Effective November 15, 2007, the Financial Standards Accounting Board mandates a new standard called FAS 157 that the assets be measured at "fair value", described as "the price that would be received to sell an asset now". FAS 157’s fair value approach requires them to imagine selling their portfolio items each quarter, and to identify the factors that would play into the value. The biggest changes wrought by FAS 157 relate to disclosure and how companies need to think about market values when there isn’t a market for something and they “mark to model.”
FAS 157 divide Bank's assets into three “levels”, according to the freedom with with which they can be bought or sold:-
Level 1 assets have quoted prices in active markets such as US government bonds or gold bullion, thus valued at mark-to-market.
Level 2 asset - these assets are not as fully marketable as level one, but still sufficiently tradeable to have a definite value. Known as mark-to-model, these are estimates based on observable inputs. generally banks have their own valuation models (e.g. price multiple model & further complex ones).
Level 3 assets – usually artificial financial instruments – are the problem. They do not have quoted prices in active markets. They have to be valued by reference to the bank’s own models. Level 3 consists of unobservable inputs, its what market participants would use to price the asset or liability (including risk), using the best information available.