Thursday, March 26, 2009


Mark to market rules requires firms to account for the price that individuals in the market are willing to pay for a given asset. In other words, if you own a car that Blue Book [which averages willingness to pay for car buyers] says is worth $10,000, you are required to list that asset as $10,000 on your balance sheet. You cannot claim, for example, that the car is worth $200,000 today because someday it might be worth the amount in the future.

The rule prevents the over-valuation of assets, and gives investors a clear view of the value of the firm as if the market were to value firm assets today.

The idea that removing " mark to market" rules will somehow do away with our current problem is fundamentally wrong.

The underlying assets, [i.e., the mortgages] are simply not worth what the banks thought they were worth.

This came about from a breakdown of sound business protocols in terms of assessing both value and risk on the part of several market players--loan originators, debtors, bundled loan buyers, and rating agencies.

First, anyone who believes that a house selling for $200,000 in January is suddenly worth $300,000 in June is a fool.

Banks who gave loans of $300,000 for such properties were just plain dumb.

Secondly, anyone who took out a loan for $300,000 on a house that had been sold for $200,000 a few months before is a fool.

Opponents of mark-to-market argue that the "true value" [what ever that is] of the assets are not being "properly" assessed at this moment in time, and so we should allow firms to make up a "better" price for these assets.
Did the stock price drop following the Sept. 11 attacks in NYC really reflect the true value of the firms pulled down by the reactions?

Of course not, and those with the calmness of mind and the strength of pocketbook at the moment in time made out like bandits when the market subsequently rebounded.

The same thing happened when the Dow fell 770 points after the failure of the House to pass the Paulson bailout bill, then rebounded 485 points the day afterward.

The problem, or course, is that no one knows what the value of these mortgage-backed assets in the future will be. We rely on the pricing mechanism to discover this, and there is no way of knowing how the market might price these assets in the future.

The economy can only work out this situation in one of two ways--it can have a massive deflation of asset values [which is what is happening now, and is what smothered the Japanese economy for over a decade] or it can have massive inflation in wages to bring wages into line with these overvalued assets.

Anyone who believes that the aforementioned house will go back up in value to $300,000 is selling something--most probably a mortgage-backed security.