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AMERICAN EXPRESS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DERIVATIVE FINANCIAL INSTRUMENTS THAT
QUALIFY FOR HEDGE ACCOUNTING
Derivatives executed for hedge accounting purposes are
documented and designated as such when the Company enters into
the contracts. In accordance with its risk management policies, the
Company structures its hedges with terms similar to that of the
item being hedged. The Company formally assesses, at inception of
the hedge accounting relationship and on a quarterly basis, whether
derivatives designated as hedges are highly effective in offsetting the
fair value or cash flows of the hedged items. These assessments
usually are made through the application of a regression analysis
method. If it is determined that a derivative is not highly effective
as a hedge, the Company will discontinue the application of hedge
accounting.
FAIR VALUE HEDGES
A fair value hedge involves a derivative designated to hedge the
Company’s exposure to future changes in the fair value of an
asset or a liability, or an identified portion thereof that is
attributable to a particular risk.
Interest Rate Contracts
The Company is exposed to interest rate risk associated with its
fixed-rate long-term debt. The Company uses interest rate swaps
to economically convert certain fixed-rate long-term debt
obligations to floating-rate obligations at the time of issuance. As
of December 31, 2012 and 2011, the Company hedged $18.4
billion and $17.1 billion, respectively, of its fixed-rate debt to
floating-rate debt using interest rate swaps.
To the extent the fair value hedge is effective, the gain or loss
on the hedging instrument offsets the loss or gain on the hedged
item attributable to the hedged risk. Any difference between the
changes in the fair value of the derivative and the hedged item is
referred to as hedge ineffectiveness and is reflected in earnings as
a component of other expenses. Hedge ineffectiveness may be
caused by differences between the debt’s interest coupon and the
benchmark rate, primarily due to credit spreads at inception of
the hedging relationship that are not reflected in the valuation of
the interest rate swap. Furthermore, hedge ineffectiveness may be
caused by changes in the relationship between 3-month LIBOR
and 1-month LIBOR, as basis spreads may impact the valuation
of the interest rate swap without causing an offsetting impact in
the value of the hedged debt. If a fair value hedge is de-
designated or no longer considered to be effective, changes in fair
value of the derivative continue to be recorded through earnings
but the hedged asset or liability is no longer adjusted for changes
in fair value resulting from changes in interest rates. The existing
basis adjustment of the hedged asset or liability is amortized or
accreted as an adjustment to yield over the remaining life of that
asset or liability.
Total Return Contract
The Company hedges its exposure to changes in the fair value of
its equity investment in ICBC in local currency. The Company
uses a TRC to transfer this exposure to its derivative
counterparty. As of December 31, 2012 and 2011, the fair value of
the equity investment in ICBC was $295 million (415.9 million
shares) and $359 million (605.4 million shares), respectively. To
the extent the hedge is effective, the gain or loss on the TRC
offsets the loss or gain on the investment in ICBC. Any difference
between the changes in the fair value of the derivative and the
hedged item results in hedge ineffectiveness and is recognized in
other expenses in the Consolidated Statements of Income.
The following table summarizes the impact on the Consolidated Statements of Income associated with the Company’s hedges of its
fixed-rate long-term debt and its investment in ICBC for the years ended December 31:
Gains (losses) recognized in income
(Millions) Derivative contract Hedged item Net hedge
ineffectiveness
Income Statement
Line Item
Amount Income Statement
Line Item
Amount
Derivative relationship 2012 2011 2010 2012 2011 2010 2012 2011 2010
Interest rate contracts Other, net
expenses $ (178) $ 128 $ 246
Other, net
expenses $ 132 $ (102) $ (233) $ (46) $26$13
Total return contract Other non-interest
revenues $ (53) $ 100 $ —
Other non-interest
revenues $54$ (112) $ — $1$ (12) $ —
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