DEFINITION of 'Mark To Model'

The pricing of a specific investment position or portfolio based on internal assumptions or financial models. This contrasts with traditional mark-to-market valuations, in which market prices are used to calculate values as well as the losses or gains on positions. Assets that must be marked-to-model either don't have a regular market that provides accurate pricing, or valuations rely on a complex set of reference variables and time frames. This creates a situation in which guesswork and assumptions must be used to assign value to an asset.

These assets are typically derivative contracts or securitized cash flow instruments, and most do not have liquid trading markets.

BREAKING DOWN 'Mark To Model'

Mark-to-model assets essentially leave themselves open to interpretation, and this can create risk for investors. The dangers of mark-to-model assets occurred during the subprime mortgage meltdown beginning in 2007. Billions of dollars in securitized mortgage assets had to be written off on company balance sheets because the valuation assumptions used turned out to be inaccurate. Many of the mark-to-model valuations assumed liquid and orderly secondary markets and historical default levels. These assumptions proved wrong when secondary liquidity dried up and mortgage default rates spiked well above normal levels.

Largely as a result of the balance sheet problems faced with securitized mortgage products, the Financial Accounting Standards Board (FASB) issued a statement in November of 2007 requiring all publicly traded companies to disclose any assets on their balance sheets that rely on mark-to-model valuations beginning in the 2008 fiscal year. This rule change will allow investors to identify the dollar value owned by each company that holds these types of assets.

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