A framework for assessing comprehensive income risk exposure over varying time horizons

A framework for assessing comprehensive income risk exposure over varying time horizons This paper develops a novel, intertemporal approach to assessing comprehensive income risk exposure. While a large body of accounting and policy literature focuses on quality and reliability attributes, the present study employs the premise that fair value and comprehensive income are perfectly measured at all times. In this framework, the context-sensitive impacts of comprehensive income volatility stem from the structure and dynamics of the value generation process rather than variations in measurement quality. These impacts occur concurrently with measurement related effects, but are treated as conceptually distinct. The results illustrate how factors such as risk horizon, trading frequency, and portfolio composition can affect the severity of risk exposure over time. Applied to patterns of unrealized fair-value changes in US bank available-for-sale portfolios, the model significantly improves on the most widely accepted convention for multiperiod risk aggregation (the so-called square-root-of-time or “sqrt(t)” rule). The proposed approach has direct application to value-at-risk and stress-test methods estimates that use horizon-dependent volatilities as inputs. From a financial reporting standpoint, the proposed framework affirms the utility of the “mixed measurement” accounting model and supports multifaceted or “dual presentation” approaches to financial statements. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Quantitative Finance and Accounting Springer Journals

A framework for assessing comprehensive income risk exposure over varying time horizons

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Publisher
Springer US
Copyright
Copyright © 2014 by Springer Science+Business Media New York
Subject
Economics / Management Science; Finance/Investment/Banking; Accounting/Auditing; Econometrics; Operations Research/Decision Theory
ISSN
0924-865X
eISSN
1573-7179
D.O.I.
10.1007/s11156-014-0457-1
Publisher site
See Article on Publisher Site

Abstract

This paper develops a novel, intertemporal approach to assessing comprehensive income risk exposure. While a large body of accounting and policy literature focuses on quality and reliability attributes, the present study employs the premise that fair value and comprehensive income are perfectly measured at all times. In this framework, the context-sensitive impacts of comprehensive income volatility stem from the structure and dynamics of the value generation process rather than variations in measurement quality. These impacts occur concurrently with measurement related effects, but are treated as conceptually distinct. The results illustrate how factors such as risk horizon, trading frequency, and portfolio composition can affect the severity of risk exposure over time. Applied to patterns of unrealized fair-value changes in US bank available-for-sale portfolios, the model significantly improves on the most widely accepted convention for multiperiod risk aggregation (the so-called square-root-of-time or “sqrt(t)” rule). The proposed approach has direct application to value-at-risk and stress-test methods estimates that use horizon-dependent volatilities as inputs. From a financial reporting standpoint, the proposed framework affirms the utility of the “mixed measurement” accounting model and supports multifaceted or “dual presentation” approaches to financial statements.

Journal

Review of Quantitative Finance and AccountingSpringer Journals

Published: May 23, 2014

References

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