen. Sherrod Brown, a member of the banking panel, is questioning whether the oversight of JPMorgan by the comptroller’s office examiners is rigorous enough.

The misstep at JPMorgan has revived debate over the so-called Volcker Rule, which would prevent banks from trading for their own profit. The idea is to protect depositors’ money, which is insured by the government. Regulators are finalizing the rule, which is scheduled to take effect in July. But banks will have until July 2014 to meet its requirements.

Dimon has been among the most vocal critics of the Volcker Rule. The big Wall Street banks won an exemption in the rule: It would let them make such trades to hedge not only the risks of individual investments but also the risks of a broader investment portfolio.

Dimon is scheduled to testify at a hearing of the banking committee next Wednesday.