HOW TO PLAY IT
TRADE (3 Weeks or Less)
JP Morgan is being punished by the market following the announcement of $2B in trading losses out of the CIO’s office. The real loss, however, is the impairment to industry credibility just as the Volcker rule is being finalized by Congress and the regulators. The apparent weakness of controls at the firm is a problematic indicator, particularly in the current regulatory environment. Additionally, the imminent downgrade of many large financials, likely including JPM, by Moody’s will add further short-term pressure.
TREND (3 Months or More)
JP Morgan is likely to suffer as we approach implementation of the Volcker rule on July 21st. While CEO Dimon was clear in his view that the trade in question was not proprietary (and thus permissible under Volcker), optics of the trade are working against him. A loss of $2B over the course of six weeks certainly gets regulators’ attention. With the trade now public, the loss is likely to grow in the coming weeks.
TAIL (3 Years or Less)
Over the long term, we expect the impact from Volcker will be less severe than the market fears. Former Citi Chairman & CEO John Reed recently noted that banking lobbyists in favor of a weaker Volcker rule outnumber and outspend consumer lobbyists by 25 to 1. We expect significant downside in the stock on both regulatory fears and macro data over the course of the next several months – but this downside could ultimately present an attractive entry point.
KEY LEVELS
THE HEDGEYE EDGE
Risk will ramp back up throughout the summer months, as seasonal factors drive optical weakness in economic data. We expect this will provoke greater concern in the U.S. about Europe and other external negative factors, as the defense of “de-coupling” vanishes. Spain is the likely vector for contagion fears in 2012, just as Greece was in 2011. The global moneycenter banks and large broker-dealers (JPM, BAC, C, GS, MS) are most exposed. Until yesterday, the market was indicating that MS and C were perceived as the greatest risks among this group. This week, JPM has lost some of its “fortress” credibility, increasing the risk that they will be viewed more punitively.
KEY METRICS
