Both the Securities and Exchange Commission and JPMorgan Chase won great public relations victories last week. But the public lost â€" and in ways that go far beyond this one spat.
By cracking down on the bank for its faulty internal controls in the $6 billion London Whale trading loss, the S.E.C. can claim to be the ferocious regulator we have all been waiting for. JPMorgan and its chief executive, Jamie Dimon, got the best coverage they could have hoped for under the circumstances: the sense that the bank is beleaguered, surrounded by regulators, but at least it could put the trading loss behind it.
Yes, the S.E.C. wrung an admission of wrongdoing out of the bank, and the regulators scored a large settlement. It’s an improvement for a regulator to display the ferocity of a mealworm, rather than a banana slug, but let’s hold the celebrations until it reaches at least the level of a garter snake.
After all, Mr. Dimon had already made a great display of admitting that he and the bank’s senior ranks had messed up â€" well, at least as soon as it was clear that bluster wasn’t getting them anywhere.
The admission was nice, but the S.E.C. did not charge any top executives with misleading disclosure. Why not?
Financial markets depend on true and accurate information. Disclosure isn’t some i-dotting, t-crossing regulatory nicety; it’s fundamental. And the Senate Permanent Subcommittee on Investigations, in its huge report on the trading loss, made a convincing case that the chief financial officer at the time, Douglas L. Braunstein, made several highly misleading statements in an April 13, 2012, conference call with shareholders and the public.
The bank counters by saying, essentially, that its officers believed what they said when they said it.
“Our senior executive team acted in good faith. These regulatory settlements involve no allegations of intentional misconduct by any of these people,†said Joseph Evangelisti, a company spokesman. Since the beginning, he says, “the goal was always to get it right,†pointing out that Mr. Dimon told his people, as quoted by the British financial regulator, that they should pretend that the pope was on one shoulder and the head of the S.E.C. was on the other, asking: “What is the right thing to do?â€
Whether Mr. Braunstein’s statements were the “right thing,†they were unequivocally wrong as matters of fact. Even he, at a March Senate hearing, acknowledged that he made a number of inaccurate statements, though he said they were based on what he had been briefed on at the time. (He declined a request for comment.)
Let’s review. On that April 13 call, Mr. Braunstein made four statements that the Senate subcommittee found erroneous about the trades made by the bank’s chief investment office. He said the trading was “fully transparent to the regulators.†He said of the trading that “all of those positions are put on pursuant to the risk management at the firmwide level.†He said they were “made on a very long-term basis.†And most important, he emphasized that the traders were hedging.
It wasn’t only Mr. Braunstein. His comments mirrored talking points the bank had prepared days earlier. The Senate subcommittee report says the bank’s communications officer and chief investor liaison circulated talking points and met with reporters and analysts with the “primary objectives†to communicate that the chief investment office’s activities were “ ‘for hedging purposes’ and that the regulators were ‘fully aware’ †of the trading. “Neither of which was true,†the Senate report says.
And of course, Mr. Dimon, the chief executive, had said that initially the trades were hedges but they had turned into something different.
The trading wasn’t disclosed to regulators, the bank’s top risk managers had no window into it, and the traders were actively buying and selling. Most significant, it wasn’t hedging. The trading in the London group of the chief investment office was proprietary, intended to create profit for the bank. That’s the kind of activity that will presumably be banned under the interminably delayed Volcker Rule, should the regulators deign to finish it and not permit large exemptions.
“Given the information that bank executives possessed in advance of the bank’s public communications on April 10, April 13, and May 10, the written and verbal representations made by the bank were incomplete, contained numerous inaccuracies, and misinformed investors, regulators and the public,†the Senate report says.
The public relations battle continues.
The S.E.C. says it isn’t finished yet. The investigation has three parts: the case against the traders for mismarking the value of the trades, for which two have been charged criminally; the look into the company for internal controls, which was settled last week; and a third, against senior individuals for misrepresentations. The third continues. The agency may yet come down on top executives for their misleading statements.
I got a different sense from the company, however. The S.E.C. investigated the April 13 statements and the bank regards its senior executives to be in the clear, a person at JPMorgan told me. Mr. Dimon, for one, has been cleared, according to bank statements that were approved by the S.E.C.
In the past, when companies have claimed to be cleared and the S.E.C. has insisted they weren’t, the companies were often right. When the S.E.C. settled with Citigroup over a misleading mortgage securities deal, called a collateralized debt obligation, the agency said it covered just one deal. The bank said the S.E.C. had wrapped up all the investigations into those types of deals. Lo and behold, the banks were right and the S.E.C. never came back.
As always, this stuff isn’t easy, and I have some sympathy for the agency. Companies have a legal obligation that their books, records and S.E.C. filings are accurate. If they aren’t, that’s negligent and a violation of securities laws. Not so with statements to the public on conference calls. Under the law, proving fraud requires the S.E.C. to either show what was on the executives’ minds or at least establish they were reckless. Even with a civil case, the agency needs evidence that the executives knew what they were saying wasn’t true â€" or that they had every reason to but went ahead anyway.
JPMorgan understands this perfectly well. The one unshakable talking point, repeated like a drumbeat, is the executives emphasizing their good faith.
The implications for the public are larger than this single case. One of the important aspects for the Volcker Rule, which aims to bar banks from speculating with money that is backed by taxpayers, will be how much disclosure regulators require.
Clear and complete disclosures would allow institutional investors, regulators, counterparties and financial experts to sort out whether the banks are complying with the law or not.
A slap for lesser sins darkens the future of the already enfeebled rule. Without serious disclosure and serious enforcement, the risk of another calamity rises.
