New Accounting Practices Will Boost Bank Equity Values

Includes: GS, JPM
by: Andy So

In case you missed it, the SEC has announced new accounting rules that will help companies value illiquid assets.

Taken from this article, Rethink of rules on value boosts banks

The Securities and Exchange Commission said on Tuesday that managers could use their own judgment when valuing securities in illiquid markets, which means they can use measurements other than actual market prices.

I believe this is utter hogwash. Bank managers should never be allowed to use a measurement other than Mark to Market to value an illiquid asset. This kind of accounting applied to a typical wholesaler would create a huge mis-valued inventory. Lets say I owned a company that sold sportswear. If there were suddenly no market for my particular brand of sportswear, the new accounting rules would allow me to book a subjective value for the inventory assets instead of basing them on true closeout prices.

The new rules will benefit most of the large banks such as JP Morgan (JPM) and Goldman Sachs (GS). I’m not sure if the SEC’s decision is wise, since it will just mask the problem of investor confidence and an on-the-brink failure of the OTC derivatives market. I believe the new rules will also give leeway to possible accounting manipulation. For investors, the rules further obscure our ability to determine the value of a company's equity.

Mark to Market is an important principal behind our financial ecosystem. To read more about Mark to Market, I suggest this article, Financial Crisis: Mark to Market Accounting Demystified.

Taken from the article:

[Mark to Market]…was primarily intended to prevent shady accounting practices that hide underlying liabilities. The Accounting Standards bodies were concerned that companies were keeping “bad” assets on their books instead of “writing them down” to their real value (assigning a new, lower value to the asset). Mark to Market gives investors a much better “picture” of the health of the company if their assets are correctly priced (i.e. market price).

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