Definition
Mark-to-market or fair value accounting refers to accounting for the “fair value” of an asset or liability based on the current market price, or for similar assets and liabilities, or based on another objectively assessed “fair” value. Fair value accounting has been a part of Generally Accepted Accounting Principles in the United States since the early 1990s, and is now regarded as the “gold standard” in some circles. Failure to use it is viewed as the cause of the Orange County Bankruptcy, even though its use is considered to be one of the reasons for the Enron scandal and the eventual bankruptcy of the company and the closure of the accounting firm Arthur Andersen.
Mark to Market
A measure of the fair value of accounts that is likely to change over a period of time is called mark to market. It is usually done for the liabilities and assets, and aims to provide a realistic appraisal of the current financial situations of a company or an institution.
Another definition of mark to market is the recording the value or price of a security, account, or a portfolio such that it reflects the current value it has in the market rather than the book value.
Valuing the net asset value of a mutual fund on the basis of the current market value it has is also referred to as the mark to market.
More about Mark to Market
There are some problems that may arise if the true value of the underlying asset is not reflected by the market based measurement. If during volatile or unfavorable times the company is forced to calculate the selling price of their liabilities or assets, such situation is likely to take place. Similar cases may arise during times of financial crisis.
During the financial crisis of 2008/9, the same issue was on the rise. There were many securities that were held on the balance sheets of the banks, and they could not be valued in the right way because of the fact that they had disappeared from the market. Hence, in 2009, the FASB, the Financial Accounting Standards Board voted for, and approved a list of new guidelines that allowed for the valuation of assets and liabilities to be based on the price which would be received if the conditions of the market were orderly and there is no condition of forced liquidation.
To make sure that the margin requirements are being met, this is done most commonly in futures account. The trader will be faced with a margin call if the current value of the asset falls below the required level.
Since mutual funds are marked on a day to day basis at the closure of the market, hence the investors have an idea about the net asset value of the fund they have.
Further Reading
- Is mark-to-market accounting destabilizing? Analysis and implications for policy – www.sciencedirect.com [PDF]
- Mark-to-market accounting and liquidity pricing – www.sciencedirect.com [PDF]
- Bank failure, mark‐to‐market and the financial crisis – onlinelibrary.wiley.com [PDF]
- Mark-to-market accounting for banks and thrifts: Lessons from the Danish experience – www.jstor.org [PDF]
- Mark-to-market regulatory accounting when securities markets are stressed: Lessons from the financial crisis of 2007–2009 – www.sciencedirect.com [PDF]
- Financialized accounts: Share buy-backs, mark to market and holding the financial line in the S&P 500 – www.sciencedirect.com [PDF]
- The bonus pool, mark to market and free cash flow: producer surplus and its vesting in the financial markets – www.tandfonline.com [PDF]
- Mark-to-market accounting and information asymmetry in banks – papers.ssrn.com [PDF]
