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Mark-to-market (MTM) accounting is a concept that is fundamentally based in the notion of fair value. Fair value is established by a pre-existing agreement between buyer and seller on the price of a sale. Both the buyer and seller in fair value arrangement, after entering a transaction freely, will have a mutual understanding of a fair cost for whatever product or services being offered by the seller.
In addition to the model used in a typical buyer and seller arrangements, the concept of fair value may also be used to describe assets and liabilities. Any time that the financial statements of a subsidiary company are consolidated, their value will be determined by a fair value arrangement in advance.
Consistent Accuracy
It is common for accounts of any kind to go through a series of changes throughout the fiscal year, which makes it very important to keep track of the market value of assets and liabilities throughout unpredictable times.
In more specific terms, MTM figures can be use as an indicator of the current market value of an account, portfolio, or security. The current market value stands as a sign of the current value of any security that an investor has in their brokerage accounts.
Mark-To-Market Accounting In Action
One of the clearest examples of MTM accounting is the mutual fund. Investors who are just starting out in the market will oftentimes need a balanced portfolio that can be established with just one debut investment, and mutual funds accommodate this need.
Mark-to-market accounting also comes into play when a mutual fund’s most recent valuation in the current market determines its net asset value. To assure that investors can have a clear window into the net asset value of any mutual funds, they are marked to market every single day.
In certain circumstances, the current market value might be more relevant to know than the book value; this is another situation where MTM valuation would be particularly useful.
Handling Tumultuous Economic Times
Problems can potentially arise if investors don’t have enough confidence or if there isn’t a high enough amount of liquidity; this oftentimes results in assets being sold for less than what they are truly worth, lowering equity across the board.
When organizations have no choice but to determine the value of their liabilities/assets during times of economic turmoil, low shareholders equity can be a daunting challenge to overcome. With market-based measurement that serves as a realistic measurement of the true value of an asset, the risk of low equity can be approached with more success.
In order to ensure that the true market-based value of any asset can be calculated accurately, certain margin parameters must be minded at all times; to make this easier, MTM accounting calculation oftentimes happens in a futures account, where the specific selling date and price of any asset is determined in advance.
Conclusion
Simply put, MTM tracks the fair value of various assets or liabilities that may shift over time. By consistently keeping track of the changing value of these assets and liabilities, it becomes far more possible to have a consistently realistic picture of any organization’s financial strength.
By showing the accurate net asset value of mutual funds for beginning investors and giving realistic reports of any organization’s financial strength, MTM accounting streamlines things for beginner and veteran investors alike.