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The Whale that ate $2 Billion
Topic Started: 12 May 2012, 06:57 PM (1,492 Views)
peter fraser
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The legend of the White Whale
By Charles Riley @CNNMoneyInvest May 11, 2012: 11:20 AM ET

Link here.

NEW YORK (CNNMoney) -- It now seems likely that a mysterious creature known as the White Whale might have taken a rather large bite out of superbank JPMorgan Chase's second quarter profits.

What -- or who -- is the White Whale, you ask?

The White Whale, according to the Wall Street Journal, is a JPMorgan (JPM, Fortune 500) trader based in London who has made a series of very large bets on credit default swaps, which are complex derivatives sometimes used to hedge against risk.

His real name is said to be Bruno Iksil, and he works in the bank's chief investment office. According to U.K. regulatory records, Iksil has worked at JPMorgan since at least 2007.

The White Whale is just one of his nicknames. His detractors have also dubbed him the London Whale and, of all things, Voldemort, the Harry Potter villain so sinister his name is seldom spoken.

What exactly has the White Whale done to earn his unfortunate monikers?

According to the Journal, Iksil's credit default positions were so large that they caused unusual market movements on occasion, prompting some hedge funds to make large opposing bets.

And the unit he works in, the chief investment office, is now in trouble.

JPMorgan CEO Jamie Dimon revealed in a hastily arranged conference call Thursday evening that the unit has suffered trading losses of $2 billion since the start of April.

Read more here.

Any expressed market opinion is my own and is not to be taken as financial advice
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miw
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peter fraser
12 May 2012, 06:57 PM
The White Whale, according to the Wall Street Journal, is a JPMorgan (JPM, Fortune 500) trader based in London who has made a series of very large bets on credit default swaps, which are complex derivatives sometimes used to hedge against risk.
Typical Journo simplification and misinformation.

Credit default swaps are hardly complex (except perhaps in the pricing thereof) and they are only barely derivatives. Certainly they are very different from derivatives that deal with market risk. They are really insurance policies dressed up as "financial derivative securities" so the insurance regulators can't get involved.

Still, this will be used by those with vested interests to support their baseless claim that "derivatives are really risky."
The truth will set you free. But first, it will piss you off.
--Gloria Steinem
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Andrew Judd
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miw
12 May 2012, 08:07 PM
Typical Journo simplification and misinformation.

Credit default swaps are hardly complex (except perhaps in the pricing thereof) and they are only barely derivatives. Certainly they are very different from derivatives that deal with market risk. They are really insurance policies dressed up as "financial derivative securities" so the insurance regulators can't get involved.

Still, this will be used by those with vested interests to support their baseless claim that "derivatives are really risky."


How can it be a vested interest to worry about a banking system exposed to losses supposedly protected by CDS where CDS operates on an unregulated market that has no hope of protecting the whole market in the event of a systemic failure related to moral hazard created by the idea the central banks will always pull us out of a hole and we can find a chair before the music stops because 'we are oh so sophisticated'??

Where additionally no regulator is capable of working out what the risks of such an unregulated system actually involves??

Spain looks like the banking system is bankrupted and if Greece goes Spain could go and france and Italy could go and then the UK and who knows who else, who is going to pay out on the CDS?

CDS writers can only hope the premiums go up before expiry of their risk whereupon the rising premiums are likely to crash the system in many parts of the world as the reality of risk returns

How can CDS not involve huge market risk??


Edited by Andrew Judd, 12 May 2012, 08:43 PM.
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genX
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Credit default swaps are hardly complex (except perhaps in the pricing thereof) and they are only barely derivatives.

That's true for pari-pasu bonds, but IG9 is fairly complex for a credit derivative.
(http://www.zerohedge.com/news/behind-iksil-trade-ig9-tranches-explained)

IG9 is also relatively illiquid, and the size of the positions the whale took moved the market to a premium over fair value. Hedge funds smelled blood and took the other side of the trade.

Quote:
 
Still, this will be used by those with vested interests to support their baseless claim that "derivatives are really risky."

Derivatives a pretty risky if you are taking a position (speculating) like Bruno Iskill was. If you are hedging a position they certainly add liquidity to markets. If the governments of the world want to get rid of derivatives, then they need to be prepared for liquidity drying up in the world's financial markets. I don't think they are serious, it's just demagoguery for votes.

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miw
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How can it be a vested interest to worry about a banking system exposed to losses supposedly protected by CDS where CDS operates on an unregulated market that has no hope of protecting the whole market in the event of a systemic failure related to moral hazard created by the idea the central banks will always pull us out of a hole and we can find a chair before the music stops because 'we are oh so sophisticated'??


This is just meaningless. The bank could have lost just as much money by buying US property or by shorting AAPL or by buying shares in BP. The instrument is not in itself any riskier than lots of instruments you and I can buy any day through our bank. In fact, there is almost no investment with a worse risk profile than going long shares. The exception to that would be to write a naked call or naked put option.

The situation here seems to be that someone took a leveraged and unhedged position based on a view of the direction of creditworthiness in order to juice yield.

Quote:
 
How can CDS not involve huge market risk??


CDS deal in credit risk, not market risk. That's why all textbooks on derivitives put them in a section by themselves and many writers will say they are not "proper derivatives". If you regard your accident insurance as a derivative, then CDS is a derivative.

The vested interests I am talking about are the people who want ordinary punters to be locked out of the strategies that earn them money. They are the ones who want as many people as possible to be restricted to dealing in long positions on shares so that they have someone to distribute to at the top of the market. Witness Goldman Sachs who recently went on the media saying the US stock market was a "screaming buy" at the very same time as they were unwinding their long share positions. Whenever these guys make money, there is someone on the other side of the trade who is losing money. They have a vested interest in maintaining a pool of patsys.


Edited by miw, 12 May 2012, 11:10 PM.
The truth will set you free. But first, it will piss you off.
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miw
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genX
12 May 2012, 09:17 PM

That's true for pari-pasu bonds, but IG9 is fairly complex for a credit derivative.
(http://www.zerohedge.com/news/behind-iksil-trade-ig9-tranches-explained)

IG9 is also relatively illiquid, and the size of the positions the whale took moved the market to a premium over fair value. Hedge funds smelled blood and took the other side of the trade.



Derivatives a pretty risky if you are taking a position (speculating) like Bruno Iskill was. If you are hedging a position they certainly add liquidity to markets. If the governments of the world want to get rid of derivatives, then they need to be prepared for liquidity drying up in the world's financial markets. I don't think they are serious, it's just demagoguery for votes.
Yeah. That looks complex to me. :bl: But to me, IG9 is to CDS as a watch is to a cog. If the article had just said he was dealing in complex derivatives I'd have had no issue with that.

I would contend that you can get as much risk as you like out of any asset class or instrument, given enough leverage. The distinguishing feature of derivatives is that you can also get the risk as low as you like, which most asset classes do not allow you to do. Like a dagger, derivatives havd a sharp end and a blunt end. You do get to choose which end you hold, though.
The truth will set you free. But first, it will piss you off.
--Gloria Steinem
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genX
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miw
12 May 2012, 11:41 PM
I would contend that you can get as much risk as you like out of any asset class or instrument,
Well yes. I don't think the problem is the derivatives, the problem is that somehow we have idiots working on multi-billion prop trading desks. This seems counter-evolutionary. If markets were efficient, and investment banks were truly meritocracies, we wouldn't have idiots in charge of multi-billion prop desks, as they would shoot themselves in the foot long before they got there.

I think what we have now, with the JPMs of the world IS truly counter-evolutionary. It is a kleptocracy for the few, paid for by the many. In other words, it's that time honoured state that all empires and societies seem to eventually devolve into: corruption, nepotism and plunder (and blunder).

This is why the common man is angry, but it's irrelevant. Everyone participated in this devolution of our society, so now they have to suck it up as it goes pear shaped.
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Andrew Judd
12 May 2012, 08:38 PM
How can CDS not involve huge market risk??

As miw said above, CDS is counterparty insurance, not a market derivative. The equities market could drop through a hole in the floor, and it would have little effect on CDS except as a byproduct of corporate bond/paper yields blowing out.

However, there is a REAL risk of corporate paper going pear-shaped if equity markets tank. Both equity and credit markets are capital markets. If you can't obtain capital in equity markets, then you have to go to credit markets for it, and if you are a corporation, you can either issue bonds or if that is not possible, obtain funding in commercial paper markets (which are not exchange traded markets, only OTC). Supply and demand dictates that if the supply dries up, the demand will increase. So a rush to commercial paper or bond issuance could stress the corporations on which CDS like IG9 is written.

But that's only as a byproduct. There is no direct exposure.

Quote:
 
Spain looks like the banking system is bankrupted and if Greece goes Spain could go and france and Italy could go and then the UK and who knows who else, who is going to pay out on the CDS?

CDS exposure is actually pretty small compared to the notional outstanding in sovereign debt. For example, Greece had about 300B in debt it couldn't roll over, and there was around 9-12 billion notional of CDS written on that debt. Once the 1Y spreads blew out to 1900bps, only the craziest of hedgies were willing to enter the market and take that risk. Assuming a recovery rate of ZERO on the bonds, 300B in worthless bonds is a lot bigger problem than 9-12 billion in CDS payouts.

So CDS is really a distraction from the real elephant in the room, the 2-3 TRILLION in notional outstanding of sovereign debt in the EU Latin and Spartan periphery. While those pollies are pointing at the nasty speculators and saying it's their fault, they are buying votes with money from the future, which they cannot pay for, no matter what the speculators do.
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NotFooled
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Will be interesting to see if clawback provisions kick in. There could be some very unhappy traders.
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nipa hut
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The interesting elements to this story are the dogs that aren't barking:

- There's doesn't (yet) seem to be any direct allegation that the "London Whale" exceeded his trading authority (suggesting that his trading activity was known and approved of by more senior managers, however unwise it proved to be.) Instead, there's waffling on about how "complicated" it all was.

- It doesn't (yet) seem that they're actually trying to fire him. Considering that he earned his moniker before the present debacle, that suggests his previous trading record was rather successful, at large scale.

No doubt an even previously well-loved senior trader will be sacrificed if the regulatory gods are angry enough. (See Rebekah Brooks, as an out-of-industry example.)

But if that occurs, I suspect he'll get an outsized exit package, to secure his silence.
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