Last week, Barack Obama?s presidential re-election campaign got an inadvertent shot in the arm from a good acquaintance of his?Jamie Dimon, as JPMorgan announced an unexpected $2 billion trading loss. That?s because the Republican presidential front-runner, Mitt Romney, had threatened to repeal completely the Dodd-Frank Act?a legislation that mandates increased regulation for financial institutions. Even though Dimon has been a staunch supporter of President Obama and the Democrats, he has been an outspoken critic of bringing in stricter regulations like Basel-III and Dodd-Frank Act. Now, with this egregious $2 billion trading loss last week, he has handed Obama a golden opportunity to draw the battle lines with Mitt Romney, because even the staunchest Republican supporter would agree, given the events last week at JPMorgan, that banks need more and not less regulation to make sure that their losses do not jeopardise the larger economy.

I had argued earlier (?Dimon?s demons?, September 20, 2011, http://goo.gl/xo5Ph) that Jamie Dimon?s vehement opposition to increased regulation for banking industry is flawed. Last week?s blow up of $2 billion by the bank shows precisely why his cockiness about ?we know how to manage our risks? was misplaced. It is not the magnitude of the loss that is a concern. JPMorgan?s investment banking division has made bigger losses in the past. Even including the $2 billion trading loss, it ended last quarter with a profit of $4 billion. But the manner in which the loss has happened, and the desk at which this has happened, is a bigger concern. And the person who is at the helm of it all?Jamie Dimon, and the bank where it has happened?JPMorgan, is what is quite startling, to say the least.

JPMorgan has had a marvellous record in risk management, that is, until last week. Two decades ago, it pioneered the metric that is currently used globally to measure risk?Value at Risk (VaR). It led the way in the development of analytics for managing market risk that was done internally by a group called Risk Metrics. The analytics developed by this team at JPMorgan became the benchmark in market risk management for years to come. After having done pioneering work in market risk, they later developed analytics for credit risk called Credit Metrics and for corporate risk management called Corporate Metrics. The risk management frameworks were so successful that JPMorgan later spun-off Risk Metrics as a separate company so that the analytics could be sold lucratively to other financial institutions and corporates, as they were in good demand. It is ironical that the same bank has had a marquee loss related to market risk, an area where it has been at the leading edge of the risk management curve. It is all the more surprising because this financial institution came pretty much unscathed on the market risk front, in the aftermath of the financial crisis.

Dimon?s very public humiliation is both well-earned and somewhat mouth-watering, given his ceaseless tirades against regulation and his smug assurances that his institution was above reproach because it employed the most sophisticated instruments of risk management. He is the chief executive of the largest financial institution in the world, and needs to have a wider perspective than just lobby for what is good for him and his bank. Large banks and their CEOs need to be aware of their responsibilities to the broader financial system.

Central to Dimon?s opposition to stricter regulation was the rationale that banks know how to manage their own risk and therefore don?t need sterner regulatory norms. He showcased JPMorgan?s track record during the financial crisis to burnish his case. He reasoned that since they knew how to manage their risks, there is no reason to be alarmed about their contributing in any possible way to a collapse that would threaten the health of the whole financial system. However, the fact of the matter is that big banks implicitly know that their bank?s failure would come with a built-in public backstop. Therefore, they know that the profits would roll up to the corner offices, and the losses would roll down to the taxpayers.

It is quite clear that if a howler like this can happen at JPMorgan, then it can potentially happen at any bank in the street. More regulation in these times will not only create the right penalties for excessive risk-taking, but would also allay fears in the larger economy about the vulnerability of large financial institutions. Another worry is that the loss of $2 billion may not be the full instalment of write-downs. I remember in 2001 employees were internally communicated that JPMorgan?s overall exposure to Enron was less than a billion dollars?around $900 million. By 2002, it turned out to be $2.8 billion?more than triple the initial amount. The CEO then, Bill Harrison, used to harp on about how openly he used to communicate within the organisation. JPMorgan now has a CEO who claims to have a ?single-minded obsession for risk and balance sheet management?. One hopes that this time the claim is not as hallow as in 2001. The magnitude, cause and timing of loss is a lot more serious this time around. Obama won?t be amused if there are more skeletons in seemingly the most ornate risk management closet, notwithstanding the brownie points he can score over Mitt Romney in the presidential campaign.

The author, formerly with JPMorgan Chase, is CEO, Quantum Phinance