Derivative Exposure

Here is the full Derivative exposure for iBanks, via Jesse’s Café Américain:

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click for jumbo table

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Hat tip Mish

UPDATE: March 17, 2008 1:55pm

Recognize that this does not mean JPM has $92 Trillion in potential exposure, or that Bear has (had) $13 trillion. Remember, the derivatives are ran as offsetting positions — kinda like a bookie — where they should be reasonably balanced, regardless of who wins the game.

Remember, Bookies & iBanks make their money on the spread, not betting on who is going to win the big game . . .

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  1. JS commented on Mar 17

    I’m in banking compliance why didnt I think of looking there.

    Primero

  2. blin commented on Mar 17

    OMG…what happens if JPM implodes?

    They have way too much derivative risk to be bailed out in any way.

    …is it time to run for the hills yet?

  3. Estragon commented on Mar 17

    So, if I understand Mish’s article, BSC may have presented on the order of $12Trillion (notional) in illiquid OTC derivatives counterparty risk.

    JPM might well have bought them just to keep this particular can of worms unopened.

  4. Douglas Watts commented on Mar 17

    To put this into physical perspective, JPMorgan’s derivative exposure (91 trillion $) is almost four times greater than the number of miles to the nearest star system: Alpha Centauri.

    4.37 light years * 6 trillion miles (1 LY) = 26.22 trillion miles.

    Pass the Chalice !!!

  5. Dee Leverage commented on Mar 17

    Even scarier than the whole system collapsing is who is in charge to rectify the situation.

    BTW, CNBC teaser just asked if Fed is actually making things worse with all their moves. Funny story…7 years ago, I met a chief economist from one of the top brokers. I told him the Fed should be abolished. He looked at me like I had 3 heads and walked away mumbling.

  6. Roman commented on Mar 17

    I might sound like an idiot, but why on earth is JP Morgan’s ‘State’ listed as Ohio. And Merry Lynch listed as Utah??

  7. larster commented on Mar 17

    Does anyone think that it might be a good idea to regulate derivatives, at least to the point that we know whose balance sheet they are sitting on? Or maybe we do not want to know that the organizations do not know either. As Bush said this morning in another one of his brain farts, “the capital markets are operating smoothly”. I thought Mark Haines was going to explode after that one.

  8. tradahmike commented on Mar 17

    Thanks, Barry for the Jesse’s Cafe Americain link. In looking through some of the earlier posts, I saw this very well-stated comment that sums up where we are headed:

    “The deceit and fraud will continue until stopped by an external regulatory force not controlled by special interests.”

    Bingo.

    The only question is how much pain and wealth destruction we must endure to get to the point where this arms-length regulatory group can be assembled and put to work doing the REALLY heavy lifting.

  9. Mike commented on Mar 17

    The US and Mexico are going to do a default swap of standards of living.

    This is how it starts.

  10. TempusFugit commented on Mar 17

    “I might sound like an idiot, but why on earth is JP Morgan’s ‘State’ listed as Ohio. And Merry Lynch listed as Utah??”

    JPM is descended from Bank One which was hq’ed in Ohio.

  11. MitchN commented on Mar 17

    Who, besides the Fed and Treasury signed off on JPM’s buyout of BSC? Who else was in the room (or on the conference calls)? The four remaining IBs, right? The SEC? Reps from the Senate and House banking committees? Who else? Who’s rigging our “free-market system” for the benefit of their millionnaire/billionniare pals on Wall Street and the Hill?

  12. Mikkel commented on Mar 17

    Well, that makes the quote on CalculatedRisk’s page make a lot more sense.

    “Bill Winters – JPMorgan Chase – Co-CEO, JPMorgan Investment Bank
    That’s right. In fact what we’ve — we were very pleasantly surprised to see that [Bear Stearns] was a very well run, tight operation with good risk controls and a risk discipline that was very similar to our own.”

  13. Eric Davis commented on Mar 17

    Anyone know what an OTC forwards are?

  14. Dee Leverage commented on Mar 17

    I’ve never been a big Dylan Ratigan fan…but his report from the exchange floor just now was brutally bad. He said “what is going on is a battle of optimists and pessimists”, then they brought on Jeff Macke to talk to him to basically promote their Fast Money Show. On an important day, Ratigan comes up small.

  15. Aurora Borealis commented on Mar 17

    Now who has the greatest self-interest in keeping the derivatives business not falling apart?

  16. Tim commented on Mar 17

    Currency Report should be relabeled “Pain Train Schedule”

    Now departing…Bear Stearns.

  17. Dee Leverage commented on Mar 17

    Thoughts on gold and oil? I would not be long here in a deflationary crash.

  18. SPECTRE of Deflation commented on Mar 17

    Barry, nothing like lots of leverage right up until the time it turns on you, and then you have Hell to pay with it snapping at your arse night and day. There is no way this ends well.

  19. Roman commented on Mar 17

    Hmm…is it possible Ben might be on to something when he says that the deflationary pressures of a slow down will overwhelm any inflationary pressure by a looser monetary policy.

    Look at commodities today. Crashing and burning across the board. Gasoline futures are down 7%!

  20. SPECTRE of Deflation commented on Mar 17

    Dee, you and I are on the same page concerning commodity prices and a deflationary crash. When you fail to generate enough new credit/debt to service the existing credit/debt, game over, and even worse when destruction of credit/debt is occuring. Few see it, but it will hit like a Tsunami.

  21. Alfred commented on Mar 17

    Discrimination I protest

  22. SPECTRE of Deflation commented on Mar 17

    Roman, some of us have been saying this for quite awhile although board concensus seems to be stagflation. Tell that to the 20,000 CA teachers who will be laid off.

  23. Dee Leverage commented on Mar 17

    great Cramer clip…NO WAY to weasel out of that one…not a good week for Jimbo, what with his friend, what’s his name…oh Spitzer.

    Here they are in some happier times

    Jimmy and Eliot

  24. B.B. commented on Mar 17

    Saltwater,

    love the Cramer piece. I knew he had said that but now watching it, BSC was trading at $62.97 and he was so adament, “no,no,no dont sell it!”. I’m not always right either, but I wonder how many of his stooges lost a bundle on that call. I have to watch him tonight just to see him squirm.

  25. IdahoSpud commented on Mar 17

    Coincidentally (or not!!) JPM appears to be the only stock keeping the DJIA from free-falling today along with the other indexes.

  26. kk commented on Mar 17

    Dee Leverage,

    Stick to the grim reaper in the night musings, when you opine you give off a jump the shark vibe.

  27. MitchN commented on Mar 17

    In Friday’s WSJ, David Roche, president of London-based Independent Stretgy (www.instrategy.com), makes a very strong case for the stagflation scenario:

    “We estimate that nonfinancial corporate debt ultimately will have to shrink by 11%-12%. This will generate a decline of five percentage points of real U.S. GDP growth and push the U.S. into recession. Europe’s real GDP growth will contract by two percentage points.

    “Globally, total credit losses of $1.4 trillion will cause a contraction on world GDP of 2.5 percentage points, or half the current rate of global growth. So the global economy will become a gray, dull world of semi-recesssion and sticky inflation that will last a long time. Without major policy blunders, however, it won’t be a 1930s-style recession.”

    I think he’s a bit too sanguine and that we’ll overshoot on the downside, but the stagflation argument is the one that strikes me as most plausible.

  28. Dee Leverage commented on Mar 17

    KK,

    Hope your flatscreens are paid for…I’m watching you

  29. DoctorOfLove commented on Mar 17

    The derivatives chart indicates precisely why BS can’t be allowed to melt down. Swaps and derivatives are manageable so long as no major counterparty disappears. If a major counterparty disappears, then all the other major traders have exposure where they once thought they had none. That’s why BS cannot be allowed to file bankruptcy.

    Inflation will not occur. Right now, and since August dollars in the form of dollar based credit have been and are being destroyed at a fantastic rate. The money supply is dropping like a 777 on short final at Heathrow. This deleveraging and vaporization of currency is what in fact caused the depression, and this is what bernacke is struggling against right now. That fellow who put $1b into BS three months ago now has $20 mil. If thats not money supply collapse, I don’t know what is.

    Interest rate levels during this process are irrelevant. No one is lending anyway.

    You read it here first (in first here in the last few minutes?) Oil below $70 by 9/30/08.

  30. Estragon commented on Mar 17

    BR,

    Further to your 1:55 update – notional exposure most certainly != total exposure, but what happens when one bookie fails to settle on the offside 1/2 of the spread bet? Where does the onside counterparty bookie stand in the line of creditors?

  31. MitchN commented on Mar 17

    Doc Love —

    I think you’re onto something. How long will it take to delever the house of cards constructed by the brainiacs on Wall St.?

  32. IBH commented on Mar 17

    ALPHABETIC DEATH MARCH

    The acronyms for all these exotic investment products that has pretty much taken down the ibanks and much of the financial system with it, always have these three letter or four letter catchwords to describe what cannot be described. (CDO,CLO,TSA TSFC, and so on.)

    As an investor, i have always prescribed to keeping it simple. The only four letter word i understand is CASH. Back in the day, i would always say to co-workers, “LEVEARGE KILLS and KEEP IT SIMPLE”. In devsing an investment strategy, following this simple motto can save your behind.

  33. SPECTRE of Deflation commented on Mar 17

    Barry, your update is true so long as there is a counterparty who can pay. No counterparty means notional just went into the shitter.

  34. SPECTRE of Deflation commented on Mar 17

    A good analogy is a room full of mousetraps that suddenly have a ping pong ball tossed into the room. It’s a chain reaction.

  35. SPECTRE of Deflation commented on Mar 17

    D of L, far from first. Many believe we are headed for a deflationary event which would require commodity prices being beat up like a dirty rug.

  36. DoctorOfLove commented on Mar 17

    The 29 collapse actually took all of 30, 31, and 32. The 89 S&L collapse extended into 92.

    But thanks to the intertubes, blogs and the like my guess is this one is (arbitrarily) 18 months rather than 36. So Aug 07 to Jan 09.

    My guess is one more biggie goes bye bye (meaning its equity is wiped out) – I bet Citi, although it will be propped up by the Fed and ipo-ed in 2010.

    They will let Lehman die, but they won’t let JP, City BoA or Wachovia die.

  37. Steve Bowles commented on Mar 17

    Sorry this data is meaningless and is not an area of concern. I spent decades as an interbank price maker and now teach derivatives and advanced derivatives to banks and investment banks globally. The vast bulk of derivatives have notional principles – THIS MEANS THAT THERE IS NO OBLIGATION EVER TO EXCHANGE IT. NOTIONAL PRINCIPAL OUTSTANDING IS A MEANINGLESS NUMBER !! Also dont forget about ISDA master agreements and global netting provisions.

  38. Jason G. commented on Mar 17

    While ibanks may make money on the spread like bookies, they are also vulnerable to counterparty risk (assuming your bookie is not a cash in hand, pay before you place the bet type of bookie).

    Even if they have offsetting positions, if one of the positions is offset by… let’s just arbitrarily say MF Group or BSC, then they suddenly become unhedged in the event of a bankruptcy.

    Barry’s right, the outright amount of their balances isn’t necessarily indicative of exposure, but it certainly is indicative of how many counterparties they depend on, or depend on them… As such, you have a list here of banks/brokers that are too big to fail.

  39. kk commented on Mar 17

    Dee Leverage, much better.

  40. PureGuesswork commented on Mar 17

    I agree with comment by Steve Bowles above. This chart is fun to look at(especially for those who entertain themselves fumigating about how all those evil Wall Street types are ruining our world) but almost certainly meaningless. Gillian Tett wrote a few weeks ago about how these sorts of numbers have little connection with reality. Offsetting positions do not double your exposure.

  41. PureGuesswork commented on Mar 17

    BTW, I was speaking with Bear Sterns bookie and he says the reason they went for the JPM deal is that Bernanke threatened to break their legs.

  42. saltwater commented on Mar 17

    Wow. Dow flat. S&P down <1%. I officially don't get it.

  43. saltwater commented on Mar 17

    I guess it’s simple… should have bought BSC at the open and doubled my money. Can’t believe I didn’t see that coming. Are you kidding me?????

  44. Stuart commented on Mar 17

    In the event of OTC derivative default, it is important to realize, notional value becomes settlement value. All those dismissing notional value as meaningless need to factor this into their assessment.

  45. Steve Bowles commented on Mar 17

    “In the event of OTC derivative default, it is important to realize, notional value becomes settlement value”

    Sorry Stuart but that is totally wrong.

    For the vast majority of derivatives notional principal is never exchanged under any circumstance.

    In default the netting provisions under the ISDA master agreement come into force.

    EVERY TRANSACTION GLOBALLY BETWEEN THE ORGANISATIONS IS MARKED TO MARKET AND A SINGLE NET CASHFLOW IS EXCHANGED.

    I have experienced this first hand on a number of occasions.

    Example : When Drexells went down. My swap book had a few billion outstanding with a mark to market of a few million profit, New York branch owed them 10’s of millions, London was owed 10’s of millions, Paris owed them millions. The entire global derivative book was over $50 BILLION in notional principal. It came down to our bank paying them $3 MILLION and every deal globally was cancelled at market. That is how derivatives work.

  46. SteveC. commented on Mar 17

    Thank you, Steve Bowles for your explanation. Just thinking out loud though.. Is there any rule or law requiring them to offset their positions to balance risk? Is there a possibility that a rouge trader or incompetent desk seeking Alpha makes an outrageously bad bet, that damages our entire system? Does this stuff need to be regulated?

  47. SteveC. commented on Mar 17

    Thank you, Steve Bowles for your explanation. Just thinking out loud though.. Is there any rule or law requiring them to offset their positions to balance risk? Is there a possibility that a rouge trader or incompetent desk seeking Alpha makes an outrageously bad bet, that damages our entire system? Does this stuff need to be regulated?

  48. Ritchie commented on Mar 17

    MitchN: “Who’s rigging our “free-market system” for the benefit of their millionnaire/billionniare pals on Wall Street and the Hill?”

    Go get in that long line over there where, way up towards the front, you can see the people who got in line early to get a list of the people who attended Cheney’s energy policy meetings shortly after Cheney became pResident.

    That line, and a lot of others just like it, will appear to begin moving in late January of 2009.

  49. Steve Bowles commented on Mar 17

    Steve C
    All the major (and even the minor) players manage these as books – this is the key term here “swap books”. As each deal is transacted what is controlled is the net effect on the total interest rate risk. Notice the giant component of the derivatives are swaps – these are ‘Interest Rate Swaps’ The interest rate risk is well managed. The risk from a rogue trader is negligible if the bank has decent internal procedures.

    Banks also manage the counterparty credit risk as the total position after netting. I kid you not when I say the net losses would have been potentially just in the millions, not billions or trillions.

    Credit derivative credit risk is much more complicated, the mark to market losses here are potentially larger given the move in spreads, but banks should be managing overall risk properly anyway.

    Derivatives do not need any more regulation – they are totally fine as they are. The root of the problem is uncontrolled leverage. Quality banks never go above 8 or 9 times leverage (Risk Weighted Assets over capital). Once that number exceeds 10 think high-risk bucket shop. Personally if regulation was coming it is total allowable leverage that springs to mind as an area worth exploring as that is the root cause to all the problems.

  50. Ritchie commented on Mar 17

    Estragon: “Where does the onside counterparty bookie stand in the line of creditors?”

    Wouldn’t that depend on whether or not it was an “honest” bookie or one connected to the mob?

  51. Karl K commented on Mar 17

    Steve Bowles, thank you for those excellent explanations. I’d also say thank you for throwing cold water on those on here who really really REALLY want to see a depression so their gold positions can skyrocket.

    It’s also analogous to the monolines — yesterday’s crisis du jour. Notional value sounds scary, but it’s the PV of obligations that count.

    This is only partly a value crisis — the real problem is a LIQUIDITY crisis.

    As Barry put it last night, Ben Bernanke is doing his job. We cannnot have an illiquid credit system, despite the fact that gloomsters on here believe the whole thing needs to collapse to expiate our easy money original sin. These are the folks whose fundamentalist financial understanding is equivalent to the scientific sophistication of religious fundamentalists who believe the earth is a mere 8000 years old.

    We can have a credit system whose assets slowly but surely lose real value — no problem with that. But we simply cannot have the engine seize up. It can slow down, run raggedly, cough and sputter. . . but not, by any means, should we allow it to shut off.

  52. Buffett commented on Mar 17

    Read Buffetts 2002 Annual Report at Berkshirehathaway.com

    Buffett called these unregulated derivatives
    “Financial Weapons of Mass Destruction” that were caused systemic risk. For those that say no problem, I’ll go with Buffett.

    He bought a whole book of derivatives when he
    Bought GenRe. HE thought he could sell the derivatives, but he couldn’t and he ended up taking a bath for Hundreds of Millions of dollars. He said that he couldn’t sell the derivatives during good stable times, imagine what would happen during turbulent times.

    He talked long about the systemic risk and how it was a huge accident waiting to happen.

    For those wondering get Buffett’s perspective, after all he is one smart dude with first hand experience and a rather good record of knowing what he was talking about.

  53. Steve Bowles commented on Mar 17

    Sorry Buffett but your namesake is clueless when it comes to the general derivative market.

    What he got with the GenRe deal were some extremely exotic/hybrid products that nobody wanted to touch. As those who bought CDO tranches are also finding – if you are silly enough to buy illiquid crap then you better hope you never try and sell it.

    The vast bulk of the derivative world is a totally rational well organised, liquid market.

  54. Steve Bowles commented on Mar 17

    Karl K

    The liquidity crisis you talk of is the effect of deleveraging. Due to the insane levels of leverage people were given, something in the order of 1-2 Trillion worth of debt got created to fill the excess demand (subprime etc). As the morons are being forced to cut back leverage we are struggling to find a home for this mountain of paper. This is the root cause of the liquidity crisis – too many securities already issued looking for a home, and thus no capacity for new issues.

  55. cinefoz commented on Mar 17

    Steve Bowles,

    Thank you for making these thoughtful and intelligent posts. You are writing on an area that is unclear to me, so it is helpful to be able to separate fact from fiction from someone with experience.

    Can you recommend any books or reading material that provide an useful, but not highly technical, explanation of the interactions of the normal workings and problematic aspects of this area of finance?

    I agree that excessive credit is the problem. Historically, it always had been regarding bubbles. It appears the concept of credit is limited only by the imagination of the participants.

    How do modern credit markets work and how might the next bubble grow? This is what I am interested in trying to figure out by reading up on the subject.

  56. Kimo commented on Mar 17

    Dee Leverage,

    “no,no,no dont sell it!”.

    Just to be clear, Cramer said don’t “move your money from Bear”, nothing about selling the stock. It would appear to be a reference about moving money out of their brokerage account at BS. If so, they are no worse off today(perhaps better).

  57. Max commented on Mar 17

    Karl K

    The liquidity crisis you talk of is the effect of deleveraging. Due to the insane levels of leverage people were given, something in the order of 1-2 Trillion worth of debt got created to fill the excess demand (subprime etc).

    Except that derivatives ARE the instruments that enhance net leverage – a party A buys for an X amount a hedge for an operation running at 100*X amount.

  58. PFT commented on Mar 17

    Clueless myself, but Steve Bowles words ring true in my ears. The real Buffet might be trying to create a panic, same as JP Morgan did in 1907 by spreading a rumour the Knickerbocker bank was out of money and triggering a bank run, and this led to the Fed in 1913. I mean, if derivatives are so toxic, why does he expose his investors to them?

    http://money.cnn.com/2008/02/29/news/newsmakers/barr_buffett_derivatives.fortune/index.htm?section=money_latest

    “But Buffett’s concerns about possible risks haven’t kept him out of the derivatives business. Buffett wrote in Berkshire’s 2007 annual report, published Friday on the company’s Web site at berkshirehathway.com, that Berkshire has taken in $7.7 billion in premiums on 94 derivatives contracts it has entered into.

    Buffett says Berkshire has taken in $3.2 billion in premiums on 54 derivative contracts that require the firm to pay up if certain bonds in various high-yield indexes default. Buffett said these swaps expire between 2009 and 2013, and could expose Berkshire to losses as large as $4.7 billion. But he calls that a worst-case scenario that is “extremely unlikely to occur” and notes that as of Dec. 31, Berkshire had paid out just $472 million on those contracts.”

    JPM (the company) invented derivatives from what I read, and certainly would not be assuming 13 trillion in toxic waste from BS, if it was toxic, even if they got a good price. I mean, would you pay 250 million dollars for a company that could cost you trillions?

  59. Stuart commented on Mar 17

    Jim is correct on this matter regardless on what others might stipulate.

    Jim Sinclair’s Commentary

    What the OTC derivatives have not done to the international banking system, the mountain of upcoming slam-dunk litigation will.

    This is no joke because OTC derivatives are fraudulent in the legal sense.

    In the practical sense OTC derivatives are worse because they are:

    Without regulation.
    Without listing on public exchanges.
    Without standards.
    Therefore not in the least bit transparent.
    Therefore without an open market of the bid/ask type.
    Dealt in by private treaty negotiations.
    Without a clearinghouse.
    Unfunded without financial guarantee of any kind.
    Functioning as contracts of specific performance.
    Financial character or ability to perform is totally dependent on the balance sheet of the loser in the arrangement.
    Evaluated by computer assumptions made by geek, non market experienced mathematicians who assume religiously that all markets return to their normal relationships regardless of disruptions.
    Now in the credit and default category alone considered by accepted authorities as totaling more than USD$20 trillion in notional value.
    Notional value becomes real value when the agreement is forced to find a real market for ending the obligation which is how one says sell it.

  60. Stuart commented on Mar 17

    “Derivatives do not need any more regulation – they are totally fine as they are”

    ’nuff said. Absurd.

  61. SPECTRE of Deflation commented on Mar 17

    It’s notional right up until your counterparty turns it’s back to you. Then you are left swinging in the wind not to mention the ping pong ball/mousetrap analogy. You are hedged so at first you don’t sweat it until you realize the guy that lost the bet to you is broke.

  62. SPECTRE of Deflation commented on Mar 17

    Stuart, naw we don’t need no stinkin’ regulation, and to prove it I want to turn your attention to the innovation that has occurred since the repeal of The Glass-Steagall Act…um…never mind.

  63. Jobo commented on Mar 18

    I’m late to the party, but has anybody looked at what now happens with the derivatives trades _between_ JP Morgan and Bear? To my eyes, it looks like they are now in practice worthless, and JPM/BSC would be holding a bunch of unhedged derivatives contracts…

  64. Steve Bowles commented on Mar 18

    Its hard to know where to start with some of these comments…

    Firstly the term ‘derivative’ is an umbrella term that encompasses a very broad range of products, much like the word ‘sport’ is an umbrella known – know which one you are talking about before commenting – taling about goals and touchlines in baseball isnt all that useful ! ‘Derivative’ simply implies the price is derived from another product.

    As to Stuarts comments – wow

    OTC means over the counter, if they were exchange traded they wouldnt be otc.

    Most of what you list is total gibberish and either because its an OTC product or just simply wrong

  65. PureGuesswork commented on Mar 18

    To Steve Bowles,
    Please stop posting all this reality-based stuff. You are spoiling everybody’s fun.

  66. Stuart commented on Mar 18

    “”Derivatives do not need any more regulation – they are totally fine as they are”

    ’nuff said. Absurd.

    Warren Buffet would agree, ’nuff said. Oops,.. then we have that whole financial weapons of mass destruction comment.. Disregard that quote, he was just kidding. Talk about having ones head up their arse.

  67. DavidB commented on Mar 18

    You guys are just handing out the material today aren’t you?

    BTW, I was speaking with Bear Sterns bookie and he says the reason they went for the JPM deal is that Bernanke threatened to break their legs.

    That doesn’t sound like Ben. Based on his past actions it is more likely he’d threaten to break his own legs

    Evaluated by computer assumptions made by geek, non market experienced mathematicians who assume religiously that all markets return to their normal relationships regardless of disruptions.

    What those said same geeks fail to realize is that the loss of their firms and thus their jobs(not to mention the occasional lawsuit) are part of the disruptions that the market needs to go through before market relationships are restored

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