The Securities and Exchange Commission is not waiting for the accounting industry's rulemakers to decide on market value accounting.
The Financial Accounting Standards Board meets today on the issue, but divisions among its members have blocked their adoption of an accounting standard - a pet project of SEC Chairman Richard Breeden. The accountants have been reviewing the issue for over a year.
The SEC has pounced on the issue, scrutinizing the accounting practices of banks planning offerings of debt or equity securities. Banks that have taken big securities gains or had significant turnover in their investment portfolios have been forced to revalue parts of their remaining holdings.
As a result, NationsBank Corp. and Signet Banking Corp. were forced to reclassify a combined total of more than $9 billion of securities in their investment portfolios.
The reclassification had no immediate impact on earnings of either bank, but if the market value of the securities drops sharply, the revaluation could cut into profits or capital.
"The SEC has now picked up the ball completely and they've gotten the attention of senior bank officers," said an official at a Wall Street firm.
The SEC forced NationsBank and Signet to move securities into a "held for sale" category, where the securities are valued at the lower of original cost or market value. Previously, the banks had held the securities at their original cost.
Bound and Determined
"The SEC is so committed to the market-value accounting model that they will use whatever tools are available for them to further that goal," said Scott Reed, a partner in the banking practice at Grant Thornton.
Bank of Boston Corp., which registered a stock offering with the SEC earlier this year, has been in discussions with the agency about how it accounts for its investment portfolio. Although Bank of Boston has already issued the stock, it is still in discussions with the SEC, a source said.
"I think already there has been a significant amount of change in the way banks look at their investment portfolio because they wonder if the [SEC] ax is going to fall," said Donna Fisher, manager of accounting policy at the American Bankers Association.
In one significant change, the SEC's aggressive regulation in this area has forced banks to lean toward purchasing shorter-term investments. The values of these securities change less drastically than longer-term investments.
The SEC wants to eliminate "cherry picking" - taking big gains by selling selected debt securities, while keeping bonds that have lost value on their balance sheets at inflated values.
Banks have opposed FASB proposals to mark their investment securities to market because the value of these holdings would fluctuated with changes in market conditions, causing volatility in earnings and capital levels.
Banks and analysts have argued, unsuccessfully to date, that information on unrealized portfolio gains and losses is already reported as a footnote on financial statements.
"The crucial part of the disclosure - unrealized gains and losses - has been disclosed for years," said Donald Crowley, executive vice president with Keefe, Bruyette & Woods Inc.
What About Liabilities?
Banks have also argued that if they are forced to value investment securities to market, they should also be allowed to mark certain liabilities to market to reduce earnings volatility.
While the SEC has turned up the pressure recently, accounting standards board had been struggling to come up with a comprehensive set of rules. A majority of five of the board's seven members is needed to approve a new standard.
At the most recent meeting, on June 10, six board members agreed that current practice needs to be changed. But the board could not agree on a method for marking debt and equity securities to market. Nor could they decide on key issues related to marking liabilities to market, including whether to use core deposit intangibles when calculating liability values.
A group of 50 banks tracked by Morgan Stanley earned $700 million on the sale of investment securities in the first quarter.