The Scariest Thing About JPMorgan Chase Stock

By Markets Fool.com

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Generally speaking, JPMorgan Chase (NYSE: JPM) is a solid stock for investors who want to minimize downside risk without forgoing meaningful growth opportunities. But this shouldn't be interpreted to mean that there aren't risks associated with owning this bank stock.

The biggest risk to JPMorgan Chase

Above all, the scariest thing about JPMorgan Chase's stock is the fact that regulators have set their sights on making life difficult for the nation's biggest banks. And given that the New York-based bank is the largest bank in the country, it's safe to assume that it's high on regulators' list.

Under legislation passed since the financial crisis, eight so-called global systemically important banks, or G-SIBs, must hold much more capital than their smaller, simpler peers. For its part, JPMorgan Chase has to keep 3.5% more capital in reserve than its competitors in the regional banking space. This is known as the G-SIB surcharge.

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Why Are Some Banks Too Big To Fail? from John J. Maxfield.

The additional reserve requirement reduces the amount of leverage that JPMorgan Chase can use to juice its profits, and thereby weighs directly on its profitability. This is reflected in part in the bank's valuation. Prior to the 2008 crisis, JPMorgan's shares traded in the vicinity of 1.5 times book value or above. Today, they trade for only 1.1 times book value.

This is in part because interest rates are unprecedentedly low, which limits how much banks can earn from making loans. But just as importantly, it can't be denied that JPMorgan's depressed valuation also stems from the fact that investors and analysts are concerned that regulators could continue to tighten the proverbial screws on large banks in an effort to eliminate the too-big-to-fail problem.

Big banks are in regulators' crosshairs

We got a taste for how aggressive bank regulators could become earlier this year, when two of the Federal Reserve's top officials intimated that they will continue to make things difficult for universal banks like JPMorgan Chase -- that is, banks with both investment and commercial banking operations.

Here's the view of Fed governor Daniel Tarullo, whom The Wall Street Journal calls "The Most Powerful Man in Banking": "I think it likely that firms are going to have to change in some cases their size, in some cases their business model, and in some cases their organization."

And here's Tarullo's colleague echoing the same sentiment: "I have not reached any conclusion that a particular bank needs to be broken up or anything like that," Fed governor Jerome Powell said at an industry conference earlier this year. The point is instead to "raise capital requirements to the point at which it becomes a question that banks have to ask themselves."

This is an ominous sign for banks, and JPMorgan Chase in particular. As it is the nation's biggest bank by assets, and one that has a particularly robust presence on Wall Street, in addition to its sizable commercial banking operations, there's little doubt that regulators are talking specifically about it, as well as a handful of its competitors.

All that said, I tend to think that investors can do a lot worse than JPMorgan Chase. Warren Buffett himself has expressed admiration for the bank's CEO, Jamie Dimon, on multiple occasions in the past. And one of Buffett's lieutenants has even joined the JPMorgan Chase board of directors.

That's quite an endorsement, and it's enough for me to conclude that JPMorgan Chase is a solid stock to add to any long-term investor's portfolio.

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John Maxfield has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.