JP Morgan reported late last month that its total exposure to oil & gas credit (directly on its books, I would assume) is $44 billion, or which $19 billion is currently rated junk. There was no update as to junk or junk-like corporates beyond energy, which in the end might be the more pressing concern. The old joke is that no A-rated or above obligor has ever defaulted because they are downgraded before it ever gets that far. So the question isn’t how much is oil junk bonds now, it is how much across the whole corporate spectrum will be junk and at risk before it’s all over. To that end, Morgan indicated it had set aside an additional $500 million loan loss reserves for just energy exposure; its shares were not enthused.

That isn’t the extent of concern about JP Morgan or really any of these banks, though that isn’t to say that energy and corporate junk won’t be at the front of the line moving forward. Within its 2015 annual filing, the bank also suggested the same problems as we see universally of global banks in its CIB space – Corporate Investment Banking. From the filing:

In CIB, management expects Investment Banking revenue in the first quarter of 2016 to be approximately 25% lower than the prior year first quarter, driven by current market conditions in the underwriting businesses. In addition, Markets revenue to date in the first quarter of 2016 is down approximately 20%, when compared to a particularly strong period in the prior year and reflecting the current challenging market conditions.

As detailed yesterday in other eurodollar anecdotes, notably Barclays and RBS, “investment banking” just doesn’t make much money anymore. It isn’t surprising, then, to find JPM, one of the Big 4 derivatives dealers, shrinking. The reduction in dark leverage continued through the end of last year; interest rate swaps gross notionals declined by $11.4 trillion to just $36.7 trillion in 2015, representing less than half the IR book when JPM took over Bear Stearns in early 2008.

ABOOK Mar 2016 Eurodollar JPM IR ABOOK Mar 2016 Eurodollar JPM CDS

As is plain in both IR swaps and Credit derivatives, regulations are not the prominent factor; QE is (or was) more than anything, suggesting as almost all the other eurodollar anecdotes that banks “play” when “easy money” is thought to be the condition under the central bank umbrella. From the start of QE2 whispers in Q3 2010 until the taper drama of the middle of 2013, JPM was writing CDS again, with notionals jumping from $5.3 trillion to $6.5 trillion; that didn’t come close to erasing the massive declines during (lost capacity) the panic but it shows that JP Morgan was betting on recovery. This was, after all, the London Whale episode.

The overall derivative book has likewise experienced sharp declines especially during this “rising dollar”, meaning that though IR swaps are the bulk of the reported numbers the shrinking isn’t just in that one product or risk offering.

ABOOK Mar 2016 Eurodollar JPM Total Derivatives

In fact, JP Morgan as a bank contracted in 2015 by $220.6 billion; total assets at the end of 2014 were $2.57 trillion but just $2.35 trillion a year later. A lot of that was expected, as Morgan had announced just over a year ago that it was cutting back on “wholesale deposit” activity. That was, however, only intended to be about $100 billion, meaning the overall bank decline is more than double that particular effort.

In perhaps the biggest shift, J.P. Morgan announced that it aims to reduce certain deposits by as much as $100 billion by year-end and is preparing to charge large institutional customers for some deposits, thanks to new rules that make holding money for the clients too costly.

Again, “rules” and regulations that don’t ever address the other side to efficiency; it is only inefficient if there is no profit in doing it. In JPM’s case, the bank would book deposit liabilities (and largely through foreign branches) and then turn them into nothing more than virtual cash mostly sitting further idle at one of the Fed branches “earning” IOER. Thus, changes to regulations change the basic profit/loss calculation of that specific process, but why were those funds sitting idle in the first place? There are other factors at work beyond regulations that address complications throughout the balance sheet, not the least of which is the lack of actual recovery and profit opportunities of moving out of cash had that not proven correct (again, JPM had close experience with “betting” on the recovery in at least 2011).

ABOOK Mar 2016 Eurodollar JPM Total Assets

When actually looking at Morgan’s balance sheet 2014 to 2015, however, it becomes clear there is more going on than just this regulatory shift about “non-operational wholesale deposits.”

ABOOK Mar 2016 Eurodollar JPM BS Delta

Total deposits fell by $83.7 billion as customer deposits increased and offset the wholesale intentions somewhat. On the asset side, however, you see reductions more than just cash related to the deposit liability; some of the activity was converted into loan expansion (including bubble segments, of course) but by and large this was a wholesale reduction in especially CIB. The liability side apart from deposits (which, again, were mostly foreign and factor into European NIRP; but that’s another topic) suggest nothing else, as the CIB segment is the animating element in all those reductions.

I’ll highlight the relevant line items from the Annual Report:

Cash and due from banks and deposits with banks
The Firm’s excess cash is placed with various central banks, predominantly Federal Reserve Banks. The net decrease in cash and due from banks and deposits with banks was primarily due to the Firm’s actions to reduce wholesale non-operating deposits.

Securities borrowed
The decrease was largely driven by a lower demand for securities to cover short positions in CIB. For additional information, refer to Notes 3 and 13.

Trading assets–debt and equity instruments
The decrease was predominantly related to client-driven market-making activities in CIB, which resulted in lower levels of both debt and equity instruments. For additional information, refer to Note 3.

Trading assets and liabilities–derivative receivables and payables
The decrease in both receivables and payables was predominantly driven by declines in interest rate derivatives, commodity derivatives, foreign exchange derivatives and equity derivatives due to market movements, maturities and settlements related to client-driven market-making activities in CIB. For additional information, refer to Derivative contracts on pages 127–129, and Notes 3 and 6.

Deposits
The decrease was attributable to lower wholesale deposits, partially offset by higher consumer deposits. The decrease in wholesale deposits reflected the impact of the Firm’s actions to reduce non-operating deposits. The increase in consumer deposits reflected continuing positive growth from strong customer retention. For more information, refer to the Liquidity Risk Management discussion on pages 159–164; and Notes 3 and 19.

Federal funds purchased and securities loaned or sold under repurchase agreements
The decrease was due to a decline in secured financing of trading assets-debt and equity instruments in CIB and of investment securities in the Chief Investment Office (“CIO”). For additional information on the Firm’s Liquidity Risk Management, see pages 159–164. [emphasis added]

That’s a lot of “predominantly driven by” or “predominantly related to” declines in CIB; i.e., investment banking or FICC. It’s easy and good cover to blame regulations but that is nowhere near the extent of what is taking place. Furthermore, these reductions in eurodollar or money dealing functions actually have become self-reinforcing as we are just starting to witness, JPM more prominently. Reduced balance sheet capacity leads to lower global eurodollar (and wholesale overall) liquidity (and just plain buying and holding of these kinds of assets) which then feeds into volatility and pricing pressures all over FICC, but including and especially anything related to energy and corporate junk. The more they (meaning more than just JPM) scale back the worse gets and will get still.

When JP Morgan announced last February its intentions to essentially turn away $100 billion in deposit financing, the Wall Street Journal (same article as the quote from above) started by describing exactly these overriding dynamics.

James Dimon maintains that J.P. Morgan Chase & Co. doesn’t need to get radically smaller, just much leaner.

The eurodollar was built on rapid expansion and in every way possible; in fact, it only appeared stable in all its forms and expressions when exponential growth was the baseline as all these balance sheet anecdotes lay bare. This is a radical departure and it is universal. Where once eurodollar behemoths prioritized rapid growth above all else, they now seek “leaner” and “smaller” as the default setting. This is not just about weak loan growth and regulations as it is made out to be – it can’t be limited to just that given that the eurodollar was and for now remains the credit-based reserve currency.