Derivatives Implementation Group

Statement 133 Implementation Issue No. C18

QUESTION

Assume a variety of forward contracts exists for a when-issued security, such as a to-be-announced (TBA) security that provides a choice of settlement dates for each of the next three months (such as November, December, or January). An entity enters into a forward to purchase the TBA security, which will otherwise meet the qualifications of paragraphs 10(a), 58(a), and 59(a), that requires delivery in the second-nearest month (such as December), not the nearest month (such as November). May that entity apply the regular-way security trade exception to the December settlement TBA forward contract?

BACKGROUND

Paragraph 10(a) of Statement 133 provides an exception to forward contracts that require the delivery of a security within the time frame generally established by regulations or conventions in the marketplace in which the transaction is executed. Paragraph 59(a), as amended by Statement 149, addresses the application of the regular-way security trades exception to a contract for the purchase or sale of when-issued securities or other securities that do not yet exist, as follows:

    Contracts for the purchase or sale of when-issued securities or other securities that do not yet exist are excluded from the requirements of this Statement as a regular-way security trade only if (1) there is no other way to purchase or sell that security, (2) delivery of that security and settlement will occur within the shortest period possible for that type of security, and (3) it is probable at inception and throughout the term of the individual contract that the contract will not settle net and will result in physical delivery of a security when it is issued. A contract for the purchase or sale of when-issued securities or other securities that do not yet exist is eligible to qualify for the regular-way security trades exception even though that contract permits net settlement (as discussed in paragraphs 9(a) and 57(c)(1)) or a market mechanism to facilitate net settlement of that contract (as discussed in paragraph 9(b) and 57(c)(2)) exists.…

RESPONSE

No. The entity may not apply the regular-way security trade exception to the TBA forward contract that requires delivery in the second-nearest month (such as December). The regular-way security trade exception may be applied to forward contracts for TBA or when-issued securities provided that delivery of the security is within the shortest period permitted for that type of security. In the example above, the TBA security (identified by issuer, contractual maturity of the underlying loans, and the net coupon, such as 30-year GNMA 7s) is available under multiple settlement periods (that is, the standardized settlement date in November, December, or January). The regular-way security trade exception may be applied only to forward contracts for that TBA security that require delivery in November, the shortest period permitted for that type of TBA security. The December and January settlement TBA forward contracts in this example must be accounted for as derivatives under Statement 133. If they meet the hedge accounting criteria, they may be designated as cash flow hedges of the anticipated purchase of the securities, as discussed in Statement 133 Implementation Issue No. G2, "Hedged Transactions That Arise from Gross Settlement of a Derivative ('All-in-One' Hedges)."

Effective Date

The effective date of the implementation guidance in this Issue for each reporting entity is the first day of its second fiscal quarter beginning after May 1, 2003, the date that the Board-cleared guidance was posted on the FASB website.

The above response has been authored by the FASB staff and represents the staff’s views, although the Board has discussed the above response at a public meeting and chosen not to object to dissemination of that response. Official positions of the FASB are determined only after extensive due process and deliberation.