JP Morgan Chase 2015 Annual Report Download - page 22

2020
We really need to be prepared for the eects of
illiquidity when we have bad markets.
In bad markets, liquidity normally dries up
a bit – the risk is that it will disappear more
quickly. Many of the new rules are even
more procyclical than they were in the 2008
financial crisis. In addition, psychologically,
the Great Recession is still front and center in
people’s minds, and the instinct to run for the
exit may continue to be strong. The real risk
is that high volatility, rapidly dropping prices,
and the inability of certain investors and
issuers to raise money may not be isolated to
the financial markets. These may feed back
into the real economy as they did in 2008.
The trading markets are adjusting to the new
world. There are many non-bank participants
that are starting to fill in some of the gaps.
Even corporations are holding more cash and
liquidity to be more prepared for tough times.
So this is something to keep an eye on – but
not something to panic about.
In a capitalistic and competitive system,
we are completely supportive of competi-
tors trying to fill marketplace needs. One
warning, however: Non-bank lenders that
borrow from individuals and hedge funds
or that rely on asset-backed securities will be
unable to get all the funding they need in a
crisis. This is not a systemic issue because
they are still small in size, but it will aect
funding to individuals, small businesses and
some middle market companies.
JPMorgan Chase is well-positioned regardless.
It is important for you to know that we
are not overly worried about these issues
for JPMorgan Chase. We always try to be
prepared to handle violent markets. Our
actual trading businesses are very strong
(and it should give you some comfort to
know that in all the trading days over the last
three years, we only had losses on fewer than
20 days, which is extraordinary). Sometimes
wider spreads actually help market-makers,
and some repricing of balance sheet posi-
tions, like repo, already have helped the
consistency of our results. As usual, we try to
be there for our clients – in good times and,
more important, in tough times.
• Incomplete and sometimes confusing
rules around securitizations and mort-
gages. We still have not finished all
the rules around securitizations and in
conjunction with far higher capital costs
against certain types of securitizations.
We have not had a healthy return to the
securitization market.
• The requirement to report all trades.
This makes it much more dicult to buy
securities in quantity, particularly illiquid
securities, because the whole world knows
your positions. This has led to a greater
discount for almost all o-the-run securi-
ties (these are the securities of an issuer
that are less regularly traded).
• Possible structural issues; e.g., high-
frequency trading. High-frequency
trading usually takes place in small incre-
ments with most high-frequency traders
beginning and ending the day with very
little inventory. It appears that traders add
liquidity during the day in liquid markets,
but they mostly disappear in illiquid
markets. (I should point out that many
dealers also disappear in illiquid markets.)
All trading positions have capital, liquidity,
disclosure and Volcker Rule requirements –
and they cause high GSIB capital surcharges
and CCAR losses. It is virtually impossible
to figure out the cumulative eect of all the
requirements or what contributes to what.
In our opinion, lower liquidity and higher
volatility are here to stay.
One could reasonably argue that lower
liquidity and higher volatility are not neces-
sarily a bad thing. We may have had artifi-
cially higher liquidity in the past, and we are
experiencing a return closer to normal. You
certainly could argue that if this is a cost of
a stronger financial system, it is a reason-
able tradeo. Remember, the real cost is that
purchasers and issuers of securities will, over
time, simply pay more to buy or sell. In any
event, lower liquidity and higher volatility
are probably here to stay, and everyone will
just have to learn to live with them.