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OCC to take closer look at JPMorgan’s trading models

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Jeff Horwich: You’ve heard of the SEC? The FTC? Well, the Office of the Comptroller of the Currency — the OCC — is flexing its regulatory muscle. Like lots of folks in Washington, the OCC is not amused that investment bank JPMorgan now looks to lose $5 billion from derivatives bets gone bad. So the agency is telling JPMorgan to show it the computer trading models that caused the problem. Here to talk about it is Cliff Rossi. He is executive-in-residence and teaches at the Robert H. Smith School of Business at the University of Maryland. Welcome.

Cliff Rossi: Very good.

Horwich: One reason this is big news today is that regulators are apparently done taking JPMorgan’s word for it, they want to see the actual model, these proprietary models. Is this kind hands-on approach, I guess, going to become more common you think?

Rossi: It will become more common as these kinds of events occurs, let’s say. But just to be clear, the OCC — and other bank regulators as a matter of course — actually already require as a part of their ongoing and supervision of these firms review of the various models that are used for assessing risk at these institutions.

Horwich: Well they must use that power somewhat gently. You would think JPMorgan might worry, for example, whether the comptroller of the Currency is really competent to understand and decide what’s best for JPMorgan and which models work and which ones don’t.

Rossi: That’s one way to interpret it, but you have to remember at these very largest institutions, it would be a very difficult task to expect any federal regulator to be able to get under the covers of any specific models. Now having said that, the model here in question was of such significance that it should have surfaced to the top — both for JPMorgan’s risk governance processes, but also by the OCC in their examination processes too.

Horwich: JPMorgan, presumably, doesn’t like losing $5 billion from models that go wrong and I’m sure that they wouldn’t want to do it again. Why do we need the government to come in and attempt to help here?

Rossi: Well, first of all, because these are systemically important, very large entities — which the taxpayers are on the hook if they are to go down. There has to be very close supervision of the activities, particularly the very riskiest activities that these institutions engage in.

Horwich: Cliff Rossi at the Robert H. Smith School of Business at the University of Maryland, good to talk with you. Thank you so much.

Rossi: Thank you.

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