An advantage of a fair value hedge is that:
A)gains or losses on the derivative hedging instrument and the offsetting gains or losses on the hedged items are both recognized currently in earnings.
B)gains or losses on hedges of firm commitments are reported in other comprehensive income because the anticipated cash flows have not been recognized in earnings.
C)documentation is not necessary for fair value hedges.
D)a bank may use a fair value hedge to hedge the risk that a customer's loan will be prepaid.

Question

An advantage of a fair value hedge is that:
A)​gains or losses on the derivative hedging instrument and the offsetting gains or losses on the hedged items are both recognized currently in earnings.
B)​gains or losses on hedges of firm commitments are reported in other comprehensive income because the anticipated cash flows have not been recognized in earnings.
C)​documentation is not necessary for fair value hedges.
D)​a bank may use a fair value hedge to hedge the risk that a customer's loan will be prepaid.

Quizplus · Accepted Answer

A fair value hedge allows for the hedging instrument and the hedged item to be recognized in earnings simultaneously. This allows for more accurate accounting and reflects the impact of the hedge on the financial statements. Option B is incorrect because gains or losses on hedges of firm commitments are reported in other comprehensive income because the anticipated cash flows have not been recognized in earnings. Option C is incorrect because documentation is necessary for fair value hedges. Option D is incorrect because fair value hedges typically apply to assets or liabilities, not customer loans.

An Advantage of a Fair Value Hedge Is That