Why Jamie Dimon Told Us To Not Own JPMorganChase (or any other "money center" bank)
Most investors shouldn't be. Given demands of work and family, there is almost no time to study companies, markets and select investments. So smaller investors rely on 3rd parties, who rarely perform better than the most common indeces, such as the S&P 500 or Dow Jones Industrial Average. For that reason, few small investors make more than 5-10% per year on their money, and since 2000 many would beg for that much return!
Most investors would make more money with their available time by studying prices on the web and simply buying bargains where they could save more than 10% on their purchase. The satisfaction of a well priced computer, piece of furniture, nice suit or pair of shoes is far more gratifying than earning 2-4% on your investment, while worrying about whether you might LOSE 10-20-30%, or more!
And that's why you don't want to own JPMorganChase (JPMC.) Last week's earning's call was a remarkable example of boredom. Yes, Chairman and CEO Jamie Dimon and his team spent considerable time explaining how the London investment office lost $6B, and why they felt it was an "accident" that would not happen again. But the truth is that this $6B "mistake" wasn't really all that big a deal, compared to the $100B in mortgage and credit card losses since the financial crisis started!
Perhaps Mr. Dimon was right, given JPMC's size, that the whole experience was mostly "a tempest in a teapot." Throughout the call the CEO kept emphasizing that JPMC was "going to go about the business of deposits and lending that is the 'core' business for the bank." Although known for outspokenness, Mr. Dimon sounded like any other bank CEO saying "things happen, but trust us. We really are conservative."
So if a $6B surprise loss isn't that big a deal, what is important to shareholders of JPMC?
How about the unlikelihood of JPMC earning any sort of decent return for the next decade, or two?
The world has changed. But this call, and the mountain of powerpoint slides and documents put out with it, reiterated just how little JPMC (and most of its competition, honestly) has not. In this global world of network relationships, digital transactions, struggling home values and upside down mortgages, and very slow economic growth in developed countries, JPMC has no idea what "the next big thing" will be that could make its investors a 20-30% rate of return.
Yes, in many traditional product lines return-on-equity is in the upper teens or even over 20%. But, then there are losses in others. So lots of trade-offs. Ho-hum. To seek growth JPMC is opening more branches (ho-hum). And trying to sign up more credit card customers (ho-hum) and make more smalll-business loans (ho-hum) while running ads and hoping to accumulate more deposit acounts (ho-hum.) And they have cut compensation and other non-interest costs 12% (ho-hum.)
You could have listened to this call in the 1980s, or 1990s, and it would have sounded the same.
Only the world isn't at all the same.
And Mr. Dimon, and his team, knew this. That's why JPMC created the Chief Investment Office (CIO) in London, and the synthetic credit portfolio that has caused such a stir. The old success formula, despite the bailout which created these highly concentrated, huge banks, simply doesn't have much growth - in revenues or profits. So to jack up returns the bank created an extremely complex business unit that made bets - big bets - sometimes HUGE bets - on interest rates and securities it did not own.
These bets allowed small sums (like, say, $1B) to potentially earn multiples on the investment. Or, lose multiples. And the bets were all based on forecasts about future events - using a computer model created by the CIO's office. As Mr. Dimon's team eloquently pointed out, this model became very complicated, and as reality varied from forecast nobody at JPMC was all that clear why the losses started to happen. As they kept using the model, losses mounted. Oops.
But now, we are to be very assured that JPMC's leaders are paying a lot more attention to the model, and thus JPMC isn't going to have such variations between forecast and reality. So this event won't happen again.
If JPMC didn't need to use the highly complicated world of derivatives to potentially jack up its returns it would have closed the CIO before these losses happened. Now they claim to have closed the synthetic trading portfolio, but not the CIO. Think about that, if you had a unit operated by one of your very top leaders that "made a mistake" and lost $6B wouldn't you closing it? You would only keep it open if you felt like you had to.
Anybody out there remember the failure of Long Term Capital Management (LTCM?) Certainly Mr. Dimon does. In the 1990s LTCM was the most famous "hedge fund" of its day. The "model" used at Long Term Capital supposedly had zero risk, but extremely high returns. Until a $4B loss created by the default of Russion bonds wiped out all the bank's reserves and capital.
Let's see, what's the big news these days? Oh yeah, possible bond defaults in Greece, Portugal, Spain, Ireland......
The recent "crisis" at JPMC reflects a company locked-in to an antiquated business model which has no growth and declining returns. In order to prop up returns the bank took on almost unquantifiable additional risk, through its hedging operation. Even though hedging long had a risky history, and some spectacular failures.
But this was the only way JPMC knew how to boost returns, so it did it anyway. In an almost off-hand comment Mr. Dimon remarked a capable executive fired CIO Ina Drew was. And that she was credited with "saving the bank" by some of Mr. Dimon's fellow executives. Most likely her money-losing, high risk efforts were another attempt by Ms. Drew to "save the bank's returns" and thus why she was lauded even after losing $6B.
But no more. Now the bank is just going to slog it out being the boring bank it used to be. Amidst all the slides and documents there was NO explanation of what JPMC was going to do next to create growth. So JPMC is still susceptible to crisis - from debt defaults, Euro crisis, no growth economies, etc. - but shows little, if any, upside growth.
And that's why you don't want to invest in JPMC. For the last 3 years the stock has swung wildly. Big swings are loved by betting stock traders. But quarter to quarter vicissitudes are not helpful for investors who need growth so they can generate a 50% gain in 5 years when they need the money for junior's college tuition.
For that matter, I can't think of any "money center" bank worth investing. All of them have the same problem. After being "saved" they are less likely to behave differently than ever before. At JPMC leadership took bets in derivatives trying to jack up returns. At Barclay's Bank it appears leadership manipulated a key lending rate (LIBOR.) All actions typical of executives that are stuck in a lousy market, that is shifting away from them, and feeling it necessary to push the envelope in an effort to squeek out higher returns.
If you feel compelled to invest in financial services, look outside the traditional institutions. Consider Virgin, where Virgin Money is behaving uniquely - and could create incredible growth with very high returns. In a business no "traditional" bank is pursuing. Or Discover Financial Services which is using a unique on-line approach to deposits and lending. Although these are nothing like JPMC, they offer opportunity for growth with probably less risk of another future crisis.