Friday, October 12, 2012
"I'm Dave In Denver and I approve this blog post"
JP Morgan reported its much-anticipated 3rd quarter earnings this morning. Naturally the headline number was boastful and resplendent. I was going to do a full-blown, in-depth analysis showing why JPM's headline numbers were misleading and somewhat fraudulent, but it's a lot of work and I don't get paid to write this blog.
Instead, I did a quick "drive-by" look-see at JPM's 8-K filing. The 8-K is a filing that reports "material" events as required by the SEC. The 8-K will be filed to report quarterly results prior to the more complete 10-Q. Often the Statement of Cash Flows is not included in the 8-K, especially with banks.
At any rate, JPM's earnings growth, despite the grand proclamations issued by the CEO - supported by "smoothed out" GAAP numbers reported for each business segment - were a product primarily of two events: 1) significantly increased fees from mortgage origination and mortgage sale activity and 2) a paper income generating accounting reversal in their "allowance for loan losses."
Let me quickly elaborate. JPM reports $5.7 billion in net income this quarter, vs $4.96 billion in Q2 '12 and $4.3 billion in Q3 2011. Nice growth, right? But of that increase, $600 million of the $1.4 billion increase over Q3 last year is accounted for by its mortgage activity. The bulk of the mortgage activity is refinancings that are either subsidized by taxpayer funded Government programs or by taxpayer supported Federal Reserve interest rate and QE policy. JPM takes a fee on the refinancing, takes a small profit flipping the mortgage into a mortgage investment trust and gets a fee on any servicing rights it retains. You can read about that here: LINK
As for the balance sheet loan loss reserve reversal. This is more of the same game JPM and all of the banks have been playing with GAAP accounting and fraudulent risk assessment for the past 2+ years. For this quarter vs. the last quarter, JPM reduced its loan loss reserve by $967 million dollars. This means close a $1 billion of JPM's $5.7 billion net income this quarter was an accounting maneuver. If you strip this accounting chicanery out, JPM reports a decline in net income this quarter vs. last quarter. If you assume the mortgage activity income is not sustainable, the true quality of JPM's earnings come into serious question. I'd bet my last nickel that this was not mentioned on CNBC, Bloomberg or Fox Biz. This is fictitious income predicated on JPM's CFO being accurate on his risk assessment of all of JPM's loan and trading positions. Given what recently happened in London, I'd bet against this. Here's JPM's latest 8-K in case you get bored this weekend: LINK
In fact, let's look at another truth to see how confident the CFO is in the numbers he's reporting to investors and to the world. Most of you are aware that the Fed is conducting "stress" tests of the big bank balance sheets (all of the banks but it's the big banks that count because that's where bulk of the risk is in the system). The data sent to the Fed is essentially the same data used to compile bank financial statements. Specifically and critically, it's the data used to price and account for assets as reported on the above-linked 8-K. Interestingly - no, shockingly - if you read through this article about the stress test procedure, LINK, the CFO's do not have to sign off on and attest to the accuracy of this data. I nearly fell of my chair when I read about this. Bottom line: the numbers being used to prepare the big bank earnings and financial statements, used by the entire financial world, may or may not be accurate. Given the reluctance of CFO's to sign off on this data, I would bet the data is inaccurate to outright fraudulent. Think about that one...
Posted by Dave in Denver at 12:05 PM