Davos “Systemic Financial Risk” panel: most apropos in modern history

25 January 2008

Official news of the SocGen fiasco broke on Thursday, January 24 (See conference call notes from 5am ET that day).  As the media widely reported, the company opted for a rights issue to shore up its capital ratios.  Morgan Stanley and JP Morgan were chosen as underwriters.

The WSJ reports, “Société Générale and the U.S. bankers feared on Wednesday that shares of the French bank would fall sharply when it disclosed the huge loss from the alleged rogue trader.”

Fast forward now to Thursday 11am Eastern Time (5pm in Davos).  JP Morgan’s CEO, James Dimon is a co-chair of this year’s Annual Meeting of the World Economic Forum - and a member of one of the most apropos panels of all-time: ”Systemic Financial Risk”.  Dimon was likely one the bankers whom the WSJ suggested may have had a late night on Wednesday. 

According to the webcast of this session, moderator James Schiro, CEO of Zurich Financial, kicked off the proceedings by saying:

“We’re starting late.  Several of the participants on the panel have – as I’m sure all of you do – commitments they have to get to.”

While the discussion was ostensibly about the general “systemic crisis” that began last week, several of the panelists (Dimon, for example) had likely become quite familiar with the SocGen situation by this point.  Dimon, for one, surely had to bite his tongue during this panel.  Here’s how WEF session summary writers remember it (full session summary available here):

“One of the lessons of the crisis is that even seemingly safe assets can become illiquid very quickly – making it easy for financial institutions to underestimate the level of risk on their balance sheets, noted James Dimon, Chairman and Chief Executive Officer, JPMorgan Chase & Co., USA, and a Co-Chair of the World Economic Forum Annual Meeting 2008. This problem was aggravated by the constant pressure on financial managers to grow earnings. ‘If you are in a risk business, one of the easiest ways to grow is to leverage up,’ Dimon observed. Withstanding this pressure, he added, takes ‘a lot of fortitude’. Corporate managers also have to combat the tendency to book profits from trading positions in the year they are made, even though those gains may not actually be realized for several years. ‘It creates the wrong incentives,’ Dimon observed.”

Dimon, with his newest client-win likely fresh on his mind, made the following general comments on risk management without singling out the French bank.

“The first rule of risk management is to have people managing the risk who you know, you trust and who are transparent and who have character.  Anyone in the risk business is going to make mistakes…But if they even shave the truth they shouldn’t have that job.  Second is (to have) really disciplined reporting, facts and information, which is regularly rigorously reviewed by various parties - not just by the traders, but by the accountants and the risk managers.  In my experience dealing with some troubled companies, you can’t even get the information when you ask “how much is my risk?”

“If you look at new products…they almost always have problems down the road - settlement, clearance… Operations cannot report to trading desks.  Accounting cannot report to trading desks…I think accounting can lead to mis-incentives and things like that.  I personally don’t think its just risk management’s job to avoid the risk, it’s everyone’s job to avoid the risk.

“But even if you do all that right, you’re still going to make mistakes.  Our system wants people to make mistakes.  We shouldn’t look at it like any mistake is a terrible thing.  They’re not terrible things.  That is the world we live in…There is risk in the system.  We can’t all have our cake and eat it too with some of these things.”

Fellow panelists included the European Central Bank president, the US Deputy Treasury Secretary, and the CEO of Fortress Investments.

Other Davos highlights…

• Myths and Realities of Sovereign Wealth Funds (official summary, full video)
• Private Equity and Hedge Funds: Friend or Foe?  (official summary, full video of session by the same name held as part of “Open Forum Davos”, a series of panels held for the general public) 
• Myths and Realities of Private Equity (official summary, full video)

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