The Market Pricing of Other-than-Temporary Impairments

Abstract:     
When the fair value of an investment security falls below amortized cost and there is significant doubt that the firm can hold the security until the fair value recovers, an other-than-temporary impairment (OTTI) is recognized in net income. Thus, an OTTI is a disclosure about the prospect of recovering an unrealized loss. Our findings suggest that OTTI disclosures were informative to investors during and after the financial crisis. Investors were unable to fully anticipate reported OTTIs, and priced OTTIs incrementally to reported unrealized gains/losses. We also find evidence that the 2009 OTTI bifurcation rule isolated the value-relevant component of OTTIs. Our results suggest that apprising investors, via an OTTI, that there is significant doubt that the firm can recover unrealized losses changes how investors price the losses. The results inform recent standard-setting initiatives to expand disclosure about changes in fair value.

Number of Pages in PDF File: 51

Keywords: fair value accounting, mark-to-market accounting, other-than-temporary impairments, unrealized losses, other comprehensive income, financial crisis, commercial banks

JEL Classification: M41, M42, M44

working papers series