5 - Financial instruments and Derivatives

Question 1

Financial Instruments

Answer 1

(COD)
C - cash
O - ownership interests in an entity (eg stock)
D - derivative contracts that create a right and obligation to transfer other financial instruments

Question 2

Derivatives

Answer 2

(NUNS)
N- No net investment
UN - an Underlying or Notional amount
S - net Settlement

examples: options contract, futures contract, forward contract, interest rate or foreign currency swap

Question 3

Speculation (non-hedge)

Answer 3

• acquired to take on risk in the hopes of profit

- gain or loss in income from continuing operations

Question 4

Fair Value Hedge

Answer 4

• hedge against existing asset or liability or firm purchase commitment
• gain/loss in income from continuing operations (IS). should be offset by loss or gain on hedged item.

Question 5

Cash Flow Hedge

Answer 5

• hedge against forecasted future transaction.
• gain/loss in OCI (BS)
• nothing included in net income until forecasted activity occurs

Question 6

Foreign currency hedge against an investment in foreign operations

Answer 6

• hedge against currency risk from a major investment in a company with a functional currency (currency in which books are maintained) other than US dollar.
• gain/loss in OCI (BS)
• offsets translation losses or gains from investment in foreign operations