Financial instruments and derivatives Flashcards
What is a derivative financial instrument?
A contract that has its settlement value tied to an underlying notional amount. (technical definition)
Contract whose value is based on another contract or an underlying index.
A derivative possesses what three characteristics?
- It calls for net settlement in cash
- It has one or more underlyings and notional amounts
- It requires no significant net investment
How is the intrinsic value calculated?
Intrinsic value of a stock option is the market price less the strike price (exercise price)
100 shares at a market price of $10, and an exercise price of $9. 10 - 9= 1x 100= 100
How should gains or losses from fair value hedges be recognized?
The gain or loss, along with the offsetting loss or gain attributable to the hedged risk, should be recognized currently in earnings in the same accounting period.
What is the underlying?
The underlying the factor that is used in the formula applied to the notional amount to determine what amount will be exchanged between the parties.
How are gains or losses from cash flow hedges recognized?
Changes in the effective portion of cash flow hedges are reported in OCI
What condition must a non-public company follow in order to apply the simplified hedge accounting approach to a cash flow hedge?
The variable rate on the interest swap and the variable rate on the hedged borrowing itself must be linked to the same index, such as the federal prime rate.
