JP Morgan’s Jaime Dimon Warns of a Coming Crisis

Another day, another warning from either experts or political authorities. This comes as global stock markets and bonds race to record or milestone highs. 

Risks from mounting imbalances have become so evident such that many from the mainstream have been jumping into the bandwagon.

Here is JP Morgan’s top honcho Jaime Dimon on the coming crisis. 

From Marketwatch.com (bold mine)

You ain’t seen nothing yet, when it comes to market wreckage from a financial crisis, according to J.P. Morgan boss Jamie Dimon.

In his annual letter to shareholders, the bank’s chief executive warned “there will be another crisis” — and the market reaction could be even more volatile, because regulations are now tougher.

He argued the crackdown on the financial sector, added to more-stringent requirements for capital and liquidity, will hamper banks’ capacity to act as a buffer against shocks in financial markets. Banks could become reluctant to extend credit, for example, and less likely to take on stock issuance through rights offering, which would essentially create a shortage of securities.

Such factors “make it more likely that a crisis will cause more volatile market movements, with a rapid decline in valuations even in what are very liquid markets,” Dimon said in the letter. “Recent activity in the Treasury markets and the currency markets is a warning shot across the bow.”

The J.P. Morgan JPM, +0.05%  CEO pointed to the 40 basis-point move in Treasury securities on Oct. 15 as one of those warning shots. The move — though “unprecedented” and “an event that is supposed to happen only once in every 3 billion years or so” — was still relatively easily absorbed in the market and no one was significantly hurt by it, he noted.

“But this happened in what we still would consider a fairly benign environment. If it were to happen in a stressed environment, it could have far worse consequences,” Dimon said.

There’s also the issue of clearinghouses. Clearinghouses sit between the two sides of financial trades and have, since the financial crisis, worked as risk managers for global markets. But that could also exacerbate the next crisis, according to the J.P. Morgan chief.

“Clearinghouses are a good thing, but not if they are a point of failure in the next crisis,” he said. “It is important to remember that clearinghouses consolidate — but don’t necessarily eliminate — risk.”

But here’s for the good news. Banks won’t be at the center of the next crisis, Dimon believes. His view is that while they may not be able to act as a shock absorber because of tight regulations, they are overall safer and stronger than before.

Interesting.

Yet more excerpts from Jaime Dimon’s letter to shareholders (bold original, bold-italics mine)

Recent activity in the Treasury markets and the currency markets is a warning shot across the bow 

Treasury markets were quite turbulent in the spring and summer of 2013, when the Fed hinted that it soon would slow its asset purchases. Then on one day, October 15, 2014, Treasury securities moved 40 basis points, statistically 7 to 8 standard deviations – an unprecedented move – an event that is supposed to happen only once in every 3 billion years or so (the Treasury market has only been around for 200 years or so – of course, this should make you question statistics to begin with). Some currencies recently have had similar large moves. Importantly, Treasuries and major country currencies are considered the most standardized and liquid financial instruments in the world.

The good news is that almost no one was significantly hurt by this, which does show good resilience in the system. But this happened in what we still would consider a fairly benign environment. If it were to happen in a stressed environment, it could have far worse consequences.

Some things never change — there will be another crisis, and its impact will be felt by the financial markets

The trigger to the next crisis will not be the same as the trigger to the last one – but there will be another crisis. Triggering events could be geopolitical (the 1973 Middle East crisis), a recession where the Fed rapidly increases interest rates (the 1980-1982 recession), a commodities price collapse (oil in the late 1980s), the commercial real estate crisis (in the early 1990s), the Asian crisis (in 1997), so-called “bubbles” (the 2000 Internet bubble and the 2008 mortgage/housing bubble), etc. While the past crises had different roots (you could spend a lot of time arguing the degree to which geopolitical, economic or purely financial factors caused each crisis), they generally had a strong effect across the financial markets.

While crises look different, the anatomy of how they play out does have common threads. When a crisis starts, investors try to protect themselves. First, they sell the assets they believe are at the root of the problem. Second, they generally look to put more of their money in safe havens, commonly selling riskier assets like credit and equities and buying safer assets by putting deposits in strong banks, buying Treasuries or purchasing very safe money market funds. Often at one point in a crisis, investors can sell only less risky assets if they need to raise cash because, virtually, there may be no market for the riskier ones. These investors include individuals, corporations, mutual funds, pension plans, hedge funds – pretty much everyone – each individually doing the right thing for themselves but, collectively, creating the market disruption that we’ve witnessed before. This is the “run-on-the-market” phenomenon that you saw in the last crisis