Levin Committee report makes fraud case for JPMorgan shareholders

March 15, 2013

On Tuesday, shareholder lawyers leading the 10-month-old securities fraud class action accusing JPMorgan Chase of deceiving investors about billions of dollars in losses by the bank’s chief investment office received permission to delay filing their latest complaint until April 12, in order to allow them time to digest the findings of a Senate investigation of the bank’s so-called “whale trades.” That was good thinking. The 307-page reportof the Permanent Subcommittee on Investigations, released Thursday evening, is a trove for plaintiffs’ lawyers, filled with well-documented allegations of overly risky, undersupervised trading by JPMorgan’s chief investment office; deliberate attempts by the CIO to minimize the appearance of burgeoning losses; and subsequent efforts by the bank to mislead regulators and investors about the CIO’s activities and losses. The report references “previously undisclosed” emails, memos and other documents purportedly showing that “senior managers were told the (CIO portfolio) was massive, losing money, and had stopped providing credit loss protection to the bank, yet downplayed those problems and kept describing the portfolio as a risk-reducing hedge, until forced by billions of dollars in losses to admit disaster.”

That kind of documentary evidence is a rare gift for securities class action lawyers, who usually have to scrape through the preliminaries of fraud litigation without access to any evidence at all from defendants. Here, by contrast, the Senate subcommittee has mapped out precisely what it considers to be misleading statements by top bank officials alongside its evidence that JPMorgan knew the statements were false at the time they were made.

In particular, the Senate report targets comments CEO Jamie Dimon and CFO Douglas Braunstein made during the infamous April 13, 2012, earnings call in which JPMorgan first publicly discussed the CIO and its increasingly troubled portfolio, after news stories earlier in the month reported that JPMorgan’s position was warping the derivatives market. That earnings call has been scrutinized by shareholder lawyers since they first began battling for control of the securities fraud case against JPMorgan last June, and the Senate subcommittee doesn’t supply indisputable evidence that Dimon or Braunstein deliberately lied to analysts about the CIO. There’s a fair amount of inference in the knowledge imputed to Dimon and Braunstein in the report.

But the Senate provides a ton of detail about what JPMorgan knew or should have known at the time of the analyst call. So even though the CEO told analysts that the controversy over the CIO’s losses was a “tempest in a teapot” (a comment he has since said he regrets), the Senate report documents that Dimon already knew the CIO portfolio had experienced three months of losses – including exponentially rising losses the previous month – and that the bank would have difficulty extricating itself from the CIO’s positions. On the same earnings call, Braunstein said the CIO’s trading positions were subject to the bank’s risk management processes; were “fully transparent” to regulators whom the bank regularly briefed; were managed on a long-term basis; and were hedges to reduce JPMorgan’s risk. The Senate report offers evidence that, to the contrary, Braunstein had been informed that CIO positions and trades were inconsistent with long-term protection against credit risk. The report doesn’t specifically accuse him of misrepresenting his own knowledge of CIO risk management or reports to regulators, but said his statements were “mischaracterizations” that omitted facts known to JPMorgan.

Some of the most potentially powerful evidence that the bank was massaging its message about CIO positions and losses, according to the Senate report, came from emails involving JPMorgan’s corporate communications staff. The head of that department supposedly devised the strategy of telling analysts that CIO trading was a long-term hedge against structural risk that was reported to regulators. And according to the report, his “tempering” of the exact words in which the bank would describe the CIO’s role “shows that bank was aware that its initial characterizations were not entirely true.” The day after the public relations strategy launched, the report said, a trader in the CIO sent an email to his boss. “The market is quiet today,” he said. “The bank’s communications yesterday are starting to work.”

Shareholder lawyers from Bernstein Litowitz Berger & GrossmannGrant & Eisenhofer and Kessler Topaz Meltzer & Check, who were appointed lead counsel in the case last August, will also benefit from the Senate report’s description of JPMorgan’s failure to control the risk of the CIO’s portfolio and efforts to keep the Office of the Comptroller of the Currency in the dark, first about the very existence of the CIO and then about its losses. Overall, the report portrays top JPMorgan officials as negligent, at best, in overseeing the activities of a trading group with an unclear mandate and a confusing strategy to mitigate losses as they developed. That’s the same theme plaintiffs have already articulated in the amended complaint they filed last November, but the evidence JPMorgan turned over to Senate investigators (as well as JPMorgan’s own internal report on the CIO, released in January) will add layers of detail to shareholders’ allegations. In its yet to be filed but inevitable motion to dismiss the case, JPMorgan and its lawyers at Sullivan & Cromwell will surely argue that despite the rhetorical flourishes in the Senate report, there’s no solid evidence that Dimon and Braunstein deliberately deceived the market. But I’ll be very surprised if shareholders can’t get past a dismissal motion.

If U.S. District Judge George Daniels of Manhattan eventually certifies a class, how big is JPMorgan’s exposure? That will depend on the length of the class period. The shareholders’ complaint filed in November proposes a much longer class period than plaintiffs initially suggested, dating back to Feb. 24, 2010, when JPMorgan shares traded at about $40, and ending on May 21, 2012, when shares closed at about $32 after the bank restated earnings to reflect CIO losses. That period would permit anyone who bought or sold shares over those two years to claim damages for their losses. For a company with a public float of more than 3.75 billion shares, those are potentially vast numbers.

JPMorgan is likely to argue that any class period should be much shorter, and in that argument it might even find support in the Senate report. The subcommittee pinpoints supposed misstatements to the market in that April 2012 analyst call. The bank issued corrective disclosures less than a month later. If plaintiffs get past the dismissal stage of the case, expect JPMorgan to assert that the class period should be restricted to the few weeks between the analyst call and the May 2012 filings that disclosed larger CIO losses.

JPMorgan told Reuters Thursday that despite the Senate committee’s portrayal (and its own previous admission of mistakes in the handling of the CIO), “our senior management acted in good faith and never had any intent to mislead anyone.” JPMorgan counsel Daryl Libow of S&C declined comment.

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