In the Fiduciary Lessons Learned from Scoundrels and Thieves Webinar two weeks ago, Fiduciary Finding #4 was: Value isn't a matter of opinion. We then spoke on the importance of mark to market pricing and independent valuations when dealing with non- or lightly-regulated securities in non-auction exchanged settings.
One question sent in from our audience regarding mark-to-market was how can it be relied upon as an accurate indicator of asset value in severe market downturns or failures, as we've seen recently in the banking industry?
There has been much written on this criticism of mark-to-market. A study from the University of Chicago's Booth School goes over the inefficiencies of mark-to-market vs. the inefficiencies of historical cost valuation, concluding, basically, with "it's complicated." The Seeking Alpha blog has a great post on the controversy and advocates a hybrid model of mark-to-market and historical cost. And, this article from Associated Content gives the short and sweet argument for why mark-to-market is harmful, especially when dealing with securities that are built for long term maturity.
While these are legitimate arguments and the potential for negative consequences are real, the bottom line is that marking to market provides full transparency that is in the best interests of investors and a necessity for fiduciaries. It takes a sophisticated investor or analyst to determine real value in these investments, and if mark-to-market pricing or independent valuations are not available, then a fiduciary probably doesn't have the necessary information to justify this type of investment. We're not debating the effects of mark to market on the relative health of the financial industry, we're advocating for fiduciaries to make prudent investment decisions in a environment of full transparency.
In this article from Bloomberg, an analogy is made comparing mark to market to forcing a homeowner in California to value their house as a wildfire is approaching his doorstep, saying it would bankrupt them. But the reality is that the banks were going ahead and selling that house while conveniently omitting the fact that the building was already burning.
Other Resources:
- The SEC's recent study on mark to market, which includes extensive discussion of SFAS No. 157, which was another question from the Webinar.
- The Financial Accounting Standards Board's Summary of Statement No. 157
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Check back as we answer more questions from the webinar and leave your thoughts in the comments below.
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