By Stefania Spezzati
LONDON (Reuters) -JPMorgan Chase & Co. is working with KPMG to improve how the U.S. bank supervises its traders, sources with knowledge of the review told Reuters, as Wall Street wrestles with how to spot potential wrongdoing during a securities trading boom.
KPMG is reviewing JPMorgan’s oversight of traders across the bank's markets division globally, the people said. The bank's revenues from buying and selling of bonds, currencies and stocks, rose to $29 billion in 2022, the largest among the top five U.S. banks and a near record high.
Market volatility surged at the start of the pandemic and investment banks and securities firms have seen trading activity soar, adding to the challenge of supervising employees amid increased volumes of buying and selling and large price swings.
The CBOE Volatility Index, a measure of market volatility, remains above its pre-pandemic levels.
JPMorgan (NYSE:JPM), when asked by Reuters why it had hired KPMG, said: "We invest heavily in our compliance and surveillance systems and often engage third parties to benchmark our capabilities."
"Such practices should not be taken for anything more than that," the bank said in a statement.
A spokeswoman for KPMG in London declined to comment.
WARNINGS AND ALERTS
Compliance teams at investment banks that oversee traders rely in part on warnings and alerts from automated systems to catch and prevent potential misconduct, which if undetected could result in costly losses for the banks and draw scrutiny from regulators.
In 2020, JPMorgan agreed to pay a penalty of $920 million for market manipulation at its trading desks in New York, London and Hong Kong and entered into a three-year deferred prosecution agreement with the U.S. Department of Justice.
Under the agreement, which ends this year, the bank committed to enhance its compliance efforts and to report fixes to its oversight, the DoJ said.
As part of their obligations to regulators, banks must report suspicious transactions to watchdogs when there are reasonable grounds to suspect ill intent, such as potential insider dealing or market manipulation.
"Members of the financial sector have been subjected to record financial penalties and criminal conviction, thus highlighting flaws in their internal controls and systems, and attracting even more scrutiny," said Nicholas Ryder, professor in financial crime at Cardiff University's School of Law and Politics.
When market prices move sharply and trading volumes surge, the automated systems banks use to monitor trading can produce an avalanche of warnings of unusual activity, making it harder for supervisors to detect potential conduct breaches.
One such event was in September 2022, when radical tax-cutting plans from former UK Prime Minister Liz Truss caused turmoil in the British government bond market. The volatility in UK government bonds, known as gilts, triggered a flood of compliance alerts from JPMorgan’s traders, one of the sources said.
Britain's borrowing costs posted the biggest jump in decades, forcing the Bank of England to step in with an emergency package to calm the markets. Bank of England Governor Andrew Bailey said conditions in gilt trading at the time were abnormal.
KPMG has done an analysis of the technology that the financial industry is using to supervise trading and is now advising JPMorgan on how to adapt its systems, a second source said.
Some changes are already being tested, reducing the number of alerts to compliance departments in some areas of trading, the first source said.
In 2021, the number of so-called suspicious transaction and order reports financial services firms flagged to Britain's finance watchdog - the Financial Conduct Authority - to signal potential risks, increased by 15% from the previous year, the regulator said in its latest available data. Possible insider trading appeared to be the most frequent threat, the FCA data shows.