unrealized gain for trading securities?

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jgrandits

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Hello,
After reading about realized/unrealized gains it did not seem to make sense that unrealized gains for trading securities flow through to eqy as retained earnings?
Not real strong in the accting aspect of this material so perhaps someone with expertise in that aree can explain? Seems like the gain would have to be realized before it can flow through to retained earnings/eqy.
Thanks, John
 
hmmm it’s the whole opposite. UR G/L from trading securities go into the income statement while UR G/L from available-for-sale securities go into R/E.
my 2c: trading securities are very liquid so there is a high probability of the G/L being realized in the short term. that’s why you include it in the income statement. on the other hand, available-for-sale securities can be sold in the short or long term, so the probability of the G/L being realized are uncertain.
 
ehhh not really JS. unrealized gain losses from trading securities hit the income statement, therefore affecting net income. They flow through to retained earnings that way NI - Div = change in RE.
Unrealized G/L on available for sales, go straight to equity, but not to retained earnings. They go into other comprehensive income.
 
Unrealized gains and losses on available for sale securities go to other comprehensive income, while gains and losses from trading securities goes to net income (and eventually retained earnings).
I can understand your confusion on why unrealized gains and losses are included in equity (whether retained earnings or other comprehensive income), but the reason is actually quite simple. Available for sale and trading securities are kept on the balance sheet at market value, not book value. Therefore, every time the securities change in value, your total assets change in value. Because of double entry accounting, when total assets change, so do either liabilities or equities. For available for sale securities, other comprehensive income increases or decreases by the same amount. For trading securities, you’ll have an increase or decrease in both retained earnings and income tax payable (I think it’s taxes payable anyway).
Cash flow is not received until the items are eventually sold however.
Hope this helps!
 
thanks sbmarti2, that was helpful…..the ole double entry thing again.
 
js1234 Wrote:
——————————————————-
> hmmm it’s the whole opposite. UR G/L from trading
> securities go into the income statement while UR
> G/L from available-for-sale securities go into
> R/E.
>
> my 2c: trading securities are very liquid so there
> is a high probability of the G/L being realized in
> the short term. that’s why you include it in the
> income statement. on the other hand,
> available-for-sale securities can be sold in the
> short or long term, so the probability of the G/L
> being realized are uncertain.
Trading securities aren’t necessarily more liquid just because they are trading over AFS (or HTM). It is the decision of management at the purchase of the security based on future business activity. You could very well have a junk CDO held as trading and a 10 year US treasury held as AFS or HTM. However, transfers b/w Trading, AFS, or HTM should only occur rarely, and generally management must heavily disclose the reasoning.
 
so the decision to denote a security AFS, HTM, or trading is based on future business activity and not on liquidity or value/forecast for security itself? seems like it would be counter-intuitive to place a non-liquid securiry, ie junk CDO/bond, as a trading security if you may need ready access to the capital, opposed to something you can trade in/out of fairly quickly.
thanks, John
 
So the G/L of available for sale securities are not taxable. Could somebody explain that, please!
 
I’m not sure about this and I only vaguely remember the process. I do not recall reading it in the CFA texts, and I checked and it’s not in the Schweser. If it’s in the CFA text I’ll check later and let you all know.
Anyway, I think what happens is that the unrealized G/L to other comprehensive income is all done in the interim between the security being listed as available for sale, and then actually sold. I think the unrealized G/L is reversed when it is sold (net effect of zero), and then a realized G/L equal to sale price- historical cost is recognized as a realized gain on the IS. This realized gain is taxable in the period the asset is sold.
Again to reiterate, I don’t know this for sure, or even if it is on the Level 1 curriculum. Hopefully someone more knowledgeable than me will either prove or disprove it.
 
jgrandits Wrote:
——————————————————-
> so the decision to denote a security AFS, HTM, or
> trading is based on future business activity and
> not on liquidity or value/forecast for security
> itself? seems like it would be counter-intuitive
> to place a non-liquid securiry, ie junk CDO/bond,
> as a trading security if you may need ready access
> to the capital, opposed to something you can trade
> in/out of fairly quickly.
>
> thanks, John
Everything is liquid, at the right price.
 
manowar Wrote:
——————————————————-
> So the G/L of available for sale securities are
> not taxable. Could somebody explain that, please!
REALIZED gains and losses are taxable/deductible for both trading and AFS securities. UNREALIZED gains/losses are not taxable/deductible for trading nor AFS securities. The difference is that unrealized gains/losses appear on the Income Statement for trading securities, and in OCI for AFS securities. An unrealized gain/loss on a trading security would be a temporary difference between income for financial reporting purposes and tax purposes until the security was sold (and based on the price movements of said security).
 
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