The views expressed in this presentation are those of the presenter,
not necessarily those of the IASB or IFRS Foundation.
International Financial Reporting Standards
Hedging under IFRS Executive IFRS Workshop for
Regulators
3-6 June 2014, Vienna
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Darrel Scott IASB Board Member
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Applicable standards
• IAS 39 hedging standard (general and portfolio hedging)
currently required
• IFRS 9 general hedging standard published:
– Early adoption allowed
– Mandatory adoption after 1 January 2018
– However entity can elect to continue applying IAS 39 until
Macro hedging introduced
• Macro Hedging model at discussion paper stage
Grandfathering of IAS 39 3
IFRS 9 HA
model
IAS 39 HA
model
‘macro
FVH’
‘macro
FVH’ Scope-out
‘macro
CFH’
‘macro
CFH’
Accounting
policy choice
Early application
No early application
‘Status quo’ pending completion of the project on accounting for macro hedging:
© IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org
International Financial Reporting Standards
The views expressed in this presentation are those of the presenter,
not necessarily those of the IASB or IFRS Foundation
IAS 39
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© IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org
Introduction
• ‘Hedging’ and ‘hedge accounting’ are two different things
• What is hedging?
– managing risks by using one financial instrument
(‘hedging instrument’) purposely to offset the variability in
FV or cash flows of a recognised asset or liability, firm
commitment, or future cash flows (‘hedged item’)
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Hedge Accounting
• Matching the change in FV of the hedging instrument and
the hedged risk in profit or loss
• Arises when normal accounting puts changes in
economic values in different periods - ‘accounting
mismatch’
• Hedge accounting subject to strict conditions:
– Formal designation and documentation of a hedge,
– the hedging instrument must be expected to be highly
effective in achieving offsetting changes in fair value or
cash flows of the hedged item that are attributable to the
hedged risk.
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Requirements
• Hedge accounting:
– Is an election
– Can only be applied prospectively
– Effectiveness testing must be performed each reporting
date and offset of fair value changes must be within 80–
125% of each other
• Hedging instrument must be a derivative but not be
written option (except for hedges of FX risk)
• Hedged item
– Entire item, group of items, or a hedged risk that is reliably
measurable
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Types of Hedge Accounting Fair value hedge accounting
• Hedge exposure to fair value changes of asset or liability
or firm commitment (or portion attributable to a particular
risk)
• Recognise of gains and losses on hedged item and
hedging instrument in profit and loss and adjust the
carrying amount of the hedged item
• Examples
– Fixed-rate debt
– Inventory
– Firm commitment to buy a commodity at a fixed price
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Types of Hedge Accounting Cash flow hedge accounting
• Hedge of exposure to variability in cash flows of:
– a recognised asset or liability or
– a highly probable forecast transaction
• Hedge of the foreign currency risk of a firm commitment
• Gains and losses on effective portion of hedge in OCI
• Gains and losses on ineffective portion of hedge in P&L
• Examples
– Forecast purchases/sales at prevailing commodity prices
– Floating-rate debt
– Forecast debt issuance
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Types of Hedge Accounting Net investment in foreign operation
• Hedge of a net investment in a foreign operation
– As defined in IAS 21
– Accounted for similarly to cash flow hedges
International Financial Reporting Standards
The views expressed in this presentation are those of the presenter,
not necessarily those of the IASB or IFRS Foundation
IFRS 9
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• Greater alignment with risk management including:
– Eligibility criteria based on more economic assessment of
hedging relationship
– Expansion of risk components for non-financial items
– Introduction of ‘costs of hedging’
– Ability to hedge aggregated exposures (combination of
derivative and non-derivative)
• Enhanced disclosures
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Introduction
Hedged items 13
Qualifying
hedged item
Entire item Component
Risk component (separately identifiable and reliably
measurable)
Nominal component or
selected contractual CFs
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Hedged items: risk components
Benchmark
(eg interest
rate or
commodity
price)
Benchmark
(eg interest
rate or
commodity
price)
Variable
element
Fixed element
Benchmark
(eg interest
rate or
commodity
price)
Benchmark
(eg interest
rate or
commodity
price)
Variable
element
Fixed element
IAS 39 New model
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Hedged items: aggregated exposures
Aggregated exposure—combination of: (a) another exposure and
(b) a derivative
[non-derivative]
exposure derivative
Hedging
instrument
Hedged item
First level
relationship
Second
level
relationship
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Hedged items: aggregated exposures
Example: hedging commodity price & FX risk
Aggregated
exposure
Manufacturer
Commodity
futures
contract
Commodity
supplier US$
US$
€
FX forward
contract
Not an eligible
hedged item
under IAS 39
US$
US$
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Hedging instruments 17
Qualifying hedging
instruments
Entire item Partial designation
FX risk component Proportion of nominal
amount
• Intrinsic value
• Spot element
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Costs of hedging 18
Time value
of options
Transaction
related
hedged item
Time period
related hedged
item
Costs of hedging
Forward element
of forward
contract
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19 Option: time value
Treatment as a cost of hedging
reflects economics
Accounting if the hedged item is transaction related
Life of option
Cumulative
gain in OCI
T0 Expiry
t
Cumulative
loss in OCI
Release from
accumulated OCI
to P/L or as a
basis adjustment
Time
value
paid
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20
Treatment as a cost of hedging
reflects economics
Accounting if the hedged item is time period related
Life of option
Cumulative
gain in OCI
Cumulative loss
in OCI
Time
value
paid
T0 Expiry
Cumulative amortisation
of initial time value
t
Time value is
amortised to
P/L over life
Option: time value
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Hedge effectiveness 21
Hedge
effectiveness
Hedge effectiveness test:
1. Economic relationship
2. Effect of credit risk
3. Hedge ratio
Measuring and recognising
hedge ineffectiveness
Rebalancing Discontinuation
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Disclosures 22
Hedge accounting
disclosures
Risk
management
strategy
Amount, timing
and uncertainty
of future
cash flows
Effects of hedge
accounting on
the primary
financial
statements
Specific
disclosures for
dynamic
strategies and
credit risk
hedging
© IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org
International Financial Reporting Standards
The views expressed in this presentation are those of the presenter,
not necessarily those of the IASB or IFRS Foundation
Macro Hedging
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At a glance
• The IASB explores an accounting approach to better
reflect dynamic risk management (RM) activities in
entities’ financial statements.
• The Discussion Paper (DP) uses dynamic interest rate
risk management by banks for illustrative purposes.
However, the approach considered in the DP is intended
to be applicable to other risks (for example, commodity
price risk and FX risk).
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Dynamic Risk Management
• Dynamic RM is a
continuous process.
• Major characteristics of
dynamic RM include:
– RM is undertaken for open portfolio(s), to which new
exposures are frequently added and existing exposures
mature.
– As the risk profile of the open portfolio(s) changes, RM is
updated frequently in reaction to the changed net risk
position.
Dynamic interest rate RM in banks 26
The purpose of dynamic RM is usually to
manage Net Interest Income
Portfolio Revaluation Approach (PRA)
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27
• Exposures within open portfolios are revalued with respect to
the managed risk (for example, interest rate risk).
• Not a full fair value model.
• The net effect between the revaluation adjustment of the
managed exposures and the fair value changes of the risk
management instruments (for example, interest rate swaps)
is reflected in profit or loss.
The PRA (continued)
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Expected improvements with the PRA
• Enhances information about dynamic RM;
• Reduces operational complexities such as tracking and
amortisations;
• Captures the dynamic nature of RM on a net basis;
• Considers behavioural factors;
• Considers different types of risks managed in open
portfolios.
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Scope of the application of the PRA
• The scope has significant implications on the information
provided to users of financial statements and on how
operationally feasible the application of the PRA will be
for an entity.
• The DP considers two scope alternatives:
– Focus on dynamic risk management
– Focus on risk mitigation (sub-portfolio approach,
proportional approach)