Regarding the impact of market rate changes to B/S and I/S sheets
My question is in regards to the impact of changes in the market rate and how that flows into the corresponding financial statements. More specifically, I'd like to know if I'm picturing the overall effects (to both financial statements (B/S and I/S) - not just each individually) correctly.
Lets assume 2 things:
1) Market Rate increases
2) we have each of the 3 types of bonds (HTM, AFS, HFT)
Consequence:
1)discount rate increases
2) B/S effect: HTM (no change since booked using AV), AFS & HFT decrease as they are booked by FV. Also Liabilities decrease.
3) I/S effect: HTM (no change), NI (since HFT and liabilities decrease, the net effect depends on the magnitude of each change), OCI (decrease since AFS decreases).
Firstly, is the above correct?
Secondly, given these changes, should I expect to see the values on the B/S adjust accordingly AND also to see the net effect changes to the I/S (which eventually flow into equity)? In other words...lets say I can fix everything and only analyze the effect of liabilities...from what I understand if rates go up liabilities goes down on the B/S and in addition the net change (positive in this case) in liabilities flows into NI and into Equity. Essentially...B/S liability goes down, and equity increases by the same amount. This seems to make sense...
Thank you!
Comments
Your 3 points are correct (and agree with that given at https://www.battleactsmain.ca/wiki6c/CIA.Accting) . When you look at the balance sheet, at the end of the day, it must balance, so a change in one item on the balance sheet will have to be offset somewhere else in the balance sheet.
Just going with your example of isolating and analyzing the effect of liabilities, this links back to the table in https://www.battleactsmain.ca/wiki6c/CIA.Accting relating to "Liabilities" (3rd column is titled liabilities).
So rates go up (first column of table) -> liabilities go down (3rd column of table) -> equity increases. This is in line with what you have said.
Just remember that in the above example, we've isolated and analyzed the effect of liabilities. We should also do the same for assets (based on the table where the 3rd column is titled assets). In this case, rates go up -> assets go down -> equity decreases.
So the overall impact on equity once you consider the effects of assets and liabilities together could be an increase or decrease (if you look at the table where the 3rd column is titled 'A + L', it says 'depends' under Equity). Put one other way,
Equity = Assets - Liabilities. If Assets go down and Liabilities go up, I can't really say what the impact would be on Equity without knowing the magnitude of the decrease in assets and increase in liabilities
Picture is getting clearer...thanks Javid