The good news from UBS today is that it expects to post a modest profit for the third quarter. This is in spite of losing $2.3 billion through the unauthorized trading of Kweku Adoboli. On top of that, the woefully inadequate risk oversight that Mr. Adoboli so painfully exposed has forced UBS to hasten the shrinking of its investment bank, incurring restructuring charges. However, in spite of these twin blows to the results, UBS expects to include a $1.5 billion Swiss franc profit from widening credit spreads on the debt. That’s right, because the company’s self-inflicted wound has soured investors on the bank’s prospects and therefore raised the yield on the debt, in the topsy-turvy world of accounting this is counted toward its profit. The green eye-shade logic is that because UBS owes money (on the bonds issued) the lower price for the bonds implies the value of what UBS owes has gone down. It’s the same as if the investors in those bonds just decided to forgive 5% of the face value.
Of course, UBS still owes the same amount of money, and borrowing just became more expensive for the company. But the Looking Glass world of liability accounting regards this differently. So when UBS announces a profit for the third quarter, remember that it came about through the market’s recognition of its weak risk management structure.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.