SEC Declares That Fair Value Accounting Works But Needs Some Improvement
In a report to Congress, the SEC supported fair value accounting over other methods such as historical cost-based accounting and recommended improvements to existing practice. Notably, the SEC concluded that fair value accounting “did not appear to play a meaningful role in the bank failures that occurred in 2008.” Among its recommendations to improve the application of fair value accounting including FAS 157 include the development of additional guidance to determine when markets become inactive, how to estimate the impact of a change in credit risk, when to supplement determinations with non-market information, and how to confirm that assumptions are used by the market and not just one participant. The Report also makes recommendations about additional disclosure and the development of standards.
OUR TAKE: We think the SEC should take its own advice and offer some fair valuation guidance to the industry (which it has been promising for months/years). We don’t disagree that fair valuation may be the least of all evils, but the industry needs some help to avoid the subjectivity that leads to retrospective second-guessing.