Selective Trading of Available-for-Sale Securities: Evidence from U.S. Commercial Banks

This paper examines the selective trading of available-for-sale (AFS) securities by U.S. banks after the implementation of fair value accounting under Statement of Financial Accounting Standards No. 115, Accounting Standards Codification Topic 320. Our findings suggest firms still engage in earnings management through selective selling of AFS securities despite the mandatory disclosure of unrealized security holding gains and losses in their financial statements. Such activities do not appear to be driven by the lack of reliability of the fair value measure. Instead, the degree of earnings management varies significantly with the reporting format of unrealized AFS security holding gains and losses. We find evidence of earnings management among banks that choose to report unrealized holding gains and losses in the statement of shareholders’ equity. By contrast, we find no such evidence among banks disclosing unrealized holding gains and losses in the income statement.