Fair value hedge definition
/What is a Fair Value Hedge?
A fair value hedge is a hedge of the exposure to changes in the fair value of an asset or liability. It is used to minimize fluctuations in earnings caused by changes in fair values. You would typically use a derivative or some other type of financial instrument to enter into a fair value hedge. Any subsequent changes in the fair value of this hedging instrument should offset the fair value changes of the item being hedged.
The Difference Between a Fair Value Hedge and a Cash Flow Hedge
A cash flow hedge protects against any variability in cash flows associated with a forecasted transaction or variable-rate instruments, while a fair value hedge protects against changes in the fair value of an asset or liability. Consequently, fair value hedges focus on current value changes and impact the income statement immediately, while cash flow hedges deal with anticipated future cash flows and often defer impacts to other comprehensive income until the underlying transaction materializes.