As Losses Mount, Banks Want Rewrite of “Fair Value”

To say that write-downs have many bank’s income statements and balance sheets in a pinch is probably an understatement; the mortgage and credit mess has hit nearly every major financial market participant with a vengeance, to a tune louder than $300 billion thus far. And it’s likely to continue to do so, if you believe many of the analysts that follow credit markets closely enough. In some ways, then, it seems to have been an inevitability that at some point the world’s largest financial institutions would chafe under having to account for all of these losses; shareholders, after all, tend not to like such things. The Financial Times, citing a proposals on “fair value” accounting by the Institute of International Finance that it obtained, said Wednesday evening that top banks are now upping the pressure on relaxed write-down rules they claim will help the market gain greater stability. In particular:

Under the plan, which has been obtained by the Financial Times, banks that decided to keep assets on their balance sheet would also be freed from the requirement to hold them to maturity and would be able to sell them after two years … The IIF’s paper says: “The writedowns required under current interpretations may be substantially in excess of any actual or reasonably probable loss on many instruments”.

In plain English — and to generalize some very complex accounting rules — banks faced with assets that are devaluing at rocket-ship speed have two options: recognize the losses on assets held for sale, which then flow through to the income statement and impact earnings; or recognize the devalued assets as held for investment, which means the losses stop on the balance sheet and don’t hit earnings unless they are deemed “other than temporarily impaired.” An asset held for investment must be held to maturity, which is somewhat problematic for a financial institution that may want to periodically purge its balance sheet of trash; hence the proposal that would allow a bank to unload an asset after just two years. As for assets held for sale, they must be marked to market, which can also be problematic if you stubbornly believe the market has devalued the assets beyond some instrinsic value — under the IIF proposal, the FT reports that banks want to be able to mark assets using historical prices instead. Here at HW, we don’t pay for access to Lex, the FT’s expensive alter-ago — but it’s clear that even Lex has a bad taste in (her?) mouth over the proposal.

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