HSBC 2005 Annual Report Download - page 396

HSBC HOLDINGS PLC
Notes on the Financial Statements (continued)
394
2005
Since 1 January 2005, almost all derivatives designated as fair value hedges under US GAAP in HSBC’s US
operating subsidiaries have been reported under the fair value option for IFRSs purposes, with movements in fair
value reported as ‘Net income from financial instruments designated as at fair value’.
Reporting of these arrangements as fair value hedges under US GAAP resulted in decreased net income for 2005
of US$179 million, including US$7 million arising from elimination of losses due to movements in own credit
spread recorded in IFRSs net income and reduced ineffectiveness of US$172 million on shortcut fair value
hedges for US GAAP purposes.
In addition, there were US$102 million of losses on such derivatives that did not qualify for hedging accounting
under US GAAP.
On electing to report under the fair value option under IAS 39, unamortised purchase accounting adjustments on
HSBC Finance Corporation's own debt were eliminated through retained earnings upon transition to IAS 39 on
1 January 2005. As a result, a US$409 million benefit to 2005 US GAAP net income was not recognised under
IFRS.
Cash flow hedges
HSBC’s US operating subsidiaries designate under SFAS 133 certain derivative financial instruments, including
interest rate swaps and future contracts, as qualifying cash flow hedges of the forecast repricing of certain
deposit liabilities and issues of debt. A number of variable rate commercial loans were also subject to cash flow
hedges up until 2004.
In order to qualify initially, hedge effectiveness is assessed and demonstrated on a prospective basis utilising
both statistical regression analysis and the cumulative dollar offset method. The latter is used in order to satisfy
the retrospective assessment of effectiveness for SFAS 133, and subsequent ineffectiveness is recognised in the
income statement on a monthly basis. The time value component of the derivative contracts is excluded from the
assessment of hedge effectiveness.
2004
Ineffectiveness of cash flow hedging activities resulted in a loss of US$1 million being recognised in net income
reported under US GAAP for 2004. Shareholders’ equity at 31 December 2004 increased by US$133 million
under US GAAP as a result of these hedges.
2005
Since 1 January 2005, such hedging arrangements have been recognised as cash flow hedges for IFRSs purposes.
US GAAP net income for 2005 was lower than that under IFRSs by US$6 million, relating to unrecorded
ineffectiveness on shortcut cash flow hedges for US GAAP purposes.
Trading derivatives
2004
All other IFRSs hedging derivatives were marked to market in 2004 for US GAAP purposes with the gain or loss
recognised in net income for the period. This gave rise to an increase in US GAAP reported net income for 2004
of US$210 million. The other principal effect of applying SFAS 133 at 31 December 2004 was to reduce ‘Other
assets’ by US$5,487 million and ‘Other liabilities’ by US$5,754 million. Under IFRSs, prior to 2005, internal
derivatives used to hedge banking book transactions could be accruals accounted but, under US GAAP, all
derivatives were held at fair value.
2005
From 1 January 2005, certain hedging relationships outside North America were elected and qualified as fair
value hedges, were designated under the fair value option, or were elected and qualified as cash flow hedges
under IAS 39, but were not elected as hedges under SFAS 133. The mark to market for these derivatives has
been reported directly in net income for US GAAP purposes.