Banks get breathing room with revamped accounting


July 15, 2010 Updated Apr 3, 2009 at 12:02 AM CDT

A revamping of US accounting rules is likely to ease the strains on the banking system, and the impact could be felt almost immediately, analysts say.

The change voted Thursday by the US accounting industry's standard-setting body overhauls the so-called "mark-to-market" rules that had required losses to be quickly booked -- and which had been blamed by many for worsening the financial crisis.

Under pressure from lawmakers and others, the Financial Accounting Standards Board (FASB) revised its "fair value" standards, which require a quarterly markdown of assets that have fallen in value.

"The step could enable greater lending activity to spur the broader economy," said Jocelynn Drake at Schaeffer's Investment Research.

"Banks may also not be as likely to take big write-downs," she said, while adding that "critics say that altering the rules could make banks' financial health less transparent to investors."

The rules were tightened after a series of corporate scandals including at energy firm Enron, which used unrealistic figures to inflate its worth.

Nathan Topper at Moody's said the FASB move to revise the rules for securities for which fair value cannot be reasonably determined, "is likely to improve banks' bottom lines."

In cases of mortgage securities where markets are frozen, banks will no longer be required to take a hefty write-down, which would turn a paper loss into a real loss that would force banks to boost capital reserves.

"The new rules will allow firms to value these troubled assets such as residential and commercial mortgage-backed securities at higher prices produced by (computer) models," Topper said.

US banks had been forced to write off over 800 billion dollars' worth of losses linked to the real estate meltdown in the past two years.

The new rules are to take effect in the second quarter but may be applied retroactively to first-quarter results to be released in the coming weeks.

The latest change "should give a boost to profits of financial companies," said Ed Yardeni at Yardeni Research.

"More importantly, it should take the pressure off of them to raise funds to fill up black holes in their capital created by the original rule."

Critics have argued that because markets for mortgage-related securities have been frozen, banks should be able to hold the assets to allow them to recover without booking immediate losses.

Some economists have excoriated "mark to market" as a cause of the crisis, pointing out past periods such as the 1980s Latin America debt crisis where banks would have been wiped out if they had to book losses instead of holding them to await recovery.

The change comes as the administration of President Barack Obama is developing a public-private partnership to provide incentives for investors to buy so-called toxic assets -- mainly mortgage-related securities that cannot find buyers.

Some estimates indicate banks may have another trillion dollars or more of assets that may need to be marked down or sold for a loss.

But Kevin Giddis, analyst at Morgan Keegan, said the accounting change may have the unintended effect of discouraging sales of the securities.

"My personal opinion on this is that the holders of these securities need to sell them, not be given a reason to hang on to them," Giddis said. "This could only extend the problem further, not fix it sooner."

Jon Ogg at 24/7 Wall Street said that banks "got the first part of a game-changing event that will loosen up the need for future capital and future taxpayer dollars."

Robert Brusca at FAO Economics said the change will give banks more flexibility and leverage in dumping toxic assets.

"I think banks are interested in ridding their balance sheets of this paper and they are willing to sell at some price to get rid of the trouble," Brusca said.

"Banks still might be willing to sell at a below market price ... (but) will not be held hostage by the process to selling relative to current depressed mark-to-market prices."

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