Resources

Optimize your balance sheet under the new hedge accounting guidelines

Issue link: https://resources.chathamfinancial.com/i/925803

Contents of this Issue

Navigation

Page 0 of 1

Intelligent Solutions for Financial Risk Management Hedge Accounting Update The FASB's Accounting Standards Update (ASU) on derivatives and hedging provides much anticipated improvements to the hedge accounting framework in ASC 815. Financial institutions and other users of hedge accounting will benefit from the changes in the ASU. The effective date for public business entities will be fiscal years beginning after December 15, 2018 with early adoption permitted upon issuance of the final ASU (including interim adoption). Chatham Financial has followed this project very closely over the past several years and has had a significant role in working with the FASB to help shape the new guidance. Chatham can help identify the potential impact the new guidance may have on your hedging program. New and more efficient hedging strategies While the improvements in the ASU will provide a benefit to all hedging strategies, there are two specific strategies that will become significantly more attractive and efficient as they will enable entities to directly hedge their asset portfolios. Liability sensitive financial institutions will be able to utilize the newly introduced "last of layer" designation to hedge a portion of an identified closed portfolio of prepayable assets. As a result of this new strategy, financial institutions will have a one-time opportunity to transfer HTM securities to AFS that are eligible for the last-of-layer designation, upon adoption of the ASU. Asset sensitive institutions will be able to take advantage of designations of "contractually specified rates" as the hedged risk, and apply the concept to Prime indexed floating-rate assets, which was previously not a permitted benchmark risk. This new designation technique allows for the exclusion of the credit spread component from the hedged item and therefore creates the potential for larger and more efficient hedging strategies of floating-rate assets. Improvements to income statement presentation The FASB has eliminated the concept of ineffectiveness from the hedging framework as a response to the feedback from users of hedge accounting and readers of financial statements. This will reduce complexity associated with interpreting hedging results. Hedge mismatches will no longer be required to be separately measured and reported in financial statements. The economic impact from mismatches between the hedge and hedged item will be reported in the same income statement line item when the hedged item affects earnings. The impact of mismatches will be mitigated in some cases by other improvements to the fair value and cash flow models. In addition, the FASB has introduced an improvement to the shortcut method of assessing effectiveness by allowing for a fallback, long-haul method of assessing effectiveness to be documented at the time of designation. This change will significantly reduce the risk of restatement due to improper documentation of the hedging relationship or unexpected changes to the hedged item's term. The FASB has also provided flexibility in the recognition of the time value component of option premiums. Under the ASU, time value can be excluded from the hedging relationship and recognized in interest income or expense on a straight-line basis. CONTACT US: 610.925.3120 bsrm@chathamfinancial.com chathamfinancial.com Optimize your balance sheet under the new hedge accounting guidelines

Articles in this issue

Links on this page

view archives of Resources - Optimize your balance sheet under the new hedge accounting guidelines