Value Relevance of Disaggregated Information: An Examination of the Rate and Volume Analysis of Bank Net Interest Income

Abstract

SYNOPSIS A potentially important form of financial information disaggregation is to segregate the change in an income measure into its underlying performance drivers. In this study, we perform a comprehensive analysis of the usefulness of such disaggregation to investors. We utilize the volume and rate analysis in banks' 10-K filings, in which banks disaggregate annual changes in net interest income into changes in the balances (“volume variance”) and changes in the rates (“rate variance”) of assets and liabilities. We document that volume and rate variances are associated with bank characteristics, including market power, funding sources, and credit risk. We find volume and rate variances are predictive of future net interest income and are positively associated with stock returns and prices, suggesting the disaggregated information is value relevant. Our study informs regulators and users by showing that disaggregated information along volume and rate dimensions has predictive and confirmatory value.

Bank interest rate risk management and valuation of earnings

“…NII/EA t +1 has a mean of 3.8 percent and standard deviation of 0.7 percent ( t is from 1997 and 2012). The distributions of control variables are comparable to those documented in the prior literature (e.g., Burke et al ., 2020). The correlation table in Panel B suggests a positive correlation between NII/EA t +1 and NII/EA t .…”

“…Specifically, Burke et al . (2020) suggest that banks’ market power, loan composition, funding from non‐interest‐bearing deposits, credit risk and size are related to net interest income. English et al .…”

“…Banks with more persistent earnings have a more sustainable cash flow stream that will make it a more useful input into discounted cash flow‐based equity valuations. Prior research provides ample evidence that more persistent earnings have a stronger valuation effect in the broad stock market as a whole (Collins and Kothari, 1989; Easton and Zmijewski, 1989), and in the banking industry in particular (Kohlbeck and Warfield, 2007; Burke et al ., 2020). Hence, if it can be shown that earnings persistence is related to a particular interest rate risk management metric, then that metric would be an important valuation tool.…”

“…Maturity gap is the difference between rate‐sensitive assets and rate‐sensitive liabilities that reprice over some predesignated time period (usually one year). However, traditional maturity gap analysis, although straightforward and widely used (Ahmed et al ., 2004; Burke et al ., 2020), has well‐recognised limitations; for example, rates on assets and liabilities do not typically change by the same amount in response to market interest rate changes.…”

“…This paper also contributes to the banking literature on interest rate risk management. Most works in this area investigate the determinants of bank profitability, measured by net interest margin, using theoretical modelling and/or empirical analysis (e.g., Ho and Saunders, 1981; Angbazo, 1997; Saunders and Schumacher, 2000; Trujillo‐Ponce, 2013; English et al ., 2018; Burke et al ., 2020). They show that banks’ interest rate risk exposure and management are important determinants of bank profitability, among other factors, such as the size of bank transactions, banking market structure and credit risk.…”