Overview
Why Hedge Effectiveness Testing Matters
Hedge accounting allows entities to match the timing of gains and losses on hedging instruments with the related gains or losses on hedged items, reducing earnings volatility. To qualify and maintain hedge accounting under IFRS 9 or IAS 39, entities must demonstrate that the hedging relationship meets specific effectiveness requirements — at inception and throughout the life of the hedge.
Shasat provides independent hedge effectiveness assessments, formal hedge documentation and ongoing support across all three hedge types — fair value hedges, cash flow hedges and net investment hedges. Our reports are designed to satisfy auditor requirements and withstand scrutiny at year-end, interim reporting dates and on regulatory review.
Hedge types
The Three Accounting Hedge Relationships
IFRS 9 and IAS 39 recognise three types of hedging relationships, each with distinct accounting treatment and effectiveness requirements.
Fair Value Hedge
A hedge of exposure to changes in the fair value of a recognised asset, liability or firm commitment attributable to a particular risk. Gains and losses on both the hedging instrument and hedged item are recognised in profit or loss in the same period.
IFRS 9 Section 6.3 and IAS 39 AG105
Cash Flow Hedge
A hedge of exposure to variability in cash flows attributable to a particular risk associated with a recognised asset, liability, or highly probable forecast transaction. The effective portion of the gain or loss is recognised in Other Comprehensive Income (OCI) and reclassified to profit or loss when the hedged item affects P&L.
IFRS 9 Section 6.4 and IAS 39 AG117
Net Investment Hedge
A hedge of the foreign currency exposure arising from a net investment in a foreign operation. The effective portion of the gain or loss on the hedging instrument is recognised in OCI within the foreign currency translation reserve and reclassified to P&L on disposal or partial disposal of the foreign operation.
IFRS 9 Section 6.5 and IAS 21 / IAS 39 AG131
Our approach
Hedge Effectiveness Methodology
Shasat applies quantitative and qualitative methods appropriate to the hedge type, the nature of the risk being hedged and the complexity of the hedging instrument.
01
Hedge designation and formal documentation
Preparation of IFRS 9 or IAS 39 compliant hedge designation documentation — identifying the hedged item, hedging instrument, hedged risk, hedge type, effectiveness assessment method and hedge ratio at inception.
02
Prospective effectiveness assessment
Forward-looking assessment of whether the hedging relationship is expected to be highly effective. Shasat applies the hypothetical derivative method, critical terms comparison, statistical methods or regression analysis depending on the hedge structure.
03
Retrospective effectiveness assessment (IAS 39)
For entities applying IAS 39, quantitative retrospective testing using dollar offset (cumulative or period-by-period) or regression analysis to confirm the hedging relationship remained within the 80 to 125 per cent effectiveness range during the reporting period.
04
Hedge rebalancing (IFRS 9)
Where the hedge ratio requires adjustment, Shasat supports the rebalancing process under IFRS 9 — adjusting the designated quantity of the hedging instrument or hedged item without full discontinuation. Rebalancing documentation is prepared to audit standard.
05
Fair value measurement and reporting support
Valuation of hedging instruments and hedged items at each reporting date, calculation of hedge ineffectiveness, preparation of IFRS 7 and IFRS 9 hedge accounting disclosures, and cash flow hedge reserve movements.
Standards comparison
IFRS 9 versus IAS 39
IFRS 9 introduced a more principles-based hedge accounting model, removing several of the rule-based constraints in IAS 39. Understanding the key differences is essential for entities transitioning between the two standards.
Feature
IFRS 9
IAS 39
Effectiveness test
Economic relationship, credit risk and hedge ratio — no bright-line threshold
80 to 125 per cent — both prospective and retrospective quantitative tests required
Retrospective testing
Not required — ongoing qualitative assessment is sufficient in many cases
Required — failure discontinues hedge accounting
Rebalancing
Permitted — adjust hedge ratio without full discontinuation
Not available — ratio change requires discontinuation and redesignation
Risk components
Broader range of eligible risk components for non-financial items
Limited eligible risk components for non-financial items
Time value of options
Aligned cost of hedging approach — time value recognised in OCI
Full change in fair value through P&L unless separately designated
Portfolio hedging
Dynamic portfolio hedging — layer component approach available
Portfolio hedges of interest rate risk — specific carve-out required
Use cases
Who Uses Hedge Effectiveness Testing
Banks and Financial Institutions
Interest rate swap fair value hedges on fixed-rate loan portfolios and bond issuances
Multinational Corporates
Net investment hedges for foreign currency translation reserves in overseas subsidiaries
Corporates with Floating-Rate Debt
Cash flow hedges using interest rate swaps to fix variable-rate borrowing costs
Energy and Commodity Companies
Cash flow hedges on forecast commodity purchases and sales using futures and forwards
Importers and Exporters
Cash flow hedges of highly probable FX-denominated forecast transactions using FX forwards
Investment Managers
Macro hedging and portfolio hedging of interest rate risk using dynamic layer approaches
Standards applied
Applicable Frameworks
Shasat's hedge effectiveness reports are prepared under the standard applicable to your jurisdiction and reporting framework.
IFRS 9 Chapter 6 IFRS
IAS 39 IFRS
IFRS 7 IFRS
IAS 21 IFRS
ASC 815 US GAAP
ASC 820 US GAAP
IPSAS 29 IPSAS
FAQs
Common Questions
Under IFRS 9, a hedging relationship qualifies for hedge accounting only if three requirements are met at inception and on an ongoing basis: first, the relationship consists only of eligible hedging instruments and hedged items; second, it is formally designated and documented at inception; and third, there is an economic relationship between the hedged item and the hedging instrument, credit risk does not dominate the value changes from that economic relationship, and the hedge ratio reflects actual quantities used. IFRS 9 replaced the 80 to 125 per cent bright-line test of IAS 39 with this more principles-based framework.
Prospective testing assesses whether a hedging relationship is expected to be highly effective going forward, performed at inception and each reporting date. Retrospective testing assesses whether the hedging relationship was actually highly effective over the period covered. Under IAS 39, both tests were required and the 80 to 125 per cent range was a bright-line threshold — failure to satisfy it required immediate discontinuation. Under IFRS 9, formal quantitative retrospective testing is no longer mandated, though entities must continually assess whether the economic relationship continues to exist and whether the hedge ratio remains appropriate.
Under IFRS 9, if the hedge ratio of a designated hedging relationship needs to be adjusted to reflect changes in the relationship between the hedging instrument and hedged item, the entity must rebalance the hedge rather than discontinue it. Rebalancing involves adjusting the designated quantities of the hedged item or hedging instrument without redesignating the entire relationship. This is a significant improvement on IAS 39, which required full discontinuation and redesignation whenever the hedge ratio changed.
Yes. Shasat supports hedge accounting under IFRS 9 (the current standard for most IFRS reporters), IAS 39 (still applied by some entities under EU IAS Regulation carve-outs and in jurisdictions where IFRS 9 adoption is deferred), and ASC 815 under US GAAP. Our documentation and effectiveness assessment reports are tailored to the applicable standard and structured for audit sign-off.
Shasat applies the method most appropriate to the hedge structure and the nature of the risk being hedged. Methods include the hypothetical derivative method (common for interest rate and FX hedges), critical terms comparison (where terms of the hedging instrument and hedged item are closely aligned), dollar offset on a cumulative or period-by-period basis (for retrospective testing under IAS 39), and statistical regression analysis for more complex hedging relationships where simple methods may not capture the correlation reliably.
Also from Shasat
Related Valuation Services
Financial Instrument Valuation
Derivatives, bonds and convertible loans — IFRS 13 and ASC 820
Credit Risk Valuation
CVA, DVA, FVA and XVA for OTC derivatives
Model and Data Validation
Independent review of pricing and risk models
IFRS 9 Consulting
Classification, measurement, ECL and hedge accounting implementation