The Top Five Things that Should Be Considered and Understood Before Entering Into an Interest Rate Swap.

For this week’s HedgeStar’s Top 5 list, we are going to go through the top five things that should be considered and understood before entering into an interest rate swap.

Number 5 – Accounting Treatment – ASC 815 and IFRS 9 are the US GAAP and international accounting standards, respectively, that provide guidance on how to account for derivatives like interest rate swaps, thus minimizing earnings volatility from the swap.

Number 4 – Counterparty Risk – The credit worthiness of the counterparty, also known as the swap provider, is crucial to ensure that the terms of the swap are honored over its duration.

Number 3 – Notional Amount and Tenor – Carefully consider the notional amount and tenor of the swap to ensure that these do not exceed the company’s underlying exposure and risk horizon.

Number 2 – Understand the hedging strategy – Be able to clearly articulate the purpose of entering into the swap to demonstrate that it is for hedging purposes and not speculative purposes.

Number 1 – Risk Management Objectives – Clearly define the company’s risk tolerance and objectives. Understand how much interest rate risk the company is willing and able to bear.

Thank you for listening to this week’s HedgeStar’s Top 5 List. Next week we will be taking a break from the Top Five lists for the Holidays. Look for the HedgeStar Top 5 series to continue in 2024. Happy holidays and happy new year!

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