On May 10, 2012, Jamie Dimon, the bank's chairman and chief executive officer (CEO), held an unplanned conference call. As reflected in the firm's first quarter 2012 filings with the Securities and Exchange Commission (SEC), Mr. Dimon reported that, during the early part of the second quarter, a London-based office of the bank (insured depository) unit, the Chief Investment Office (CIO), sought "to hedge the firm's overall credit exposure" and incurred "slightly more than [a] $2 billion trading [paper] loss on … synthetic credit positions." Several bank analysts have indicated that the report of the losses raised concerns about the quality of JP Morgan's risk management. Various agencies, including the United Kingdom's financial services regulator (the Financial Services Administration), the SEC, the Commodities Futures Trading Commission (CFTC), the Federal Reserve (the Fed), the OCC, and the Federal Deposit Insurance Corporation (FDIC), have launched probes of various aspects of the trades. These issues include
potential regulatory lapses and shortcomings in the regulatory reach; risk management at JP Morgan's CIO; Section 619 of the DFA, also known as the Volcker Rule; systemic significance of the losses; potential broader implications of the losses for other large banks; and the doctrine of "too big to fail" in the context of the JP Morgan trade losses. The instruments chosen by the bank to execute the strategy were not identical to the instruments used in the original position, which introduced basis, liquidity, and other risks. Figure 1 illustrates how different financial regulatory agencies are responsible for prudential regulation of the units of JP Morgan that are believed to have carried out the derivatives trades, and the way that financial regulatory agencies regulate derivatives trading activities and venues. Office of the Comptroller of the Currency

The OCC is the primary prudential regulator for federally chartered insured depositories, including the relevant subsidiary of JP Morgan. The OCC has a targeted large bank supervision program for complex firms such as JP Morgan. Federal Reserve

The Federal Reserve is the primary prudential regulator of JP Morgan's holding company. Federal Deposit Insurance Corporation

FDIC-insured depositories must comply with FDIC regulations. Instead, it is the enforcement of existing regulations. However, because JP Morgan's losses did not occur in the investment banking part of the firm, but rather occurred in a unit connected to the depository banking part, citing the bank's trading losses may not effectively advance the argument. According to at least one regulatory official, FSOC discussed the JP Morgan trading losses, but did not believe that the losses were large enough to be a threat to JP Morgan's solvency or a threat to financial stability. Among the qualifications are that the banking entity must already be exposed to the risk being hedged, that the hedge not earn appreciably more profits than the firm would lose on the hedged position, and that the hedge be reasonably correlated to the risk being hedged. In general, interest rate risk is usually correlated with general economic conditions and partially offsets default risk. because … [the firm] missed a bunch of these things. Augmenting these observations, JP Morgan's July 2012 CIO Task Force Update , also found that
during the first quarter of 2012, the CIO's management "did not set clear objectives, properly vet the trading strategy or sufficiently examine underlying positions and correlations"; during the first quarter of 2012, CIO traders and managers of the problematic synthetic securities portfolio "did not adequately highlight issues or seek support from broader CIO or [JP Morgan] firm [level] management"; the CIO's mandate and [its successful] historical performance may have "contributed to the less than rigorous scrutiny of the unit"; during the first quarter of 2012, the CIO's review and analysis of the problematic synthetic securities portfolio "was too optimistic"; the effectiveness of the CIO's risk management group was "challenged" by lack of a "robust risk committee structure"; "transitions in key roles"; and "lack of adequate resources"; the CIO risk management group failed to "meet expectations" in various areas, including using inadequate risk limit levels, being insufficiently forceful in challenging the CIO's front office, and being insufficiently willing to communicate potential concerns over CIO risk-taking to top JP Morgan management; and the synthetic credit portfolio securities traded by the CIO problematically lacked "specific risk limits" and were subject to no limits on "size, asset type, or risk factor." In reports that some current JP Morgan officials dispute, some former JP Morgan officials have said that risk managers charged with overseeing the CIO's trades tended to be marginalized by Mr. Macris, the head of the CIO's London office. Value at Risk (VaR) models are a standard means by which financial institutions like JP Morgan make such projections. Such disclosures inform investors seeking to assess a firm's financial health and the risks that it may confront. SEC Chair Mary Schapiro has emphasized that "when there are changes to the VaR model … those changes have to be disclosed."
On May 10, 2012, JP Morgan disclosed that it had lost more than $2 billion by trading financial derivatives. Jamie Dimon, CEO and chairman of JP Morgan, reported that the bank's Chief Investment Office (CIO) executed the trades to hedge the firm's overall credit exposure as part of the bank's asset liability management program (ALM). The CIO operated within the depository subsidiary of JP Morgan, although its offices were in London. The funding for the trades came from what JP Morgan characterized as excess deposits, which are the difference between deposits held by the bank and its commercial loans.
The trading losses resulted from an attempt to unwind a previous hedge investment, although the precise details remain unconfirmed. The losses occurred in part because the CIO chose to place a new counter-hedge position, rather than simply unwind the original position. In 2007 and 2008, JP Morgan had bought an index tied to credit default swaps on a broad index of high-grade corporate bonds. In general, this index would tend to protect JP Morgan if general economic conditions worsened (or systemic risk increased) because the perceived health of high-grade firms would tend to deteriorate with the economy. In 2011, the CIO decided to change the firm's position by implementing a new counter trade. Because this new trade was not identical to the earlier trades, it introduced basis risk and market risk, among other potential problems. It is this second "hedge on a hedge" that is responsible for the losses in 2012.
Several financial regulators are responsible for overseeing elements of the JP Morgan trading losses. The Office of the Comptroller of the Currency (OCC) is the primary prudential regulator of federally chartered depository banks and their ALM activities, including the CIO of JP Morgan, even though it is located in London. The Federal Reserve is the prudential regulator of JP Morgan's holding company, although it would tend to defer to the primary prudential regulators of the firm's subsidiaries for significant regulation of those entities. The Federal Reserve also regulates systemic risk aspects of large financial firms such as JP Morgan. The CIO must comply with Federal Deposit Insurance Corporation (FDIC) regulations because it is part of the insured depository. The Securities and Exchange Commission (SEC) oversees JP Morgan's required disclosures to the firm's stockholders regarding material risks and losses such as the trades. The Commodity Futures Trading Commission (CFTC) regulates trading in swaps and financial derivatives. The heads of these agencies coordinate through the Financial Stability Oversight Council (FSOC), which is chaired by the Secretary of Treasury.
The trading losses may have implications for a number of financial regulatory issues. For example, should the exemption to the Volcker Rule for hedging be interpreted broadly enough to encompass general portfolio hedges like the JP Morgan trades, or should hedging be limited to more specific risks? Are current regulations of large financial firms the appropriate balance to address perceptions that some firms are too-big-to-fail?
The trading losses raise concerns about the calculation and reporting of risk by large financial firms. JP Morgan changed its value at risk (VaR) model during the time of the trading losses. Some are concerned that VaR models may not adequately address potential risks. Some are concerned that the change in reporting of the VaR at JP Morgan's CIO may not have provided adequate disclosures of the potential risks that JP Morgan faced. Such disclosures are governed by securities laws.