Cash Flow Hedging with Interest rate swap

Why making a Cash Flow Hedge

If a company is being financed with variable loan, annuity is dependent on movement on interest rate market. If interest rates go up, funding become more expensive and vice versa.

By entering in hedge accounting (IRS/Interest rate swap), company transforms variable loan to fixed interest rate loan based on market conditions. 

Advantages of Cash Flow Hedge

  • All future cash flows are known and company needs no liquidity reserve to manage interest repayments;
  • Company is protected in case of market interest rates move, since all cash flows are known till end of maturity;
  • Aside to interests, company has no P&L effect;
  • No upfront fee and no transaction costs.

Disadvantages of Cash Flow Hedge

  • Entering into hedge and assure efficiency require knowledge or support by experienced expert;
  • Funding is known and fixed. Company is not benefitting in case interest rates go down;
  • In case of non-efficient hedging, derivatives must be booked in P&L, which can cause unlimited negative effects on companies P&L;

Process of cash-flow hedging is complex with involvement of several partners


It is advised that company performs first analysis of loans and performs sensibility analysis (stress test) in order to evaluate impacts from market movements.

In order to enter into interest swap agreement, company needs to establish limits with the bank, where it is advisable to enter into more then one agreement, since offered prices can vary from bank to bank.Since interest swaps are tailor made, it is advisable to perform interest rate swap price calculation in order to have benchmark when negotiating with the banks.

In case of entering an interest swap, company is obliged to prepare documentation that is in line with IFRS 9 and allows company to book interest in P&L and book value of derivatives as effect on capital.

After entering hedging, company has to frequently calculate value of derivative and present valuation and documentation to auditor.


Usually loans can have specific features like mismatch between reference rate and frequency (monthly repayment based on 6M EURIBOR);

Documentation and calculation preparation is demanding and require needed knowledge and experiences.