A change in risk management objective has to be a matter of fact that can be observed
in the entity’s actual risk management. The examples below, the first of which is
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derived from the application guidance to IFRS 9, demonstrate how this could be
assessed in practice. [IFRS 9.B6.5.24].
Example 49.81: Partial discontinuation as a result of a change in risk
management objective
ABC Ltd is currently fully financed with variable rate borrowings (the tables in this example show nominal
amounts in millions of Euro (EUR)):
Non-current financial liabilities as of 1 January 2019
Variable
Fixed
rate
rate
Variable rate borrowings
100
Fixed rate borrowings
0
Total
100 0
100% 0%
Risk management strategy
To maintain between 20% and 40% of long term debt at a fixed rate.
Risk management activity
To implement the strategy, the treasurer of ABC enters into a pay fixed/receive variable interest rate swap
(IRS) with a notional amount of EUR 30m and designates the IRS in a hedging relationship.
Risk management objective
Use a pay fixed/receive floating interest rate swap with a notional amount of EUR 30m in a cash flow hedge
of the interest payments on EUR 30m of the variable rate borrowings in order to maintain 30% of the long
term borrowings at a fixed rate.
Non-current financial liabilities as of 1 January 2019
Variable
Fixed
rate
rate
Variable rate borrowings
100
Fixed rate borrowings
0
Pay fixed/receive variable interest rate swap
(30)
30
Total
70 30
70% 30%
On 31 March 2020, the entity needs further funding and takes advantage of lower interest rates by issuing a
EUR 50m fixed rate bond. At the same time, the entity decides to set its fixed rate exposure at 40% of total
borrowings, still being within the existing risk management strategy.
Non-current financial liabilities as of 31 March 2020
Variable
Fixed
rate
rate
Variable rate borrowings
100
Fixed rate borrowings
50
Pay fixed/receive variable interest rate swap
(30)
30
Total
70 80
47% 53%
It is evident that ABC is no longer within the target range of its risk management strategy. In order to execute
the risk management strategy, ABC no longer needs part of its interest rate swap. In other words, the risk
management objective for the hedging relationship has changed. Consequently, ABC discontinues EUR 20m
of the hedging relationship (a partial discontinuation) and would most likely close out the risk from EUR 20m
of the IRS.
Financial instruments: Hedge accounting 4131
Going forward, ABC’s debt financing and risk profile will be as follows: [IFRS 9.B6.5.24]
Non-current financial liabilities as of 31 March 2020
Variable
Fixed
rate
rate
Variable rate borrowings
100
Fixed rate borrowings
50
Pay fixed/receive floating interest rate swap
(10)
10
Total
90 60
60% 40%
The above example only illustrates the outcome of one particular course of action. The
entity could also have adjusted its interest rate exposure in a different way in order to
remain in the target range for its fixed rate funding, for instance by swapping EUR 20m
of the new fixed rate bond into variable rate funding. In that case, instead of
discontinuing a part of the already existing cash flow hedge, the entity could have
designated a new fair value hedge. The example in the application guidance of the
standard is obviously a simplified one. In practice, entities tend to have staggered
maturities for different parts of their financing. In such situations it would often be
obvious from the maturity of the new interest rate swaps if they are a fair value hedge
of the debt or a reduction of the already existing cash flow hedge volume. For example,
if the new EUR 50m fixed rate bond is for a longer period than the existing debt and the
new interest rate swap is for the same longer period, it would suggest that it is a fair
value hedge of the new fixed rate bond instead of a reduction of the cash flow hedge
for the already existing debt. Conversely, a reduction of the cash flow hedge volume
would be consistent with entering into a new interest rate swap that has the same
remaining maturity as the existing interest rate swap and offsets its fair value changes
on a part of the notional amount.
Example 49.82: Partial discontinuation of an interest margin hedge
XYZ Bank is holding a combination of fixed and variable rate assets and liabilities on its banking book. For
risk management purposes, the bank allocates all the assets and liabilities to time bands based on their
contractual maturity. As of 1 January 2019 the bank holds the following instruments in the 5-year time band
(the tables in this example show nominal amounts in millions of Euro (EUR)):
Summary of instruments with a 5-year maturity
Assets:
Liabilities:
Assets:
Liabilities:
fixed rate
fixed rate
variable
variable
rate
rate
Bonds
held
20
Mortgages
30 10
Retail
loans
30 10
Client
term
deposits
(60)
Bonds
issued
(30) (10)
Total
60 (30) 40 (70)
Fixed-variable interest mismatch
30
(30)
The fixed-variable mismatch results in interest margin risk due to changes in interest rates.
Risk management strategy
To eliminate the interest margin risk resulting from fixed-variable interest mismatches.
4132 Chapter 49
Risk management activity
In order to achieve the risk management strategy, XYZ Bank enters into a pay fixed/receive variable interest
rate swap (IRS) with a notional amount of EUR 30m. For accounting purposes, the bank could either
designate the IRS in a cash flow hedge of EUR 30m of specific variable rate liabilities or in a fair value hedge
of EUR 30m of specific fixed rate assets. Under the local regulatory requirements, fair value hedges are more
favourable for the bank’s regulatory capital.
Risk management objective
Using a EUR 30m pay fixed/receive variable IRS in a fair value hedge of EUR 30m of fixed rate retail loans
to hedge a fixed-variable interest mismatch on fixed and variable rate assets and liabilities in the 5-year time
band of XYZ Bank’s banking book.
At the beginning of year 2021, XYZ Bank attracts EUR 10m of client term deposits as a result of a successful
marketing
campaign. The new term deposits all have a fixed interest rate for a maturity of three years,
therefore, matching the (remaining) maturity of the instruments in the above time bucket. The XYZ Bank
uses the proceeds from the new term deposits to buy back EUR 10m of variable rate bonds that it has issued.
The new situation in the (now) 3-year time band is:
Summary of instruments with a 3-year maturity
Assets:
Liabilities:
Assets:
Liabilities:
fixed rate
fixed rate
variable
variable
rate
rate
Bonds
held
20
Mortgages
30 10
Retail
loans
30 10
Client
term
deposits
(10) (60)
Bonds
issued
(30) (0)
Total
60 (40) 40 (60)
Fixed-variable interest mismatch
20
(20)
Pay fixed/receive variable interest rate swap
(30)
30
As a result of the change in funding, the risk management objective of the hedging relationship has changed.
XYZ Bank is over-hedged and needs to discontinue EUR10m of its hedging relationship.
A logical consequence of linking the discontinuation to the risk management objective
is that voluntary discontinuations are not permitted just for accounting purposes. This
change, gave rise to concern among some constituents who argued that, given hedge
accounting is optional, voluntary discontinuation should be permitted (as it was
previously under IAS 39). [IFRS 9.BC6.324].
However, many of the circumstances in which an entity applying IAS 39 might have
voluntarily discontinued hedge accounting do not arise in the same way under IFRS 9.
For example it is not necessary to discontinue hedge accounting in order:
• to adjust the hedge ratio for a change in the expected relationship between the
hedged item and the hedging instrument;
• to hedge a secondary risk (e.g. where an entity first hedges the commodity price
risk in a commodity purchase contract in foreign currency but later decides to
hedge the foreign currency risk as well);
• to amend the chosen effectiveness method if it becomes no longer appropriate; or
• because some of the hedged cash flows are no longer expected to occur.
These circumstances are all addressed in IFRS 9 by inclusion of: rebalancing, the ability
to achieve hedge accounting for aggregated exposures, no longer requiring hedges to be
Financial instruments: Hedge accounting 4133
‘highly effective’ and partial discontinuation. Hence, voluntary discontinuation is not
needed in such situations.
In its redeliberations, the IASB noted that hedge accounting is an exception to the
general accounting principles in IFRS, in order to (better) present in the financial
statements a particular risk management objective of a risk management activity. If that
risk management objective is unchanged and the qualifying criteria for hedge
accounting are still met, a voluntary discontinuation would be inconsistent with the
original (valid) reason for applying hedge accounting. The Board believes that hedge
accounting, including its discontinuation, should have a meaning and should not be a
mere accounting exercise. [IFRS 9.BC6.327]. Based on this, the IASB decided not to allow
voluntary discontinuation for hedges with unchanged risk management objectives.
[IFRS 9.BC6.331].
It is important to note that the risk management objective of an individual hedging
relationship can change although the risk management strategy of the entity remains
unchanged (see 6.2 above). [IFRS 9.BC6.330]. In fact, in most cases where an entity might
wish to ‘voluntarily dedesignate’ a hedging relationship, this is usually driven by a
change in the risk management objective, in which case the entity would actually be
required to amend its hedge accounting under IFRS 9. The standard prohibits voluntary
dedesignations when they are only made for accounting purposes.
As stated above, whether the risk management objective has changed for a particular
hedge relationship should be a matter of fact, and for many scenarios this will be
obvious, as demonstrated in Examples 49.80 and 49.81 above. However, for more
complex risk management approaches, judgement will be required to determine
whether the risk management objective has changed or not. An example would be when
managing the risk from a portfolio on a dynamic basis but for which ‘proxy’ hedge
accounting relationships have been designated (see 6.2.1 above). The application
guidance in IFRS 9 provides an example of how a change in the risk management
objective should be considered for a dynamic risk management approach.
Example 49.83: Change in risk management objective for an open portfolio of
debt instruments
An entity manages the interest rate risk of an open portfolio of debt instruments. The resultant exposure from
the open portfolio frequently changes due to the addition of new debt instruments and the derecognition of debt
instruments (i.e. it is different from simply running off a position as it matures). Entity A applies a dynamic
process in which both the exposure and the hedging instruments used to manage it do not remain the same for
long. Consequently, Entity A frequently adjusts the hedging instruments used to manage the interest rate risk as
the exposure changes. For example, debt instruments with 24 months’ remaining maturity are designated as the
hedged item for interest rate risk for 24 months. The same procedure is applied to other time buckets or maturity
periods. After a short period of time, Entity A discontinues all, some or a part of the previously designated
hedging relationships and designates new hedging relationships for maturity periods on the basis of their size
and the hedging instruments that exist at that time. The discontinuation of hedge accounting in this situation
reflects that those hedging relationships are established in such a way that Entity A looks at a new hedging
instrument and a new hedged item instead of the hedging instrument and the hedged item that were designated
previously. The risk management strategy remains the same, but there is no risk management objective that
continues for those previously designated hedging relationships, which as such no longer exist.
In such a situation, the discontinuation of hedge accounting applies to the extent to which the risk management
objective has changed. This depends on the situation of an entity and could, for example, affect all or only
some hedging relationships of a maturity period, or only part of a hedging relationship. [IFRS 9.B6.5.24(b)].
4134 Chapter 49
8.3.1
Discontinuing fair value hedge accounting
On discontinuation of a hedge relationship for which the hedged item is a financial
instrument (or component thereof) measured at amortised cost, any adjustment arising
from a hedging gain or loss on the hedged item must be amortised to profit or loss. The
amortisation is based on a recalculated effective interest rate at the date the
amortisation begins. The treatment of any fair value hedge adjustments on
discontinuation should also be applied to partial discontinuations. [IFRS 9.6.5.10].
In the case of a debt instrument (or component thereof) that is a hedged item measured
at fair value through other comprehensive income (see 7.1.1 above), the amortisation is
applied in the same manner as for financial instruments measured at amortised cost, but
to other comprehensive income instead of by adjusting the carrying amount.
[IFRS 9.6.5.10].
On discontinuation of a fair value hedge, no further guidance is provided for hedge
relationships for which the hedged item is not a financial instrument. Therefore, on
discontinuation of such a hedge relationship, the entity ceases to make any further
adjustment arising from a hedging gain or loss on the hedged item, and any previous
adjustment from fair value hedge accounting becomes part of the carrying amount of
the hedged item. [IFRS 9.6.5.8(b)].
8.3.2
Discontinuing cash flow hedge accounting
When an entity discontinues hedge accounting for a cash flow hedge, it must account
for the amount that has been accumulated in the cash flow hedge reserve as follows:
• the amount remains in accumulated OCI if the hedged future cash flows are still
expected to occur; or
• the amount is immediately reclassified to profit or loss as a reclassification
adjustment if the hedged future cash flows are no longer expected to occur.
[IFRS 9.6.5.12].
After discontinuation, once the previously expected hedged cash flow occurs, any
amount remaining in accumulated OCI must be accounted for depending on the
nature of the underlying transaction consistent with the accounting for cash flow
hedge relationships that are not discontinued (see 7.2.2 above). [IFRS 9.6.5.12]. The
treatment of the cash flow hedge reserve on discontinuation should also be applied to
partial discontinuations.
8.3.2.A
Impact of novation to central clearing parties on cash flow hedges
The collapse of some financial institutions during the financial crisis highlighted the
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 819
