The “London Whale” case refers to the $6.2 billion in credit derivative trading losses suffered by JPMorgan & Chase back in 2012. The trades were made by JPMorgan trader Bruno Iksil, who was ironically employed in the Chief Investment Office, whose main responsibility is to minimize the bank’s risk level.
It turned out that JPMorgan & Chase could afford the $6.2 billion loss, as the bank ended up reporting $21.3 billion in profits for the year, but the incident led to questions surrounding regulatory oversight and the firm paid over a billion to settle securities laws violations. Two former JPMorgan traders still face possible criminal charges.
The U.S. Office of the Inspector General investigated the London Whale case and published a report in October of last year with 10 recommendations for improving regulatory oversight of the financial industry.
Details on the JPMorgan London Whale case
Like most frauds, the London Whale case was a matter of doubling down on bad bets. At first, JPMorgan’s CIO used the $350 billion it had to invest to make legitimate profits. But over time, its London office began to focus on complex derivative trades that had less and less to do with hedging or risk management.
In mid-2011, for example, a single trade by Iskil brought in $400 million. However, the problems began in early 2012, when JPMorgan made the call to reduce the risk in the London swaps portfolio by making more offsetting bets. As things fell apart, Iksil’s positions grew so large that they were obvious in the thinly traded markets — earning him names such as the Whale and Voldemort, and also making his hard-to-unwind trades an easy target for hedge funds.
Eventually the trades collapsed, and then regulators found that Iksil and his colleagues had been keeping two sets of books to hide size of the losses, which led to further investigations in both the U.S. and U.K.
Findings and recommendations of the OIG
The OIG report proffered 10 recommendations that would encourage the Fed’s Division of Banking Supervision and Regulation to improve its supervisory processes for large banking organizations as a result of lessons learned from the Fed’s supervision of JPMorgan & Chase’s CIO.
- “Issue guidance that reinforces the importance of effective collaboration and cooperation in joint supervisory planning to optimize the intended benefits of the consolidated supervision model, particularly in light of the Federal Reserve’s updated framework for supervising large, complex institutions, which emphasizes financial resiliency and horizontal priorities.
- Develop procedures that encourage staff to take immediate action to escalate significant concerns regarding interagency collaboration in executing consolidated supervision.
- Develop guidelines for the supervisory planning process that require Federal Reserve System supervisory staff to
- reassess their strategy and approach for conducting supervision activities in light of emerging risks and changed circumstances within supervised entities.
- assure that sufficient supervisory resources are assigned to areas exhibiting significant emerging risks.
- Develop guidance on how Federal Reserve System supervisory staff should document and track supervisory activities that are included on a supervisory plan, including
- expectations for assigning priority ratings to supervisory activities using a consistent prioritization scheme and presentation.
- instructions for documenting the rationale for not performing planned or recommended supervisory activities and required approvals for deviating from supervisory plans.
- escalation protocols when activities on supervisory plans are not completed.
- Develop guidance on best practices for transitioning supervisory staff or teams.
- Enhance the effectiveness of knowledge management capabilities for supervisory information so that supervisory materials can be searched and filtered as effectively as possible.
- Clarify the Board’s intentions and expectations regarding Edge Act entity supervision with the appropriate counterparts at the OCC.
- Issue guidance detailing expectations for documenting and approving the deliverables of continuous monitoring activities, tracking identified issues, and performing follow-up activities.
- Issue guidance outlining the Board’s preferred approaches for mitigating key-person dependency risk on Reserve Bank supervisory teams.
- Direct FRB New York to assess whether it needs to hire additional supervisory personnel with market risk and modeling expertise.”