JPMorgan Chase faced a significant conflict of interest in the summer of 2007, two months after it had sold some $500 million of a London-based investment vehicle called Sigma.  Bank executives were raising red flags about Sigma, just as the first tremors of the coming financial crisis was being felt on Wall Street.  JPMorgan chose not to move its clients out of the investment which, one year later, collapsed. 

While the clients lost nearly all their money, JPMorgan collected nearly $1.9 billion from Sigma’s demise, according to a lawsuit.  That’s because as Sigma’s troubles worsened, JPMorgan lent the vehicle billions of dollars and received valuable assets in the form of a security deposit.  In September 2008, when Sigma was undone, many of those assets ultimately became JPMorgan’s and eventually appreciated in value, giving the bank a large profit, the suit says. 

        Class Action Lawsuit.   The case, which was filed as a class action and includes several pension funds as named plaintiffs, accuses JPMorgan Chase of breaching its responsibility to keep its clients in safe investments.  It also sheds new light on one of Wall Street’s oldest problems - whether banks treat their clients’ money with the same care that they treat their own.   [C-I Note:  Vis-a-vis, the significant conflict of interest.]

Joseph Evangelisti, a spokesperson for JPMorgan, called some of the suit’s accusations “ludicrous” and said the bank lent more than $8bn to Sigma to try to help the vehicle survive, not to profit from its failure.  He said the bank did its best to protect its clients’ money and that its dealings with Sigma were to the clients’ benefit.

However, plaintiffs asserts that JPMorgan workers developed a “grand scheme” to profit from Sigma in the event of a collapse, even though employees at another part of the bank left client money invested in the vehicle. 

- e.g., one internal e-mail between top executives states that the firm needed to protect its own interests in its dealings with Sigma, without taking into account the clients’ position;  and, the bank’s loans to Sigma gave it access to the vehicle’s best assets, at a discount, which proved to be a profitable trade for the bank.

JPMorgan counters that argument by noting that, by law, different units of the company that dealt with Sigma could not share information, because of so-called Chinese walls.  Accordingly, the unit that invested client money in Sigma could not confer with the arm that lent the vehicle money.

However, because the information rose to executives who oversee the entire company and were in a position to intervene, analysts say the issue is trickier.  It’s also not as clear what a bank’s obligations are with insights that are based on public information, like some of the information related to Sigma.

        Wall Street Watches With Bated Breath.   The financial services industry is closely watching the case.  A victory by the plaintiffs - JPMorgan’s clients - may mean that banks will have to be more careful about deciding whether to share - or silo - information that affects their clients’ investments. And, it would impose greater costs on banks.

SIFMA, meanwhile, wrote an Amicus Brief in support of JPMorgan last month, saying that the pension funds that are suing had an “unprecedented and novel theory” that “contradicts decades of Congressional and regulatory guidance.”   

Whatever the legal outcome, the new case paints a picture of how one of Wall Street’s strongest players profited in its deals with the weak.

For further information, go to:   [NYTimes, 11/11/11, Louise Story: JPMorgan Accused.."]