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Derivatives – FASB Discusses Derivatives
Exposure Draft - Proposed Accounting Standards Update 2021-002 —Derivatives and Hedging (Topic 815): Fair Value Hedging —Portfolio Layer Method
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Derivatives – FASB Discusses Derivatives
Summary - As reported in its “Summary of Decisions” publication, the FASB met on December 6, 2023, and discussed whether to add a project to its technical agenda to refine the scope of Topic 815, Derivatives and Hedging, and began initial deliberations. The FASB discussed feedback on the application of the definition of a derivative to various arrangements with contingent features that the FASB received in comment letters on the June 2021 Invitation to Comment, Agenda Consultation, and through additional stakeholder outreach. The FASB decided to add a project to its technical agenda to refine the scope of Topic 815.
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Exposure Draft - Proposed Accounting Standards Update 2021-002 —Derivatives and Hedging (Topic 815): Fair Value Hedging —Portfolio Layer Method
Summary - The FASB issued a proposed Accounting Standards Update (ASU) intended to better align hedge accounting with an organization’s risk management strategies. Stakeholders are encouraged to review and provide comment on the proposed ASU by July 5, 2021.
In 2017, the FASB issued a new hedging standard to better align the economic results of risk management activities with hedge accounting. The new standard increased transparency around how the results of hedging activities are presented, both on the face of the financial statements and in the footnotes, for investors and analysts when hedge accounting is applied.
One of the major provisions of that standard was the addition of the last-of-layer hedging method. For a closed portfolio of fixed-rate prepayable financial assets or one or more beneficial interests secured by a portfolio of prepayable financial instruments, such as mortgages or mortgaged-backed securities, the last-of-layer method allows an entity to hedge its exposure to fair value changes due to changes in interest rates for a portion of the portfolio that is not expected to be affected by prepayments, defaults, and other events affecting the timing and amount of cash flows.
Since issuing the hedging standard, stakeholders have told the FASB that the ability to elect hedge accounting for a single layer is useful, but hedge accounting could better reflect risk management activities if expanded to allow multiple layers of a single closed portfolio to be hedged under the method.
The proposed ASU would expand the current single-layer model to allow multiple-layer hedges of a single closed portfolio of prepayable financial assets or one or more beneficial interests secured by a portfolio of prepayable financial instruments under the method. To reflect that expansion, the last-of-layer method would be renamed as the portfolio layer method.
Additionally, the proposed ASU would:
- Clarify eligible hedging instruments in a single-layer strategy;
- Provide additional guidance on the accounting for and disclosure of fair value hedge basis adjustments that would be applicable to both the current single-layer model and the proposed multiple-layer model; and
- Indicate how fair value hedge basis adjustments should be considered when determining credit losses for the assets included in the closed portfolio.
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© 2021 CCH Incorporated and/or its affiliates. All rights reserved. Used with permission.