Regulator admits missing JPMorgan’s VaR change in Senate probe

Findings will be released in coming weeks

Risk Management Risk Management

The Office of the Comptroller of the Currency told lawmakers it missed changes to JPMorgan Chase & Co.’s risk-tracking system that could have alerted the watchdog sooner to the bank’s mounting derivatives bets, a person with direct knowledge of the matter said.

The OCC described the lapse in a report sent in last year’s second half to the Senate Permanent Subcommittee on Investigations, said two people, requesting anonymity because the discussions aren’t public. The congressional panel is set to release its own findings in coming weeks after examining how JPMorgan and regulators handled the bank’s botched trades, which lost more than $6.2 billion during nine months of 2012.

The senators undertook a sweeping inquiry into how JPMorgan and regulators handled the trading debacle, which distorted markets and helped cut as much as $51 billion from the bank’s market value last year. The lawmakers’ report will criticize the bank and the OCC for lax oversight of the trades, two people with knowledge of the matter said last month.

The OCC, which oversees national banks, didn’t catch a January 2012 change in the way JPMorgan calculated so-called value-at-risk, or VaR, for its chief investment office, where losses occurred, one of the people said. The new VaR model, which was later scrapped, cut the firm’s reported risk in half and ultimately exacerbated losses by underestimating their potential size as they began to mount, Chief Executive Officer Jamie Dimon told lawmakers in June.

‘Error-Prone’

JPMorgan released the results of its own review on Jan. 16. It said that internal controls were inadequate, traders sought to hide losses and leaders, including Dimon, 56, weren’t aggressive enough in responding. His pay for 2012 was cut by 50 percent to $11.5 million.

The report described the CIO’s risk-modeling system as “error-prone,” because it required employees to cut and paste electronic data to a spreadsheet. Workers inadvertently used the sum of two numbers instead of the average in calculating VaR, which represents the maximum amount that traders would expect to lose on 95 out of 100 trading days.

Thomas J. Curry, who has led the OCC since April, told lawmakers in June that the agency had opened a review into the loss that would look at the board’s oversight, compensation practices within the CIO, and the adequacy of risk controls at JPMorgan and other banks.

The OCC typically reviews and decides on allowing changes in a bank’s VaR model if the calculation relates to current capital requirements, the person said. JPMorgan’s VaR change was intended to reduce the impact of future regulatory capital rules and therefore escaped the OCC’s normal scrutiny, according to the person.

OCC Notification

The bank is also supposed to notify the OCC of changes in risk management, and should have made the regulator aware of changes to the VaR formula, according to another person with direct knowledge of the situation, who also requested anonymity because talks with the company weren’t public.

Bryan Hubbard, a spokesman for the OCC, and Joe Evangelisti at JPMorgan declined to comment. The regulator and the Federal Reserve both issued cease-and-desist orders against the bank last month, citing deficiencies in the firm’s risk modeling, audit functions and the process for alerting the board of directors to problems.

John Walsh was acting comptroller during the London Whale trade before Curry. Walsh didn't respond to an e-mail seeking comment.

Michigan Democrat Carl Levin, who chairs the Senate investigations panel, has interviewed Dimon and former CIO-chief Ina Drew, 56, among others. Elise Bean, the subcommittee’s staff director, declined to comment.

The Fed’s internal investigatory arm, the Office of Inspector General, has also opened its own investigation into the central bank’s supervision of JPMorgan’s CIO loss to assess the effectiveness of its oversight.

Bloomberg News

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