Thursday, April 23, 2009

Mark to market benefits on the way to bankruptcy.

Jamie Dimon on booking mark to market gains on liabilities as per FAS 157.:

"The theory is interesting, but, in practice, it is absurd. Taken to the extreme, if a company is on its way to bankruptcy, it will be booking huge profits on its own outstanding debt, right up until it actually declares bankruptcy–at which point it doesn't matter."

Hmmm..As a company is more likely to default, it's CDS spreads widen, and their liabilities lose value. The banks can actually reduce their liability and book this reduction on their income statement!

Of course if a company is to remain a going concern, it has to pay back the entire amount. So booking such gains doesn't make sense unless you're on your way to bankruptcy, when equity holders would most probably get wiped out anyways..

Curiouser and curiouser!