The Oldest Accounting Scheme

It’s the oldest form of scamming there is when it comes to corporate book-cooking.  You’ve heard of it before, I’m sure — gangsters do it, tax evaders do it, and….. it appears….. banksters do it.

The JPMorgan Chase & Co. (JPM) unit responsible for at least $2 billion in losses on credit derivatives was valuing some of its trades at prices that differed from those of its investment bank, according to people familiar with the matter.

The discrepancy between prices used by the chief investment office and JPMorgan’s credit-swaps dealer, the biggest in the U.S., may have obscured by hundreds of millions of dollars the magnitude of the loss before it was disclosed May 10, said one of the people, who asked not to be identified because they aren’t authorized to discuss the matter.

Oh really?  There were two sets of books in the same bank?

That’s effectively what’s being alleged here.  One set of books for “everyone other than those who were doing it”, and the other that had, well, “the truth.”

“It would not be normal to book it at levels that were better than the dealer desk,” said Peter Tchir, founder of New York-based hedge fund TF Market Advisors. “That would strike me as a very big issue.”

“A very big issue”? smiley

It’s the oldest trick in the book(s) — literally.

This leads to other questions though — like, for instance, how are “marks” determined not only within firms like JP Morgan but whether the externally-visible marks mean anything.

On the stock and futures exchanges one of the complaints that is (legitimately) raised is that “dark pools” and other off-exchange venues often lead to prices that are “unobserved”, and this makes for all sorts of games that can then be used to skim from customers.  It only takes a fraction of a penny a share to make for real money if you can manage to steal it undetected.

But in the credit world there’s a larger problem in that prices don’t necessarily represent actual trades. That is, if someone is claiming that the “price” of a CDS on Frobozz company is $300,000 (to “insure” $10 million of debt) there is no assurance that anyone actually paid $300,000 for that swap, as the transactions are all over-the-counter, there is no supervision, and in fact there may have never been a transaction at all!

The next question is thus whether any such “quotes” are in fact real prices too — that is, if someone said “$300,000” and I showed up and slapped 300 large on the table, would they sell at that price?

Cons like this are so old that various types of them show up in every industry.  The old “bait-n-switch” games in the consumer realm are part and parcel of this sort of scheme; there’s no intent to actually sell at the printed price.

But now we have an allegation that JP Morgan had “internal marks” that differed between their CIO desk and the rest of the company.  That is, one of those alleged “prices” was false.

Anyone care to bet whether the “false” one was strategically “better” in terms of what it represented the company was making (or losing) than the other? And these are on alleged “Level 1” assets — that is, things for which there is (at least supposed) an actual market and therefore an actual trade price!

The net amount of credit-swaps protection sold by JPMorgan soared eight-fold to $97.4 billion in the three months ended March 31, Federal Reserve data show. The bank held total credit swaps contracts on $6.05 trillion, the biggest among the six-largest U.S. bank holding companies, the data show.

So if you’re making a “mistake” in the value of those positions by just one percent you would show a $60 billion difference against reality — or roughly half of JP Morgan’s market capitalization!

This crap illustrates why these institutions must be broken up, Glass-Steagall re-instituted, all deposit-taking institutions barred from securities (exchange-traded or not) and One Dollar of Capital instituted and policed on a nightly basis — with criminal sanction for violations and instances where “two sets of books” are used.

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