We examine the relation between bank holdings of mortgage-backed securities (MBS) and MBS prices. Theory suggests feedback between MBS holdings and underlying asset markets can be aggravated by mark-to-market accounting. We measure feedback by the relation between asset returns and the changes in bank MBS holdings. Consistent with the existence of feedback effects related to mark-to-market, we find that for banks with high MBS, more nonperforming loans, and lower total capital ratio, changes in bank MBS positions are positively associated with changes in MBS prices and that this relation is reduced after the April 2009 mark-to-market rule clarification. To assess the effect of feedback on shareholder value, we test whether the stockprice response of banks to the announcement of the mark-to-market accounting rule clarification is associated with the intensity of feedback behavior. We find that the stock market reaction to the rule change is more positive for banks with more MBS, higher nonperforming loans and higher pre-rule-change feedback. We also find positive bond-price reactions to the rule change. Overall, our results suggest feedback related to mark-to-market accounting had a measurable effect on shareholder value.
Feedback effect; MBS; Fair value accounting; TARP
Accounting | Business
Creative Commons License
This work is licensed under a Creative Commons Attribution-Noncommercial-Share Alike 4.0 License.
Bhat, Gauri; Frankel, Richard; and Martin, Xiumin, "Panacea, Pandora’s Box, or Placebo: Feedback in Bank Holdings of Mortgage‐Backed Securities and Fair Value Accounting" (2011). Accounting Research. 12.