Derivatives/Hedging/Currency Flashcards
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, ineffective portions reported in earnings
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
Where are remeasurement gains and losses due to foreign currency translation reported?
On the income statement as Other Income.
How are non-hedging derivatives recorded?
Measured at FV
Changes in FV reported as gains or losses in earnings (income statement)
What is an interest rate swap agreement?
An agreement to swap interest payments but not principals
e.g. an exchange of a variable interest rate for a fixed rate
What is the characteristic of a perfect hedge?
No possibility of future gain or loss
If it is not practicable to estimate a financial instrument’s fair value, what should be disclosed?
Relevant info to estimating the FV (carrying amount, effective interest rate, maturity)
Why it is not practicable to estimate the FV
What is credit risk?
The possibility of loss due to another party’s failure to fulfill his end of the contract
All concentrations of credit risk for all financial instruments need to be disclosed
What is market risk?
The possibility that future changes in market price may decrease a financial instrument’s value
Quantitative info for market risk is encouraged, but not required, to be disclosed
What is the benchmark interest rate?
Rate associated with no risk of default
What is a swaption?
An option for the delivery of a swap contract
What is the central concern regarding whether to recognize or derecognize financial assets?
Control - it determines whether a transfer is accounted for as a sale or a collateralized borrowing
Determination presupposes that assets (and liabilities) can be divided into many components
What is an interest-only strip?
Right to receive some or all of the interest due on some interest-bearing financial asset
What is a cleanup call?
An option held by a servicer to purchase transferred financial assets whenever outstanding assets falls to a level where the cost of servicing those assets becomes burdensome
What is securitization?
The process of turning financial assets into securities
What are wash sales?
The selling of a financial asset right before or after purchasing one of the same kind
Done for tax purposes, to gain a deduction based on an unrealized loss
What determines when outstanding checks are reported, their recording date or their mailing date?
Mailing date
If a company receives a note receivable in exchange for a sale of goods, how is the interest income recorded?
Recorded as sales revenue, not interest revenue
How is interest revenue recorded?
Difference between received amount of money and PV of loan – not the face value
When a note receivable is discounted to PV, how is it recorded?
Difference between the discount and the PV is recorded as a deferred charge
If a loan is repaid in equal payments, part interest and part principal, and if the loan is discounted to have a different effective interest rate than the stated rate, how is interest revenue recorded?
(Face amount) / (PV factor @ stated rate) = annual payment
(Annual payment) x (PV factor @ effective rate) = PV of note
Difference between total revenue and PV = interest revenue
If a note receivable is discounted to a third-party, discounted at a specific effective interest rate, what is another name for that rate?
Discount rate
If an AFS security has a permanent decline in FV, how is it recorded?
A REALIZED loss reported in income (NOT OCI)
Asset is written down to FV
If a security is transferred from the trading category to the AFS category, hwo is it recorded?
Any loss in FV (permanent or temporary) is counted as a REALIZED loss and included in income (NOT OCI)
Should significant credit risk be disclosed only for financial instruments with credit risk?
No – should be disclosed for ALL financial instruments
If an option changes in value (whether intrinsic or time value), how is it recorded?
Changes in either kind of value are reported in earnings
