Here’s a rather funny thing via UBS’s US banking team, which re-initiated coverage of a number of American IBs yesterday.
It relates specifically to Citi, but will certainly extend to other banks. Here’s UBS analyst Glenn Schorr:
In 4Q08 Citi reclassified $33.3 billion of debt securities from trading to held-to-maturity, $4.7 billion of debt securities from trading to AFS, and $15.7 billion of loans from held-for-sale to held-for investment, in an effort to remove the earnings volatility from mark-to-market accounting as spreads were deteriorating. While these actions no doubt mitigated the magnitude of write-downs in 1Q09, unfortunately, because these assets are held at their amortized cost with associated unrealized losses in other-comprehensive income (OCI), Citi Citigroup Inc won’t see gains on these assets as spreads have improved. That said, as assets mature the associated unrealized loss accretes back into earnings and out of (OCI), which occurred in 1Q09 and added $541 million to revenues. So, theoretically, if all the assets mature at par, Citi should see $7.9 billion in unrealized losses currently locked in other comprehensive income reverse over time.
Got that?
We’ll summarise: The downside of banks re-classifying their assets to avoid having to mark them to market or crystallise losses on them in their income statements, is that many of those financial institutions won’t now be enjoying improving spreads on the assets.
In the case of other comprehensive income, which is essentially a bucket removed from the income statement where companies can stick unrealised gains and losses on assets held for sale, banks will have to wait until those gains/losses become more permanent — for instance by maturing — until they can recognise them in their bottom line.
Ha!
Related links:
Other comprehensive income - WSJ, via a neoconservative, mugged by reality
Hold or sell, market value does matter - ABA Banking Journal, via All Business
Whitney: “I call this the great momentum trade” - FT Alphaville
