Friday, February 8, 2008

Jamie Dimon eyeing a fat pitch

I just read this Reuters wire story about Jamie Dimon and his stewarship of JPM. JPM has for the most part avoided the subprime meltdown and has not needed infusions of foreign money to shore up its tier 1 capital. Tier 1 capital is a core measure of financial strength from the regulatory perspective, measuring how well the bank can weather unexpected losses. The finance textbook definition of it is core equity capital / risk weighted assets. It includes of common stock, preferred stock that is irredeemable and non-cumulative, and retained earnings(note, that these are all highly liquid assets). Think of it as a nitrous oxide boost for a race car or a cornerback's closing speed.

Dimon is the sort of conservative, cost-conscious manager that I want running a company, especially a bank. CEOs are often trigger-happy when it comes to acquisitions. CEO bonuses are often predicated on increasing EPS or selling the company, giving them a perverse incentive to go shopping. Granted, banking is an industry that is ripe for consolidation: there are thousands upon thousands of banks and thrifts in the United States in an industry that scales extremely well. Consolidation is a rational approach to growing earnings and the depositor base. However, M & A is not simply about what accounting tricks or financial engineering can be brought forth to squeeze savings out of the combined enterprise. Culture matters. Personnel matters(see Citigroup, Weill,Sandy, and Reed, John). And of course, the vision thing.

JPM is now in a position to pick through the rubbled and find some real gems. As the story says, he is looking to enter the troubled subprime and jumbo mortgage loan markets. For the past two years, phrases like "toxic waste" have been bandied about to describe these instruments, but that is an oversimplification. So many of these mortgages were originated and turned into CDOs and CMOs because they were highly profitable. After the repricing of risk has concluded, they will be less so, but still have better margins than lending at prime rates to the best consumers. Besides, do you think that the banking industry is going to stop lending money to the poor to buy homes? If so, then the Community Reinvestment Act would probably have something to say about that.

Remember, Citadel made a fortune buying Amaranth's natural gas positions and in 1998, Warren Buffett no less was trying to take over some of LTCM's positions. More recently, Berkshire Hathaway is entering the bond insurance business now that players like MBIA and Ambac are reeling. Chaos creates opportunity. Always has, always will.

If you are interested in learning more about bank capital reqquirements, visit this link that explains in detail the three tiers of capital .

1 comment:

Jessica said...
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