Time to Short JP Morgan Chase?

JP Morgan is up 77% over the past month.  The stock is approaching $30, a level it has had a hard time sustaining since December of last year.  

Clearly, JP Morgan made a prudent decision to cut their dividend to 5 cents a share about 6 weeks ago.  But, will this be enough to avoid more government aid or a dilutive capital raise? Probably not.  

The chances of JP Morgan receiving further government aid, is also on the high side of unlikely. But, not impossible.  However, based on the prospects for further decline in commercial real estate, mortgage securities, and their purchase of Washington Mutual, it would not be out of the realm of possibility to consider a share offering sometime in the near future.  Add to the mix their enormous off the balance sheet derivatives exposure and you might want to consider raising shares while the stock price is high enough to avoid massive dilution.  

Moreover, HSBC recently raised $18.5 billion through a share issuance, something that the market clearly had been anticipating by the strong reaction in HSBC shares.  

So, what is the difference between an HSBC share raise and a potential JP Morgan share raise? The difference is the market wanted HSBC to raise money and the market expected HSBC to sell shares.  Many investors and analysts (save Mike Mayo) believe JP Morgan is not in a position to need a substantial capital raise.  By taking actions to cut their dividend and the horizon of a profitable quarter, JP Morgan is seen as the guiding light in the banking sector.

Investors are partially correct.  JP Morgan is by far the best domestic banking franchise and they have the best leader in the industry with Jamie Dimon.  But, two years ago very few thought Bank of America would need aid, and no one suggested any possibility of trouble for AIG.  

I am not suggesting titanic troubles, I am merely suggesting that JP Morgan will be a safe short until their earnings release on April 16th (Thursday).  A firm with a tier 1 capital ratio of 10.9% and earnings power that exceeds 15 billion dollars is of course due for respect and admiration. But, their stock has outperformed lately on exceeding expectations of financial recovery.  Even if you believe we have bottomed, JP Morgan needs to fall back in the mid to low 20's to then remerge with an upward trajectory.

Therefore, it looks like JP Morgan could be a safe 15% to 20% return in a matter of days or even weeks if you have the stomach to stay through earnings season.  Of course, all of this is subject to the whims of government decisions and Geithner annoucements.  

To further back of this theory, Mike Mayo has slapped a $24 dollar price target on JP Morgan. This implies a downside of roughly 15% from today's stock price.  If the bank stocks rally tomorrow on Meredith Whitney's not so bearish call on financials, it may be a stronger entry point to engage this trade.  An entry point closer to $30 would be ideal.  

Hopefully shorting JP Morgan at these levels works out better than Jim Rogers' decision to short JP Morgan around March 13th.  If he continued that trade, he is down almost 60% to date.   

Time Frame: 5-7 Days

Potential Profit: 15% to 20%+

Risk: Below Average

Disclosure: I do not have a position in JP Morgan in any direction.