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US investors oppose FASB proposal on fair value for bank loans

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More than two-thirds of large US institutional investors oppose a proposal by the Financial Accounting Standards Board that would mandate fair value accounting treatment for most bank loans, according to a study released by Keefe, Bruyette & Woods and Greenwich Associates.



The study was commissioned to gain insights into large institutional investors’ understanding of and support for a series of recent FASB bank accounting proposals.

Among the key changes proposed is an expansion of fair value accounting rules that would require banks to report the value of most loans on their books at estimated fair value alongside the current cost accounting valuations.

According to the study, 66 per cent of institutional investors say they are either strongly or very opposed to the proposal. Only one in five (20 per cent) are in favour of the FASB’s recommended changes.

Despite the clear opposition, many of the institutional investors surveyed concede that current accounting standards are inadequate and need to be revised.

"The FASB’s mission is to provide useful information to investors, and the current proposal to expand fair value reporting on bank balance sheets is intended to improve the quality of information available to investors," says Thomas Michaud, president of Keefe, Bruyette & Woods. "However, the results of this study demonstrate that a large majority of US institutional investors think FASB is taking the wrong approach."

Institutions’ primary objections to fair value accounting appear two-fold. First, they believe mark-to-market valuations would not be helpful in making investment decisions because fair market values for loans held on banks’ books and other infrequently traded financial instruments would not be reliable. In fact, up to 45 per cent say the expansion of mark-to-market rules for bank loans would cause them to reduce their level of investment in US banks. Second, they fear that variations in reported fair market values will magnify cyclicality in bank earnings and the economy as a whole.

"The fact that US institutional investors overwhelmingly oppose the fair value proposals should give FASB board members cause to rethink their approach," says Greenwich Associates consultant Don Raftery.

As an alternative, institutions say they prefer changes that would increase transparency and provide enhanced disclosure of information on specific bank portfolio holdings. Also, 70 per cent of respondents would favour an alternative proposal that would require banks to include enhanced disclosures about fair value in 10Q/10K reporting, but not on the balance sheet

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