This site uses cookies to provide you with a more responsive and personalised service. By using this site you agree to our use of cookies. Please read our cookie notice for more information on the cookies we use and how to delete or block them.
The full functionality of our site is not supported on your browser version, or you may have 'compatibility mode' selected. Please turn off compatibility mode, upgrade your browser to at least Internet Explorer 9, or try using another browser such as Google Chrome or Mozilla Firefox.

Macro hedge accounting

Date recorded:

Portfolio revaluation approach through OCI

The solution discussed so far for the accounting for macro hedging has been the portfolio revaluation approach.  Application of that approach would require the revaluation of dynamically risk managed portfolios with respect to the managed risk, without any change to the accounting for hedging instruments, which will be at fair value through profit or loss.  An offsetting effect in profit or loss should be achieved from fair value changes of hedging instruments, to the extent offsetting risk positions exist. 

At this meeting the Board discussed the possibility of the holistic application of the portfolio revaluation approach through OCI, rather than through profit or loss, and more specifically, by recognising both the revaluation of risk managed portfolios with respect to the managed risk, and the fair value of hedging instruments in OCI rather than profit or loss. 

The staff listed a few implication of using OCI:

  • It breaks a key assumption so far in the deliberations that the portfolio revaluation approach does not change the accounting for hedging instruments.
  • The suggested use of OCI is not just a change in the presentation line, the staff have identified a number of practical issues with this proposed application
    • Internal derivatives – At the September 2012 IASB meeting there was a discussion about whether ‘internal derivatives’ representing the transfer of risk from the asset and liability management to the trading desk, could be ‘grossed up’ in profit or loss.  A key assumption in that discussion was that any gross up of internal derivatives would not impact net profit or loss.  However, if the revaluation effect from dynamic risk management activities was to be recognised in OCI, this assumption would no longer hold.
    • Sale of managed exposure or close out of hedging instruments – When a hedging instrument is sold or closed out, the carrying amount will be derecognised from the statement of financial position and included in the calculation of gain or loss on sale.  However, if the revaluation effect is recognised in OCI, there is no mechanism for this to be removed from OCI.
    • Non-derivative hedging instruments – Non-derivative instruments which are accounted for at fair value through profit or loss may be included in the dynamic portfolio.  If the revaluation effect is recognised in OCI, there is a question as to whether the full fair value change should go to OCI for non-derivative hedging instruments, or just fair value changes due to the managed risk. 
  • The purpose of OCI is currently being considered as part of The Conceptual Framework Project.  The outcome of the Conceptual Framework Project might have significant impacts in the type of transactions and amounts recognised in OCI going forward. 
  • Accounting choices may be impacted by relevant prudential regulation. 

The staff suggested that the revaluation approach through OCI (rather than profit or loss) should be mentioned as an alternative in the Discussion Paper on Accounting for Macro Hedge Accounting.  However, the staff have noted that they doubt that this will be a suitable solution given the concerns they raised.

One Board member questioned why the usefulness of the information will be impacted if OCI is used rather than profit or loss.  Other Board members thought that the use of OCI will result in questions why it could not be used more widely.  This discussion emphasised again the problems that the IASB faces with the distinction between profit or loss and OCI more widely.

The Board acknowledged the concerns with the use of OCI, however, they also acknowledged that useful feedback would be gathered if the use of OCI (and its complexities) was included in the discussion paper.  

Disclosures

The Board discussed potential disclosures that could support users’ understanding of an entity’s dynamic risk management and how the portfolio revaluation approach has been applied in the financial statements. 

The staff set out disclosure themes that they believed would be useful in providing information to users that will help them understand an entity’s dynamic risk management processes.  These themes are summarised below:

  • Qualitative information on the objectives and policies for the performance of dynamic risk management, including the identification of risk within exposures. 

    A bespoke qualitative description should be provided of the different types of exposures and risks considered within the dynamic risk management and the entity perceived risk within the exposures.  Specifically, for each type of exposure managed dynamically, information should be provided to enable users of financial statements to understand the basis upon which the risk is measured and analysed.  This could include whether the managed risk is monitored based on the contractual terms of the exposure, or if risks are considered differently such as from a behavioural perspective. 
  • Qualitative and quantitative information on the calculated risk position and its valuation on application of the portfolio revaluation approach.

    Qualitative disclosures should be provided on how the risk position is calculated which should be consistent with the risk management approach, e.g. using VaR or other sensitivity measurement techniques such as GPS.  This should include a description of the methods used for quantification of risk within the dynamically managed portfolio and an explanation of the valuation methodology used to calculate the revaluation adjustments on application of the portfolio revaluation approach (including any changes to such techniques during the period and an explanation of the reasons for such changes).  Additionally, information on estimation techniques used for risk management and accounting purposes, in particular including any reliance on subjective or judgemental inputs will be essential, for example prepayment curves or other non-market driven factors. 

    Quantitative information should be provided on the calculated risk position, and the portfolio revaluation adjustment recognised at the reporting date.  However, the staff acknowledged that this information could be commercially sensitive.  Consequently, the staff think input and suggestions from preparers would be welcomed about what could be disclosed that is not unduly commercially sensitive. 

  • How has the entity applied the portfolio revaluation approach?

    A full description of the entity’s accounting policy for the application of the portfolio revaluation approach will already be required by IAS 1 Presentation of Financial Statements.  This should provide sufficient detail for users of financial statements to understand how and where the portfolio revaluation approach has impacted the financial statements. 
  • Quantitative and qualitative information on the impact dynamic risk management has had, and is expected to have on the performance of the entity.

    The aim of these disclosures is for users to gain a better understanding of the importance of risk management on reported results in the current and future periods.  Users of financial statements often analyse information to understand potential earnings for future periods.  The impact of risk management activity to date on future earnings is therefore of great interest to users of financial statements.  Users may also find it helpful to understand the drivers of the profit or loss from the portfolio revaluation approach, such as providing disclosures on the sensitivity of both reported net interest income and the revaluation effect in the period.  This could include sensitivity disclosures for changes in the managed risk and key judgements or subjective factors.  Alternatively, quantitative and/or qualitative information on the sources of revaluation profit or loss volatility could be provided. 

The Board also considered the scope of the disclosures.  A key factor in this debate is whether the Board believes that the main aim of the disclosures is to provide information to users of financial statements on how the portfolio revaluation approach has been applied, or holistic information on dynamic risk management.  The staff think that the discussion paper should consider whether:

  • holistic disclosures should be required by virtue of applying the revaluation approach in some capacity
  • the scope should be aligned with the parts of the business for which the approach is applied (which may not comprise all exposures included in holistic dynamic risk management) or whether it is more appropriately linked to the existence of dynamic risk management.

The Board was broadly in agreement with the arguments in the staff paper and for these to be included in the discussion paper.

Correction list for hyphenation

These words serve as exceptions. Once entered, they are only hyphenated at the specified hyphenation points. Each word should be on a separate line.