Capital Markets Examiner School, Providence, RI

Derivative Risk – Accounting

• Hedge Accounting is jeopardized and hedge market value is forced to flow through earnings and regulatory capital

• Potential for “ineffectiveness” or absence of perfectly offsetting cash flows

• Simplification of hedge accounting rules reduce risk

Derivative Risk – Market

• Risk that market moves the opposite of what the bank was hedging, leading to “buyer’s remorse”

• Managed by focusing on balance sheet needs rather than timing the market and getting the “right rate”