What is the difference between amortized cost & market value of securities?

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What is the difference between amortized cost & market value of securities?
Accounting methods, such as amortisation and market valuations, are open for interpretation. (cash image by Mat Hayward from Fotolia.com)

Financial analysis makes investment valuations debatable. Amortised cost and market values describe methods used by businesses to account for investable assets. Differentiate between these concepts prior to making decisions.

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Identification

Amortisation refers to interest accrual. For example, zero-coupon bonds are sold at discounts to face value, prior to face values being paid at maturity. One zero-coupon bond may be purchased at £487 for rights to receive £650 after one year. Using simple interest, the bond presents amortised value of £568 halfway toward maturity. Of course, fixed income securities may be traded at any time. Market value describes what investors are willing to pay for the investment.

Features

Market values for fixed investments decline when interest rates increase. Investors receive higher interest payments upon new bonds and assign lower values to older bonds. Amortised costs report higher values for securities at these times.

Considerations

The Federal Accounting Standards Advisory Board (FASAB) sets Generally Accepted Accounting Principles (GAAP) for reporting asset valuations.

Misconceptions

Alternating between amortised and market value accounting is legal. The SEC, however, requires businesses to disclose viable reasons for using each method.

Risks

Amortised cost often varies from market value. Businesses may incur large losses if forced to sell securities prior to maturity. Accrued interest may never materialise due to borrower bankruptcy.

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