A $1.9 billion accounting gain by Citigroup, more than half of the $3.8 billion net income it reported for the third-quarter, highlights a controversial accounting rule that analysts say is adding volatility to many large banks' reported earnings.

They expect it to continue to be a factor as more banks report earnings in the coming weeks.

Last week, JPMorgan Chase & Co. reported an identical gain. Other banks that use the same accounting treatment include Goldman Sachs, Morgan Stanley, Bank of America, HSBC, Barclays and many German banks, according to Moody's senior credit officer and bank accounting specialist Donald Robertson.

The rule allows banks to value some types of assets and liabilities on a mark-to-market basis. In the case of JPMorgan and Citigroup, a weakening of the banks' debt relative to U.S. Treasuries is what has led to these reported gains.

As their debt lost value, it became cheaper for the banks to retire the debt if they chose to do so. The chance to retire debt at a price below its issue price produced the gain Citi and JPMorgan are reporting, and the boost to reported earnings.

"It just creates noise when trying to compare one bank to another," said Moody's Robertson.

The rule makes it harder to compare companies because banks have wide discretion on how they apply it. They can use it on financial liabilities with some exceptions, including deposit liabilities or deferred tax liabilities. Or they can use it only for certain individual instruments, and not for others.

It's a degree of latitude that makes it difficult to compare one bank with another and to predict how big an impact it will have on a bank prior to its reported earnings.

Once a bank chooses to use the rule, it must stick to mark to market valuation until the liability in question expires or otherwise disappears.

'UNIVERSALLY DESPISED'

"This is the most vilified accounting rule I've ever seen. It's amazing how universally despised it is," said Robert Willens, author of the Willens Report, which analyzes corporate accounting and tax matters.

It does have some supporters, however, and they argue that the rule highlights valuable information that otherwise would be absent from quarterly reports. In Citibank's case, it is the bond market's view that its bonds are getting riskier.

"There is good information in these gains," Jack Ciesielski, an independent accounting analyst and publisher of The Analysts' Accounting Observer told Reuters by email.

"They are telling you the degree of faithlessness existing in the bond market for these companies. The fact that we see them in a big way for the first time since the credit crisis is disconcerting," he said.

In practice, analysts tend to knock these figures out of their earnings analysis, arguing that a gain or loss this period may be reversed in the future, said Ciesielski, and that the figures don't pertain to ongoing profitability.

Of the 1,000 banks Moody's tracks globally, about 70 use this accounting, including many of the largest banks, Robertson said. Moody's analysts strip it out of their earnings figures.

With controversy swirling, rulemakers are considering changing the rule, according to Robert Stewart, a spokesman for the Financial Accounting Foundation, an overseer of rule-making for U.S. accounting.

The original aim of the rule, which went into effect November 2007, was to address the mismatch between assets, which financial companies often carry on their books at fair market value, and liabilities carried at cost, Stewart noted.