And Poof, the Banksters' losses disappear

[deminks]

It's like magic, isn't it? Cover up, change the rules, what economic crisis?

'That's not the crisis you're looking for... Move along.'

http://www.washingtonpost.com/wp-dyn/content/article/2009/04/02/AR2009040201405.html

NORWALK, Connecticut (Reuters) - U.S. accounting rulemakers bowed to congressional and financial industry pressure on Thursday by allowing more flexibility in valuing toxic assets, a move expected to boost bank earnings and improve their capital levels.

The five-member Financial Accounting Standards Board voted unanimously to let banks exercise more judgment in using mark-to-market accounting that has forced billions of dollars in writedowns and been blamed for worsening the recession.

But the board split 3-2 on backing guidance that would let lenders take smaller losses on impaired assets such as mortgage backed securities, a move critics said would let banks hide reality from investors.

The accounting changes were credited with helping U.S. stock rally for a third day, by supporting optimism the financial sector will stabilize in the short term.

Many lawmakers, banks and other supporters of the changes argue that pricing assets to firesale prices during a time of inactive markets has exacerbated the financial crisis through the writedowns, big earnings hits, damage to capital ratios, and a reduced ability to lend.

Investors and some former regulators take a different view, saying that more flexibility with the rules would let big banks hide the real value of their troubled assets.

[TexasObserver]

1. It's a wise decision, and needed to be done.

Mark-to-market accounting has created a situation that undervalues assets, and categorizes some otherwise functioning debt as being undersecured and therefore bad debt that should be written off against a bank's capital.

[deminks]

2. But what is the real value of an asset?

Is the value what the market says it is, or is it what the bankster says it is? Is the Bankster trying to hide the real value from investors? Or is the market value making him look like a failure? Is toxic debt a functioning debt? Or does it just spread the toxins?

I am economically challenged, I am the first one to admit. I just try to make sense in the 12 year old reading style with which I have been categorized.

[TexasObserver]

3. I'll try to explain my thinking on why it is appropriate.

Imagine there are 10 loans at a bank for real estate developments. Each of the loans is for $10 million, so there are a total of $100,000,000 debt for such loans in this example we are creating.

Now let's say one of those 10 projects is in trouble. It's losing the tenants it had signed up, and can't get new tenants for the project. They're behind, and can't seem to get the note paid. They default. The lender takes the project back, and sells the property at foreclosure to a third party for $7 million.

Should this event cause federal regulators to reexamine the values of the remaining 9 loans, and then write those values down, and then consider the loans bad because the debts on them exceed the new values?

Does it make sense to use the failing project to set the values for all the projects that are not failing? That's what mark to marketing is essentially doing. It is revaluing all the properties at the lowest possible value. That means more loans are considered bad, and that means banks fail faster, or they fail when they might survive otherwise.

The borrowers are the ones who are really getting beat up by this process. They're getting called in during a bad economy and told to either pay down their loan's principal, or move their loan, or face other problems brought about by the feds causing the assets to be lowered in value.

The change in the rules will help keep banks in business, which means fewer failures, which means less funds required for the FDIC to handle failed banks. The mark to market rule is overkill. It makes a bad sitation worse, and in doing so, stops the flow of loans available to all sorts of borrowers.

[deminks]

4. I agree that the one bad loan should not set the value of all the loans.

However, using your example, should the bank CEO and accounting department be now allowed to value all of the loans including the bad one at whatever value they want? Increase the value on paper on the other 9 loans to offset the loss on the one bad loan? How will the investors tell that there was a bad loan? That there was a loss? The people who made the other 9 loans are not going to pay more. But the bank "thinks" it could sell the 10 bundled loans to some other bank for more? Isn't that how we got here in the first place? Rating the bundle as AAA when it contained a bad debt. And then buying insurance from AIG on the bundle if the whole thing goes bad, and making side bets that the whole bundle will go bad, etcetera, etcetera, etcetera.

My question is, and my unedumacated fear, that this new form of accounting creates a new 'bubble' if you will. Creative accounting on the fly scares me.

[HamdenRice]

5. There are objective ways of valuing those loans and securities called "discount to present value"

I'm going to simplify the math here to get the basic idea across, so forgive me if some of the numbers seem unrealistic.

Let's say that we're in a fairly simple economy with a single general prevailing interest rate -- for most loans, bank deposits, bonds and so on.

Let's say that the interest rate is 5%.

If you put $100 in the bank, at the end of one year you have $105.

If you buy a bond for $100, the company that issued the bond will send you a check for $5 at the end of the year. And so on.

Both of these assets (the bank account and the bond have a "face value" -- a definite value of $100).

But suppose there was some stock or other security that did not have a definite face value. Let's say it's a stock that pays a very reliable dividend of $5 per year.

What would you pay for that stock? In other words, what other asset is it the equivalent of? The answer is: $100. That's because it behaves exactly like $100 in the bank or a $100 bond by paying $5 return every year.

If another security, say a mortgage backed security when other mortgage backed securities were going bust, paid $5 interest, you would also value it at $100.

If the mystery security paid $10 per year, what would you pay for it? The answer is $200 -- because it behaves exactly like two $100 bonds.

If the mystery security paid $5 this year, and next year suddenly began paying $10, then the value of the mystery security would rise from $100 to $200 (and that's why stock values go up and down -- as their dividends and profits go up and down).

There are more complicated ways of calculating this, but the idea is: look at what the thing pays, and find something else that pays that much, and that will tell you what it's value is.

If you're more mathematically adventurous, you can look at "discount to present value" calculations differently. You would say, what is the value of $5 per year, paid to me every year for the next 50 years (or whatever term you want), keeping in mind that payments further in the future are "discounted" by the current interest rate.

All that is to say, it is very easy to find an objective value for securities that pay a fixed amount every year. What has happened in the banking crisis is that the "riskiness" of mortgages has caused most banks mortgage backed securities to be priced and valued far below their "discount to present value."

[deminks]

6. Thank you both so much for your insights.

I will be following this with great interest and more knowledge. :D

[truedelphi]

22. Thank you Hamden. Great and simple way of looking at this. n/t

[omega minimo]

16. What is the real value of nothing? That's what they want to hide.

[western mass]

7. Yes, perpetuating fraud is a wise decision.

[TexasObserver]

9. It's not fraud. It's unfortunate you don't understand finance or fraud.

I'll wait for you to demonstrate your massive knowledge of fraud and finance.

[western mass]

13. Let me say it in simple words so you understand.

If I were talking, I would say it S-L-O-W-L-Y.

These rules allow banks to list the value of their assets using FANTASY numbers. Not their current value (i.e. what people would actually pay for them), but a hypothetical value based on what they think people might pay in the fantasy future if the markets returned to their prior exuberant state which was based (as we know now) on a house of cards.

The economic crash was the result of massive fraud. Bankers knowingly selling investments which were not worth that they were said to be worth. Now they are continuing this fraud by reporting fantasy values of their assets.

Whenever an economist or wall street apologist says "you just don't understand" (that tired, vapid talking point), the first think people need to realize is that if THESE people actually understood anything, we wouldn't be where are today. Alternatively, they understand all to well what they've done and are laughing all the way to the bank (the one in Switzerland or the Caymens, that is).

[TexasObserver]

17. Like I said, finance is not a topic you understand.

And I'm not going to waste any more of my time trying to explain it to you, as I don't think you have the requisite ability to comprehend it.

[Hannah Bell]

19. you *can't* explain it. it has nothing to do with the poster's intelligence.

personal denigration is the refuge of those without real arguments.

[western mass]

21. Convincing refutation.

Your detailed, well-crafted arguments were thoroughly convincing!

Thanks, see ya!

[bvar22]

24. LOL

:patriot:

[girl gone mad]

28. It's even worse than that.

There already is a market for these assets. AAA-rated RMBS and CMBS are trading for 30 cents on the dollar.

Banks can now value the even lower rated securities at close to face.

The only good news in all of this is that the revised guidelines could create a potential conflict with the Geithner's plan to take the toxic assets off of the banks' balance sheets using the PPIP. Under the new accounting rules, banks have more incentive to keep the assets on their books than to sell them.

[galileoreloaded]

29. Or, say bundle them up, securitize them and sell them back and forth.

Oh, yes, w/ taxpayer $$ of course.

God, we are either a stupid species, or one marked by the most brutally naked self interest.

[EFerrari]

10. But, wouldn't under valuing these assets have avoided the need

for these bailouts?

[TexasObserver]

11. No, just the opposite.

Banks don't want to have to write off loans, because each loan written off counts against the bank's equity. The basis of the amount of loans a bank can have out is its bank equity. As the bank equity shrinks, the cap on the amount of loans a bank can have out diminishes.

Let me use a simple example.

If a bank has equity of $100 million, it can have loans out of approximately $1 billion. Suppose that ten percent of its loans out are declared bad loans by the federal bank examiners. Those loans have to be charged off against the bank's equity. In this example, the write off of ten percent of $1 billion in loans would be a write off of $100 million. That would exhaust the bank's equity, and therefore make it bank on the verge of failure.

The reassessing the value of the assets held as security for a loan downward has made the problem greater than it would have been, because the reevaluation process makes the equity of banks shrink faster than it would otherwise.

Imagine you have a home loan for $200,000. Your neighbor loses his job, and then his home. There are few buyers, so the home sells at foreclosure for $120,000. Now imagine getting a call from your mortgage company saying "your home is now worth only $120,000, so we need you to come up with $80,000 to reduce your principal to $120,000." See how unfair that is to you, a person with a performing loan? See how it would cause a domino effect on home values and loans in your neighborhood. While the lender of your mortgage cannot do that, the process I described in the one facing many commercial borrowers.

In a nutshell, mark to market as it was being conducted overreacted to foreclosures, and in doing so, brought about more foreclosures, more losses to banks, and more bank failures.

It's not the banks that are getting killed by mark to market, though, so much as the borrowers. This rule change will save homes and other entities which owe bank loans or mortgages, because it stops the diminution of the valuations for the assets which secure their loans.

I think some thing this somehow helps the banks immensely. While it helps them some, it mainly helps borrowers, both by helping keep their loans performing, and by making available in the market place funds for more loans for other borrowers.

If I had to summarize the effect of changing the mark to market rule, it would be this: Fewer foreclosures, fewer bank failures, more money available from banks to loan to borrowers.

[EFerrari]

12. I understand what equity is. And the fact is, capping what a bank can lend

at a realistic level would have avoided this bubble -- which is all about overvaluing garbage. The meme that it hurts borrowers (seems to me, anyway) to be masking the real down side: banks don't get to overextend and cash in on value that wasn't there in the first place.

[TexasObserver]

15. You're right that overvaluation of assets helped create the mess.

And now, undervaluing many assets held as security is making the mess worse.

I'm in favor of weak banks being taken down, but there's no sense in taking down banks that can survive. That just adds to the problem of the federal government in addressing the banking crisis.

[mbperrin]

20. Not allowing any tax effects in? The reason banks get rid of foreclosed and

repo'd assets so quickly is that they can write them off their income taxes, and can use the excess as a carry forward, whereas holding those assets for longer sale involves holding costs: maintenance, security, storage, and all of that. Then, if they make anything at all, they pay taxes on that for all their trouble.

Now banks have these hugely overvalued assets with questionable provenance, in many cases, and so they want two things: Make actual money that you can put in your pocket AND get the tax effects of huge losses without having to take them. Mark to fantasy solves both problems - allows you to deduct losses against a big number for the tax effects, and with the new government giveaway where the government loans 85% of the money and takes only 50% of the profits, if any, still come away with actual spendable funds.

Any accountant worth his salt can get you two things: cash to spend and low or no taxes on stated incomes.

It's a huge game - there's no virtue in it. The difference now is taxpayers are forced to take all risks rather than the dumbasses who never studied decreasing returns to scale or diminishing marginal benefits. Then the taxpayers are forced to loan the dumbasses money to swap around the bad assets they already created to pump them back up and take half the profit of the new bubble, while only paying 15% of the costs.

Brilliant, and all it will do is bankrupt the country, destroy the lives of millions, impoverish most of the rest, and promote armed insurrection (if we're lucky).

So let the greedy fuckers just continue to go too far and see if old Judge Lynch is fully awake yet. Most people will actually finally act when someone in a silk suit kicks their child in the face and expects them to starve quietly and without any complaint.

[TacticalPeek]

25. "the taxpayers are forced to loan the dumbasses money to swap around the bad assets"

"Then the taxpayers are forced to loan the dumbasses money to swap around the bad assets they already created to pump them back up and take half the profit of the new bubble, while only paying 15% of the costs."



Exactly, or as Atrios put it:

A Cunning Plan




We can solve a problem caused by large financial institutions trading leveraged assets with each other at inflated prices by encouraging them to trade leveraged assets with each other at inflated prices.


http://www.eschatonblog.com/2009/04/cunning-plan.html

[Hannah Bell]

18. So why do only *banks* get to do it? I suggest GM is worth more than 1 billion,

or whatever its ridiculous valuation currently is.

Let's just let *all* companies assess their own value.

& if this was in the works, what was the over 1 trillion in bailout money for?

no, it's bullshit.

[girl gone mad]

27. The chairman of the of the FHLB quit in disgust over the rule changes.

http://www.democraticunderground.com/discuss/duboard.php?az=view_all&address=114x62282

...So: to paraphrase - one of the men who knows the ins and outs of the financials of banks involved in the mortgage crisis more intimately than even Bernanke and Geithner, let alone Obama, is saying that the newly implemented changes by the FASB will throw the whole system into tailspin and he wants none of it.

If this isn't the most damning condemnation of the Kool Aid the administration, the Treasury, the Fed, the FASB, the FDIC, and all the other alphabet soups are trying to make the common U.S. citizen drink and have seconds, then nothing else possibly could be.... of course until Bowsher is proven right and everything collapses into the smoldering heap of defaulted MBS still marked at par on various liquidating banks' balance sheets...

Maintaining phony asset prices to keep institutions that would otherwise fail alive is exactly what Japan did. It was a disaster.

There's no reason to even assume that investors are this gullible, anyhow. I don't think Mark-to-Myth will have any long term positive effect, whatsoever.

[galileoreloaded]

8. I love how the financial services guys get on DU and advocate fraud.

hell, why not. gotta make a living right???

[girl gone mad]

26. you noticed that, too, huh?

[omega minimo]

14. Then on Friday they allowed more flexibility on valuing farts, burps and sneezes

[underpants]

23. In 5 years International standards will be the rule here

already decided.

I will check on opinions about this. Accountants don't tend to stand up to management like they used to.