Are fair value changes due to changes in cross-currency basis spreads recognized in ‘other comprehensive income’, as referred to under IFRS 9 as the ‘cost of hedging’, eligible for CET1 capital under the CRR regulation?

As of 1 January 2018, IFRS 9 is officially implemented and therefore we request a clarification on hedge accounting, specifically the cost of hedging. A cross-currency interest rate swap or currency forward contract includes a pricing element (liquidity charge or credit) that reflects the fact that the derivative instrument results in the exchange of two currencies in the future. This pricing element is usually referred to as ‘cross-currency basis spread’. On the other hand, a hedged item is usually a single currency instrument that, unlike the cross-currency interest rate swap, does not involve the exchange of two currencies. Hence, its value does not include a cross-currency basis spread. As the cross-currency basis spread is a feature in the hedging instrument that is not included in the hedged item, it results in ineffectiveness in the hedging relationship. In order to better depict this ineffectiveness, IFRS 9 allows separation of the fair value changes due to changes of the cross-currency basis spread. If so separated, it is accounted for as a cost of hedging. The cost of hedging relates to a time-period-related hedged item (that is, the duration of the debt issued), and in our case the critical terms of the hedged item and the hedging instrument are fully match. So the full changes in the cross-currency basis spread can be recognized in other comprehensive income and accumulated in a separate component of equity as a ‘Cost of Hedging’ line item. The initial spread of the cross-currency basis spread will be amortized to profit or loss over the related hedging period.

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