Mark to Market in a Turbulent Market - Reasonable but not within Reasonable Doubt-April 2009

Bloomberg reports that "But the accounting change, which incorporated a proposal that would bring about US$ 900 Billion onto the lenders' book....." on the impact of such a change on the top 19 financial institutions in US which includes banks and insurance companies.

The whole practice of mark to market to instill transparent financial reporting seems reasonable and very prudent. During the mark to market process, assets are being assessed at the prevailing market value instead of the book value. Any differences that result from this exercise is taken into the profit and loss of the period normally as an extraordinary item either as a write-down or gain. The backbone of such an ancient practice rest upon the fact that the market is the correct reference point.

For listed assets, the practice seems more objective and transparent after one of the many prescribed valuation method is chosen and applied consistently based on a gambit of open, closing, average etc prices provided by the exchange and we have the valuation of the asset. For other forms of assets, objective 3rd party valuers are called upon to provide a valuation of the asset which seems less objective compared the listed assets. As for off balance sheet items, the valuation becomes more murky for some of the more sophisticated synthetic instruments, it takes a Phd in mathematics to unravel only the basis let alone the value and the counter party risks can go through the roof without a mediating exchange to guarantee and clear the trades and so as to allow market participants to trade on a blind basis as far as counter party risk is concerned.

Now that we have arrived that mark to market is a good discipline to adopt to ensure more transparent financial reporting, we shall now shift the burden of proof the other way round and for those opposing this cause to cast reasonable doubts especially its applicability in a turbulent market like what we are facing now.

Firstly, we have to proof beyond reasonable doubt that market price is a true reflection of value. On the surface, it seems that the battle is won hands down in a capitalistic view of things. Adam Smith's invisible hand and how the selfish pursuits of individuals will result in the overall goodness for everyone has not only been challenged in the communist and socialist camps but has also been quietly questioned in the capitalistic camp on its effectiveness. Chief among them is the recognition that in the short run, market prices might not be a a good indicator of value as the market does goes into a sticky phase at times before converging at a point where supply meets demands. In addition, it also pre-supposes that there are sizable diversified market participants and liquid enough market of both buyers and sellers to prevent the market from being cornered or being illiquid. One example being that it is not uncommon for some ETFs to trade against their underlying index. I believe there are enough evidence to cast reasonable doubt to the jury on this count.

Secondly, we shall examine how mark to market itself can serve as overly strong draft forces that could cause chronic declining markets to suffer a pre-mature self full-filling crash or for a bull market to spin inflation out of control through a inflationary spiral. However, it seems to work just fine when the market is relatively stable. It is liken to the doctor that is always not when needed most. Whether in a bull or bear market, mark to market is needed to have a realistic measure and a compass on where it is headed valuation wise. This is also where on a micro basis, mark to market is likely to become an innocent by stander but on a macro basis, it can be the very pill to poison either a bull or bear market. The practice of cross equity holding amongst companies is a fairly common phenomenon especially in countries like Japan. These mega corporations in Japan known as Zaibatsu are on the the surface competing with each other in the market place but a closer examination of their shareholding is likely to bring us into a spider web of complex cross shareholding which can make their share prices impregnantrable or stabilized in the short term but could grow into a bubble that would burst suddenly either way positively or negatively when valuations defy the most common logic. During the height of the Japanese real estate bubble, it was estimated that the value of the land on which the royal palace sits in Tokyo is equivalent to the value of all properties in the state of California.

There are various versions of this joke on engineers, lawyers and accountants in circulation and here is my recent construct. An engineer, lawyer and an accountant happened to visit an optician for a color test. As the optician use the flip charts which uses varying polka doted colors to form numbers to be deciphered. The first number on the flip chart was supposed to be the number 9. As these 3 gentlemen were no ordinary kinsman but were recognized as being captains in their field with their names on the signboard of their sizable firms and therefore did not give a straight forward answer to the optician like all and sundry. The engineer said that the number appears to more like a 6 instead of a 9. He reasoned that depending on how the optician has angled the flip chart. The optician reaffirm his answer as a 6 and told him that it was actually a 9 and he protested that it was the optician's fault for not positioning the flip chart properly and therefore the reference point was setup wrongly and it was not his fault. Next came the lawyer who said that it can either be a 6 or a 9 depending on whose point of view; yours or mine. The now impatient optician replied it is you who is having the test and not me and the lawyer interjected politely that it is a 9 in that case. The optician nudged him on saying that at least the lawyer is not color blind. The accountant baffled the optician when he told the optician that it can be any number or even an alphabet depending what the optician ordered.

Valuation, pricing and markets are so important for our capital market to function well that we sometimes need very basic commonsense to unravel the highly complex. We should not allow a change in accounting treatment to write US$900 into the books of the top 19 financial institutions in the US nor shall we allow the ancient straight jacketed rules to ruin fortunes and livelihood of many overnight. What we need is a return to good old commonsense.

Peter Lye aka lkypeter

Safe Harbor. Please note that information contained in these pages are of a personal nature and does not necessarily reflect that of any companies, organizations or individuals. In addition, some of these opinions are of a forward looking nature. Lastly the facts and opinions contained in these pages might not have been verified for correctness, so please use with caution. Happy Reading. Peter Lye

Social Safety Net Determinants

I use to think that social safety net is only relevant or practised effectively in states with a strong socialistic and communistic doctrine but as I give a bit more leeway to the meaning of social safety net to include activities of a philanthrophic, altruistic, religious, political and philosophical origin, the heaven seems to open before me.

Basal Dungeon Level/Poverty Line
My fundamental believe being that no matter how criminal, immoral or inhumane a person might be, there exists in each of us an intrinsic in-culpulability to help lift a fellow being from a basal dungeon to an acceptable level of survival as we each perceived it to be. The basal dungeon level is not an absolute concept but a relative one. Many economists and sociologists has attempted to define this as the poverty line along monetary and quantitative lines. This is very useful as it makes it possible to translate the concept into actionable points in determining how help should be apportioned. However, in distilling a concept into a quantitative illustration some important intrinsic qualitative elements are also removed in the process. Firstly, the basal dungeon level is a micro concept that is applicable on a personal or a monolithic social group rather than a macro concept with wider and more polarized applicability. An elderly wearing clothing consisting of a variety of patch work ( other than the fashion statement of the day ) in a relatively well off suburb like Rodeo Drive would most probably has reached beyond the basal dungeon level in that community to warrant a helping hand be it a contribution in terms of a coin drop of sort. However, in more impoverished parts of Africa, such a person is very unlikely to be offered help. Secondly, the concept is not the absolute or relative social distance between the person in need and the potential helper. It is not a absolute distance because a millionaire is unlikely to be moved to help a middle class person athough the absolute distance can be large, it is definitely not a charity case. Neither is a relative distance applicable because relativity would require us to define relative to what. Basal dungeon is basically a level that would trigger one group or person to help the other as a result of a conscience trigger. Thirdly, it is not a stable level that transcends time and space as the level changes over time in line with changes in the social political norms. However, the concept transcends time and space as it is there from the time of recorded history till now and not likely to vaporize into thin air in the foreseeable future.

Singapore
There is general believe that social safety belongs to the government alone and not body else. However, there are enough evidence both empirical and otherwise that this is not the case. I live in Singapore where the official ideology of socialist democrat is actually closer to capitalistic democrat as the leadership has make no apology in public that Singapore is a meritocratic practitioner in terms dividing the fruits of our labour. There is general perception that the social safety net is very thin in Singapore and the government has made it very clear to the populace that having seen the social safety net framework degenerate the motivation to work and the economy, Singapore shall not follow in similar light. However, over the years as the Singapore economy develops and accumulates fiscal surpluses to be in a position to afford some safety net, the government has over the years especially during the tenure of Goh Chok Tong as prime minister, dished out narrow and directed safety nets liken to a fishing by rods and line rather than broad based ones like fishing with nets. I see this as a deterministic shift in fundamental thinking as the government slowly but surely start to acquire heart ware. Some of these schemes includes the Medifund scheme to help the poor pay for the cost of essential medical care, dollar for dollar matching contribution to selected charities etc. One interesting means that the government has contributed to the social safety net in a less obvious showing which is I think is a deliberate attempt is though the innovative use of co-funded help schemes for various areas deemed to be much greater in need like innovative structuring of health care financing which might not be perfect but at least is affordable, of fairly high quality and not a drag on the economy unlike in the US where health care has become such a huge part of staff cost that it is a major factor affecting their economic competitiveness on a global basis. These Singapore cases underlines the fact that social safety net need not be narrowed to more direct transfer payments like unemployment payments or absolute freebies like free health care, education etc that more often than not lends itself to over consumption. On the note that such narrow schemes leaves a lot falling through the crack, my thinking is that like line and rod fishing, it is meant to bait and catch the more needful ones rather than a broad based safety net that would able to cast a wider net but would also end up with a lot of garbage in the process as well in the form of non-deserving recipients. Your choice.

Japan
In the case of Japan where I used to visit on a very frequent basis in my previous job where the visible governmental safety net is so thin that it is as good as none. In addition, the certain pride that the Japanese culture infuses into the work ethos makes it almost socially not acceptable for the populace to even be seen to be consumers of such safety net. In those years there during the early 1990s, there is a stark difference between Tokyo and New York as the streets are relatively void of beggars and homeless people compared to New York. It baffles me how was this possible with such a thin safety net. I slowly begin to understand that job for life philosophy results in less redundancies and retrenchments which I view is also a form of safety net that is enacted by way of social norms rather than governmental regulation. We can debate on end on the economic and business poison that such a system can breed but no safety net is without cost to the economy and society. One of the feature of the TOPIX which is the de-facto securities exchange of Japan and the largest in Asia, it has one of the lower beta compared to their counterparts in the west and one of the reason is the complex web of cross share holding between the giants of the economies call Zaibatsu and their subsidiaries as well as a very centralist macro economic planning by way of good coordination between the Ministry of International Trade and Industry ( MITI ) that even the Zaibatsu rarely go against MITI. One rare exception is Honda which was persuaded by MITI to concentrate on motorcycles and reduce their involvement in automobiles but has done almost the opposite.

Philanthrophy/GINI
Philanthrophy in terms of participation by percentage of the populace as well as percentage of the GDP, US beats Europe by a large margin. There are various studies done to explain this differential including factors like how the GINI index which measures the distribution of wealth, differentiating tax incentives for philanthrophy, old and new money as Europe tend to have more old money compared to US, immigrant society in US versus a more monolithic society in Europe. The factor that stands out is that on a ideological level, Europeans seems to be more socialistic but in practice on a personal level, US seems to put money where their mouth is rather than paying lip service. In response, the Europeans would argue that either the government is doing such a good job or they have contributed to a large part through taxes ( which are not voluntary whereas philanthrophy is ) and there so less need for private philanthrophy.

We all have a part though not always a deterministic one but a key part in shaping social safety net for our society either on an ideological or macro platform by our votes or privately on a personal and group basis. Give it a thought went you next see someone deserving of help.

Peter Lye aka lkypeter

Safe Harbor. Please note that information contained in these pages are of a personal nature and does not necessarily reflect that of any companies, organizations or individuals. In addition, some of these opinions are of a forward looking nature. Lastly the facts and opinions contained in these pages might not have been verified for correctness, so please use with caution. Happy Reading. Peter Lye

Grandpa and Mantovani

It has been about a month since my grandpa passed on on 1st March 2009. The memory of him still lingers in my mind. He is one of the people whom I look up to and shared many hobbies and one of which is HiFi.

He inducted me into Hifidom at a tender age of about 8 or 9 years old. At the time, he had a Onkyo receiver with a Lenco turntable with an Akai open reel tape drive and I think a pair Heco german speakers. I use to spend some weekends at his place and saturday nights was where we listened. Some of the music that we listened to then was Mantovani and his string orchestra which are now difficult to find. I guess I was inducted into a virtual adulthood as I listen to the many old songs with him instead of the contemporary songs of my era. I still remeber that all I have at my own home was a mono portable Bigston cassette player but I treasure it as my parents went to great length to get me that as it was a big sacrifice to them already at that time.

Grandpa, I have one big regret in that as Asians, I was not very vocal in showing my love for you and I could have done more to show my love for you. I am going round town to find our favourite music like including James Last, Paul Mauriat, Ronnie Aldrich, Bert Kempfert, Diana Ross and many more. Give me time as such recordings are not easy to find. I have found some Mantovani and James last,Klaus Wunderlich and some ABBA. I shall also remember the old hifi shops that we use to go to like Atlas Sound, Martin Electronics, Hwee Seng, Tat Chuan, Ong Radio. Some of them are still around and I would go visit them also for old time sake.

I am playing Mantovani now as I write this blog in rememberance of you. Good night grandpa.

Your grandson Pete