Hedging Interest Rate Risk: Evidence from U.S. Nonfinancial Firms
Abstract: Nonfinancial firms hold roughly $7.7 trillion in dollar interest rate derivatives, yet why some firms hedge while others do not remains an open question. I use a large language model to extract derivatives disclosures from SEC filings, constructing a new dataset on interest rate hedging for 8,792 U.S. public nonfinancial firms from 2014 to 2024. Hedging is uncommon and highly persistent. Hedgers are larger, more leveraged, and have higher operating income than non-hedgers. Firms with more liquid assets hedge less. I explain these facts with a heterogeneous firm model in which debt raises default risk and therefore the value of hedging, but hedging is costly, so only firms with sufficient operating income find it worthwhile. This complementarity between leverage and operating income governs which firms hedge. Counterfactual experiments show that hedging costs are the main barrier to participation. In both the model and data, hedging insulates the investment of highly levered firms from monetary policy shocks, suggesting that the real effects of monetary policy fall disproportionately on unhedged firms.