Hedge Accounting - What Hedge Accounting Options Are Available To An Entity That Wants To Manage Foreign Currency Expos

What Hedge Accounting Options Are Available To An Entity That Wants To Manage Foreign Currency Expos

A specific type of hedging transaction that entities can engage in aims to manage foreign currency exposure. These hedges are undertaken for the economic aim of reducing potential loss from fluctuations in foreign exchange rates. However, not all hedges are designated for special accounting treatment. Accounting standards enable hedge accounting for three different designated forex hedges:

  • A cash flow hedge may be designated for a highly probable forecasted transaction, a firm commitment (not recorded on the balance sheet), foreign currency cash flows of a recognized asset or liability, or a forecasted intercompany transaction.
  • A fair value hedge may be designated for a firm commitment (not recorded) or foreign currency cash flows of a recognized asset or liability.
  • A net investment hedge may be designated for the net investment in a foreign operation.

The aim of hedge accounting is to provide an offset to the mark-to-market movement of the derivative in the profit and loss account. For a fair value hedge this is achieved either by marking-to-market an asset or a liability which offsets the P&L movement of the derivative. For a cashflow hedge some of the derivative volatility into a separate component of the entity's equity called the cash flow hedge reserve.

Where a hedge relationship is effective (meets the 80%–125% rule), most of the mark-to-market derivative volatility will be offset in the profit and loss account.

To achieve hedge accounting requires a large amount of compliance work involving documenting the hedge relationship and both prospectively and retrospectively proving that the hedge relationship is effective.

Read more about this topic:  Hedge Accounting

Famous quotes containing the words hedge, accounting, entity, manage, foreign and/or currency:

    Though bachelors be the strongest stakes, married men are the best binders, in the hedge of the commonwealth.
    Thomas Fuller (1608–1661)

    I, who am king of the matter I treat, and who owe an accounting for it to no one, do not for all that believe myself in all I write. I often hazard sallies of my mind which I mistrust.
    Michel de Montaigne (1533–1592)

    What is this world of ours? A complex entity subject to sudden changes which all indicate a tendency to destruction; a swift succession of beings which follow one another, assert themselves and disappear; a fleeting symmetry; a momentary order.
    Denis Diderot (1713–1784)

    Some people are under the impression that all that is required to make a good fisherman is the ability to tell lies easily and without blushing; but this is a mistake. Mere bald fabrication is useless; the veriest tyro can manage that. It is in the circumstantial detail, the embellishing touches of probability, the general air of scrupulous—almost of pedantic—veracity, that the experienced angler is seen.
    Jerome K. Jerome (1859–1927)

    For most visitors to Manhattan, both foreign and domestic, New York is the Shrine of the Good Time. “I don’t see how you stand it,” they often say to the native New Yorker who has been sitting up past his bedtime for a week in an attempt to tire his guest out. “It’s all right for a week or so, but give me the little old home town when it comes to living.” And, under his breath, the New Yorker endorses the transfer and wonders himself how he stands it.
    Robert Benchley (1889–1945)

    Money is the worst currency that ever grew among mankind. This sacks cities, this drives men from their homes, this teaches and corrupts the worthiest minds to turn base deeds.
    Sophocles (497–406/5 B.C.)