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Change The Rules of The Game

Posted by Larry Doyle on March 13, 2009 8:07 AM |

Well, when you do not like how a game is going, change the rules.

The primary reason for the market rally yesterday was a Congressional hearing pressuring FASB (Financial Accounting Standards Board) to revise its rule known as the “mark-to-market.”  Thank you FL for providing a heads up on this hearing.

In layman’s terms, the mark-to-market is the equivalent of inventory valuation.  Nobody likes when inventory declines in value but if that is the reality, then so be it. Would your banker laugh at you if you told him you weren’t going to properly mark inventory? Do you think he’d continue to offer you a line of credit? Are we supposed to invest in banks without a credible mark-to-market?

I have VERY mixed feelings about changing this rule. I do think there are merits in never having imposed this rule for certain less liquid assets, such as commercial real estate. However, the pressure banks are applying on Congress and Congress, in turn, on FASB is for a suspension of the mark-to-market on so called super-senior classes of CDOs.

Make no mistake, if this rule is changed it will provide capital relief because the “inventory will not have to be marked down.” However, it comes at the price of a lack of transparency and full understanding as to a bank’s true capital position. I recall writing in my very first piece on October 14th:  

if the government accedes to the pressure being applied to suspend the mark to market accounting principle, I would expect that move would only prolong the underperformance of the economy . . . I view a suspension of the mark to market as the equivalent of an agreement to officially allow one to “cook their books”

I hold the same opinion today.  We will see a lot more on this topic over the next few weeks as FASB Pledges Mark-to-Market Guidance Soon.


  • fiscalliberal

    Larry – I spent 4 hours last night viewing the Mark to Market Hearing. First of all they are not talking about suspending it. They are talking about modifying it such that if 10% of the asset is not performing, the whole asset should not be marked down to zero. Kind of makes sense. The problem is the collapsing market and the finacial types found themselves overleveaged. It is zero only if you have ot sell it. The nvestment banks got themselves in this mess and I have no sympathy for them. Not every one has to sell the assets and they accounting rules are cutting credit markets for prudent people. A unintended consequence.

    I get the very definite impression that SEC and FASBY are not relevant to their customers needs. The FASBY guy tried the age old tactic of saying we are working on it and will get back to Congress. He was told that he had three weeks and if they did not move, Congress had legislation in the que to resolve the situation. There was unanimous opinion on both sides of the isle on this.

    So – just like the Fed was urged to move on identifying AIG counterparties, FASBY was told to get moving. SEC seemed to be pointing the finger to FASBY with some credibility. Like the FED announcment the next day, hopefully we can hear from FASBY today late Friday.

    My lay view at this time is that Mark to Market is a goog concept in a normal market. This is not normal and there is apparently a procedure for the accountants to go to tier thee information and roll up their sleeves, justifying their rationale in the notes.

    Yes it is not black and white, however the mechanisms are there and they just need to start using it.

    I would urge anybody to spend the time to view the hearing on the finacial services website. For neophytes and taxpayers like me, bailing out these financial institutions, it is very enlightening.

  • Larry Doyle

    Fiscal…Thanks for your color and perspectives. It is appreciated.

    My sense is that we will see MASSIVE spin at this juncture. We will see banks use the “zero” price to accentuate their case. I think back to a quote from our friends at 12th Street Capital about liquidity being abundant but it is just not at prices that banks like.

    Whether it is termed a suspension or a modification, effectively the banks, now seemingly with Congressional support, are trying to buy time to generate revenues and let the market recover. In my opinion, the modification of this rule will cause an overhang in the market of securities and the homes behind those securities. That overhang will prolong our economic underperformance while serving to abate the short term pain.

    I also see real moral hazard here as well.

    What other accounting rules currently being applied are restricting the banks?

    If the banks and Congress wanted real credibility, in my opinion, they would have already engaged a comprehensive study group of all concerned parties, issued a report, and if deemed necessary, could then implement change at a date in the future. That approach to me would seem to promote some real integrity into the process. This “rush” strikes me as a fire drill.

    Also, you’re no neophyte!!

  • Mountainaires

    Did someone make promises to Ken Lewis?

    On Thursday, Bank of America Corp. Chief Executive Ken Lewis said that he is optimistic that potential changes to the mark-to-market accounting rule could help companies struggling with massive write-downs.

    After a speech in Boston, Mr. Lewis said, “I actually think we will get some relief,” referring to the potential for changes.

  • Quid pro quo…we have seen this game played before!!

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