For months after JPMorgan Chase & Co executives first admitted that they had wrongly brushed off questions about the "London Whale" derivatives losses, officials at the U.S. Securities and Exchange Commission pressed the company to disclose more to investors about risks it was taking.
The SEC's Division of Corporation Finance, which is charged with making sure companies provide investors with enough information to make good decisions, pushed the bank from at least July to February to revise disclosures about changes it had made in models used to calculate value it put at risk in its derivatives portfolio [emphasis added].Please re-read the highlight text as it critically important.
The SEC's Division of Corporation Finance is charged with making sure companies provide investors with enough information to make good decisions.
What does this mean for a bank?
Your humble blogger and the banking industry in the 1930s answer that banks must provide ultra transparency and disclose on an ongoing basis their current global asset, liability and off-balance sheet exposure details.
Banks do not currently provide ultra transparency. Instead, banks provide disclosure that the Bank of England's Andrew Haldane says leaves them looking like a 'black box'.
By definition, the contents of a black box cannot be assessed. So investors do not have enough information to make good decisions.
Why is the SEC's Division of Corporation Finance allowing banks to be black boxes? The correspondence between the SEC and JP Morgan provides the answer.
Correspondence between the SEC and the bank released on Wednesday shows the bank made incremental changes to increase its disclosures at the SEC's urging.
The highly technical exchanges were conducted even as JPMorgan vowed to be more transparent with investors....
In July, the SEC told JPMorgan to expand its future disclosures about its risk models and to explain further what it had said earlier in the month about changes it was making in company risk controls.
JPMorgan responded in a letter in August that described how it tracked risk and noted that it was disclosing more about its models in its new quarterly financial report.
The SEC came back with more questions in November about JPMorgan's response and about the company's views on how much regulations require it to disclose about details of risk model changes.
JPMorgan responded in December, received the last questions from the SEC in February and added more disclosure in its annual report....Based on the correspondence, the reason that the SEC is allowing banks to be black boxes is the SEC does not know what is the information that investors actually want from a bank. What investors really want to know is what each bank's exposure details are (ultra transparency).
Banks are black boxes because they hide their exposure details behind the veil of opacity provided by current SEC mandated disclosure requirements.
Why are investors interested in each bank's exposure details?
Because in order to make a good investment decision, an investor needs to be able to assess the risk of the investment. It is the risk of these exposures that drives the riskiness of the bank.
Can investors actually use bank exposure details to assess risk?
Investors either have the expertise to use the exposure details to model the bank's risk themselves or they can engage a third party expert to model the bank's risk for them. As a result, they do not need to know how the bank models its risk.