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Cash Flow Hedge

A Cash Flow Hedge is used when an entity is looking to eliminate or reduce the exposure that arises from changes in the cash flows of a financial asset or liability (or other eligible exposure) due to changes in a particular risk, such as interest rate risk on a floating rate debt instrument. The hedged item is accounted for under normal principles. The hedging derivative instrument is measured at fair value each period however the effective portion of the change in fair value is deferred in Other Comprehensive Income (OCI) and presented within equity (normally in a hedging reserve). The difference between the effective portion of the change in the fair value of the derivative hedging instrument and the full change in the fair value (the ineffective portion) is recognized immediately in profit or loss. A Cash Flow Hedge only has measured ineffectiveness where the change in the fair value of the derivative instrument exceeds the change in the present value of the future cash flows of the hedged item/exposure (referred to as an "over hedge"). The change in fair value of the hedging instrument that is deferred in OCI is reclassified to profit or loss at a future date when the hedged item affects profit or loss (for example, when the interest payment on a floating rate debt instrument is made or when the payment associated with an anticipated transaction occurs).

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