MARKET DELUSIONS RUNNING DEEP ... AGAIN

I was directed to this by a friend. Read the link before you go any further. To be sure, I'll synposize the piece as I move along below, but read the piece first. It will help you understand the commentary.

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Let me preface what I present below, and in the next few posts, by saying this: The argument by Brian Westbury and Robert Stein looks good. It especially looks good if you want to believe that greed and market stupidity didn't cause the market collapse.

Look, Westbury and Stein (W&S) are cherry picking and distorting issues to explain why we shouldn’t use market prices to price million dollar assets. Their doing it for the benefit of their industry, and to satisfy personal interests. Here’s the irony of their “let’s-not-use-market-prices-to-gauge-the-value-of-assets” mentality. In the run up to the market meltdown market players consistently told us that the prices we were seeing were correct. Prices are indicators of “what the market will bear” we were told.

We didn’t need to worry about how prices got so high because, according to market players like W&S, prices contain all the information we need. Part of the reason why they want us to believe this is because, as long as prices were going up, it allowed them and everyone else in their financial market chain to pay themselves big fees and even bigger bonuses. Markets, after all, are rational.

Then the market collapsed. Oops.

WHY THEY WANT TO SUSPEND MARKET PRICES
After the market collapsed in 2008, and blew all their “markets are rational” nonsense out of the water, market players like W&S wanted special pricing considerations. Specifically, they wanted to re-price the value of security assets that no longer fetched what it used to before the market collapse.

This is important to understand because collapsing prices would have forced many market players to put up collateral, or sell what they had to generate cash. This would have further depressed security market prices. Like nice homes in a crumbling neighborhood, even the good securities would be affected by collapsing prices.

Market players stood to lose millions. Worse, the industry more than likely would have suffered through a series of lawsuits, as investors started asking “What happened to my money?” The legal lessons of Orange County in 1994 still linger.

But W&S don’t want middle class America to focus on their industry losing millions and facing lawsuits. If we did, we would start asking “Why the hell did you lend and borrow so much to gamble on such toxic crap?” Instead, industry analysts concocted Chicken Little-like “the sky is falling” arguments designed to shift attention away from the degree of stupidity inherent in the market at the time. Then they write pieces like this to try and convince you and me that their industry is not to blame for anything. They’re saints.

Put more simply, market players wanted to be able to re-price assets to save their skin. The fact that re-pricing assets would also put money in their pockets, by keeping “assets under management” relatively stable, was just icing on their financial cake.

GETTING THEIR WISH
According to W&S the market for asset-back securities dried and crashed only after November 2007, when the financial industry was forced to use “market” prices, instead of computer models and cash flows, to value their financial instruments. Like the chronic drunk who gets a DUI and then blames it on being pulled over for a broken tail light, W&S are deliberately confusing cause and effect.

According to W&S having to re-price assets - and not shady lending practices, and even shadier models - is what caused the market to collapse. In an attempt to appeal to our inner FDR, W&S even made a point of noting that FDR was able to stabilize markets only because he suspended market prices in 1938.

Ergo, according to industry experts like W&S we needed to suspend using market prices - or what the industry mind-numbingly refers to as “mark-to-market” (MTM) - to value multi-million dollar security assets. And market players got their wish. Last April (2009) market players effectively regulated market prices right out of the market when the Financial Accounting Standards Board (FASB) suspended the MTM price method.

CONCLUDING COMMENTS (for now)
Let’s recap.

1. Market prices are good as long as prices go up, and fees and bonuses are paid on these prices.

2. Market prices are bad when market greed and stupidity is exposed, and market players stand to lose millions and get sued.

3. Regulating market prices out of the market is good because FDR did it, and it saves the financial industry from doing some soul searching.

In a few words, suspending MTM is necessary for the financial industry because it allows them to suspend reality. It’s one of the reasons accountants refer to the practice as “mark-to-make-believe”.

But financial market players want the suspension of market prices to come with no responsibilities, and all the benefits of government guarantees. What a bunch of pricks. I’ll explain why over the next few days …

- Mark