Litigation

The buzz phrase  "Mark To Market" dominated the financial press in the last few weeks. The Federal bailout bill gives the United States' Securities Exchange Commission (SEC) the power to suspend the mark-to-market accounting rule. But what is "mark to market" and what does it mean in terms of long term financial security?

The Financial Accouting Standards Board (FASB) has been delegated the authority to establish standards of financial accounting and reporting for private-sector entities, including business and not-for-profit organizations. The Norwalk, Connecticut based FASB standards are recognized as generally accepted and authoritative and are intended to be decision useful.

FASB Statement 157 requires companies to disclose how much of their financial instruments are valued using quoted market prices, how much are measured using valuation models, and how much come from models using inputs that aren't observable in the market.

Under FASB Statement 157  many companies had been forced to make large mark downs of the value of mortgage backed securities due to their inability to sell them, resulting in margin calls from investors, even when cash flows from the securities suggested a much higher value. The SEC has recently acknowledged the market for mortgage backed securities is not "orderly" and fair value standards can be more liberally applied to reflect the expected cash value.

On September 30, 2008 the SEC issued clarifications (Release 2008-234) regarding the implementation of fair value accounting, to help address concerns regarding the impact of fair value measurement on financial institutions holding mortgage backed securities. The new SEC guidance helps clarify that forced liquidations are not indicative of fair value, as this is not an "orderly" transaction. Further, expected cash flows from such instruments are an appropriate means of valuation, subject to applicable adjustments for default risks.

Commentary exists on both sides of the issue

On April 1, 2008 Slate.com commented "you'll notice that they never made that argument back when markets were irrationally optimistic, as they were from 2003-2006. No hedge fund manager ever told a bank that it should lend him less money because the value of the collateral he was putting up was clearly a product of unwarranted optimism or that he shouldn't collect management fees based on the assets under management because their value was clearly inflated. Nobody ever complains about the market's ruthlessness and inefficiency when it's making them money".

Washington Post Op-Ed "SEC Clarification May Help Markets" September 30, 2008

Thee International Accounting Standard Board said on Friday it would immediately consider changing its own rules, followed by all European banks, to match the US standards according to a report in London's Financial Times on October 4, 2008.

It would be helpful if the National Association of Insurance Commissioners NAIC) issued a statement concerning the valuation of mandatory insurance reserves.