Occasionally, although more frequently than I’d like, we run into problems mapping the data from a bank’s call report into A/L BENCHMARKS. Usually the problems stem from the fact that some important data points are just plain missing from the call report, and we have to estimate them. The biggest culprit is Schedule RC-K, average balances. There is a whole host of “missing” averages, especially if you consider how many detail end-of-period balances the call report does have.
Problems also crop up when the FFIEC decides to change or reclassify balances from one category to another – for instance, the line item that’s the subject of this post, “Equity Securities that do not have readily determinable fair values”. These are securities like Fed Reserve Stock, FHLB Stock, and basically anything that falls outside the scope of FASB Statement No. 115.
Prior to March 31, 2001 the call report included these securities on Schedule RC-B – Securities. After that, they were moved to Schedule RC-F – Other Assets. I know, who cares, right? The problem is this: these securities are now no longer reported as part of earning assets, they’re now “other assets”. But they still can produce income. And when they do produce income it is reported as interest & dividend income (and therefore included as part of interest margin). In other words – you’re now potentially overstating yield.
You compute yield by dividing income by the average balance that generated that income. If you remove the average balance for these securities, the yield is potentially overstated. It’s now wrong.
I had a discussion with an examiner about this and his response was that these securities aren’t saleable and they’re not currently producing income. I agree with both facts. However I do not think they are good reasons for moving these securities to other assets.
1) “these securities aren’t saleable” – In the context of our conversation he was really referring to our current economic environment. Yes, the markets stink right now. But if that’s the criteria then given our current financial climate there are a lot of assets that aren’t currently saleable. A better comment would have been that there are specific regulatory and accounting restrictions on selling these assets, which is true. But that doesn’t keep them from potentially producing income. Which leads me to the second point…
2) “these securities aren’t currently producing income” – This is a really bad argument. So what? Again in this climate there may be more than a few earning assets that aren’t producing income at the moment. That doesn’t mean they should be “declassified” as an earning asset. Imagine how great my loan yields would look if I could simply reclassify my non-performers as “other assets”. Think of the risk-based-capital benefits alone! ;)
The FFIEC is well aware that these assets can produce income, as they’ve given them a separate specific line item on Schedule RI, line 1.g:
This call report error causes the reported yield on earning assets to be overstated. Granted the error is usually small because the balances in this category are not generally huge compared to total assets. But why introduce the error in the first place?