United Kingdom

Hedging 

The IASB's exposure draft issued in September 2012 changes the focus of hedge accounting away from stringent rules to a more principles based approach which seeks to align accounting with companies’ risk management policies.

 

Overall this change in approach brings with it new hedge accounting opportunities due to a relaxation in the qualifying criteria for hedged items and hedging instruments and the risks that can be hedged. It is anticipated that a number of economic hedge arrangements that failed to meet hedge accounting criteria under IAS 39 would be acceptable under the proposals in the exposure draft.

 

The IASB has split the hedge accounting phase into two parts: general hedging and macro hedging. It finalised its deliberations on the general hedge accounting requirements in April 2013 and is working towards issuing a final standard in the third quarter of 2013. A discussion paper on macro hedge accounting is also expected in the third quarter of 2013.

 

In June 2013, the IASB published amendments to IAS 39 Novation of Derivatives and Continuation of Hedge Accounting. These amendments provide relief from discontinuing an existing hedging relationship when a novation (e.g. to a clearing counterparty), that was not contemplated in the original hedging documentation, meets specific criteria. The IASB plans to include similar requirements in its forthcoming standard on general hedge accounting.

“Although the principles in the hedging review draft will provide welcome relief, the application guidance in some areas remains complex."

Andrew Marshall, Senior Technical Partner

Overview of exposure draft

  • Broadened scope: Fewer restrictions will mean more ‘economic’ hedges will qualify for hedge accounting. Hedge accounting will be more aligned with risk management, placing risk management policy documentation at the centre of the requirements.
  • Hedging instruments: Non-derivative financial assets or liabilities measured at fair value through profit or loss may be designated as hedging instruments in their entirety when hedging relationships of any risk, not only foreign currency risk (as per current IAS 39 rules).
  • Hedged items: Certain risk components of non-financial items may be designated as hedged items. In addition, an aggregate exposure comprising a derivative and a non-derivative may be designated as a hedged item, if managed as a single exposure.
  • Effectiveness testing: Retrospective effectiveness testing would no longer be required. Provided there is an ongoing expectation of more than a reasonable degree of offset then hedge accounting would continue.
  • Discontinuation:  Hedge accounting tracks the risk management objective. Voluntary discontinuation of hedge accounting would be prohibited.

 

Practical issues

Management should:
  • Review and refresh risk management policy documentation and strategies.
  • Consider whether to apply hedge accounting to relationships not permissible under current accounting rules.
  • Consider whether systems and processes can adequately support the enhanced hedging opportunities.
  • Be aware that voluntary de-designation of hedge accounting would no longer be permissible under the proposals.