JPMorgan Chase: Don't Hit the Panic Button (Update 3)
Updated with market close information, comments from Guggenheim Securities analyst Marty Mosby, Comments from Sterne Agee analyst Todd Hagerman, and further details about the Levin-Merkley Amendment and the Volcker Rule.
NEW YORK (TheStreet) -- A $2 billion trading loss is a drop in the bucket for strongly capitalized, profitable banking giant with a $15 billion share buyback program in place.
|JPMorgan Chase CEO Jamie Dimon|
Rather than hit the panic button, investors need to keep in mind that a $2 billion trading loss -- offset by a $1 billion securities gain -- is a minor blip for JPMorgan Chase, which earned $5.4 billion during the first quarter and had $2.3 trillion in total assets as of March 31.
Dimon was quite candid in saying that the company's hedging strategy that led to the loss included "egregious mistakes" that were "self-inflicted," but also stressed the company's "fortress balance sheet," with an amended March 31 estimated Basel III Tier 1 common equity ratio of 8.2%. The original estimate was 8.4%.
Dimon also said that the trading loss was unlikely to affect its plans to return capital to investors, which, in addition to the share buybacks, include a quarterly dividend of 30 cents, for an attractive dividend yield of 2.95%, based on Thursday's closing price of $40.74.
JPMorgan Chase's shares returned 24% year-to-date through Thursday's close. The shares had already pulled back 12% from their year-to-date closing high of $46.49 on March 27.
The shares at Friday's close traded for 1.3 times tangible book value, according to Thomson Reuters Bank Insight, and for just seven times the updated consensus 2013 earnings estimate $5.56 a share, among analysts polled by Thomson Reuters.
The consensus 2012 EPS estimate was reduced to $4.81 from $4.97 on Friday. It is important to keep in mind that the current estimate of $2 billion in trading losses for the second quarter -- partially offset by gains on securities available for sale -- is a before-tax estimate.
This looks like a golden buying opportunity for long-term investors looking to initiate or add to positions in JPMorgan Chase's common shares.
With such strong language from Dimon -- which is, of course, a large part of his appeal to investors -- some turmoil seems likely, including some high-profile management changes, but this event could be a blessing in disguise, as the company works even harder on its hedging strategies and risk management.
Friday was a volatile day for the banking sector, with the KBW Bank Index
The political reaction to the disclosure is also likely to continue, possibly with additional legislation introduced in Congress.
Senator Carl Levin (D-Mich.) wasted no time in reacting to JPMorgan's announcement, saying in a statement late Thursday that "the enormous loss JP Morgan announced today is just the latest evidence that what banks call 'hedges' are often risky bets that so-called 'too big to fail' banks have no business making," and that "today's announcement is a stark reminder of the need for regulators to establish tough, effective standards to implement the Merkley-Levin language to protect taxpayers from having to cover such high-risk bets."
Somehow, it seems quite unlikely that taxpayers will be covering any of JPMorgan Chase's hedging "bets," and the good senator may have forgotten that JPMorgan Chase repaid the $15 billion in government bailout funds received through the Troubled Assets Relief Program in June 2009, having paid the government (and U.S. taxpayers) over $795 million in dividends.
Similar to the Volcker Rule, the Merkley-Levin Amendment would ban "bank holding companies, and their affiliates and subsidiaries from engaging in high risk speculation involving any stock, bond, option, commodity, derivative, or other security or financial instrument," according to the website of Senator Jeff Merkley (D-Ore.). Like the Volker Rule, implementation of the Merkley-Levin language would be difficult for the Federal Reserve and other bank regulators, because of the challenge to differentiate between "trading," hedging activities and market-making activities on behalf of clients.
Friday's volatility of course presents many opportunities for day traders, but also a golden opportunity for long-term investors.
Guggenheim Securities analyst Marty Mosby left his "Buy" rating for JPMorgan Chase unchanged, saying in a report on Friday morning that since his firm estimates "JPM should earn around $5 billion each quarter this year, we believe this event could create earnings volatility, but it is not large enough to be a capital event," adding that Guggenheim does "not expect capital positions to erode from current levels, rather, this event would only slow the improvement."
Mosby also said that "one of the characteristics of a money center bank is volatility, which is why JPM has the lowest P/E to our 2013 estimate at 6.9x while the median for our large cap banks is 9.3x."
Guggenheim estimates that JPMorgan Chase will earn $4.96 a share this year, followed by 2013 EPS of $5.68. Mosby's price target for the shares is $53.00.
Sterne Agee analyst Todd Hagerman on Friday reiterated his neutral rating on JPMorgan Chase, with a price target of $50, saying that "the timing and magnitude of the announcement are certainly poor, given the intensity of the current regulatory debate surrounding proprietary trading (Volker) and the negative optics surrounding the outsized use of synthetic derivatives to hedge credit risk across the organization." But the analyst also said that "the company's $12B share repurchase authorization gives JPM significant flexibility to deploy capital and buy back shares in the event of outsized price weakness - providing an implicit floor for the stock," of $34.19, or Hagerman's estimated tangible book value for the shares.
JPMorgan's board of directors in March authorized $12 billion in share repurchases for 2012, with another $3 billion in buybacks authorized for the first quarter of 2013.
-- Written by Philip van Doorn in Jupiter, Fla.
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