Investors should pay closer attention to the Other Comprehensive Income statement on financial reports, suggests a new study.
A new report by the CFA Institute, Analyzing Bank Performance: Role of Comprehensive Income, follows up on a two-part report on bank performance that the group released last year (see CFA Institute Study Recommends Better Loan Disclosures).
The study analyzes data from 44 banks in the U.S., Canada and Europe over an eight-year period and includes several recommendations to enable investors to incorporate OCI in their valuation and performance analysis, including enhancement of the presentation and disclosure of OCI line items, explanation of the purpose of OCI, and incorporation of OCI information into databases to facilitate investor access.
“The study does confirm that this information is useful and it is important for readers of financial statements to be really paying attention to these particular line items,” said Dr. Vincent Papa, director of the CFA Institute’s Financial Reporting Group, in an interview Tuesday. “When you look in particular at banks and financial institutions in light of the low interest rate environment, a lot of interest rate risk exposures could end up getting reflected through the OCI statement. That’s one particular angle that our report tried to highlight.”
Another issue relates to bank capitalization rules that are changing under the Basel III framework and require unrealized gains and losses to be reflected in regulatory capital. “Different countries have an option to opt out, but where there is full adoption of Basel III, it becomes important to really pay attention to temporarily realized gains and losses, because ultimately it could have an impact on regulatory capital,” said Papa.
He noted that OCI could have an impact on other types of companies beyond the banking sector, pointing to a study by researchers at Columbia University showing the relevance of OCI for insurance companies. The OCI statement can also be relevant to investors in non-financial companies.
“Other evidence tends to show its relevance across sectors,” said Papa. “Now the question is how do you make sure that investors are actually incentivized to pay attention to this information more than they currently do?”
The report recommends that accounting standard-setters should define the components of OCI within the conceptual framework, with a performance reporting project that looks across different financial statements and helps guide performance reporting.
The report also recommends that data aggregators such as Bloomberg should provide information about OCI at as granular a level as possible. “You get unrealized gains and losses that are reported in OCI, but there could be greater granularity based on the different line items,” said Papa. “It’s more economically meaningful as opposed to just aggregating it into unrealized gains and losses.”