Lesson 68 - Advanced Accounting Course

Lesson 68: Hedge Effectiveness Testing Under IFRS 9

💡 What Is Hedge Effectiveness Testing?

Under IFRS 9, if a company wants to apply hedge accounting, it must prove that the hedge is effective — meaning the derivative is doing its job: ✅ offsetting the risk of the hedged item.

🔍 Effectiveness Testing = Making sure your hedge actually works

🎯 Why Is It Important?

Without effectiveness testing:

• ❌ You can’t apply hedge accounting
  
  

• ❌ Gains/losses from the hedge go directly to P&L
  
  

• ✅ With testing, you can defer volatility by sending gains/losses to OCI
  
  

🧾 Key Requirements Under IFRS 9

IFRS 9 is more flexible than old IAS 39. Here’s what’s required:

🧪 How Is Effectiveness Tested?

There are two main ways to test hedge effectiveness:

🧠 Example: Qualitative Hedge

🌍 A company hedges a €10M receivable with a €10M forward contract.

• Same amount
  
  

• Same maturity
  
  

• Same currency
  
  

✅ Qualitative test is enough. No mismatch = effective hedge.

📊 Example: Quantitative Hedge

A company hedges variable interest payments using an interest rate swap.

• Payments may fluctuate
  
  

• Complex market variables
  
  

🔍 They perform a regression analysis:

• Check correlation between hedged item and derivative
  
  

• High R² (e.g., 0.95) = effective
  
  

📄 Documentation Requirements

🧾 Accounting Outcomes 

📘 Summary Table 

✅ Key Takeaways

• 🧪 Hedge effectiveness testing is mandatory under IFRS 9 to apply hedge accounting
  
  

• ✅ Must prove economic relationship, low credit risk, and proper hedge ratio
  
  

• 🔍 Use qualitative or quantitative testing depending on complexity
  
  

• 📄 Full documentation is required — and testing must be updated regularly
  
  

• 🎯 If the hedge is effective, gains/losses go to OCI, helping smooth earnings