The Real Impact of JPMorgan Chase Halting Its Share Buybacks
Here's a primer on the costly trades, what the buyback program was about, and what its cancellation means for investors.
Details surrounding the trades continue to emerge, but here's the story so far: A trader working in the bank's London office, Bruno Iksil, placed a huge bet in the derivatives market. Derivatives, if you recall, caused much of the chaos we experienced in the 2008 financial meltdown.
Credit default swaps are a type of derivative, and were part of Iksil's bet -- a bet so big it "moved the market," i.e., interfered with other traders' positions. These traders -- mostly hedge-fund managers -- dubbed Iksil "the London Whale" for his outsize positions.
Eventually, they began counter-betting against Iksil. JPMorgan CEO Jamie Dimon initially wrote off the complaints as "a tempest in a teapot," but as losses began to mount, he finally had to speak up.
He initially reported losses to be $2 billion, with the possibility of them reaching $3 billion. Analysts for rival Morgan-Stanley (MS) are now estimating they could go as high as $5 billion.
The problem is, the positions the bank have taken are enormous, very complicated, and will take time to unwind -- which is why no one knows exactly how big the losses will be.
"Obviously, We're Not Going to Make as Much Money"
Per Dimon himself, the trading losses are the reason why JPMorgan is halting the share buyback program. "Obviously, we're not going to make as much money," he said in a statement.
Buying back shares is very popular among shareholders. Like any other commodity, the fewer shares that are out there the more each individual share is worth. But while buybacks are nice, their suspension will have no immediate effect on shareholders.
More importantly in all this are these two points:
1. JPMorgan's shareholder dividend is safe; Dimon said so himself as part of the share-buyback announcement.
2. JPMorgan Chase itself is in no imminent danger of collapse.
With total assets of $3.4 trillion, JPMorgan Chase is currently the biggest bank in the United States. Over the past 12 months alone, it's made $90.49 billion in revenue and $17.45 billion in profit. So even a $5 billion write-off would not affect the bank's overall solvency; the losses on this trade would have to multiply dramatically for that to be the case.
This too shall pass
By halting the share buyback program, Dimon is being prudent and tactful. Even with JPMorgan Chase's seemingly limitless assets, it's wise to preserve capital until all the trades are unwound and there's a full accounting of the damage done.
JPMorgan came through the 2008 financial crisis with its reputation more intact than any of the other big banks -- primarily because of its ability to manage risk, much of which is attributed to Dimon himself. But the bank, by its own admission, made a big mistake here -- managing its risk in this situation very poorly, indeed. As such, it's paying the price: not just through damage to its balance sheet, but through damage to its reputation as well.
Unless there's some startling revelation, however, this too shall pass, and JPMorgan will get back into its groove relatively quickly.
Motley Fool contributor John Grgurich owns no shares of any of the companies mentioned in this column. The Motley Fool owns shares of JPMorgan Chase.