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Mark-To-Market? How About…



February 25, 2009 – Comments (1)

OK: you are a mega-financial-institution. You manage assets of $100b. There are all kinds of rules telling you how to place a $$$ value on those assets that are in your deep, underground, secret vault. Some are easy to evaluate: a thousand ounces of gold, 500 round lots of GOOG. But others are rather more tricky (level 3). You have one box of goofball papers: you are not sure what they are, but the word “tranche” is all over them. What are these things worth? You make several phone calls to powerful trading houses that turnover $1T per day, and even they are not sure. The last time they sold one of your thingies was 8 months ago, and were really kinda different, and they say they got no idea.

Now: the accountant comes around, and asks: what is the value of these “tranche” things? You have no idea, so use the GAAP method of valuation, and find out that they are worth 5¢ on the $. You now discover that your financial institution is insolvent, call the FDIC, game over dude.

Thus is my view of the current GAAP rules for “fair value” of level 3 securities, those that trade so infrequently that any statement of their $ value is a joke.

But wait: there is a similar commodity that has similar valuation problems. You have 3 ceramic plates containing color wheels and cryptic letters. You take it to the appraiser folks on that PBS TV show “Antiques Road Show”. They inform you that these are test glazes from the Wedgewood factory, circa 1939. They were trying out new colors and materials, so made some test samples, fired them, and submitted them to QA/QC for evaluation. The appraiser, with an English accent so thick that you have trouble understanding him, tells you that he is shocked that such items exist at all. Such items have never come up for auction, and there is no way to tell what they are really worth on open auction or in a gallery. Yet, he comes up with a $ value.

Well, their auction estimates are not always spot on, but not at all unreasonable and certainly within reason when these rarities are actually sold at auction. I say: LET THOSE APPRAISER FOLKS ON THE ANTIQUES ROADSHOW DETERMINE THE CARRYING VALUE OF LEVEL 3 ASSETS.

1 Comments – Post Your Own

#1) On February 25, 2009 at 10:53 PM, checklist34 (98.76) wrote:

Just wait until mark to market starts ADDING BACK to portfolios...  then we'll have the next bubble. 

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