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GLOSSARYTERMS AS A CREDIT DESK USES THEM

Hedge ratio

What is a hedge ratio, and why does a lender set one on term debt?

ONE OF 366 TERMS · FREE · NO SIGNUP

BY MICHAEL SHANG · SIXTEEN YEARS IN COMMERCIAL BANKING · UPDATED

// THE SHORT ANSWER

A hedge ratio is the share of an exposure that is covered by hedges; on a credit desk it is most often the share of a borrower's floating-rate debt fixed with swaps or protected with caps. A facility may require a minimum ratio for a set period, so that a rise in rates cannot outrun the cash servicing the loan, and may also cap it, so that hedging does not become a position of its own. The ratio moves without anyone dealing: as the loan amortises, a swap that does not amortise with it covers a larger share, and once the debt falls below the swap the business is over-hedged.

BASIS  Practitioner judgment from sixteen years in commercial banking, set out in How Bankers Think (Highbank Press, 2026). Every borrower on this site is a composite constructed for teaching, not a client. The market is mid-market commercial lending as practised in New Zealand and Australia; where a convention differs elsewhere, the page says so.

// WHAT IT IS NOT

Hedge cover usually describes currency: the months of expected foreign-currency receipts already sold forward. A hedge ratio is a percentage of an exposure at a point in time, most often of floating-rate debt.

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RATES AND CURRENCY

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