Investor group seeks JPMorgan governance changes

May 18, 2012

By Emmanuel Olaoye

NEW YORK, May 18 (Thomson Reuters Accelus) – A labor-backed investor group critical of JPMorgan Chase & Co’s corporate governance said the bank has failed to address concerns over its risk oversight and it will try to rally other shareholders for changes after a $2 billion trading loss.

CtW Investment Group, which advises labor pension funds holding what it said are 6 million shares in JPMorgan, has advocated for risk governance changes there for more than a year. The risk policy committee of the bank’s board lacks the expertise to understand risks the bank is taking, such as the complex “London Whale” transactions that led to last week’s loss disclosure, a CtW official said.

“It’s exactly the kind of bet that is very difficult for board directors to understand. It reinforces concerns we have that a major financial institution doesn’t seem to have learned the right lessons from the financial crisis,” said Richard Clayton, research director at CtW.

CtW will work with pension funds in the Council of Institutional Investors and the International Corporate Governance Network to get more answers from JPMorgan, Clayton said. He said the timing of the multibillion dollar loss had left it too late to gather support in time for JPMorgan’s annual meeting this week.

The failed hedging strategy by its JPMorgan’s Chief Investment Office in London was designed to hedge the risks to the bank’s bond portfolio. The bank has acknowledged $2 billion in losses, and the total could grow by another $1 billion or more. The trades were based on an index that is essentially a portfolio of credit default swaps – contracts that protect against default by a borrower.

It remains unclear how much JPMorgan’s risk committee knew about the trades that led to the massive loss, and whether a chief risk officer was reporting to the committee, Clayton said.

His group wants the bank to replace James Crown and Ellen Futter, who are members of the board’s three-person risk policy committee, with individuals who have deeper experience in banking and financial regulation.

“Having somebody with regulatory experience – whether it’s the SEC or the Fed or another regulator is very valuable,” Clayton said.

According to JPMorgan’s annual report, a chief risk officer oversees risk management at the firm. The official reports to Chairman and Chief Executive Jamie Dimon, and is accountable to the board of directors, “primarily through board’s risk policy committee.” Responsibility for overseeing liquidity and interest rate risks is a duty of the chief investment office – the unit that ran the “London Whale” trades.

Crown, the policy committee’s chairman, is a lawyer and former vice president at Solomon Brothers who heads the private investment firm James Crown & Co.

Futter, president of the American Museum of Natural History, is a former director at the New York Fed who served as its chairman between 1992 and 1993. A corporate lawyer by training, she also served as a director at American International Group Inc <AIG.N> before its near-collapse in 2008.

JPMorgan’s 2012 proxy statement says Crown’s experience on many boards gives him exposure to issues encountered by JPMorgan’s board, such as risk management, investment management and executive compensation.

His legal training gives him “enhanced perspective on legal and regulatory issues,” the statement said. He worked at Salomon Brothers in 1983 before joining Henry Crown and Co, his family’s investment firm in 1985.

The proxy statement said Futter’s experience on corporate boards and the board of the New York Fed have given her experience with regulated industries and risk management.

But Clayton said Futter gained no supervisory experience from her role at the New York Fed and lacked professional experience as a regulator. Her experience there is also dated, he said. “That’s a good 6 or 7 years before credit default swaps were invented. It’s hard to see how that provides experience to oversee risk management at a major bank.”

In March 2011, CtW sent a letter to the bank urging an overhaul of the risk committee’s responsibilities and Futter’s replacement. That letter and another a led to an April 2011 meeting with Crown, the head of JPMorgan’s risk policy committee. During the meeting, CtW’s representatives urged the bank to hire outside experts to review its risks. According to Clayton, Crown said: “Why would we want to do that? We have the best risk-management people in the world.”

CtW is now also calling for Crown’s replacement as chair of the risk committee, because he has shown “a lack of modesty” over the company’s potential problems, Clayton said. “Part of risk management is to recognize the role of luck,” Clayton said. “You need to build oversight of risk management not around confidence. He didn’t seem to know what [that] was about.”

Futter and Crown do not need to be removed from the board entirely, a CtW official said. But there are others on the board who are more suited for the risk policy role and should be put on the committee, he said, without naming individuals.

JPMorgan declined to comment on CtW’s views. A spokeswoman for Futter at the American Museum of Natural History declined to comment. Crown’s office at Henry Crown & Co in Chicago did not immediately return calls seeking comment.

Although JPMorgan has made some changes since last year’s meetings with CtW, such as approving a risk appetite statement for the bank and changing some of the responsibilities in the charter of the risk policy committee, CtW is unsatisfied, Clayton said. The group maintains the changes are “cosmetic” and that the bank hasn’t assessed whether the risk committee had the competencies to oversee the changes.

Governance consultant GMI Ratings gave its lowest rating – “F” – to JPMorgan’s corporate governance policies in general before disclosure of the loss. Fewer than 5 percent of the companies rated by GMI get the bottom ranking, said senior research associate Paul Hodgson.

CtW works with unions and pension funds affiliated with the Change to Win labor coalition. It shares analysis on compliance and risk management for shareholders in public companies, although ultimate shareholder voting decisions rest with the trustees of the individual funds.



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Here’s the part that puzzles me. This loss is being spun as a hedge position gone bad. How’s that? Apparently JPM has a $2B trading loss because it bet the economy would improve and turned out to be wrong. Here’s the thing. If you employ derivatives (apparently in a big way) as a hedge and suffer a big loss because the economy doesn’t improve, that’s not hedging. In order for this to be hedging, JPM would have to have a considerably larger position that would rise in price if the economy worsened. Either that or its so-called derivatives hedge position was really not a hedge position at all, but was a speculative unhedged long bet that the economy would improve (more likely). If JPM had a big bet the economy would improve (and it did / and still does), keep that conflict of interest in mind when anyone from the firm is quoted indicating they see the economy improving. If they’ve got a big 1-way bet the economy is going to improve, what else would they say?

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