Daniel Rosenbaum for The New York TimesJamie Dimon, the chief executive of JPMorgan Chase, appearing before the House Financial Services Committee.JPMorgan Chase’s chief executive, Jamie Dimon, has given many assurances that, despite suffering big losses on botched derivatives trades, the bank will report solid second-quarter profits.
At Congressional hearings last week that focused on the loss-making trades, he said three times that he expected the quarter to be “solidly profitable,” adding at one point that it was going to be “very profitable.”
This looks like a bold claim on Mr. Dimon’s part. As estimates of the trade’s losses go up, it becomes harder for the bank to cover the tab with profits from other divisions.
Mr. Dimon’s credibility took a big hit when he initially called the reports about the bungled trades a “tempest in a teapot.” But he may have to eat his words again if the bank ends up reporting earnings that don’t look at all solid.
A close look at analysts’ numbers suggests that an outright loss in the second quarter is not completely out of the question. That would be a jarring outcome, given that JPMorgan managed to make it through the financial crisis without reporting a single quarterly loss. The bank is scheduled to report its earnings on July 13.
The big driver is, of course, the size of the trading losses at the end of the second quarter. The red ink has flowed from derivatives that the bank used to bet on companies’ creditworthiness.
Several reports put the current loss at $5 billion, with the potential total rising to $6 billion to $7 billion. A JPMorgan internal worst-case scenario for the trade has projected red ink of up to $9 billion.
Even a $5 billion loss on the credit derivatives could push the bank close to a loss.
According to Thomson One, Wall Street analysts expect JPMorgan to make 84 cents a share, or about $3.2 billion in net income, in the second quarter. These estimates include the trading loss.
For instance, Jason Goldberg, of Barclays, expects the bank to make $3.3 billion. In that projection, he is including a $3 billion loss on the soured derivatives trades.
What might happen if the red ink amounts to $5 billion, or $2 billion more than $3 billion? The additional after-tax hit most likely would be $1.3 billion. That would reduce the consensus forecast to below $2 billion, from $3.2 billion.
But some analysts have much lower overall second-quarter forecast, in part reflecting their belief that earnings will be anemic in other JPMorgan divisions.
For instance, Mike Mayo, of Crédit Agricole Securities, thinks JPMorgan will make only $727 million in the second quarter. In that forecast, he is including $4 billion of losses in the unit that made the bungled bets. But if the unit’s losses exceed $5 billion, JPMorgan could make an overall loss, if the rest of Mr. Mayo’s forecasts hold.
There are plenty of sources of profits at JPMorgan, but a big contribution from some lower-quality sources may undermine any claim that the profits were solid.
One method investors frown on has to do with reserves, the cushions banks maintain to absorb losses. Banks have considerable leeway over how much to add to reserves. Lower contributions can mean higher earnings, but also less protection against losses.
Another is cashing in gains on bonds that are usually held for the longer term. The bank was sitting on $8 billion of such gains at the end of March.
Analysts will also gauge the contribution to earnings from any gains JPMorgan books as a result of declines in the price of some of its own bonds. In the third quarter of last year, JPMorgan made $1.9 billion from such gains. (Accounting rules strangely allow for these gains on the theory that a decline in a bank’s liability is a boon to the balance sheet, which translates through to earnings.)
The opacity of the loss-making trades could also prompt skepticism about second-quarter results. Many of the losing positions have been sold, which means the second-quarter hit on those will be concrete.
But if the remaining ones are illiquid, JPMorgan will partly value them using internal estimates based on its own models. JPMorgan has said the model used for these trades is ineffectual.
That raises two important questions for the second quarter: If the model isn’t properly fixed, could it still be overvaluing the troubled trades? Alternatively, if it has been made realistic, could that shift lead to much lower values on the trades, producing substantially higher losses?
For most investors, solid profits means earnings that are substantial and transparent and come from easily repeatable sources. And those may be a stretch for JPMorgan in its second quarter.
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