HIP... HIP... HURRAY... 

SEC Opens Review of J.P. Morgan

By JEAN EAGLESHAM

The Securities and Exchange Commission has begun reviewing J.P. Morgan ChaseJPM -9.50% & Co.'s disclosures related to the $2 billion trading loss announced by the company Thursday, according to a person familiar with the matter.

The review is at an early stage and hasn't progressed to the status of a formal investigation, this person said. Such reviews are routine after public companies report unexpected losses that send their stock prices sharply lower.

As a regulator, the SEC oversees J.P. Morgan's disclosures to investors and the New York company's broker-dealer operations. The Federal Reserve regulates the bank holding company of J.P. Morgan, while the Office of the Comptroller of the Currency oversees its main banking unit.

SEC officials are looking at accounting and disclosure issues related to the trading loss, according to a person familiar with the matter. SEC officials will have to decide if they believe the loss was disclosed to investors soon enough, the person said.

There are no firm guidelines on when projected trading losses become "material" to investors and thus must be disclosed. That could make it much harder for the SEC to file civil enforcement charges against J.P. Morgan.

SEC Chairman Mary Schapiro told reporters Friday that is "safe to say that all the regulators are focused on this," Fox Business Network reported.

A spokesman for the SEC declined comment.

Still, news of the bank's trading loss reverberated through Washington, and the fallout is likely to spread as policy makers and pundits claim it is evidence that U.S. megabanks are too big to manage.

J.P. Morgan's black eye will likely hurt the arguments to delay or scale back regulations mandated by the 2010 Dodd-Frank law. The bank had long been seen as one of the more sophisticated, successful banks in the U.S., and Chief Executive James Dimon had taken on something of a leadership role among big bank executives in pushing back against new regulations such as the so-called Volcker rule, which aims to limit risk-taking trading by commercial banks that enjoy government guarantees.

"This regrettable news from J.P. Morgan Chase obviously goes counter to the bank's narrative blaming excessive regulation for the woes of financial institutions," said Rep. Barney Frank, who gave his name to the Dodd-Frank law. "The argument that financial institutions do not need the new rules to help them avoid the irresponsible actions that led to the crisis of 2008 is at least $2 billion harder to make today."

Smaller banks were also quick to heap criticism on their giant rival.

 

J.P. Morgan's whale is causing more than ripples in global financial markets after it was reported that the trader clocked up $2 billion of trading losses. WSJ's Katy Burne and David Enrich report on the latest developments. Photo: Reuters

"This is exhibit A" for why risky investment banking and commercial banking can't mix, said Cam Fine, head of the Independent Community Bankers of America, a trade group representing community banks that has been pushing for lawmakers and regulators to limit megabanks. "Policy makers need to stop treating the symptoms and go after the disease … too big to fail," he said.

Jaret Seiberg, a Washington analyst with Guggenheim Securities, warned clients Friday of the higher risk of a whole slew of policies that would hurt big banks, including new laws to break up the banks. He put the odds at one-in-three that Congress or regulators enact measures to separate commercial banking from trading operations.

"For the Volcker rule on proprietary trading, the path to a moderate regulation just got tougher. We still believe the final version will be workable, but the big banks will be unable to turn to Congress for help and the hardliners now have more ammunition to press for a tougher rule that could hurt the profitability" of its market-making unit, he said in a note.

The news puts financial regulators in the spotlight, particularly the Fed, which under Dodd-Frank has primary responsibility for overseeing the nation's largest banks and other financial firms. The Fed recently concluded a round of "stress tests" of the biggest 19 banks, including J.P. Morgan, and concluded that J.P. Morgan could withstand a severe economic shock and keep lending. As a result of the test, the Fed gave the bank the green light to pay out billions in dividend payouts and share buybacks, which Mr. Dimon said in a Thursday night conference call wouldn't be impacted by the loss.

"I would be shocked" if the Fed doesn't stop the capital payouts, said Simon Johnson, former chief economist for the International Monetary Fund and a professor at MIT.

"If Jamie Dimon can't manage risk of this nature, then no one can," Mr. Johnson said, echoing the thought on many minds. "It should shake people up" at the Fed, he said.

At the very least, the J.P. Morgan debacle will up the pressure on regulators to take a tough line with the banks as they finish drafting key regulations and make it harder for lawmakers sympathetic to the banks' arguments to stand up for them.

"The enormous loss J.P. 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," Sen. Carl Levin (D., Mich.) said in a statement Thursday night. He said the bank's loss was a "stark reminder of the need for regulators to establish tough, effective standards" as they implement new guidelines "to protect taxpayers from having to cover such high-risk bets."

While the Volcker rule has yet to be finalized, some experts said it likely would not have prohibited the J.P. Morgan trade, since the bank claimed it was designed to reduce its overall risk.

"It seems highly likely that it would've been allowed," since the current proposals all try to preserve the ability of banks to make hedging trades aimed at reducing their risk, said Douglas Elliott, fellow at the Brookings Institution, a Washington-based think tank. "Just because J.P. Morgan did an incompetent hedge doesn't mean that anybody's going to try to eliminate hedging," he said.

While the loss will hardly cripple J.P. Morgan, it does ding the reputation of one of the banking industry's most effective defenders. "J.P. Morgan has been one of the industry's best advocates and they do lose some credibility from this," Mr. Elliott said. "That will hurt the industry."

—Victoria McGrane, Kristina Peterson and Kirsten Grind contributed to this article.

• Recap of J.P. Morgan's Conference Call
• J.P. Morgan: A London Whale? He's More of a Shrubbery (4/13/2012)
• Making Waves Against the Whale (4/10/2012)
• 'London Whale' Rattles Debt Market (4/6/2012)

Write to Jean Eaglesham at jean.eaglesham@wsj.com