How long did JPMorgan (allegedly) deceive investors?
Last week’s criminal complaints against former JPMorgan Chase derivatives traders Javier Martin-Artajo and Julien Grout – who allegedly mismarked positions in the bank’s infamous synthetic credit derivatives portfolio to hide hundreds of millions of dollars of trading losses in early 2012 by the JPMorgan Chief Investment Office – does not directly impact the shareholder class action under way in federal court in Manhattan. But you can be sure that the plaintiffs firms leading the class action were gratified that the Manhattan U.S. Attorney has decided the so-called “London Whale” losses merit criminal charges. When U.S. District Judge George Daniels hears arguments next month on the bank’s motion to dismiss the class action, shareholder lawyers will absolutely remind him that prosecutors believe a criminal cover-up took place. JPMorgan’s lawyers at Sullivan & Cromwell moved in June to dismiss the entire shareholder class action, but as I’ve said before, I don’t think there’s much chance Judge Daniels will toss claims based on bank officials’ statements about the London Whale losses. The government’s new criminal charges make that prospect even more remote.
But what about shareholder allegations that JPMorgan lied to them and the Securities and Exchange Commission back in 2010 and 2011, when the bank touted its superior internal controls and risk management procedures? Those allegations would dramatically extend the time frame for class membership, opening the case up to claims by shareholders who traded JPMorgan shares beginning in February 2010, not just those who traded the stock in the first half of 2012, before the bank issued a restatement of its earnings to reflect London Whale losses in July 2012. The government hasn’t alleged misconduct in those 2010 and 2011 statements, though according to Dealbook, the bank and the SEC may be negotiating a deal based on internal control failures. If the SEC does, in fact, secure an admission from the bank that its internal controls were deficient, shareholders’ burden would be narrowed to establishing that JPMorgan officials knowingly misrepresented the bank’s ability to manage risk.
JPMorgan’s arguments for why shareholders can’t meet that burden should be required reading for every investor operating under the apparently mistaken belief that you can rely on what you read in SEC filings and what you hear from corporate officials. JPMorgan was supposed to be different than financial institutions that teetered or fell in the financial crisis, and as shareholders wrote last week in their opposition to the bank’s dismissal motion, investors paid a premium for its supposed commitment to discipline and risk management. Yet now JPMorgan says that even if its representations about internal controls were false – which, of course, it insists they were not – those statements are not actionable because no investor actually relied upon such immaterial puffery. As JPMorgan depicts things, you should no more believe an SEC filing than the patter of a carney trying to convince you to knock over the pyramid of milk bottles.
To be fair, there’s plenty of case law to back JPMorgan’s argument that touting the bank’s culture and practices doesn’t expose it to class action liability. General statements about integrity and sound business practices are considered too vague for investors reasonably to rely upon. Forward-looking descriptions about what companies hope or intend their practices to accomplish aren’t actionable in shareholder class actions. And even a specific statement that the bank has robust risk management processes would probably be deemed immaterial because, as one federal judge in New York wrote, “almost every investment bank makes these statements.” (Yes, the same argument you’d hear from a kid whining about being grounded.)
Shareholder lawyers from Bernstein Litowitz Berger & Grossmann, Grant & Eisenhofer and Kessler Topaz Meltzer & Check said last week in their response to JPMorgan’s motion that the bank’s statements about risk management were much more than vague puffery. Even before 2010, they contend, JPMorgan officials positioned their institution as an exception to the financial industry’s excesses. (In one quotation cited by shareholders, CEO Jamie Dimon talked about the bank’s “steadfast focus on risk management and prudent lending, and our disciplined approach to capital and liquidity management.”) Investors swallowed JPMorgan’s line, according to the plaintiffs lawyers. They contend that shareholders were willing to pay extra for JPMorgan equity because Dimon and other bank officials convinced the market that they were, in fact, effective risk managers who took particular pride in the internal controls they’d adopted. Investors were duped, according to the class, and by 2010 Dimon and the other JPMorgan defendants knew or should have known that their assurances weren’t true.
JPMorgan will get one more chance to answer the class’s allegations before Judge Daniels holds a hearing on the bank’s motion to dismiss in late September. It will be very interesting to see if the bank reaches a settlement with the SEC in advance of that hearing date. It’s one thing to argue in a motion to dismiss a private suit that if you exaggerated in an SEC filing it really doesn’t matter because everyone else was doing the same thing. It’s another to tell one of your regulators that it shouldn’t necessarily rely on your assurances.
I left a message for JPMorgan’s counsel, Daryl Libow of S&C, but didn’t hear back.
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