The picture presented these days regarding so-called toxic assets is one of a financial wasteland where investors do not see value at any price and the securities are left to rot on bank balance sheets. While some sellers dont like the prices theyre seeing and call the assets toxic and illiquid, markets for many such assets are, in fact, alive.
Indeed, information gaps among policymakers and investors are clouding some of the key issues that need to be faced in the current financial crisis. These information gaps have allowed confusion to linger and sapped confidence from the markets, all despite recent well-intentioned efforts from the Treasury Department to move these assets off bank balance sheets. If allowed to continue, this unfortunate state of affairs will only further exacerbate the downturn.
The realities of the current market may be surprising, especially given that some misconceptions have become so pervasive as to be seen as virtual truisms. These realities help close the information gap and help us on the path to financial recovery.
There is a market for toxic mortgage assets. Ten major dealers and numerous smaller boutiques will commit their own or others capital to non-agency residential mortgage-backed securities. Daily volume in residential mortgage-backed securities runs into the hundreds of millions of dollars which has been the case for most of the past two years.
There also are two actively traded indexes, both owned and administered by Markit Group Ltd. One is the Markit ABX.HE, a synthetic tradable group of indexes representing a basket of subprime mortgage-backed securities, a benchmark owned and administered by Markit Group. The other is the Markit CMBX, a synthetic tradable group of indexes representing a basket of commercial mortgage-backed securities.
Trading volume for these over-the-counter indexes has exceeded $1 billion on the recent active days, highs that are similar to historical peaks.
Mark-to-market accounting is blamed for forcing financial institutions to price their portfolios at ridiculously low valuations, leading to stock price declines, difficulty in funding and a negative feedback loop that has caused the demise of otherwise sound companies. The belief is that somehow market prices have stopped reflecting intrinsic or fair value.
This is like blaming thermometers for global warming. Mark-to-market accounting is a reflection of reality. Discerning market participants will always perform their own estimates of value based on multiple arms-length transactions, which are a more objective gauge of value than subjective estimates put forth by conflicted stakeholders. Mark-to-market accounting works.