Bank Accounting and the Risk/ Return Trade-Off
Because I love confirmation bias, I’m going to pat myself on the back for a comment I wrote in follow-up to my recent post on quantitative hedge funds. In the comment, I wrote that these funds were unlikely to be coming up with original return factors/ strategies because they were staffed with people that share the same training at the same institutions. This morning, I read a post on Richard Bookstaber’s blog in which he says the same thing. Bookstaber, the author of A Demon of Our Own Design, is a former risk manager at Salomon Smith Barney and a deep thinker on risk. He currently manages a long-short hedge fund on behalf of FrontPoint Partners. Okay, that’s my bit of self-congratulation for the day.
There’s an interesting article in this morning’s journal (The Gold at Crunch’s End, page C1), that highlights a new accounting rule that allows brokers and banks to mark their own liabilities to market. As a result, when their bonds lose value (possibly indicating a higher risk of distress), the decline in value actually flows through the income statement as positive earnings (lower liabilities means higher shareholder’s equity, after all). In a report, Moody’s indicated that bondholders should consider that these earnings aren’t “core earnings” and that they aren’t sustainable. No kidding! This is just another earnings quality issue to look out for when you are examining financial institutions’ financial statements. For those of you who don’t have access to the Wall Street Journal Online, this topic was covered in an earlier piece on the Journal’s blog.
Have a great weekend!
Total: 261 words
Time: 10 minutes (w/o spellcheck)
*** The above text was written (and spell-checked) in ten minutes. As a result, some of it may not stand up to rational scrutiny. I apologize preemptively for any errors, omissions and misrepresentations. ***