Thursday, April 9, 2009

Chanos on MTM

"Mark-to-market (MTM) accounting is under fierce attack by bank CEOs and others who are pressing Congress to suspend, if not repeal, the rules they blame for the current financial crisis. Yet their pleas to bubble-wrap financial statements run counter to increased calls for greater financial-market transparency and ongoing efforts to restore investor trust. We have a sorry history of the banking industry driving regulatory changes. Now banks want accounting fixes to mask their recklessness. Meanwhile, there has been no acknowledgement of culpability in what top managment in these financial institutions did--despite warnings--to help bring about the crisis. Theirs is a record of lax risk management, flawed models, reckless lending, and excessively leveraged investment strategies. In the worst instances, they acted with moral indifference, knowing that what they were doing was flawed, but still willing to pocket the fees and accompanying bonuses. ... Before MTM took effect, the Financial Accounting Standard Board (FASB) produced much evidence to show that valuing financial instruments and other difficult-to-price assets by 'historical' costs, or 'mark to management,' was folly. ... MTM rules also give banks a choice. MTM accounting is not required for securities held to maturity, but you need to demonstrate a 'positive intent and ability' that you will do so. Further, an SEC 2008 report found that 'over 90% of investments marked-to-market are valued based on observable inputs. Financial institutions had no problem in using MTM to benefit from the drop in prices of their own notes and bonds, since the rule also applies to liabilities. And when the value of the securitized loans they held was soaring, they eagerly embraced MTM. ... And one wonders if they are as equally willing to forgo MTM for valuing the same illiquid securities in client accounts for margin loans as they are for their proprietary trading accounts? ... There is a correlation between efforts over the past 12 years to reduce regulatory oversight, weaken captial requirements, and silence the financial detectives who uncovered such scandals as Lehman and Enron. ... It isn't lost on investors that the MTM criticisms come, too, as private equity firms must now report the value of their investments. The truth is the market is functioning correctly. It's just that MTM critics don't like the prices that investors are willing to pay. The FASB and ... [SEC] must stand firm in their respective efforts to ensure that investors get a true sense of the losses facing banks and investment firms. ... Unfortunately the FASB proposal on March 16 represents capitulation. It calls for 'significant judgment' by banks in determining if a market or an asset is 'inactive' and if a transaction is 'distressed.' This would give banks more discretion to throw out 'quotes' and use valuation alternatives, including cash-flow estimates, to determine value in illiquid markets. In other words, it allows banks to substitute their own wishful-thinking judgments of value for market prices", my emphasis, James Chanos at the WSJ, 24 March 2009.

Three cheers for JC! JC at 24 did better analysis than all the highly paid Wall Street analysts. I have made most of JC's arguments. Bank accounting and auditing stinks! It will get worse. Where was today's investors Saladin, Mary Schapiro (MS) at the recent "Barney Frank" (BF) hearings? Why didn't MS show up, testify and tell BF off? Why ask? For that matter, why didn't the members of that great singing group, The Keating Five tell BF & Co., what they did in 1986 and what it led to? Well John McCain, would be president. Where were you?


Anonymous said...

"...And one wonders if they are as equally willing to forgo MTM for valuing the same illiquid securities in client accounts for margin loans as they are for their proprietary trading accounts?"

Yea Chanos... keep asking this type of question... GS Blankfein said as much recently (which shocked me... he said institutions shouldn't be allowed to price the same security differently in different parts of the company...)

Ms Shapiro? I'm not expecting much... she's a tool of Wall Street... although I'd love it if she woke up one day and really tried to protect investors...

Anonymous said...

The US is the biggest banana republic in the world with a corrupt bunch of whores running the show.