Hedge Accounting

AAA

DEFINITION of 'Hedge Accounting'

A method of accounting where entries for the ownership of a security and the opposing hedge are treated as one. Hedge accounting attempts to reduce the volatility created by the repeated adjustment of a financial instrument's value, known as marking to market. This reduced volatility is done by combining the instrument and the hedge as one entry, which offsets the opposing movements.

INVESTOPEDIA EXPLAINS 'Hedge Accounting'

The point of hedging a position is to reduce the volatility of the overall portfolio. Hedge accounting has the same effect except that it's used on financial statements. For example, when accounting for complex financial instruments, such as derivatives, the value is adjusted by marking to market; this creates large swings in the profit and loss account. Hedge accounting treats the reciprocal hedge and the derivative as one entry so that the large swings are balanced out.

RELATED TERMS
  1. De-hedge

    The process of closing out positions that were originally put ...
  2. Pairs Trade

    The strategy of matching a long position with a short position ...
  3. Hedge

    Making an investment to reduce the risk of adverse price movements ...
  4. Finance

    The science that describes the management, creation and study ...
  5. General Ledger

    A company's main accounting records. A general ledger is a complete ...
  6. Mark To Market - MTM

    1. A measure of the fair value of accounts that can change over ...
RELATED FAQS
  1. What are some examples of a deferred tax liability?

    In the United States, laws allow companies to maintain two separate sets of books for financial and tax purposes. Because ... Read Full Answer >>
  2. Why is the use of contra accounts so important for maintaining ledgers?

    Contra accounts have been used in financial accounting to verify the balance of another corresponding account since Renaissance ... Read Full Answer >>
  3. What impact did the Sarbanes-Oxley Act have on corporate governance in the United ...

    After a prolonged period of corporate scandals involving large public companies from 2000 to 2002, the Sarbanes-Oxley Act ... Read Full Answer >>
  4. What does Value at Risk (VaR) have to do with maximization of shareholder wealth?

    By enabling investors to estimate with high probability the worst-case and best-case scenarios for the performance of a given ... Read Full Answer >>
  5. How can I calculate the tracking error of an ETF or indexed mutual fund?

    Calculate the tracking error of an indexed exchange-trade fund (ETF) or mutual fund by doing a standard deviation percentage ... Read Full Answer >>
  6. How is deferred revenue treated under accrual accounting?

    In accrual accounting, deferred revenue, or unearned revenue, represents a liability on the balance sheet recorded on funds ... Read Full Answer >>
Related Articles
  1. Bonds & Fixed Income

    Credit Default Swaps: An Introduction

    This derivative can help manage portfolio risk, but it isn't a simple vehicle.
  2. Mutual Funds & ETFs

    Hedge Fund Due Diligence

    Analyzing a hedge fund will help you determine whether it's a good investment and a good fit.
  3. Options & Futures

    7 Hedge Fund Manager Startup Tips

    Starting a hedge fund is the new American dream. Find out how you can pull it off.
  4. Mutual Funds & ETFs

    Taking A Look Behind Hedge Funds

    Hedge funds can draw returns well above the market average even in a weak economy. Learn about the risks.
  5. Options & Futures

    A Beginner's Guide To Hedging

    Learn how investors use strategies to reduce the impact of negative events on investments.
  6. Retirement

    How The Big Boys Buy

    Learn what those in-the-know look for when acquiring a company.
  7. Investing

    What is Comprehensive Income?

    Comprehensive income is a part of the owners’ equity section of the balance sheet.
  8. Economics

    Explaining Financial Analysis

    Financial analysis is a general term that refers to using financial data to make business and investment decisions.
  9. Economics

    What Does Debit Mean?

    Debit is an accounting term used to refer to the left side of an accounting journal entry. Each debit must be offset by an equal credit entry.
  10. Taxes

    What's an Audit?

    An audit is an objective examination of accounting records that makes sure the records are a fair and accurate representation of the transactions they claim to represent.

You May Also Like

Hot Definitions
  1. Fracking

    A slang term for hydraulic fracturing. Fracking refers to the procedure of creating fractures in rocks and rock formations ...
  2. Mixed Economic System

    An economic system that features characteristics of both capitalism and socialism.
  3. Net Worth

    The amount by which assets exceed liabilities. Net worth is a concept applicable to individuals and businesses as a key measure ...
  4. Stop-Loss Order

    An order placed with a broker to sell a security when it reaches a certain price. A stop-loss order is designed to limit ...
  5. Covered Call

    An options strategy whereby an investor holds a long position in an asset and writes (sells) call options on that same asset ...
  6. Butterfly Spread

    A neutral option strategy combining bull and bear spreads. Butterfly spreads use four option contracts with the same expiration ...
Trading Center