Tuesday, March 18, 2008

FAS 157: Timing is Everything

“The definition of fair value retains the exchange price notion in earlier definitions of fair value. This Statement clarifies that the exchange price is the price in an orderly transaction between market participants to sell the asset or transfer the liability in the market in which the reporting entity would transact for the asset or liability, that is, the principal or most advantageous market for the asset or liability.”

“This Statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years.”

FASB Summary of Statement No. 157
Fair Value Measurements

“Part five is to show some urgency in dealing with the policy problems revealed by the crisis: the role of mark-to-market accounting and the pro-cyclical effects of the Basel II capital requirements, for example. Though all of these rules have been adopted for good reason, some are having perverse consequences and it may even be necessary to suspend parts of them for a time.

“Time to renew the financial toolbox”
Financial Times, editorial comment
March 17, 2008

Hmmm. Let’s see. FASB announces FAS 157 on November 15, 2007. After a brief respite, the chaos begins in earnest. Think there’s a connection?

Investment Strategy Implications

This is the last time I will make this point – mark-to-market is not appropriate for all assets at all times. Moreover, valuing assets based on the latest financial Frankenstein derivative (because no current liquid market in the instrument itself exists) is suspect at best.

As the FT editorial states, it is time to renew the financial toolbox – and we can start with FAS 157.

Related links:
FT Editorial
FAS 157 Statement
Wall Street MarketBeat "FAS 157 Primer"

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