US Banks results - Update on Goodwill Impairments and DVA/CVA impact on earnings.

Following my previous posts on the rise of Goodwill impairments for Banks as well as a post on the impact of FAS 159 - Debt Valuation Adjustments on earnings, please find below an update in relation to latest earnings release for Morgan Stanley and Bank of America.


Morgan Stanley also faced the same music as Citigroup in relation to the Boomerang effect of FAS 159 and the tightening of its credit spread:

http://www.businesswire.com/news/home/20110120005705/en/Morgan-Stanley-Reports-Full-Year-Fourth-Quarter-2010

Morgan Stanley Reports Full-Year and Fourth Quarter 2010:
•Full-Year Net Revenues of $31.6 Billion and Income from Continuing Operations of $2.44 per Diluted Share
•Fourth Quarter Net Revenues of $7.8 Billion and Income from Continuing Operations of $0.43 per Diluted Share
•Net Revenues for Full-Year and Fourth Quarter Include Negative Impact of $873 Million and $945 Million, Respectively for Tightening of Morgan Stanley’s Debt-Related Credit Spreads

Due to DVA, sales and trading net revenue for the quarter ended December 31, 2010 included negative revenue of $945 million (fixed income: $842 million; equity: $103 million) and sales and trading net revenue for the quarter ended December 31, 2009 included positive (negative) revenue of ($589) million (fixed income: ($453) million; equity: ($221) million; other: $85 million).

In relation to Bank of America the impact of Goodwill impairments is significant on earnings:

http://www.businesswire.com/news/home/20110121005370/en/Bank-America-Reports-Fourth-Quarter-2010-Financial-Results


Bank of America Reports Fourth-Quarter and 2010 Financial Results
Fourth-Quarter Net Loss of $1.2 Billion, or $0.16 per Diluted Share, Includes Goodwill Impairment Charge of $2.0 Billion

Excluding Goodwill Impairment Charge, Fourth-Quarter Net Income Was $756 Million, or $0.04 per Diluted Share

Total goodwill impairment charges for Bank of America in 2010: 12.4 billion USD.

The goodwill impairment charge of 2 billion USD is directly linked to Countrywide.

As indicated in my previous post "Goodwill Hunting - The rise in Goodwill impairments on Banks Balance Sheet"

"It is therefore paramount to track goodwill impairments in relation to future banks earnings. As we can see in the case of Bank of America and DBS, the impact on the income can be very significant."

Credit Value Adjustment and the boomerang effect of FAS 159 accounting rules on Banks Earnings - Citigroup latest results

Citigroup's latest results clearly show the impact of tightening CDS spreads on earnings.

Credit valuation adjustment (CVA) refer to the fair value of liabilities which in the case of Citigroup equates to a 1.1 billion USD hit on its earnings. The company incurs a negative revenue mark when the value of the debt/liabilities increases.

In my post "Statement 159 - Debt Valuation Adjustments - Déjà Vu 2008", published in July 2010, we studied the impact on earnings with FAS 157 and FAS 159.

For more on FAS 157 and FAS 159 please check the link below to the American Academy of Actuaries paper on the subject:

http://www.actuary.org/pdf/life/fas157_0209.pdf

Citigroup's hit on earnings is linked to a tightening in its CDS 5 year spread. The more the CDS 5 year spread tightens in 2011, the more pressure Citigroup will face on its earnings.

In April last year Citigroup had the following positive results thanks to CVA in its Quarter 1 results:

http://www.businesswire.com/portal/site/home/permalink/?ndmViewId=news_view&newsId=20090417005227&newsLang=en

"Fixed income markets revenues of $4.7 billion reflected strong trading performance, as high volatility and wider spreads in many products created favorable trading opportunities. Interest rates and currencies and credit products had strong revenue growth. Revenues also included (all reflected in Schedule B):
o A net $2.5 billion positive CVA on derivative positions, excluding monolines, mainly due to the widening of Citi’s CDS spreads
o A net $30 million positive CVA of Citi’s liabilities at fair value option"

There you have it, the boomerang always come back, in that case FAS 159...

For more on Citigroup's past CVA:

Monoline Insurers Credit Valuation Adjustment (CVA)

During the first quarter of 2009, Citigroup recorded a pretax loss on CVA of $1.090 billion on its exposure to monoline insurers. CVA is calculated by applying forward default probabilities, which are derived using the counterparty's current credit spread, to the expected exposure profile. The majority of the exposure relates to hedges on super senior subprime exposures that were executed with various monoline insurance companies. See "Direct Exposure to Monolines" for a further discussion.

This excerpt taken from the C 10-Q filed May 11, 2009.

Monoline Insurers Credit Valuation Adjustment (CVA)

During 2008, Citigroup recorded a pretax loss on CVA of $5.736 billion on its exposure to monoline insurers. CVA is calculated by applying forward default probabilities, which are derived using the counterparty’s current credit spread, to the expected exposure profile. In 2007, the Company recorded pretax losses of $967 million. The majority of the exposure relates to hedges on super senior positions that were executed with various monoline insurance companies. See “Direct Exposure to Monolines” on page 70 for a further discussion.

These excerpts taken from the C 10-K filed Feb 27, 2009.