SEMAINE DE LA RECHERCHER-NOVEMBRE 2003

1. SEMAINE DE LA RECHERCHER-NOVEMBRE 2003 The Information Content of Bank’s Earnings-at-Risk and Economic Value of Equity-at-Risk Public disclosures Jacques Préfontaine, Ph.D., Université de Sherbrooke Jean Desrochers, Ph.D. Université de Sherbrooke Groupe de Recherche en Capital de Risque

2. Structure of the presentation • Introduction • Improved Market risk information disclosure • Testing the information content of earnings-at-risk and • economic value of equity-at-risk public disclosures • The empirical results • Conclusion • References

3. I. INTRODUCTION • ALM managers use EAR and EVEAR as measures of the dollar amount of potential loss to net interest income and shareholder’s equity • At the explicit request of regulators, financial analysts and comprtitive pressures, more commercial bank are reporting EAR and EVEAR numbers in their annual financial reports

4. INTRODUCTION continued • To examine preliminary evidence of the information content of such public disclosures, we composed a sample of twenty of North America’s largest commercial banks.

5. II. IMPROVED MARKET RISK INFORMATION DISCLOSURES • Lopez (2003) explains how improved bank public disclosures lead to increased transparency and more effective market discipline. • The evolution of bank disclosure standards in the U.S. has been described in the BGFRS (2000) study • The SEC and the FASB together set the core disclosure requirements for traded banks.

6. II. IMPROVED MARKET RISK INFORMATION DISCLOSURES • The Basel Commitee on banking supervision (BCBS, 2003) provides an overview of the disclosure practices of a sample composed of 54 internationally active commercial banks. • Several authors have examined if improved market risk information disclosures lead to increased transparency and more effective market.

7. II. IMPROVED MARKET RISK INFORMATION DISCLOSURES • Wong (2000) studied the association between SFAS no.119 derivatives disclosures and fx exposure of manufacturing firms. • Christofferson and al. (2001) tested, compared and combined VaR measures. • Berkowitz and O’Brien (2001) evaluated the accruacy of VaR at commercial banks.

8. II. IMPROVED MARKET RISK INFORMATION DISCLOSURES • BGFR (2000) published a case study on bank VaR disclosures and actual trading performance during the III Q of 1998. • Jorion (2002) found that VaR numbers, from 1995-2000, of 8 publicly traded U.S. banks provided reasonable predictions of the subsequent variability of their trading revenues.

9. III. TESTING THE INFORMATION CONTENT OF EAR AND EVEAR PUBLIC DISCLOSURE • Proposed testing procedure : We postulate that those institutions with the lowest (highest) ex ante relative EAR (EVEAR) measures ahould display the lowest (Highest) ex post relative changes in their earnings as a result of a given change in interest rate levels.

10. III. TESTING THE INFORMATION CONTENT OF EAR AND EVEAR PUBLIC DISCLOSURE • To do so, the following equation is estimated : • E t+1 = a + b EAR t (1) • E t E t

11. Table 1. DATA SAMPLE DESCRIPTION

12. IV. THE EMPIRICAL RESULT • OLS regression results indicates that : • Ex ante EAR numbers are not closely related to ex post variations in net interest income for the complete bank sample and the U.S. bank sub-sample • For the Canadian bank sub-sample the results are statistically significant at the 96% level.

13. IV. THE EMPIRICAL RESULT • Table 2. Results : Canadian banks

14. V. CONCLUSION • The study documents that EAR public disclosures were made by all banks in our sample. • EVEAR public disclosures were made by all Canadian banks but only a fraction of U.S. banks • A part from canadian banks’ EAR disclosures, EAR and EVEAR public disclosures did not explain the subsequent variability of banks’ net interest income overtime.