Share Prices and Accounting Reclassifications

Editor's Note: The following post is a joint contribution by Costas Stephanou and Haocong Ren.

As some may recall, Deutsche Bank (DB) took advantage of the change in IFRS rules (under pressure from the EU Commission) and reclassified almost Euro 25 bn. of hard-to-value (toxic?) securities from its available-for-sale portfolio to the held-to-maturity portfolio in October 2008. This allowed it to improve its reported net income for 2008Q3 by more than Euro 500 million and to report a quarterly profit, as opposed to the loss that analysts were expecting. Its stock price shot up 15% on the day of the announcement (October 30, 2008) vs. 1.2% for the relevant benchmark index (S&P 500 financials), and similar behavior could be observed for its 5-year CDS spread vis-a-vis the relevant benchmark (iTraxx Europe senior financials).

This jump in the share price washes away (based on a preliminary statistical analysis - see the attached Excel file) when looking at the evolution over a longer time period vis-a-vis the benchmark. It may also be due to a perceived market relief that DB's reported tier one capital adequacy ratio (partly as a result of the accounting changes) exceeded 10% and therefore DB had no apparent need for more capital raising that would lead to shareholder dilution. However, it is instructive to see how - at least anecdotally - accounting rules have real effects on share prices since DB's accounting reclassifications represented the main reason why analyst expectations were exceeded, as was pointed out explicitly in the financial press. (See here, here, here, here, and here.)


Posted by Costas Stephanou on February 3, 2009 in Accounting and auditing | Permalink | TrackBack (0)