Fair Market Value
The following comment was written in response to the blog article Too little, too late (The suspension of fair value accounting would have been very handy a year ago, but much of the pain has already passed), written by Tetsuya Ishikawa and published on The Guardian's Comment is Free blog, on Saturday 21 March 2009.
If you work in the financial business, then you should know what Fair Market Value really means, and more importantly, what it does not mean.
Okay, so let's start with a definition. Fair Market Value is typically described as the price that an interested but not desperate buyer would be willing to pay and an interested but not desperate seller would be willing to accept on the open market assuming a reasonable period of time for an agreement to arise.
There is one major flaw with this as regards to banking and valuation. It assumes high levels of trust, honour and competence.
Fair Market Value is not about representing a known value; at best, it's an informed guess. Neither is Fair Market Value a real market value, there is no proof of its current market value, only a technical extrapolation. Neither is it intrinsically fair because it is essentially an informed guess. So apart from the words and the order in which they are used, it's almost a perfect term.
So why do people use Fair Market Value? Simply stated, it's a sleight of hand. Rather than provide dated valuations, for example, the last known Net Asset Value of positions in securities, it serves the needs of people who want today's value, whether it is realistic or not. It seems people would prefer an up to date guess than a dated price.
In the old days of Hedge Funds there was no such pressing need to provide a valuation of positions until a period of subscriptions and redemptions was reached. These days, there are many companies running many Funds of Funds (FoF), funds that invest in two or more underlying Hedge Funds, a pooled investment in Hedge Funds. These Funds of Funds want to provide a guess on current value for a number of reasons. The primary reason for this is that the purchaser of positions in FoFs is more likely to be a less sophisticated investor, with a much lower purchasing power, a lot less risk tolerant of risk, and more attracted to the warm and fuzzy feel of daily pricing. So, these Fund of Funds, rather than waiting for extended periods before a calculation of the net value of the underlying assets can be made, provide frequent conjectures about market value.
The most visible merchants of FoFs are acutely aware of the psychological needs of the small and unsophisticated investors, and know how to play their client and prospect base better than any scrap-metal merchant or used car dealer, this is reflected many times in the use of Fair Market Value.
The only fair market value is the price that you have sold at, or the intrinsic value of holding positions. The rest is just informed guesswork. Maybe it's time that terms more accurately reflected their underlying meaning, however in this day and age, term abuse as well as use of deceptive terms, is rife, in business, in politics, in the media and in academia, so the chances of winning the battle against bullshit seems very slim – and that's a guess too.
Print | posted on Saturday, March 21, 2009 3:00 PM