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Flashcards in Derivatives Hedging Translation Deck (43)
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How are derivatives recorded?

At cost when acquired re-valued to fair value each period on Balance Sheet.


How are unrealized gains/losses on trading securities recorded?

Recorded on income statement


How are gains and losses on Available for Sale (AFS) securities recorded?

They are included in Other Comprehensive Income.


What is a Fair Value Hedge? How is it recorded?

Fair Value Hedge offsets exposure to changes in the value of a recognized asset/liability or of an unrecognized commitment

Initially recorded on Balance Sheet at Fair Value

Gains/Losses recorded on Income Statement


What is a Cash Flow Hedge? How is it recorded?

Cash flow hedges protect from exposure to fluctuations in cash flows.

Initially recorded on Balance Sheet at Fair Value

Gains/Losses going to OCI

Example: A cereal company enters into a futures contract on grain purchases to offset the risk that grain will go up in price.


Where are gains and losses on foreign currency hedges recorded?

In Other Comprehensive Income (OCI)


What disclosures are required for derivative transactions?

Objectives and Strategies

Context to help investor understand the instrument

Risk Management Policies

Complete List of Hedged Instruments


How do transactions denominated in in a currency other than a company's functional currency affect the income statement?

Fluctuations in that currency cause a gain or loss that must be recognized on the income statement as Income from Continuing Operations


For the balance sheet which date's translation rate is used to report assets and liabilities?

The current translation rate as of the balance sheet date is used to report assets and liabilities.


Which date's currency translation rate is used for the reporting of revenue and expense transactions in a foreign currency?

Use the weighted average exchange rate for the current year.


If the functional currency is the reporting currency which exchange rate is used on the foreign currency financial statements?

Foreign Currency Financial Statements are remeasured into the Reporting Currency (Dollar) using the weighted-average exchange rate

Foreign Currency is reporting currency = translation only


Where are re-measurement gains and losses due to foreign currency translation of unaffiliated companies reported?

On the income statement as Other Income.


Discount/Premium on Forward Contract Formula

Spot Rate (TD) - FR Settlement Date
x # of units


An agreement with an unrelated party binding on both, usually legally enforceable, specifying all significant terms and including a disincentive for non performance sufficient to make non performance likely

Firm Commitment


Transaction expected to occur for which there is no firm commitment, doesn't give the entity present rights or obligations, can be hedged applying hedge accounting

Forecasted transaction


Transaction whose terms are denominated in a currency other than the entity's functional currency

Foreign Currency transaction


Foreign Currency transactions - when an entity:

1. buys or sells on credit goods or services whose prices are denominated in foreign currency
2. borrows or lends funds and the amounts payable or receivable are denominated in foreign currency
3. a party to an unperformed forward exchange contract
4. acquires or disposes of assets or incurs or settles liabilities denominated in foreign currency


An agreement to exchange at specified future date CURRENCIES of different countries at specified rate (FR)

Forward exchange contract


A forward based contract to make or take delivery of a designated financial instrument, foreign currency or commodity during a:
* designated period
* at a specified price or yield
traded/less credit risk than forward contracts

Futures contract


In the money

underlying is > strike or exercise price


Out of the money

underlying is < strike or exercise price


At the money

underlying = strike or exercise price


Intrinsic value

larger than 0 or the difference between FV of stock and exercise price


Net settlement can be done by:

1. no delivery equal to notional amount required (interest rate swap)
2. delivery = notional amount settled by exchange or market mechanism or side contract agreement
3. delivery = notional amount; asset is readily marketable to cash or the asset itself is a derivative (swaption or delivery of marketable security)


Notional Amount

# of units, bushels, shares of stocks, principal amount, face value, stated value, basis points, barrels etc.



specified price, rate, interest rate, currency rate, commodity price, related index; includes physical variables and financial variables - rainfall, credit rating, temperature changes


Hedging Criteria

1. sufficient documentation - objective, identification, assessment of the hedge
2. must be highly effective throughout its life - measured every 3 months or whenever FS is reported



Spot rates only
SR TD - SR BSD = FX Gain/Loss - IS

Account: Foreign transaction gain/loss


Remeasurement Disclosures

1. Aggregate transaction gain/loss included in net income
2. Significant rate changes subsequent to FS date including its effects to unsettled foreign transactions


Relationship of foreign transactions gain/loss vs
fx purchase or sale

FX Purchase transaction - if rates go high = loss
- if rates go low = gain because liability is settled at lower rates

FX Gain transaction - rates low = loss
rates high = gain