How Mark-To-Market Accounting is Killing the Financial Markets

How Mark-To-Market Accounting is Killing the Financial Markets

September 30, 2008 by
Angie Mohr  
Angie Mohr
Angie Mohr
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New Mark-to-Market Rules Are Precipitating the Financial Markets Meltdown

The 2008 financial markets meltdown represents a perfect storm of events coming together to create enough dead weight to collapse the whole structure. One of the levers in the financial crisis is the concept of mark-to-market, a regulation that forces banks to devalue their own assets and
How Mark-To-Market Accounting is Killing the Financial Markets
 thereby destabilize their balance sheets and, ultimately, their liquidity.

There are calls in Congress and from investment professionals to remove the mark-to-market rules as part of the bailout package on the House floor right now. Understanding what mark-to-market is and how the mark-to-market rules are intensifying the financial markets meltdown is the first step to changing it.

What Is Mark-To-Market?

Mark-to-market is a generally accepted accounting principle drafted by the Financial Accounting Standards Board to place a value on the financial instrument assets on a company's balance sheet. Financial instruments represent assets that derive their value from other assets. For example, mortgage-backed securities are "bundles" of mortgages sold as investments to banks and other financial institutions. The mortgage-backed securities derive their value from the mortgages that support them. If the mortgages have no value (i.e. no one is paying their mortgage), then the mortgage-backed securities do not have any value.

The goal of the mark-to-market rule was to objectively value assets that were difficult to place a value on. Clearer and easier-to-understand financial statements was the ultimate desired outcome.

As a Chartered Accountant, I welcomed the new mark-to-market rules and worked with many companies to implement them. Any rule that helps to value the balance sheet more accurately and more clearly helps the entire investment community. Unfortunately, the mark-to-market rule has had the opposite effect on corporate financial statements.

How Is Mark-To-Market Making The Financial Crisis Worse?

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Related information
Takeaways
  • Mark-to-market rules were intended to improve the transparency of valuation of financial assets
  • The current meltdown is partially due to using mark-to-market rules on marketless assets
  • Many investment professionals calling for an end to mark-to-market as part of the bailout package
 
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You hear all these people on CNBC deprecating mark to market and nothing from the president's economists. We still have market to market and everyone knows it sucks everyone down with it. How can it even be applied to bundled mortgages? What genius allowed that?
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Posted on 01/31/2009 at 4:01:51 PM

good info ty
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Posted on 12/23/2008 at 6:12:37 PM

Great article, very informative :) Sheri
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Posted on 11/11/2008 at 12:11:31 AM

Very enlightening. I think I understand more now about the subject than I did before reading the article.
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Posted on 10/04/2008 at 2:10:04 PM

I have just been informed that this bill has passed and some of the people who voted yes accepted briefcases full of cash to vote yes from some guys on Wall street. OMG!!!!!!!
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Posted on 10/03/2008 at 6:10:03 PM

I'm certainly not suggesting that we do away with valuation- simply bring in a better valuation model that reflects true value more clearly. The Mark-to-Market has always been problematic as it causes large and artificial income and loss swings on the p&l that do not reflect what is actually going on. Financial institutions match their asset portfolios to buckets of liabilities (or projected claims, in the case of insurers). If the asset is producing income and will ultimately have value a year from now when it will retire the related liability, then what its liquidation value is today is meaningless. We need to have more but better disclosure, not less.
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Posted on 10/02/2008 at 5:10:43 AM

There are two things killing this country, Reaganomics and Narcissism. I say we don't do away with the financial laws that keep these meltdowns from happening. I would like to see them put back in place. What you have suggested here is more doing away with these laws. If one were to make armed robbery legal then yes there would be less crime, but there would be more victims.
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Posted on 10/02/2008 at 5:10:32 AM

Well yes, it would help the bottom line. But these rules are there for a reason. More relaxing of laws and rules would just delay the problem and make it even worse I think.
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Posted on 10/01/2008 at 4:10:30 PM

Thanks Angie, you did a great job explaining this
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Posted on 10/01/2008 at 12:10:01 PM

This is well written. You obviously know what you are talking about. I see some of this differently than you. One of your first comments by "you wish" Has almost nailed the real problems on the head. sure there are things that can be done to look around the real issues, and your suggestions would do a good job of that. unfortunately greed did cause this. Who could Blame the less fortunate for not wanting to bail out these people again? Who could blame these people for thinking Bush is a liar? You have named one thing that could help the situation. "You wish" has named the exact cause of the problem. The comments that attack and insult him show just how unknowledgeable America really is. Until We become more knowledgeable and less narcissistic as collective group, any bailout will be like placing a band-aid on the hoover dam during a leek. I too have much experience in the area of Bank Finance.
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Posted on 10/01/2008 at 7:10:12 AM

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