In August the ASB issued as FRED 30 Supplement the IASB’s proposed amendment to IAS 39 permitting hedge accounting for a portfolio hedge of interest rate risk; the closing date for comment is 14 November. The proposals follow discussions with banks and other institutions, for whom the application of the hedging rules in IAS 39 presented major difficulties.

The exposure draft proposes a new approach to accounting for fair value hedges of the interest rate risk for a portfolio of assets and liabilities, including prepayable items based on their expected rather than contractual repayment dates. There would be no requirement to identify individual items as the hedged item. The hedged item would be designated as a portion of the gross assets or gross liabilities in the portfolio. Changes in the fair value of the hedged item would be shown as a separate item on the balance sheet rather than as an adjustment to the carrying value of the assets or liabilities.

The proposals also require hedge ineffectiveness to be measured and recognised. Where expectations of prepayment change, hedging instruments will no longer match the expected prepayment dates. The IASB proposes a proportionate method to allocate these changes to the hedged portion. Three alternative allocation methods rejected by the IASB are explained in the exposure draft.

Banks’ core deposits would be included on the basis of their expected repayment dates for the purpose of determining the net risk position to be hedged; but these deposits may not be included as part of the portfolio that is designated as the hedged item.

Although there remain differing views on the proposals for ineffectiveness testing and the treatment of core deposits, the proposals represent a useful development in hedge accounting for banks and certain other entities with large interest rate management functions.