IFRS 7 – Disclosure Requirements of Financial Instruments

A key pillar of Hedgebook’s ethos is to make life easier for corporates in managing and reporting their financial derivative exposures. This approach extends to aiding Treasurers and CFOs comply with the ever increasing compliance requirements of accounting standards. The most recent standard to create further onus on corporates is the CVA requirements of IFRS 13. We have discussed IFRS 13 on numerous occasions via this blog (and will continue to do so!)

However, the focus of this blog post is the disclosures required by IFRS 7 and specifically the quantitative disclosures in assessing the risks faced by an entity in regards to its financial instruments. Quantifying the risks is demonstrated via a sensitivity analysis.

The Hedgebook application allows a user to perform sensitivity analyses on foreign exchange and interest rate positions at the press of a button and in doing so helps achieve compliance to IFRS 7 as simply and efficiently as possible. These numbers can be included directly into the Notes to the Financial Statements.

Interest Rate Swaps

There is a report within the suite of Hedgebook interest rate reports called the IR Sensitivity Report. A user is able to run the sensitivity analysis in three easy steps:

–          select the appropriate interest rate swap portfolio or individual deals

–          select the valuation date and currency

–          run the IR Sensitivity Report

The Hedgebook app produces the fair value per instrument based on the valuation date zero curve and also the fair values following pre-defined shifts in the yield curve.

Using the 31 March 2014 AUD zero curve as an example, the chart below shows the actual zero curve plus the alternative yield curves that are applied to the swap portfolio:

Sensitivity analysis

The zero curve is flexed by a parallel shift of +/-50, +/-100 and +/-200 basis points. The output of the report is the hypothetical fair value of each transaction under the aforementioned yield curves. The analysis provides information about the extent to which the entity is exposed to risk. The subsequent Hedgebook report can be printed, copied into a document or downloaded to excel for inclusion in the Notes to the Financial Statements.

Foreign exchange

Hedgebook’s sensitivity analysis for fx instruments follows a similar vein to interest rates. The fx curve (spot plus forwards) is flexed by a +/-1%, +/-5%, +/-10% and +/-20% to derive the hypothetical valuations. The subsequent Hedgebook report can be printed, copied into a document or downloaded to excel for inclusion in the Notes to the Financial Statements.


As regulatory and compliance requirements continue to increase it is important that corporates find ways to increase efficiency and find alternative ways to complete increasing workloads without increasing personnel. A low cost system such as Hedgebook allows senior members of the finance team to focus on added value tasks and not become encumbered by compliance requirements that can be automated such as sensitivity analyses for IFRS 7 disclosure requirements.

CVA is here to stay

Six months ago we at Hedgebook engaged audit firms, banks and corporates to discuss Credit Value Adjustment (CVA) and Debit Value Adjustment (DVA) as the introduction of IFRS 13 loomed. The overwhelming response was one of ignorance and/or disinterest. Either they didn’t know about it or they didn’t want to know. On my recent business trip to Europe an audit firm in France recounted a story about a get together they had with their clients to explain the requirement for CVA. The whole room burst out laughing. Adjust the financial instrument valuations for my credit worthiness – you must be kidding.

In some ways this wasn’t surprising as IFRS 13 really only began to impact corporates for their 31 December 2013 annual results, even though their half year results should have included the adjustment. Now six months down the track and the requirement to adjust for credit worthiness can’t be ignored.

Although this isn’t new for the US it is new for the rest of the world and it appears that Australia and New Zealand are leading the charge. Europe has been pre-occupied with the new regulatory changes, especially the reporting requirements under EMIR and so it is only now that it has come on their radar.

Of course CVA and DVA are not new. The banks have been adjusting for credit for a number of years but in the corporate space it is new and many have tried to over complicate the calculation. Monte-Carlo simulations might be appropriate for companies that have cross currency swaps or more exotic option hedging strategies but the vast majority of corporates globally are using vanilla products – fx forwards, options and interest rate swaps. For these instruments a simple methodology to calculate CVA is not just acceptable but also appropriate.

It appears that common sense is already coming to the fore with the current exposure method gaining common acceptance, where the discount curve is flexed to adjust for the credit worthiness of both parties. Although a more simplified method it is still not straightforward, requiring two valuations and an adjustment of the yield curves for credit margin. Not something the banks will be providing and so therefore there is the requirement to source this from someone who specialises in financial market valuations. It doesn’t need to be expensive though and there are low cost solutions available.

Given the numbers are mostly small there is a natural reluctance to pay very much for what are in some cases reasonably immaterial numbers. However the audit firms are insisting on its inclusion and rightly so – it is a requirement under the accounting standards and the materiality or immateriality needs to be proven. Of course credit conditions are benign at the moment but as we know this can change quickly and it won’t take much to make the credit adjustment more material.

Whether we like it or not the valuation of financial instruments has become more complex as the regulators are now focusing more closely on this area. CVA is part of this change in focus and is here to stay. The question for corporates therefore is how do I calculate these values accurately but in a simple and cost-effective way?