JPMorgan Chase, the largest bank in the United States, has said it lost $2 billion over the past six weeks in a trading portfolio supposedly designed to hedge against risks the company takes with its own money.
The company's stock plunged almost 7 per cent in after-hours trading after the loss was announced. Other bank stocks, including Citigroup and Bank of America, suffered heavy losses as well.
"The portfolio has proved to be riskier, more volatile and less effective as an economic hedge than we thought,'' CEO Jamie Dimon told reporters. "There were many errors, sloppiness and bad judgment.''
The loss came in a portfolio of the complex financial instruments known as derivatives, and in a division of JPMorgan designed to help control its exposure to risk in the financial markets and invest excess money in its corporate treasury.
Some analysts were skeptical that the investments were designed to protect against JPMorgan's own losses. They said the bank appeared to have been betting for its own benefit, a practice known as "proprietary trading.''
Bank executives, including Dimon, have argued for weaker rules and broader exemptions.
JPMorgan has been a strong critic of several provisions that would have made this loss less likely, said Michael Greenberger, former enforcement director of the Commodity Futures Trading Commission, which regulates many types of derivatives.
The trading loss is an embarrassment for a bank that came through the 2008 financial crisis in much better health than its peers. It kept clear of risky investments that hurt many other banks.
Bloomberg News reported in April that a single JPMorgan trader in London, known in the bond market as "the London whale,'' was making such large trades that he was moving prices in the $10 trillion market.
Dimon said the losses were "somewhat related'' to that story, but seemed to suggest that the problem was broader. He also said the company had "acted too defensively,'' and should have looked into the division more closely.
The Wall Street Journal reported last month that JPMorgan had invested heavily in an index of credit-default swaps, insurance-like products that protect against default by bond issuers.
"These instruments are not regularly and efficiently priced, and a company can wake up one day, as AIG did in 2008, and find out they're in a terrific hole. It can just blow up overnight,'' said Greenberger, a professor at the University of Maryland.
Hedge funds were betting that the index would lose value, forcing JPMorganto sell investments at a loss. The losses came in part because financial markets have been far more volatile since the end of March.
Partly because of the $2 billion trading loss, JPMorgan said it expects a loss of $800 million this quarter for a segment of its business known as corporate and private equity. It had planned on a profit for the segment of $200 million.
The loss is expected to hurt JPMorgan's overall earnings for the second quarter, which ends June 30. Dimon apologised for the losses, which he said occurred since the first quarter, which ended March 31.
"We will admit it, we will learn from it, we will fix it, and we will move on,'' he said. Dimon spoke in a hastily scheduled conference call with stock analysts. Reporters were allowed to listen.
JPMorgan is trying to unload the portfolio in question in a "responsible'' manner, Dimon said, to minimise the cost to its shareholders.
Analysts said more losses were possible depending on market conditions. Dimon said the type of trading that led to the $2 billion loss would not be banned by the so-called Volcker rule, which takes effect this summer and will ban certain types of trading by banks with their own money.
The Federal Reserve said last month that it would begin enforcing that rule in July 2014.
"The enormous loss JP Morgan announced today is just the latest evidence that what banks call 'hedges' are often risky bets that so-called 'too big to fail' banks have no business making,'' said Democratic Sen. Carl Levin.