Overview
The following narrative analysis presents a review of the consolidated results
of operations of ING Life Insurance and Annuity Company ("ILIAC") and its wholly
owned subsidiaries (collectively, "we" or "our") for each of the three and six
months ended June 30, 2012 and 2011 and financial condition as of June 30, 2012
and December 31, 2011. This item should be read in its entirety and in
conjunction with the Condensed Consolidated Financial Statements and related
notes, which can be found under Part I, Item 1. contained herein, as well as the
"Management's Narrative Analysis of the Results of Operations and Financial
Condition" section contained in our 2011 Annual Report on Form 10-K.
Forward-Looking Information/Risk Factors
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, we caution readers regarding certain
forward-looking statements contained in this report and in any other statements
made by, or on behalf of, us, whether or not in future filings with the
Securities and Exchange Commission ("SEC"). Forward-looking statements are
statements not based on historical information and which relate to future
operations, strategies, financial results, or other developments. Statements
using verbs such as "expect," "anticipate," "believe," or words of similar
import, generally involve forward-looking statements. Without limiting the
foregoing, forward-looking statements include statements that represent our
beliefs concerning future levels of sales and redemptions of our products,
investment spreads and yields, or the earnings and profitability of our
activities.
Forward-looking statements are necessarily based on estimates and assumptions
that are inherently subject to significant business, economic and competitive
uncertainties and contingencies, many of which are beyond our control and many
of which are subject to change. These uncertainties and contingencies could
cause actual results to differ materially from those expressed in any
forward-looking statements made by, or on behalf of, us. Whether or not actual
results differ materially from forward-looking statements may depend on numerous
foreseeable and unforeseeable developments, including, but not limited to the
following:
1. While the global economy continues to recover from the financial crisis and
subsequent recession, risks remain for the United States and other world
economies. The uncertainty concerning current global market conditions and
the impact it has on the U.S. economy, has affected and may continue to
affect our results of operations.
2. The default of a major market participant could disrupt the markets.
3. Adverse financial market conditions, changes in rating agency standards and
practices and/or actions taken by ratings agencies may significantly affect
our ability to meet liquidity needs, access to capital and cost of capital.
4. Circumstances associated with implementation of ING Groep's recently
announced global business strategy and the final restructuring plan
submitted to the European Commission in connection with its review of ING
Groep's receipt of state aid from the Dutch State could adversely affect our
results of operations and financial condition.
5. The amount of statutory capital that we hold and our risk-based capital
("RBC") ratio can vary significantly from time to time and is sensitive to a
number of factors, many of which are outside of our control and influences
our financial strength and credit ratings.
6. We have experienced ratings downgrades and may experience additional future
downgrades in our ratings, which may negatively affect profitability,
financial condition and access to liquidity.
7. The new federal financial regulatory reform law, its implementing
regulations and other financial regulatory reform initiatives, could have
adverse consequences for the financial services industry, including us
and/or materially affect our results of operations, financial condition and
liquidity.
8. The valuation of many of our financial instruments includes methodologies,
estimations and assumptions that are subject to differing interpretations
and could result in changes to investment valuations that may materially
adversely affect results of operations and financial condition.
9. The determination of the amount of impairments taken on our investments is
subjective and could materially impact results of operations.
10. We may be required to accelerate the amortization of deferred policy
acquisition cost ("DAC"), deferred sales inducements ("DSI") and/or the
valuation of business acquired ("VOBA"), any of which could adversely affect
our results of operations or financial condition.
11. Changes in underwriting and actual experience could materially affect
profitability.
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12. We may be required to establish an additional valuation allowance against
the deferred income tax assets if our business does not generate sufficient
taxable income or if our tax planning strategies are modified. Increases in
the deferred tax valuation allowance could have a material adverse effect on
results of operations and financial condition.
13. Reinsurance subjects us to the credit risk of reinsurers and may not be
adequate to protect against losses arising from ceded reinsurance.
14. The inability to manage market risk successfully through the usage of
derivative instruments could adversely affect our business, operations,
financial condition and liquidity.
15. The inability of counterparties to meet their financial obligations could
have an adverse effect on our results of operations.
16. Changes in reserve estimates may reduce profitability.
17. A loss of or significant change in key product distribution relationships
could materially affect sales.
18. Competition could negatively affect the ability to maintain or increase
profitability.
19. Changes in federal income tax law or interpretations of existing tax law
could affect profitability and financial condition by making some products
less attractive to contract owners and increasing our tax costs or tax costs
of contract owners.
20. We are considering amending a tax sharing agreement in a manner that could
limit the availability of cash payments to which we would otherwise be
entitled without such amendment.
21. We may be adversely affected by increased governmental and regulatory
scrutiny or negative publicity.
22. The loss of key personnel could negatively affect our financial results and
impair our ability to implement our business strategy.
23. Litigation may adversely affect profitability and financial condition.
24. Our businesses are heavily regulated and changes in regulation in the United
States and regulatory investigations may reduce profitability.
25. Our products are subject to extensive regulation and failure to meet any of
the complex product requirements may reduce profitability.
26. Changes in accounting requirements could negatively impact our reported
results of operations and our reported financial position.
27. Failure of our operating or information systems or a compromise of security
with respect to an operating or information system or portable electronic
device or a failure to implement system modifications or a new accounting,
actuarial or other operating system effectively could adversely affect our
results of operations and financial condition or the effectiveness of
internal controls over financial reporting.
28. Requirements to post collateral or make payments due to declines in market
value on assets posted as collateral may adversely affect liquidity.
29. Defaults or delinquencies in the commercial mortgage loan portfolio may
adversely affect our profitability.
30. The occurrence of unidentified or unanticipated risks within our risk
management programs could negatively affect our business or result in
losses.
31. The occurrence of natural or man-made disasters may adversely affect our
results of operations and financial condition.
Investors are also directed to consider the risks and uncertainties discussed in
this Item 2. and in Item 1A. of Part II contained herein, as well as in other
documents filed by us with the SEC. Except as may be required by the federal
securities laws, we disclaim any obligation to update forward-looking
information.
Basis of Presentation
ILIAC is a stock life insurance company domiciled in the state of Connecticut.
ILIAC and its wholly owned subsidiaries are providers of financial products and
services in the United States. ILIAC is authorized to conduct its insurance
business in all states and the District of Columbia.
ILIAC is a direct, wholly owned subsidiary of Lion, which is an indirect, wholly
owned subsidiary of ING Groep N.V. ("ING"). ING is a global financial services
holding company based in the Netherlands, with American Depository Shares listed
on the New York Stock Exchange under the symbol "ING".
ING has announced the anticipated separation of its banking and insurance
businesses. While all options for effecting this separation remain open, on
November 10, 2010, ING announced that, in connection with the separation plan,
it will prepare for a base case of an initial public offering ("IPO") of ING
U.S., Inc. which constitutes ING's U.S.-based retirement, investment management,
and insurance operations, including us.
We have one operating segment.
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Critical Accounting Policies, Judgments and Estimates
The preparation of financial statements in conformity with U.S. GAAP requires
the use of estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and expenses
during the reporting period. Critical estimates and assumptions are evaluated on
an on-going basis based on historical developments, market conditions, industry
trends, and other information that is reasonable under the circumstances. There
can be no assurance that actual results will conform to estimates and
assumptions and that reported results of operations will not be materially
adversely affected by the need to make future accounting adjustments to reflect
changes in these estimates and assumptions from time to time.
We have identified the following accounting policies, judgments, and estimates
as critical in that they involve a higher degree of judgment and are subject to
a significant degree of variability:
Reserves for future policy benefits, valuation and amortization of DAC and VOBA, valuation of investments and derivatives, impairments, income taxes, and contingencies.
In developing these accounting estimates and policies, our management makes
subjective and complex judgments that are inherently uncertain and subject to
material changes as facts and circumstances develop. Although variability is
inherent in these estimates, management believes the amounts provided are
appropriate based upon the facts available upon compilation of the Condensed
Consolidated Financial Statements.
The above critical accounting estimates are described in Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies, Judgments and Estimates and the Business, Basis of Presentation and Significant Accounting Policies note to the Consolidated Financial Statements in the 2011 Annual Report.
Results of Operations
Overview
Our products include qualified and nonqualified annuity contracts that include a
variety of funding and payout options for individuals and employer-sponsored
retirement plans qualified under Internal Revenue Code Sections 401, 403, 408
and 457, as well as nonqualified deferred compensation plans.
On April 9, 2009, our ultimate parent, ING, announced a global business strategy
which identified certain core and non-core businesses and geographies, stated
ING's intention to explore divestiture of non-core businesses over time,
withdraw from certain non-core geographies, limit future acquisitions and
implement enterprise-wide expense reductions. In particular, with respect to
ING's U.S. insurance operations, ING is seeking to further reduce its risk by
focusing on individual life products, retirement services and lower risk annuity
products which we commenced selling during the first quarter of 2010.
We derive our revenue mainly from (a) fee income generated from separate account
assets supporting variable options under variable annuity contract investments,
as designated by contract owners, (b) investment income earned on assets
supporting fixed assets under management ("AUM"), mainly generated from annuity
products with fixed investment options and (c) certain other fees. Our expenses
primarily consist of (a) interest credited and other benefits to contract
owners, (b) amortization of DAC and value of business acquired ("VOBA"), (c)
expenses related to the selling and servicing of the various products offered by
us and (d) other general business expenses. In addition, we collect
broker-dealer commissions through our subsidiaries, Directed Services LLC
("DSL") and ING Financial Advisers, LLC ("IFA"), which are, in turn, paid to
broker-dealers and expensed.
Economic Analysis
The pace of economic growth in the U.S. remains subdued. The U.S. economy grew
1.5% and industrial production rose approximately 4.0% on an annualized basis in
the second quarter of 2012. The pace of growth has stayed modest and below
trend growth rates due to a variety of factors. Consumer spending has expanded
tepidly because of the slow improvement in the labor market, the elevated
unemployment rate, and the mediocre increase in real disposable income.
Business fixed investment is increasing less rapidly, while the housing sector
is still depressed and residential investment remains weak. House prices,
however, have started to stabilize in several metro areas. Real export growth
has been disappointing. The expansion of global industrial production and trade
has been sluggish because of a slowing in growth and investors' concerns about
global financial fragility. Employment growth did improve late last year and in
the first quarter of this year, however the pace of employment growth slowed
noticeably during the quarter ended June 30, 2012. Meanwhile, initial and
continuing unemployment claims have been declining
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at an unimpressive pace. Overall inflation, as measured by Consumer Price Index
and Personal Consumption Expenditures indices, has declined in 2012, primarily
due to a fall in energy and commodity prices from previously elevated levels.
The pace of economic growth is still constrained by high unemployment, modest
income growth, lower housing wealth, and tepid expansion of credit and bank
lending. The sustainability of the ongoing recovery still depends on supportive
fiscal and monetary policies.
The Board of Governors of the Federal Reserve System (the "Fed") remains
conditionally committed to keeping the federal funds target rate in the range of
0 to 25 basis points until late-2014. In June 2012 the Fed announced that it
will continue its program to extend the average maturity of its holdings of
securities through the end of the year. Specifically, the Fed intends to
purchase Treasury securities with remaining maturities of 6 years to 30 years at
the current pace and to sell or redeem an equal amount of Treasury securities
with remaining maturities of approximately 3 years or less. This continuation of
the maturity extension program is likely to exert downward pressure on
longer-term interest rates. The Fed will also maintain its existing policy of
reinvesting principal payments from its holdings of agency debt and agency
mortgage-backed securities into agency mortgage-backed securities.
Short-term LIBOR remains low by historic standards but has been gradually rising
since mid 2011. However, U.S. Treasury rates have declined noticeably since the
beginning of last year. Long-term U.S. Treasury rates decreased in the second
quarter of 2012 as compared to the same period in 2011. The decline in U.S.
Treasury rates is mainly due to the Fed's commitment to keep the federal funds
target rate low until late 2014, low short-term rates, the Fed's policy to exert
downward pressure on long-term rates, well-anchored inflationary expectations,
weak growth in the U.S. and the rest of the world, and flight to safety arising
out of private investors' concerns about public debt and deficits in several
euro zone countries.
In spite of modest expansion in economic activity since the beginning of the
year, risks to the U.S. economy continue to point to possible negative
developments. These risks include strains in global financial conditions;
weakness in household financial conditions, which would lead to slower consumer
spending; larger-than-expected near-term fiscal tightening, which would lower
aggregate demand; financial and economic spillover from the euro zone's
inability to contain the region's debt crisis; and crude oil prices spiking in
the event of an escalation of conflict between the U.S. and Iran. There could
also be a drag on real GDP growth arising from a decrease in public expenditure
and higher taxes next year. These economic conditions and risks are not unique
to us, but present challenges to the entire insurance and financial services
industry.
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Three Months Ended June 30, 2012 compared to Three Months Ended June 30, 2011
Our results of operations for the three months ended June 30, 2012 and changes
therein, were primarily impacted by lower Net investment income and Net realized
capital losses, and higher interest credited and other benefits to contract
owners.
Three Months Ended June 30, $ Increase % Increase
2012 2011 (Decrease) (Decrease)
(As revised)
Revenues:
Net investment income $ 311.9 $ 380.7 $ (68.8 ) (18.1 )%
Fee income 156.7 160.7 (4.0 ) (2.5 )%
Premiums 11.7 6.9 4.8 69.6 %
Broker-dealer commission revenue 56.5 56.8 (0.3 ) (0.5 )%
Net realized capital gains (losses):
Total other-than-temporary
impairments (2.6 ) (18.5 ) 15.9 85.9 %
Less: Portion of other-than-temporary
impairments recognized in Other
comprehensive
income (loss) (0.9 ) (0.7 ) (0.2 ) (28.6 )%
Net other-than-temporary impairments
recognized in earnings (1.7 ) (17.8 ) 16.1 90.4 %
Other net realized capital gains
(losses) 0.5 33.7 (33.2 ) (98.5 )%
Total net realized capital gains
(losses) (1.2 ) 15.9 (17.1 ) NM
Other income 2.3 2.6 (0.3 ) (11.5 )%
Total revenues 537.9 623.6 (85.7 ) (13.7 )%
Benefits and expenses:
Interest credited and other benefits
to contract owners 193.0 184.1 8.9 4.8 %
Operating expenses 177.2 173.2 4.0 2.3 %
Broker-dealer commission expense 56.5 56.8 (0.3 ) (0.5 )%
Net amortization of deferred policy
acquisition costs and value of
business acquired 52.2 49.2 3.0 6.1 %
Interest expense 0.5 0.6 (0.1 ) (16.7 )%
Total benefits and expenses 479.4 463.9 15.5 3.3 %
Income (loss) before income taxes 58.5 159.7 (101.2 ) (63.4 )%
Income tax expense (benefits) 20.6 43.1 (22.5 ) (52.2 )%
Net income (loss) $ 37.9 $ 116.6 $ (78.7 ) (67.5 )%
NM - Not Meaningful
Revenues
Total revenues decreased for the three months ended June 30, 2012 primarily impacted by lower Net investment income and higher Net realized capital losses.
Net investment income decreased $68.8 from $380.7 to $311.9 due to the loss
recorded on the sale of certain general account private equity limited
partnership investment interest holdings ("sale of certain alternative
investments") and due to a decrease in investment income in the fixed maturities
portfolio, partially offset by an increase in interest income in the commercial
mortgage portfolio. The sale of certain alternative investments resulted in a
net pretax loss of $38.7 in the second quarter of 2012 reported in Net
investment income in the Condensed Consolidated Statements of Operations. The
transaction is discussed in "Investments - Sale of Alternative Investments."
Net realized capital gains (losses) changed $17.1 from $15.9 to ($1.2) primarily
due to unfavorable changes in fair value on embedded derivatives on product
guarantees primarily related to a reduction in risk-free interest rates. Also
contributing to the
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unfavorable change were losses within the fixed maturities portfolio due to lower trading gains on corporate securities during the three months ended June 30, 2012. Partially offsetting these losses were gains on interest rate contracts and foreign exchange contracts.
Benefits and Expenses
Total benefits and expenses increased $15.5 primarily due to Interest credited and other benefits to contract owners.
Income Taxes
Income tax expense decreased $22.5 from $43.1 to $20.6 primarily due to a
decrease in income before taxes which is partially offset by an increase in the
valuation allowance in the three months ended June 30, 2012 compared to a
decrease in the valuation allowance in the three months ended June 30, 2011. The
decrease in the tax expense is also partly due to an increase in the dividends
received deduction.
Six Months Ended June 30, 2012 compared to Six Months Ended June 30, 2011
Our results of operations for the six months ended June 30, 2012 and changes
therein, were favorably impacted primarily by higher Net realized capital gains,
more than offset by lower Net investment income, lower Other income, higher
Interest credited and other benefits to contract owners, higher Operating
expenses, and an increase in Net amortization of DAC and VOBA.
Six Months Ended June 30, $ Increase % Increase
2012 2011 (Decrease) (Decrease)
(As revised)
Revenues:
Net investment income $ 663.9 $ 723.7 $ (59.8 ) (8.3 )%
Fee income 311.8 315.8 (4.0 ) (1.3 )%
Premiums 23.5 16.4 7.1 43.3 %
Broker-dealer commission revenue 112.2 115.3 (3.1 ) (2.7 )%
Net realized capital gains (losses):
Total other-than-temporary
impairments (4.0 ) (40.3 ) 36.3 90.1 %
Less: Portion of other-than-temporary
impairments recognized in Other
comprehensive
income (loss) (1.0 ) (2.3 ) 1.3 56.5 %
Net other-than-temporary impairments
recognized in earnings (3.0 ) (38.0 ) 35.0 92.1 %
Other net realized capital gains
(losses) 129.1 73.5 55.6 75.6 %
Total net realized capital gains
(losses) 126.1 35.5 90.6 NM
Other income 2.8 12.9 (10.1 ) (78.3 )%
Total revenues 1,240.3 1,219.6 20.7 1.7 %
Benefits and expenses:
Interest credited and other benefits
to contract owners 387.7 359.3 28.4 7.9 %
Operating expenses 357.6 330.3 27.3 8.3 %
Broker-dealer commission expense 112.2 115.3 (3.1 ) (2.7 )%
Net amortization of deferred policy
acquisition costs and value of
business acquired 105.0 82.3 22.7 27.6 %
Interest expense 1.1 1.3 (0.2 ) (15.4 )%
Total benefits and expenses 963.6 888.5 75.1 8.5 %
Income (loss) before income taxes 276.7 331.1 (54.4 ) (16.4 )%
Income tax expense (benefits) 94.8 127.1 (32.3 ) (25.4 )%
Net income (loss) $ 181.9 $ 204.0 $ (22.1 ) (10.8 )%
NM - Not Meaningful
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Revenues
Total revenues increased for the six months ended June 30, 2012 primarily reflecting higher Net realized capital gains partially offset by lower Net investment income and Other income.
Net realized capital gains (losses) increased $90.6 from $35.5 to $126.1
primarily due to higher gains on embedded derivatives on product guarantees due
to a reduction in expected future guaranteed interest rates on certain
stabilizer products. In addition, our derivatives portfolio generated a gain due
to changes in fair value of interest rate contracts and foreign exchange
contracts. The higher capital gains were partially offset by an unfavorable
change in net realized gains/losses within Fixed maturities due to lower trading
gains on corporate securities.
Net investment income decreased $59.8 from $723.7 to $663.9 primarily due to the
loss recorded on the sale of certain alternative investments. The sale of
certain alternative investments resulted in a net pretax loss of $38.7 in the
second quarter of 2012 reported in Net investment loss in the Condensed
Consolidated Statements of Operations. The decrease was partially offset by the
increase in income in the commercial mortgage portfolio and increase in general
account assets.
Other income decreased $10.1 from $12.9 to $2.8 due to a change in contracted amounts paid to/from retirement plan customers on certain retirement plan surrenders.
Benefits and Expenses
Total benefits and expenses increased for the six months ended June 30, 2012
primarily due to an increase in Interest credited and other benefits to contract
owners, higher Operating expenses, and an increase in Net amortization of DAC
and VOBA.
Interest credited and other benefits to contract owners increased $28.4 from
$359.3 to $387.7 due to an increase in general account liabilities. The
volatility in the equity markets during the second half of 2011 resulted in
participants transferring funds from variable investment options to fixed
investment options which contributed to an increase in average general account
assets and corresponding liabilities. The increase was partially offset by a
decrease in average credited rates on general account liabilities compared to
the prior period due to management actions taken in January and April 2012 to
reflect the current interest rate environment.
Operating expenses increased $27.3 from $330.3 to $357.6 reflecting higher compensation related and other general expenses.
Net amortization of DAC and VOBA increased $22.7 from $82.3 to $105.0 primarily
due to higher amortization and lower favorable unlocking due to adverse equity
market performance in Q2 2012. Amortization related to our retirement products
increased due to income resulting from a decrease in the fair value of embedded
derivatives on product guarantees and lower favorable unlocking, partially
offset by the effect of lower gross profits. Also, DAC/VOBA unlocking due to the
revisions to estimated gross profit increased the Net amortization of DAC and
VOBA.
Income Taxes
Income tax expense decreased $32.3 from $127.1 to $94.8 primarily due to a
decrease in income before taxes and lower increase in the valuation allowance
for the six months ended June 30, 2012 compared to the increase in the valuation
allowance for the six months ended June 30, 2011. The decrease in the tax
expense is also partly due to an increase in the dividends received deduction.
Financial Condition
Investments
Investment Strategy
Our investment strategy seeks to achieve sustainable risk adjusted returns by
focusing on principal preservation, disciplined matching of asset
characteristics with liability requirements and the diversification of risks.
Investment activities are undertaken according to investment policy statements
that contain internally established guidelines and risk tolerances and in all
cases are required to comply with applicable laws and insurance regulations.
Risk tolerances are established for credit risk, credit spread risk, market
risk, liquidity risk and concentration risk across issuers, sectors and asset
types that seek to mitigate the impact of cash flow variability arising from
these risks. Investments are managed by ING Investment Management LLC, our
affiliate,
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pursuant to an investment advisory agreement. Segmented portfolios are
established for groups of products with similar liability characteristics. Our
investment portfolio consists largely of high quality fixed maturity securities
and short-term investments, investments in commercial mortgage loans, limited
partnerships and other instruments, including a small amount of equity holdings.
Fixed maturity securities include publicly issued corporate bonds, government
bonds, privately placed notes and bonds, mortgage-backed securities and
asset-backed securities. We use derivatives for hedging purposes and to
replicate exposure to other assets as a more efficient means of assuming credit
exposure similar to bonds of the underlying issuer(s).
Portfolio Composition
The following table presents the investment portfolio as of June 30, 2012 and
December 31, 2011.
2012 2011
Carrying % of Carrying % of
Value Total Value Total
Fixed maturities, available-for-sale,
including securities pledged $ 19,283.9 77.7 % $ 18,728.3 79.4 %
Fixed maturities, at fair value using
the fair value option 587.8 2.4 % 511.9 2.1 %
Equity securities, available-for-sale 144.7 0.6 % 144.9 0.6 %
Short-term investments 546.7 2.2 % 216.8 0.9 %
Mortgage loans on real estate 2,709.8 11.0 % 2,373.5 10.1 %
Loan-Dutch State obligation 379.1 1.5 % 417.0 1.8 %
Policy loans 240.5 1.0 % 245.9 1.0 %
Limited partnerships/corporations 380.7 1.5 % 510.6 2.2 %
Derivatives 532.3 2.1 % 446.6 1.9 %
Total investments $ 24,805.5 100.0 % $ 23,595.5 100.0 %
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Fixed Maturities and Equity Securities
Available-for-sale and fair value option ("FVO") fixed maturities and equity securities were as follows as of June 30, 2012.
Gross Gross
Unrealized Unrealized
Amortized Capital Capital Embedded Fair
Cost Gains Losses Derivatives(3) Value OTTI(2)
Fixed maturities:
U.S. Treasuries $ 903.8 $ 149.7 $ - $ - $ 1,053.5 $ -
U.S. government agencies
and authorities 378.9 24.5 - - 403.4 -
State, municipalities and
political subdivisions 77.2 13.3 - - 90.5 -
U.S. corporate securities 8,692.1 922.1 23.9
- 9,590.3 -
Foreign securities(1):
Government 419.3 35.5 1.4 - 453.4 -
Other 4,308.2 388.5 21.6 - 4,675.1 -
Total foreign securities 4,727.5 424.0 23.0 - 5,128.5 -
Residential mortgage-backed
securities:
Agency 1,513.8 202.9 4.6 37.9 1,750.0 0.6
Non-Agency 452.2 68.2 34.2 21.0 507.2 25.6
Total residential
mortgage-backed securities 1,966.0 271.1 38.8 58.9 2,257.2 26.2
Commercial mortgage-backed
securities 828.4 64.9 1.4 - 891.9 4.4
Other asset-backed
securities 451.3 22.3 17.2 - 456.4 3.9
Total fixed maturities,
including securities
pledged 18,025.2 1,891.9 104.3 58.9 19,871.7 34.5
Less: securities pledged 342.2 13.5 2.1 - 353.6 -
Total fixed maturities 17,683.0 1,878.4 102.2 58.9 19,518.1 34.5
Equity securities 131.2 13.5 - - 144.7 -
Total fixed maturities and
equity securities $ 17,814.2 $ 1,891.9 $ 102.2 $ 58.9 $ 19,662.8 $ 34.5
(1) Primarily U.S. dollar denominated.
(2) Represents other-than-temporary impairments ("OTTI") reported as a component of Other comprehensive income.
(3) Embedded derivatives within fixed maturity securities are reported with the host investment. The changes in fair value of
embedded derivatives are reported in Other net realized capital gains (losses) in the Condensed Consolidated Statements of
Operations.
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Available-for-sale and FVO fixed maturities and equity securities were as follows as of December 31, 2011 (As revised).
Gross Gross
Unrealized Unrealized
Amortized Capital Capital Embedded Fair
Cost Gains Losses
Derivatives(3) Value OTTI(2) Fixed maturities: U.S. Treasuries
$ 1,096.6 $ 135.0 $ - $ - $ 1,231.6 $ -
U.S. government agencies
and authorities 379.7 31.0 - - 410.7 -
State, municipalities and
political subdivisions 95.1 10.9 - - 106.0 -
U.S. corporate securities 8,166.9 770.8 31.1
- 8,906.6 -
Foreign securities(1):
Government 308.5 39.8 3.1 - 345.2 -
Other 4,352.5 328.8 38.4 - 4,642.9 -
Total foreign securities 4,661.0 368.6 41.5 - 4,988.1 -
Residential mortgage-backed
securities:
Agency 1,442.0 218.7 3.4 39.4 1,696.7 0.7
Non-Agency 513.4 66.7 49.5 19.8 550.4 28.8
Total residential
mortgage-backed securities 1,955.4 285.4 52.9 59.2 2,247.1 29.5
Commercial mortgage-backed
securities 866.1 51.0 5.8 - 911.3 4.4
Other asset-backed
securities 441.5 19.4 22.1 - 438.8 4.2
Total fixed maturities,
including securities
pledged 17,662.3 1,672.1 153.4 59.2 19,240.2 38.1
Less: securities pledged 572.5 22.4 1.2 - 593.7 -
Total fixed maturities 17,089.8 1,649.7 152.2 59.2 18,646.5 38.1
Equity securities 131.8 13.1 - - 144.9 -
Total fixed maturities and
equity securities $ 17,221.6 $ 1,662.8 $ 152.2 $ 59.2 $ 18,791.4 $ 38.1
(1) Primarily U.S. dollar denominated.
(2) Represents other-than-temporary impairments ("OTTI") reported as a component of Other comprehensive income.
(3) Embedded derivatives within fixed maturity securities are reported with the host investment. The changes in fair value of
embedded derivatives are reported in Other net realized capital gains (losses) in the Condensed Consolidated Statements of
Operations.
Fixed Maturities Securities Credit Quality - Ratings
The Securities Valuation Office ("SVO") of the National Association of Insurance
Commissioners ("NAIC") evaluates the fixed
maturity security investments of insurers for regulatory reporting and capital
assessment purposes and assigns securities to one of six credit quality
categories called "NAIC designations." An internally developed rating is used as
permitted by the NAIC if no rating is available. These designations are
generally similar to the credit quality designations of the NAIC acceptable
rating organizations ("ARO") for marketable fixed maturity securities, called
"rating agency designations," except for certain structured securities as
described below. NAIC designations of "1," highest quality and "2," high
quality, include fixed maturity securities generally considered investment grade
("IG") by such rating organizations. NAIC designations 3 through 6 include fixed
maturity securities generally considered below investment grade ("BIG") by such
rating organizations.
The NAIC adopted revised designation methodologies for non-agency Residential
mortgage-backed securities ("RMBS"), including RMBS backed by subprime mortgage
loans reported within other Asset-backed securities ("ABS") that became
effective
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December 31, 2009 and for Commercial mortgage-backed securities ("CMBS") that
became effective December 31, 2010. The NAIC's objective with the revised
designation methodologies for these structured securities was to increase the
accuracy in assessing expected losses and to use the improved assessment to
determine a more appropriate capital requirement for such structured securities.
The revised methodologies reduce regulatory reliance on rating agencies and
allow for greater regulatory input into the assumptions used to estimate
expected losses from such structured securities.
As a result of time lags between the funding of investments, the finalization of
legal documents and the completion of the SVO filing process, the fixed maturity
portfolio generally includes securities that have not yet been rated by the SVO
as of each balance sheet date, such as private placements. Pending receipt of
SVO ratings, the categorization of these securities by NAIC designation is based
on the expected ratings indicated by internal analysis.
Information about our fixed maturity securities holdings, including securities
pledged, by NAIC designations is set forth in the following tables.
Corresponding rating agency designation does not directly translate into NAIC
designation, but represents our best estimate of comparable ratings from rating
agencies, including Moody's Investors Service ("Moody's"), Standard & Poor's
("S&P") and Fitch Ratings Ltd. ("Fitch"). If no rating is available from a
rating agency, then an internally developed rating is used on a basis believed
to be similar to that used by the rating agencies.
The fixed maturities in our portfolio are generally rated by external rating
agencies and, if not externally rated, are rated by us. As of June 30, 2012 and
December 31, 2011, the average quality rating of our fixed maturities portfolio
was A. Ratings are derived from three ARO ratings and are applied as follows
based on the number of agency rating received:
? when three ratings are received then the middle rating is applied;
? when two ratings are received then the lower rating is applied;
? when a single rating is received, the ARO rating is applied; and
? when ratings are unavailable then an internal rating is applied.
Total fixed maturities by NAIC quality designation category, including
securities pledged to creditors, were as follows as of June 30, 2012 and
December 31, 2011.
2012
NAIC Quality Fair % of Amortized % of
Designation Value Total Cost Total
1 $ 10,023.4 50.4 % $ 9,032.9 50.0 %
2 8,822.4 44.4 % 8,038.1 44.6 %
3 766.4 3.9 % 739.8 4.1 %
4 118.1 0.6 % 117.6 0.7 %
5 65.5 0.3 % 46.4 0.3 %
6 75.9 0.4 % 50.4 0.3 %
Total $ 19,871.7 100.0 % $ 18,025.2 100.0 %
2011
NAIC Quality Fair % of Amortized % of
Designation Value Total Cost Total
1 $ 9,718.2 50.5 % $ 8,835.6 50.1 %
2 8,352.5 43.4 % 7,722.6 43.7 %
3 875.0 4.6 % 850.4 4.8 %
4 166.1 0.9 % 170.1 1.0 %
5 84.7 0.4 % 77.3 0.4 %
6 43.7 0.2 % 6.3 0.0 %
Total $ 19,240.2 100.0 % $ 17,662.3 100.0 %
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Total fixed maturities by ARO quality rating category, including securities
pledged to creditors, were as follows as of June 30, 2012 and December 31, 2011.
2012
ARO Quality Fair % of Amortized % of
Rating Value Total Cost Total
AAA $ 4,274.8 21.5 % $ 3,795.1 21.1 %
AA 750.6 3.8 % 677.5 3.8 %
A 4,854.4 24.4 % 4,420.3 24.5 %
BBB 8,750.3 44.1 % 7,974.3 44.2 %
BB 737.6 3.7 % 698.6 3.9 %
B and below 504.0 2.5 % 459.4 2.5 %
Total $ 19,871.7 100.0 % $ 18,025.2 100.0 %
2011
ARO Quality Fair % of Amortized % of
Rating Value Total Cost Total
AAA $ 4,459.7 23.2 % $ 3,972.4 22.5 %
AA 899.0 4.7 % 813.1 4.6 %
A 4,273.2 22.2 % 3,949.9 22.4 %
BBB 8,244.6 42.9 % 7,633.0 43.2 %
BB 835.8 4.3 % 803.5 4.5 %
B and below 527.9 2.7 % 490.4 2.8 %
Total $ 19,240.2 100.0 % $ 17,662.3 100.0 %
As of June 30, 2012 and December 31, 2011, 93.8% and 93.0% of the fixed maturities were invested in securities rated BBB and above (Investment Grade ("IG")), respectively.
Fixed maturities rated BB and below (Below Investment Grade ("BIG")) may have
speculative characteristics and changes in economic conditions or other
circumstances are more likely to lead to a weakened capacity of the issuer to
make principal and interest payments than is the case with higher rated fixed
maturities.
Total fixed maturities by market sector, including securities pledged to creditors, were as follows as of June 30, 2012 and December 31, 2011.
2012
Fair % of Amortized % of
Value Total Cost Total
U.S. Treasuries $ 1,053.5 5.3 % $ 903.8 5.0 %
U.S. government agencies and authorities 403.4 2.0 % 378.9 2.1 %
U.S. corporate, state and municipalities 9,680.8 48.7 % 8,769.3 48.7 %
Foreign 5,128.5 25.8 % 4,727.5 26.2 %
Residential mortgage-backed 2,257.2 11.4 % 1,966.0 10.9 %
Commercial mortgage-backed 891.9 4.5 % 828.4 4.6 %
Other asset-backed 456.4 2.3 % 451.3 2.5 %
Total $ 19,871.7 100.0 % $ 18,025.2 100.0 %
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2011
Fair % of Amortized % of
Value Total Cost Total
U.S. Treasuries $ 1,231.6 6.4 % $ 1,096.6 6.2 %
U.S. government agencies and authorities 410.7 2.1 % 379.7 2.1 %
U.S. corporate, state and municipalities 9,012.6 46.8 % 8,262.0 46.8 %
Foreign 4,988.1 26.0 % 4,661.0 26.4 %
Residential mortgage-backed 2,247.1 11.7 % 1,955.4 11.1 %
Commercial mortgage-backed 911.3 4.7 % 866.1 4.9 %
Other asset-backed 438.8 2.3 % 441.5 2.5 %
Total $ 19,240.2 100.0 % $ 17,662.3 100.0 %
The amortized cost and fair value of fixed maturities, including securities
pledged, as of June 30, 2012, are shown below by contractual maturity. Actual
maturities may differ from contractual maturities as securities may be
restructured, called, or prepaid. Mortgage-backed securities ("MBS") and ABS are
shown separately because they are not due at a single maturity date.
Amortized Cost Fair Value
Due to mature:
One year or less $ 551.5 $ 579.7
After one year through five years 3,910.9
4,154.1
After five years through ten years 5,291.1 5,796.3
After ten years 5,026.0 5,736.1
Mortgage-backed securities 2,794.4 3,149.1
Other asset-backed securities 451.3 456.4
Fixed maturities, including securities pledged $ 18,025.2 $ 19,871.7
The investment portfolio is monitored to maintain a diversified portfolio on an
on-going basis. Credit risk is mitigated by monitoring concentrations by issuer,
sector and geographic stratification and limiting exposure to any one issuer.
As of June 30, 2012 and December 31, 2011, we did not have any investments in a
single issuer, other than obligations of the U.S. government and government
agencies and the State of the Netherlands (the "Dutch State") loan obligation,
with a carrying value in excess of 10% of our Shareholder's equity.
We invest in various categories of collateralized mortgage obligations ("CMOs"),
including CMOs that are not agency-backed, that are subject to different degrees
of risk from changes in interest rates and defaults. The principal risks
inherent in holding CMOs are prepayment and extension risks related to
significant decreases and increases in interest rates resulting in the
prepayment of principal from the underlying mortgages, either earlier or later
than originally anticipated. As of June 30, 2012 and December 31, 2011,
approximately 43.7% and 41.1%, respectively, of our CMO holdings were invested
in those types of CMOs, such as interest only or principal only strips, which
are subject to more prepayment and extension risk than traditional CMOs.
Subprime and Alt-A Mortgage Exposure
Underlying collateral, originated prior to 2008, has continued to reflect the
problems associated with a housing market that has experienced substantial price
declines and an employment market that has declined significantly and remains
under stress. Credit spreads have widened meaningfully from issuance and rating
agency downgrades have been widespread and severe within the sector. Over the
course of 2010 and 2011, market prices and liquidity within the sector exhibited
volatility, driven by various factors, both domestically and globally. During
the first half of 2012, market prices and sector liquidity exhibited sustained
improvements, driven by an improved technical picture and positive sentiment
regarding the potential for fundamental improvements within the sector. In
managing our risk exposure to subprime and Alt-A mortgages, we take into account
collateral performance and structural characteristics associated with our
various positions.
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We do not originate or purchase subprime or Alt-A whole-loan mortgages. We do
have exposure to RMBS and ABS. Subprime lending is the origination of loans to
customers with weaker credit profiles. We define Alt-A Loans to include the
following: residential mortgage loans to customers who have strong credit
profiles but lack some element(s), such as documentation to substantiate income;
residential mortgage loans to borrowers that would otherwise be classified as
prime but whose loan structure provides repayment options to the borrower that
increase the risk of default; and any securities backed by residential mortgage
collateral not clearly identifiable as prime or subprime.
Our exposure to subprime mortgages was primarily in the form of ABS structures
collateralized by subprime residential mortgages and the majority of these
holdings were included in other asset-backed securities in the fixed maturities
by market sector table previously referenced. As of June 30, 2012, the fair
value and gross unrealized losses related to our exposure to subprime mortgages
was $59.9 and $16.8, respectively, representing 0.3% of total fixed maturities,
including securities pledged. As of December 31, 2011, the fair value and gross
unrealized losses related to our exposure to subprime mortgages were $59.1 and
$21.7, respectively, representing 0.3% of total fixed maturities, including
securities pledged.
The following tables summarize our exposure to subprime mortgage-backed holdings
by credit quality using NAIC designations, ARO ratings and vintage year as of
June 30, 2012 and December 31, 2011:
% of Total Subprime Mortgage-backed Securities
NAIC Designation ARO Rating Vintage
2012 1 76.9 % AAA 3.8 % 2007 8.0 %
2 2.8 % AA - 2006 5.6 %
3 10.1 % A 17.0 % 2005 and prior 86.4 %
4 10.0 % BBB 18.6 % 100.0 %
5 - BB and below 60.6 %
6 0.2 % 100.0 %
100.0 %
2011 1 75.8 % AAA 7.5 % 2007 9.1 %
2 5.3 % AA - 2006 4.5 %
3 9.3 % A 13.0 % 2005 and prior 86.4 %
4 9.4 % BBB 33.7 % 100.0 %
5 - BB and below 45.8 %
6 0.2 % 100.0 %
100.0 %
Our exposure to Alt-A mortgages was included in "residential mortgage-backed
securities" line item in the "Fixed Maturities" table under "Fixed Maturities"
above. As of June 30, 2012, the fair value and gross unrealized losses related
to our exposure to Alt-A RMBS aggregated to $106.2 and $17.2, respectively,
representing 0.5% of total fixed maturities , including securities pledged. As
of December 31, 2011, the fair value and gross unrealized losses related to our
exposure to Alt-A RMBS aggregated to $111.4 and $19.6, respectively,
representing 0.6% of total fixed maturities, including securities pledged.
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The following tables summarize our exposure to Alt-A residential mortgage-backed
securities by credit quality using NAIC designations, ARO ratings and vintage
year as of June 30, 2012 and December 31, 2011:
% of Total Alt-A Mortgage-backed Securities
NAIC Designation ARO Rating Vintage
2012 1 40.3 % AAA 0.3 % 2007 12.7 %
2 13.3 % AA 2.1 % 2006 28.3 %
3 18.8 % A 11.4 % 2005 and prior 59.0 %
4 18.1 % BBB 3.0 % 100.0 %
5 8.8 % BB and below 83.2 %
6 0.7 % 100.0 %
100.0 %
2011 1 39.9 % AAA 0.3 % 2007 12.0 %
2 14.9 % AA 3.1 % 2006 28.3 %
3 14.7 % A 13.1 % 2005 and prior 59.7 %
4 21.1 % BBB 4.6 % 100.0 %
5 4.7 % BB and below 78.9 %
6 4.7 % 100.0 %
100.0 %
Commercial Mortgage-backed and Other Asset-backed Securities
Similar to what has been observed in non-agency RMBS, delinquency rates on
commercial mortgages have been elevated since the credit crisis, reflecting the
significant deterioration in commercial real estate values and challenged credit
environment. In late 2011 and early 2012, the pace of increase in commercial
mortgage delinquencies exhibited signs of stabilization and, in more limited
instances, signs of improvements. In addition, other performance metrics like
vacancies, property values and rent levels have exhibited improvements,
providing signals of a recovery in commercial real estate.
The primary market for CMBS has contributed to the recovery, with meaningful new issuance volumes in 2012 contributing to an improvement in the credit environment.
For consumer asset-backed securities, delinquency and loss rates have exhibited
meaningful and sustained improvements post credit crisis. These sustained
improvements have been observed in a wide range of credit metrics across
multiple types of asset-backed loans. This has positively impacted the market
values of consumer asset-backed securities.
As of June 30, 2012 and December 31, 2011, the fair value of our CMBS totaled
$891.8 and $911.3, respectively, and other ABS, excluding subprime exposure,
totaled $397.7 and $381.0, respectively. As of June 30, 2012, the gross
unrealized losses related to CMBS totaled $1.4 and gross unrealized losses
related to Other ABS, excluding subprime exposure, totaled $0.7. CMBS
investments represent pools of commercial mortgages that are broadly diversified
across property types and geographical areas.
As of June 30, 2012, the other ABS was also broadly diversified both by type and issuer with credit card receivables, nonconsolidated collateralized loan obligations and automobile receivables, comprising 49.0%, 5.5% and 20.9%, respectively, of total Other ABS, excluding subprime exposure. As of December 31, 2011, Other ABS was also broadly diversified both by type and issuer with credit card receivables, nonconsolidated collateralized loan obligations and automobile receivables, comprising 49.3%, 5.5% and 17.2%, respectively, of total Other ABS, excluding subprime exposure.
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The following tables summarize our exposure to CMBS holdings by credit quality
using NAIC designations, ARO ratings and vintage year as of June 30, 2012 and
December 31, 2011:
% of Total CMBS
NAIC Designation ARO Rating Vintage
2012 1 99.6 % AAA 59.4 % 2008 -
2 0.2 % AA 2.3 % 2007 25.0 %
3 0.2 % A 21.5 % 2006 18.5 %
4 - BBB 5.8 % 2005 and prior 56.5 %
5 - BB and below 11.0 % 100.0 %
6 - 100.0 %
100.0 %
2011 1 97.4 % AAA 63.7 % 2007 23.4 %
2 0.9 % AA 1.4 % 2006 18.2 %
3 0.7 % A 21.1 % 2005 and prior 58.4 %
4 1.0 % BBB 4.0 % 100.0 %
5 - BB and below 9.8 %
6 - 100.0 %
100.0 %
The following tables summarize our exposure to Other ABS holdings, excluding
subprime exposure, by credit quality using NAIC designations, ARO ratings and
vintage year as of June 30, 2012 and December 31, 2011:
% of Total Other ABS
NAIC Designation ARO Rating Vintage
2012 1 97.8 % AAA 87.5 % 2012 10.9 %
2 2.0 % AA 2.2 % 2011 13.4 %
3 - A 8.1 % 2010 6.5 %
4 0.2 % BBB 2.0 % 2009 0.4 %
5 - BB and below 0.2 % 2008 10.8 %
6 - 100.0 % 2007 25.3 %
100.0 % 2006 6.6 %
2005 and prior 26.1 %
100.0 %
2011 1 95.0 % AAA 82.7 % 2011 14.3 %
2 4.7 % AA 1.2 % 2010 7.3 %
3 - A 8.4 % 2009 0.4 %
4 0.3 % BBB 7.4 % 2008 11.7 %
5 - BB and below 0.3 % 2007 30.3 %
6 - 100.0 % 2006 6.8 %
100.0 % 2005 and prior 29.2 %
100.0 %
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Mortgage Loans on Real Estate
Our mortgage loans on real estate are all commercial mortgage loans, which totaled $2.7 billion and $2.4 billion as of June 30, 2012 and December 31, 2011, respectively. These loans are reported at amortized cost, less impairment write-downs and allowance for losses.
We diversify our commercial mortgage loan portfolio by geographic region and
property type to reduce concentration risk. We manage risk when originating
commercial mortgage loans by generally lending only up to 75% of the estimated
fair value of the underlying real estate. Subsequently, we continuously
evaluate all mortgage loans based on relevant current information including an
appraisal of loan-specific credit quality, property characteristics and market
trends. Loan performance is monitored on a loan-specific basis through the
review of submitted appraisals, operating statements, rent revenues and annual
inspection reports, among other items. This review ensures properties are
performing at a consistent and acceptable level to secure the debt.
All commercial mortgages are evaluated for the purpose of quantifying the level
of risk. Those loans with higher risk are placed on a watch list and are
closely monitored for collateral deficiency or other credit events that may lead
to a potential loss of principal or interest. If the value of any mortgage loan
is determined to be impaired (i.e., when it is probable that we will be unable
to collect on all amounts due according to the contractual terms of the loan
agreement), the carrying value of the mortgage loan is reduced to the lower of
the present value of expected cash flows from the loan, discounted at the loan's
effective interest rate, or fair value of the collateral. There were no
impairments taken on the mortgage loan portfolio for the three and six months
ended June 30, 2012 and 2011. For those mortgages that are determined to require
foreclosure, the carrying value is reduced to the fair value of the underlying
collateral, net of estimated costs to obtain and sell at the point of
foreclosure. There were no mortgage loans in our portfolio in arrears with
respect to principal and interest as of June 30, 2012. As of June 30, 2012 and
December 31, 2011, all mortgage loans in our portfolio were current with respect
to principal and interest. Due to challenges that the economy presents to the
commercial mortgage market, we recorded an allowance for probable incurred, but
not specifically identified, losses related to factors inherent in the lending
process. As of June 30, 2012 and December 31, 2011, we had a $1.7 and $1.3 ,
respectively, allowance for mortgage loan credit losses.
Loan-to-value ("LTV") and debt service coverage ("DSC") ratios are measures
commonly used to assess the risk and quality of commercial mortgage loans. The
LTV ratio, calculated at time of origination, is expressed as a percentage of
the amount of the loan relative to the value of the underlying property. The
DSC ratio, based upon the most recently received financial statements, is
expressed as a percentage of the amount of a property's net income to its debt
service payments. These ratios are utilized as part of the review process
described above. LTV and DSC ratios as of June 30, 2012 and December 31, 2011,
are as follows:
2012(1) 2011(1)
Loan-to-Value Ratio:
0% - 50% $ 536.2 $ 552.4
50% - 60% 781.2 771.5
60% - 70% 1,255.4 908.2
70% - 80% 122.0 125.2
80% - 90% 16.7 17.5
Total Commercial mortgage loans $ 2,711.5 $
2,374.8
(1) Balances do not include allowance for mortgage loan credit losses
2012(1) 2011(1)
Debt Service Coverage Ratio:
Greater than 1.5x $ 1,956.6 $ 1,600.1
1.25x - 1.5x 397.5 408.1
1.0x - 1.25x 280.9 286.7
Less than 1.0x 76.5 79.9
Commercial mortgages secured by loans on land or
construction loans -
-
Total Commercial mortgage loans $ 2,711.5 $
2,374.8
(1) Balances do not include allowance for mortgage loan credit losses.
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Properties collateralizing mortgage loans are geographically dispersed
throughout the United States, as well as diversified by property type, as
reflected in the following tables as of June 30, 2012 and December 31, 2011.
2012(1) 2011(1)
Gross % of Gross % of
Carrying Value Total Carrying Value Total
Commercial mortgage loans by
U.S. Region:
Pacific $ 560.2 20.7 % $ 514.7 21.7 %
South Atlantic 539.7 19.9 % 412.0 17.3 %
Middle Atlantic 330.4 12.2 % 325.9 13.7 %
East North Central 333.1 12.3 % 285.6 12.0 %
West South Central 393.9 14.5 % 358.4 15.1 %
Mountain 182.9 6.7 % 191.2 8.0 %
New England 113.8 4.2 % 94.2 4.0 %
West North Central 167.0 6.2 % 98.9 4.2 %
East South Central 90.5 3.3 % 93.9 4.0 %
Total Commercial mortgage
loans $ 2,711.5 100.0 % $ 2,374.8 100.0 %
(1) Balances do not include allowance for mortgage loan credit losses.
2012(1) 2011(1)
Gross % of Gross % of
Carrying Value Total Carrying Value Total
Commercial mortgage loans by
Property Type:
Industrial $ 1,028.5 37.9 % $ 956.4 40.3 %
Retail 667.2 24.6 % 544.7 22.9 %
Office 414.6 15.3 % 351.5 14.8 %
Apartments 299.7 11.0 % 281.7 11.9 %
Hotel/Motel 118.2 4.4 % 132.7 5.6 %
Mixed use 34.5 1.3 % 0.9 - %
Other 148.8 5.5 % 106.9 4.5 %
Total Commercial mortgage
loans $ 2,711.5 100.0 % $ 2,374.8 100.0 %
(1) Balances do not include allowance for mortgage loan credit losses.
The following table sets forth the breakdown of commercial mortgages by year of origination as of June 30, 2012 and December 31, 2011.
2012(1) 2011(1)
Year of Origination:
2012 $ 567.2 $ -
2011 850.8 857.9
2010 125.1 161.9
2009 73.5 92.6
2008 136.5 137.2
2007 171.7 202.1
2006 and prior 786.7 923.1
Total Commercial mortgage loans $ 2,711.5 $ 2,374.8
(1) Balances do not include allowance for mortgage loan credit losses.
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Troubled Debt Restructuring
We invest in high quality, well performing portfolios of commercial mortgage
loans and private placements. Under certain circumstances, modifications to
these contracts are granted. Each modification is evaluated as to whether a
troubled debt restructuring has occurred. A modification is a troubled debt
restructure when the borrower is in financial difficulty and the creditor makes
concessions. Generally, the types of concessions may include reducing the face
amount or maturity amount of the debt as originally stated, reducing the
contractual interest rate, extending the maturity date at an interest rate lower
than current market interest rates and/or reducing accrued interest. We consider
the amount, timing and extent of the concession granted in determining any
impairment or changes in the specific valuation allowance recorded in connection
with the troubled debt restructuring. A valuation allowance may have been
recorded prior to the quarter when the loan is modified in a troubled debt
restructuring. Accordingly, the carrying value (net of the specific valuation
allowance) before and after modification through a troubled debt restructuring
may not change significantly, or may increase if the expected recovery is higher
than the pre-modification recovery assessment.
During the three and six months ended June 30, 2012, we had no mortgage loans or
private placement modified in a troubled debt restructuring with a subsequent
payment default.
Unrealized Capital Losses
Unrealized capital losses (including noncredit impairments) in fixed maturities,
including securities pledged to creditors, for IG and BIG securities by
duration, based on NAIC designations, were as follows as of June 30, 2012 and
December 31, 2011.
2012 2011
% of IG % of IG % of IG % of IG
IG and BIG BIG and BIG IG and BIG BIG and BIG
Six months or
less below
amortized cost $ 18.8 18.0 % $ 2.8 2.7 % $ 38.4 25.0 % $ 7.1 4.6 %
More than six
months and
twelve months or
less below
amortized cost 6.7 6.4 % 3.1 3.0 % 12.5 8.1 % 4.1 2.7 %
More than twelve
months below
amortized cost 43.1 41.3 % 29.8 28.6 % 61.4 40.1 % 29.9 19.5 %
Total unrealized
capital losses $ 68.6 65.7 % $ 35.7 34.3 % $ 112.3
73.2 % $ 41.1 26.8 %
Unrealized capital losses (including noncredit impairments) in fixed maturities,
including securities pledged to creditors, for securities rated IG and
securities rated BIG by duration, based on ARO ratings, were as follows as of
June 30, 2012 and December 31, 2011.
2012 2011
% of IG % of IG % of IG % of IG
IG and BIG BIG and BIG IG and BIG BIG and BIG
Six months or
less below
amortized cost $ 15.4 14.8 % $ 6.2 5.9 % $ 38.3 25.0 % $ 7.2 4.7 %
More than six
months and
twelve months or
less below
amortized cost 6.5 6.2 % 3.3 3.2 % 6.8 4.4 % 9.8 6.4 %
More than twelve
months below
amortized cost 24.6 23.6 % 48.3 46.3 % 42.1 27.4 % 49.2 32.1 %
Total unrealized
capital losses $ 46.5 44.6 % $ 57.8 55.4 % $ 87.2 56.8 % $ 66.2 43.2 %
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Unrealized capital losses (including noncredit impairments), along with the fair
value of fixed maturities, including securities pledged, by market sector and
duration were as follows as of June 30, 2012 and December 31, 2011.
More Than Six
Months and Twelve More Than Twelve
Six Months or Less Months or Less Months Below
Below Amortized Cost Below Amortized Cost Amortized Cost Total
Fair Unrealized Fair Unrealized Fair Unrealized Fair Unrealized
Value Capital Loss Value Capital Loss Value Capital Loss Value Capital Loss
2012
U.S. Treasuries $ 209.1 $ - $ - $ - $ - $ - $ 209.1 $ -
U.S. corporate,
state and
municipalities 418.0 10.4 108.7 5.1 46.5 8.4 573.2 23.9
Foreign 291.4 8.1 83.9 3.9 77.7 11.0 453.0 23.0
Residential
mortgage-backed 49.1 2.6 25.3 0.7 210.2 35.5 284.6 38.8
Commercial
mortgage-backed 41.5 0.4 - - 30.5 1.0 72.0 1.4
Other
asset-backed 5.1 0.1 5.3 0.1 49.6 17.0 60.0 17.2
Total $ 1,014.2 $ 21.6 $ 223.2 $ 9.8 $ 414.5 $ 72.9 $ 1,651.9 $ 104.3
2011
U.S. Treasuries $ - $ - $ - $ - $ - $ - $ - $ -
U.S. corporate,
state and
municipalities 595.1 22.8 46.5 3.0 52.9 5.3 694.5 31.1
Foreign 435.3 19.1 49.9 4.6 169.5 17.8 654.7 41.5
Residential
mortgage-backed 49.4 1.6 97.0 5.2 175.4 46.1 321.8 52.9
Commercial
mortgage-backed 28.3 1.8 69.0 2.5 8.9 1.5 106.2 5.8
Other
asset-backed 32.6 0.2 4.9 1.3 44.1 20.6 81.6 22.1
Total $ 1,140.7 $ 45.5 $ 267.3 $ 16.6 $ 450.8 $ 91.3 $ 1,858.8 $ 153.4
Of the unrealized capital losses aged more than twelve months, the average market value of the related fixed maturities was 85.0% and 83.2% of the average book value as of June 30, 2012 and December 31, 2011, respectively.
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Unrealized capital losses (including noncredit impairments) in fixed maturities,
including securities pledged to creditors, for instances in which fair value
declined below amortized cost by greater than or less than 20% for consecutive
months as indicated in the tables below, were as follows as of June 30, 2012 and
December 31, 2011.
Amortized Cost Unrealized Capital Losses Number of Securities
< 20% > 20% < 20% > 20% < 20% > 20%
2012
Six months or less below
amortized cost $ 1,052.0 $ 25.1 $ 21.0 $ 9.9 173 17
More than six months and
twelve months or less below
amortized cost 244.6 25.9 10.3 9.6 58 11
More than twelve months below
amortized cost 298.5 110.1 15.4 38.1 109 42
Total $ 1,595.1 $ 161.1 $ 46.7 $ 57.6 340 70
2011
Six months or less below
amortized cost $ 1,197.2 $ 60.1 $ 46.9 $ 16.9 256 31
More than six months and
twelve months or less below
amortized cost 270.3 25.1 13.9 9.1 52 9
More than twelve months below
amortized cost 355.6 103.9 26.7 39.9 129 37
Total $ 1,823.1 $ 189.1 $ 87.5 $ 65.9 437 77
Unrealized capital losses (including noncredit impairments) in fixed maturities,
including securities pledged to creditors, by market sector for instances in
which fair value declined below amortized cost by greater than or less than 20%
for consecutive months as indicated in the tables below, were as follows as of
June 30, 2012 and December 31, 2011.
Amortized Cost Unrealized Capital Losses Number of Securities
< 20% > 20% < 20% > 20% < 20% > 20%
2012
U.S. Treasuries $ 209.1 $ - $ - $ - 3 -
U.S. corporate, state and
municipalities 579.6 17.5 15.7 8.2 104 4
Foreign 449.1 26.9 14.1 8.9 70 6
Residential mortgage-backed 239.7 83.7 10.7 28.1 126 45
Commercial mortgage-backed 73.4 - 1.4 - 14 -
Other asset-backed 44.2 33.0 4.8 12.4 23 15
Total $ 1,595.1 $ 161.1 $ 46.7 $ 57.6 340 70
2011
U.S. Treasuries $ - $ - $ - $ - - -
U.S. corporate, state and
municipalities 717.7 7.9 28.8 2.3 119 3
Foreign 670.5 25.7 31.9 9.6 122 7
Residential mortgage-backed 276.5 98.2 19.0 33.9 119 47
Commercial mortgage-backed 110.1 1.9 5.4 0.4 16 1
Other asset-backed 48.3 55.4 2.4 19.7 61 19
Total $ 1,823.1 $ 189.1 $ 87.5 $ 65.9 437 77
For the six months ended June 30, 2012, unrealized capital losses on fixed maturities decreased by $49.1. The decrease in gross unrealized losses is primarily due to market improvement and the overall declining yields, leading to higher fair value of fixed maturities.
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As of June 30, 2012 and December 31, 2011, we had no fixed maturities with an unrealized capital loss in excess of $10.0.
All investments with fair values less than amortized cost are included in our
other-than-temporary impairment analysis and impairments were recognized as
disclosed in "Evaluating Securities for Other-Than-Temporary Impairments"
section, which follows this section. After detailed impairment analysis was
completed, we determined that the remaining investments in an unrealized loss
position were not other-than-temporarily impaired and therefore no further
other-than-temporary impairment was necessary.
Evaluating Securities for Other-than-Temporary Impairments
We perform a regular evaluation, on a security-by-security basis, of our
available-for-sale securities holdings, including fixed maturity securities and
equity securities in accordance with its impairment policy in order to evaluate
whether such investments are other-than-temporarily impaired.
The following tables identify our credit-related and intent-related
other-than-temporary impairments included in the Condensed Consolidated
Statements of Operations, excluding noncredit impairments included in Other
comprehensive income, by type for the three and six months ended June 30, 2012
and 2011.
Three Months Ended June 30,
2012 2011
No. of No. of
Impairment Securities Impairment Securities
U.S. corporate $ 0.2 1 $ 0.3 1
Foreign(1) 0.4 2 0.2 2
Residential mortgage-backed 0.9 24 3.0 18
Commercial mortgage-backed - - 8.1 3
Other asset-backed 0.2 2 6.2 26
Total $ 1.7 29 $ 17.8 50
(1) Primarily U.S. dollar denominated.
Six Months Ended June 30,
2012 2011
No. of No. of
Impairment Securities Impairment Securities
U.S. corporate $ 0.2 1 $ 3.9 2
Foreign(1) 0.8 3 3.3 11
Residential mortgage-backed 1.6 28 3.3 23
Commercial mortgage-backed - - 8.1 3
Other asset-backed 0.4 3 19.4 47
Total $ 3.0 35 $ 38.0 86
(1) Primarily U.S. dollar denominated.
The above tables include $1.1 and $1.9 of write-downs related to credit
impairments in Other-than-temporary impairments for the three and six months
ended June 30, 2012, respectively, which are recognized in the Condensed
Consolidated Statements of Operations. The remaining $0.6 and $1.1 in
write-downs for the three and six months ended June 30, 2012, respectively, are
related to intent impairments.
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The above tables include $3.6 and $6.4 of write-downs related to credit
impairments in Other-than-temporary impairments for the three and six months
ended June 30, 2011, respectively, which are recognized in the Condensed
Consolidated Statements of Operations. The remaining $14.2 and $31.6 in
write-downs for the three and six months ended June 30, 2011, respectively, are
related to intent impairments.
The following tables summarize these intent impairments, which are also
recognized in earnings, by type for the three and six months ended June 30, 2012
and 2011.
Three Months Ended June 30,
2012 2011
No. of No. of
Impairment Securities Impairment Securities
U.S. corporate $ 0.2 1 $ 0.3 1
Foreign(1) 0.4 2 0.2 2
Residential mortgage-backed - - - -
Commercial mortgage-backed - - 8.1 3
Other asset-backed - - 5.6 24
Total $ 0.6 3 $ 14.2 30
(1) Primarily U.S. dollar denominated.
Six Months Ended June 30,
2012 2011
No. of No. of
Impairment Securities Impairment Securities
U.S. corporate $ 0.2 1 $ 3.9 2
Foreign(1) 0.8 3 1.2 8
Residential mortgage-backed - - 0.1 1
Commercial mortgage-backed - - 8.1 3
Other asset-backed 0.1 1 18.3 45
Total $ 1.1 5 $ 31.6 59
(1) Primarily U.S. dollar denominated.
We may sell securities during the period in which fair value has declined below
amortized cost for fixed maturities or cost for equity securities. In certain
situations, new factors, including changes in the business environment, can
change our previous intent to continue holding a security. Accordingly, these
factors may lead us to record additional intent related capital losses.
The fair value of fixed maturities with OTTI as of June 30, 2012 and 2011 was $1.7 billion and $1.8 billion, respectively.
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The following tables identify the amount of credit impairments on fixed
maturities for which a portion of the OTTI was recognized in Other comprehensive
income (loss) and the corresponding changes in such amounts for the three and
six months ended June 30, 2012 and 2011.
Three Months Ended June 30,
2012 2011
Balance at April 1 $ 19.5 $ 52.3
Additional credit impairments:
On securities not previously impaired 1.1
0.1
On securities previously impaired -
3.3
Reductions:
Securities intent impairments - (4.4 )
Securities sold, matured, prepaid or paid down (0.6 ) (14.1 )
Balance at June 30 $ 20.0 $ 37.2
Six Months Ended June 30,
2012 2011
Balance at January 1 $ 19.4 $ 59.2
Additional credit impairments:
On securities not previously impaired 1.2
0.3
On securities previously impaired 0.6
3.4
Reductions:
Securities intent impairments - (7.7 )
Securities sold, matured, prepaid or paid down (1.2 ) (18.0 )
Balance at June 30 $ 20.0 $ 37.2
Net Investment Income
We use the equity method of accounting for investments in limited partnership
interests that are not consolidated. This asset group consists primarily of
private equities, hedge funds and certain VIEs. We record our share of earnings
using a lag methodology, relying upon the most recent financial information
available, generally not to exceed three months, where the contractual right
exists to receive such financial information on a timely basis. Our equity in
earnings from limited partnership interests accounted for under the equity
method is recorded in Net investment income.
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The following tables summarize Net investment income (loss) for the three and six months ended June 30, 2012 and 2011.
Three Months Ended June 30,
2012 2011
Fixed maturities $ 303.7 $ 316.0
Equity securities, available-for-sale 3.0 4.8
Mortgage loans on real estate 37.5 29.1
Policy loans 3.3 3.3
Short-term investments and cash equivalents 0.3 0.4
Other (24.2 ) 37.8
Gross investment income 323.6 391.4
Less: investment expenses (11.7 ) (10.7 )
Net investment income $ 311.9 $ 380.7
Six Months Ended June 30,
2012 2011
Fixed maturities $ 608.0 $ 612.6
Equity securities, available-for-sale 4.1 8.5
Mortgage loans on real estate 71.1 55.6
Policy loans 6.6 6.5
Short-term investments and cash equivalents 0.5 0.7
Other (3.4 ) 61.3
Gross investment income 686.9 745.2
Less: investment expenses (23.0 ) (21.5 )
Net investment income $ 663.9 $ 723.7
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Net Realized Capital Gains (Losses)
Net realized capital gains (losses) are comprised of the difference between the
amortized cost of investments and proceeds from sale and redemption, as well as
losses incurred due to credit-related and intent-related other-than-temporary
impairment of investments. Realized investment gains and losses are also
generated primarily from changes in fair value of embedded derivatives within
product guarantees and fixed maturities, changes in fair value of fixed
maturities recorded at FVO and changes in fair value including accruals on
derivative instruments, except for effective cash flow hedges. The cost of the
investments on disposal is generally determined based on first-in-first-out
("FIFO") methodology. Net realized capital gains (losses) were as follows for
the three and six months ended June 30, 2012 and 2011.
Three Months
Ended June 30,
2012
2011
Fixed maturities, available-for-sale, including
securities pledged $ 17.8
$ 40.8 Fixed maturities, at fair value using the fair value option
(3.4 ) (0.3 )
Equity securities, available-for-sale -
1.2
Derivatives 39.3 (30.7 )
Embedded derivatives - fixed maturities 4.6
5.7
Embedded derivatives - product guarantees (59.5 ) (6.6 )
Other investments -
5.8
Net realized capital gains (losses) $ (1.2 ) $ 15.9
After-tax net realized capital gains (losses) $ (6.8 ) $ 20.9
Six Months Ended June 30,
2012 2011
Fixed maturities, available-for-sale, including
securities pledged $ 57.3
$ 72.2 Fixed maturities, at fair value using the fair value option
(46.3 ) (3.7 )
Equity securities, available-for-sale -
2.8
Derivatives 26.2 (39.9 )
Embedded derivatives - fixed maturities (0.2 ) (1.6 )
Embedded derivatives - product guarantees 89.5 (3.1 )
Other investments (0.4 )
8.8
Net realized capital gains (losses) $ 126.1 $ 35.5
After-tax net realized capital gains (losses) $ 72.0 $ 10.2
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Fair Value Hierarchy
The following tables present our hierarchy for assets and liabilities measured
at fair value on a recurring basis as of June 30, 2012 and December 31, 2011.
2012
Level 1 Level 2 Level 3 Total
Assets:
Fixed maturities, including securities
pledged:
U.S. Treasuries $ 1,000.2 $ 53.3 $ - $ 1,053.5
U.S. government agencies and authorities - 403.4 - 403.4
U.S. corporate, state and municipalities - 9,529.2 151.6 9,680.8
Foreign - 5,109.1 19.4 5,128.5
Residential mortgage-backed securities - 2,251.2 6.0 2,257.2
Commercial mortgage-backed securities - 891.9 - 891.9
Other asset-backed securities - 426.3 30.1 456.4
Equity securities, available-for-sale 126.2 - 18.5 144.7
Derivatives:
Interest rate contracts 3.1 525.0 - 528.1
Foreign exchange contracts - 2.7 - 2.7
Equity contracts 0.4 - - 0.4
Credit contracts - 1.1 - 1.1
Cash and cash equivalents, short-term
investments and short-term investments
under securities loan agreement 1,192.0 0.2 - 1,192.2
Assets held in separate accounts 44,318.2 4,978.8 8.7 49,305.7
Total $ 46,640.1 $ 24,172.2 $ 234.3 $ 71,046.6
Liabilities:
Product guarantees $ - $ - $ 133.0 $ 133.0
Fixed indexed annuities - - 17.6 17.6
Derivatives:
Interest rate contracts - 337.7 - 337.7
Foreign exchange contracts - 23.6 - 23.6
Equity contracts - 1.7 - 1.7
Credit contracts - - - -
Total $ - $ 363.0 $ 150.6 $ 513.6
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2011
Level 1 Level 2 Level 3 Total
Assets:
Fixed maturities, including securities
pledged:
U.S. Treasuries $ 1,180.3 $ 51.3 $ - $ 1,231.6
U.S. government agencies and authorities - 410.7 - 410.7
U.S. corporate, state and municipalities - 8,883.5 129.1 9,012.6
Foreign - 4,937.0 51.1 4,988.1
Residential mortgage-backed securities - 2,206.1 41.0 2,247.1
Commercial mortgage-backed securities - 911.3 - 911.3
Other asset-backed securities - 411.1 27.7 438.8
Equity securities, available-for-sale 125.9 - 19.0 144.9
Derivatives:
Interest rate contracts 5.7 437.6 - 443.3
Foreign exchange contracts - 0.7 - 0.7
Credit contracts - 2.6 - 2.6
Cash and cash equivalents, short-term
investments and short-term investments
under securities loan agreement 953.9 4.8 - 958.7
Assets held in separate accounts 40,556.8 4,722.3 16.1 45,295.2
Total $ 42,822.6 $ 22,979.0 $ 284.0 $ 66,085.6
Liabilities:
Product guarantees $ - $ - $ 221.0 $ 221.0
Fixed indexed annuities - - 16.3 16.3
Derivatives:
Interest rate contracts - 306.4 - 306.4
Foreign exchange contracts - 32.4 - 32.4
Credit contracts - 8.6 12.7 21.3
Total $ - $ 347.4 $ 250.0 $ 597.4
European Exposures
In the first half of 2010 concerns arose regarding the creditworthiness of
several European countries, which later spread more broadly to countries in the
European currency union. As a result of these concerns the fair value of
sovereign debt decreased and those exposures were being monitored more closely.
With regard to troubled European countries, our main focus is on Greece, Italy,
Ireland, Portugal and Spain (henceforth defined as "peripheral Europe") as these
countries have applied for support from the European Financial Stability Fund
("EFSF") or received support from the European Central Bank ("ECB") via
government bond purchases in the secondary market.
The financial turmoil in Europe continues to be a threat to global capital
markets and remains a challenge to global financial stability. Additionally, the
possibility of capital market volatility spreading through a highly integrated
and interdependent banking system remains elevated. Furthermore, it is our view
that the risk among European sovereigns and financial institutions warrants
specific scrutiny, in addition to its customary surveillance and risk
monitoring, given how highly correlated these sectors of the region have become.
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We quantify and allocate our exposure to the region, as described in the table
below, by attempting to identify all aspects of the region or country risk to
which we are exposed. Among the factors we consider are the nationality of the
issuer, the nationality of the issuer's ultimate parent, the corporate and
economic relationship between the issuer and its parent, as well as the
political, legal and economic environment in which each functions. By
undertaking this assessment, we believe that we develop a more accurate
assessment of the actual geographic risk, with a more integrated understanding
of all contributing factors to the full risk profile of the issuer.
In the normal course of our ongoing risk and portfolio management process, we
closely monitor compliance with a credit limit hierarchy designed to minimize
overly concentrated risk exposures by geography, sector and issuer. This
framework takes into account various factors such as internal and external
ratings, capital efficiency and liquidity and is overseen by a combination of
Investment and Corporate Risk Management, as well as insurance portfolio
managers focused specifically on managing the investment risk embedded in our
portfolio.
As of June 30, 2012, we had $328.7 of exposure to peripheral Europe, which
consists of a broadly diversified portfolio of credit-related investments solely
in the industrial and utility sectors. We had no fixed maturity and equity
securities exposure to peripheral European sovereigns or to financial
institutions based in peripheral Europe. Peripheral European exposure included
non-sovereign exposure in Italy of $142.4, Ireland of $117.5, Spain of $65.9 and
Portugal of $2.9. We had no exposure to Greece. As of June 30, 2012, there were
no derivative assets exposure to financial institutions in peripheral Europe.
For purposes of calculating the derivative assets exposure, we had aggregated
exposure to single name and portfolio product credit default swaps ("CDS"), as
well as all non-CDS derivative exposure for which we either had counterparty or
direct credit exposure to a company whose country of risk is in scope.
Among the remaining $2.8 billion of total non-peripheral European exposure, we
had a portfolio of credit-related assets similarly diversified by country and
sector across developed and developing Europe. Sovereign exposure is $532.5,
which consists of fixed maturity and equity securities of $153.4 and loans and
receivables of $379.1, comprised entirely of the Dutch State loan obligation to
us under the Illiquid Assets Back-up Facility. We also had $365.2 in net
exposure to non-peripheral financial institutions with a concentration in the
United Kingdom of $159.8, France of $31.1, and Switzerland of $75.5. The balance
of $1.9 billion was invested across non-peripheral, non-financial institutions.
In addition to aggregate concentration to the Netherlands of $742.5 (which
includes the $379.1 Dutch State loan obligation) and the United Kingdom of
$813.9, we had significant non-peripheral European total country exposures to
Switzerland of $291.8, Germany of $213.4, and France of $147.5. We place
additional scrutiny on our financial exposure in the United Kingdom, France and
Switzerland given our concern for the potential for volatility to spread through
the European banking system. We believe the primary risk results from market
value fluctuations resulting from spread volatility and the secondary risk is
default risk, should the European crisis worsen or fail to be resolved.
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The following table represents our European exposures at fair value and amortized cost as of June 30, 2012.
Fixed Maturity and Equity Securities Derivative Assets
Loan and
Receivables
Total Sovereign Total, Net Non-U.S.
Financial Non-Financial (Fair Total (Amortized Financial Non-Financial Less: Margin and (Fair Funded at June
Sovereign Institutions Institutions Value) (Amortized Cost) Cost) Institutions Sovereign Institutions Collateral Value) 30, 2012(1)
Greece $ - $ - $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
Ireland - - 117.5 117.5 107.1 - - - - - - 117.5
Italy - - 142.4 142.4 134.0 - - - - - - 142.4
Portugal - - 2.9 2.9 2.7 - - - - - - 2.9
Spain - - 65.9 65.9 66.9 - - - - - - 65.9
Total Peripheral
Europe $ - $ - $ 328.7 $ 328.7 $ 310.7 $ - $ - $ - $ - $ - $ - $ 328.7
France - 31.1 116.4 147.5 137.5 - 23.4 - - 23.4 - 147.5
Germany - 33.9 179.5 213.4 191.6 - - - - - - 213.4
Netherlands - 53.5 309.9 363.4 331.3 379.1 - - - - - 742.5
Switzerland - 49.5 216.3 265.8 238.8 - 29.3 - - 3.3 26.0 291.8
United Kingdom - 151.0 654.1 805.1 745.8 - 26.2 - - 17.4 8.8 813.9
Other
non-peripheral(2) 153.4 11.4 417.7 582.5 529.3 - - - - - - 582.5
Total
Non-Peripheral
Europe 153.4 330.4 1,893.9 2,377.7 2,174.3 379.1 78.9 - - 44.1 34.8 2,791.6
Total $ 153.4 $ 330.4 $ 2,222.6 $ 2,706.4 $ 2,485.0 $ 379.1 $ 78.9 $ - $ - $ 44.1 $ 34.8$ 3,120.3
(1) Represents: (i) Fixed maturity and equity securities at fair value; (ii) Loan and receivables sovereign at amortized cost; and (iii) Derivative assets at fair value.
(2) Other non-peripheral countries include: Austria, Belgium, Bulgaria, Croatia, Denmark, Finland, Hungary, Iceland, Kazakhstan, Latvia, Lithuania, Luxembourg, Norway, Russian Federation, Sweden and Turkey.
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Liquidity and Capital Resources
Liquidity is our ability to generate sufficient cash flows to meet the cash requirements of operating, investing and financing activities.
Liquidity Management
Our principal available sources of liquidity are product charges, investment
income, proceeds from the maturity and sale of investments, proceeds from debt
issuance and borrowing facilities, repurchase agreements, securities lending and
capital contributions. Primary uses of these funds are payments of commissions
and operating expenses, interest credits, investment purchases and contract
maturities, withdrawals and surrenders.
Our liquidity position is managed by maintaining adequate levels of liquid
assets, such as cash, cash equivalents and short-term investments. As part of
the liquidity management process, different scenarios are modeled to determine
whether existing assets are adequate to meet projected cash flows. Key variables
in the modeling process include interest rates, equity market movements,
quantity and type of interest and equity market hedges, anticipated contract
owner behavior, market value of general account assets, variable separate
account performance and implications of rating agency actions.
The fixed account liabilities are supported by a general account portfolio,
principally composed of fixed rate investments with matching duration
characteristics that can generate predictable, steady rates of return. The
portfolio management strategy for the fixed account considers the assets
available-for-sale. This strategy enables us to respond to changes in market
interest rates, prepayment risk, relative values of asset sectors and individual
securities and loans, credit quality outlook and other relevant factors. The
objective of portfolio management is to maximize returns, taking into account
interest rate and credit risk, as well as other risks. Our asset/liability
management discipline includes strategies to minimize exposure to loss as
interest rates and economic and market conditions change. In executing this
strategy, the we use derivative instruments to manage these risks. Our
derivative counterparties are of high credit quality.
Liquidity and Capital Resources
Additional sources of liquidity include borrowing facilities to meet short-term
cash requirements that arise in the ordinary course of business. We maintain the
following agreements:
• A reciprocal loan agreement with ING U.S., Inc. an affiliate, whereby either
party can borrow from the other up to 3.0% of ILIAC's statutory admitted
assets as of the prior December 31. As of June 30, 2012, we did not have a
receivable, including interest, from ING U.S., Inc. As of December 31, 2011,
we had a $648.0 receivable, including interest, from ING U.S., Inc. During
the second quarter of 2012, ING U.S., Inc. repaid the then outstanding
receivable due under the reciprocal loan agreement from the proceeds of its
$5.0 billion Senior Unsecured Credit Facility which was entered into on April
20, 2012. We and ING U.S., Inc. continue to maintain the reciprocal loan
agreement and future borrowings by either party will be subject to the
reciprocal loan terms summarized above.
• We hold approximately 55.8% of our assets in marketable securities. These
assets include cash, U.S. Treasuries, Agencies and Public, Corporate Bonds,
ABS, CMBS and CMO and Equity securities. In the event of a temporary
liquidity need, cash may be raised by entering into reverse repurchase,
dollar rolls and/or security lending agreements by temporarily lending
securities and receiving cash collateral. Under our Liquidity Plan, up to 12%
of our general account statutory admitted assets may be allocated to reverse
repurchase, securities lending and dollar roll programs. At the time a
temporary cash need arises, the actual percentage of admitted assets
available for reverse repurchase transactions will depend upon outstanding
allocations to the three programs. As of June 30, 2012, we had securities
lending obligations of $314.8, which represents approximately
0.4% of our general account statutory admitted assets.
Management believes that its sources of liquidity are adequate to meet our short-term cash obligations.
Capital Contributions and Dividends
During the six months ended June 30, 2012, ILIAC did not receive any capital
contributions from its Parent. During the six months ended June 30, 2011, ILIAC
received capital contributions of $201.0 in the aggregate from its Parent.
During the six months ended June 30, 2012, following receipt of required
approval from its domiciliary state insurance regulator, ILIAC paid a cash
distribution of $340.0 to its Parent. During the six months ended June 30, 2011,
ILIAC did not pay a dividend or return of capital distribution on its common
stock to its Parent.
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Collateral
Under the terms of our Over-The-Counter Derivative International Swaps and
Derivatives Association, Inc. Agreements ("ISDA Agreements"), we may receive
from, or deliver to, counterparties, collateral to assure that all terms of the
ISDA Agreements will be met with regard to the Credit Support Annex ("CSA").
The terms of the CSA call for us to pay interest on any cash received equal to
the Federal Funds rate. As of June 30, 2012 and December 31, 2011, we held
$168.6 and $110.0 of cash collateral, respectively, which was included in
Payables under securities loan agreement, including collateral held, on the
Condensed Consolidated Balance Sheets. In addition, as of June 30, 2012 and
December 31, 2011, we delivered collateral of $47.2 and $77.9, respectively, in
fixed maturities pledged under derivatives contracts, which was included in
Securities pledged on the Condensed Consolidated Balance Sheets.
Ratings
Our access to funding and its related cost of borrowing, requirements for
derivatives collateral posting and the attractiveness of certain of its products
to customers are affected by our credit ratings and insurance financial strength
ratings, which are periodically reviewed by the rating agencies.
On July 23, 2012, AM Best removed from under review with negative implications
and affirmed our "A" financial strength rating and "a" issuer credit rating. AM
Best assigned a stable outlook to the ratings.
On April 17, 2012, Moody's affirmed our A3 insurance financial strength ratings with a stable outlook.
On December 7, 2011, Moody's downgraded our insurance financial strength rating to "A3" from "A2" and revised the outlook to Stable from Negative.
On March 7, 2012, S&P affirmed our counterparty credit and insurance financial
strength rating at "A-" and revised the outlook to Stable from Watch Negative.
On December 8, 2011, S&P downgraded our counterparty credit and insurance
financial strength rating to "A-" from "A" and revised the outlook to Watch
Negative from Stable. On November 17, 2011, S&P affirmed our "A" rating and
revised the outlook to Stable from Negative based on de-risking and improving
business fundamentals.
On August 19, 2011, Fitch revised our Rating Watch status to Evolving from Negative.
On December 14, 2011, A.M. Best affirmed our insurance financial strength rating
at "A", downgraded the issuer credit rating to "a" from "a+" and revised the
outlook to Ratings Under Review with Negative Implications from Stable. On June
16, 2011, A.M. Best affirmed our insurance financial strength rating of "A" and
the issuer credit rating of "a+".
Our ratings by S&P, Fitch, A.M. Best and Moody's reflect a broader view of how
the financial services industry is being challenged by the current economic
environment, but also are based on the rating agencies' specific views of our
financial strength. In making their ratings decisions, the agencies consider
past and expected future capital and earnings, asset quality and risk,
profitability and risk of existing liabilities and current products, market
share and product distribution capabilities and direct or implied support from
parent companies, including implications of the ING restructuring plan, among
other factors. The ratings actions, affirmations and outlook changes by S&P,
Moody's and A.M. Best in December 2011 followed the fourth quarter 2011
announcements by ING regarding a charge of EUR 0.9 billion to EUR 1.1 billion
against fourth quarter results of the U.S. Closed Block Variable Annuity
business.
Repurchase Agreements
We engage in dollar repurchase agreements with mortgage-backed securities ("dollar rolls") and repurchase agreements with other collateral types to increase its return on investments and improve liquidity. Such arrangements typically meet the requirements to be accounted for as financing arrangements. As of June 30, 2012 and December 31, 2011, we did not have any securities pledged in dollar rolls and repurchase agreement transactions.
We also enter into reverse repurchase agreements. These transactions involve a
purchase of securities and an agreement to sell substantially the same
securities as those purchased. As of June 30, 2012 and December 31, 2011, we
did not have any securities pledged under reverse repurchase agreements.
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The primary risk associated with short-term collateralized borrowings is that the counterparty will be unable to perform under the terms of the contract.
Our
exposure is limited to the excess of the net replacement cost of the securities
over the value of the short-term investments. We believe the counterparties to
the dollar rolls, repurchase and reverse repurchase agreements are financially
responsible and that the counterparty risk is minimal.
Securities Lending
We engage in securities lending whereby certain domestic securities from our
portfolio are loaned to other institutions for short periods of time. As of
June 30, 2012 and December 31, 2011, the fair value of loaned securities was
$306.4 and $515.8, respectively, and is included in Securities pledged on the
Condensed Consolidated Balance Sheets. Collateral retained by the lending agent
and invested in liquid assets on our behalf is recorded in Short-term
investments under securities loan agreement, including collateral delivered. As
of June 30, 2012 and December 31, 2011, liabilities to return collateral of
$315.3 and $524.8, respectively, are included in Payables under securities loan
agreement, including collateral held, on the Condensed Consolidated Balance
Sheets.
Sale of Alternative Investments
On June 4, 2012, we entered into an agreement to sell certain general account
private equity limited partnership investment interest holdings ("sale of
certain alternative investments") with a carrying value of $331.9 as of March
31, 2012 to a group of private equity funds that are or will be managed by
Pomona Management LLC, an affiliate of the Company. The transaction resulted in
a net pretax loss of $38.7 in the second quarter of 2012 reported in Net
investment income on the Condensed Consolidated Statements of Operations. The
transaction is expected to close in two tranches with the first tranche closed
on June 29, 2012 and the second tranche expected to close prior to December 31,
2012, after one of the buyer funds has completed a fundraising effort. As of
June 30, 2012, the fair value of these alternative investments in the second
tranche was reduced to $190.0, which represents the sales price of the remaining
alternative investments involved in this transaction. No additional loss is
anticipated on the second tranche since the fair value of the alternative
investments was reduced to the agreed-upon sales price as of June 30, 2012.
We are selling these assets in order to reduce our exposure to alternative
investments as part of our ordinary course portfolio management. We anticipate
that the transaction will reduce our required capital levels, in light of the
high capital charge associated with the asset class and improve liquidity and
reduce earnings volatility.
Recent Initiatives
On April 9, 2009, our ultimate parent, ING, announced a global business strategy
which identified certain core and non-core businesses and geographies, stated
ING's intention to explore divestiture of non-core businesses over time,
withdraw from certain non-core geographies, limit future acquisitions and
implement enterprise-wide expense reductions. In particular, with respect to
ING's U.S. insurance operations, ING is seeking to further reduce its risk by
focusing on individual life products, retirement services and lower risk annuity
products which we commenced selling during the first quarter of 2010.
ING has announced the anticipated separation of its banking and insurance
businesses. While all options for effecting this separation remain open, ING has
announced that the base case for this separation includes an initial public
offering ("IPO") of ING U.S., Inc. which constitutes ING's U.S.-based
retirement, investment management and insurance operations, including us. ING
anticipates selling a portion of its ownership interest in ING U.S., Inc. in the
IPO and thereafter divesting its ownership interest over time, while all options
remain open. ING U.S., Inc. and its subsidiaries, including us, are actively
engaged in numerous projects across the enterprise to become ready for an IPO.
While the base case is an IPO, it is possible that ING's divestment of ING U.S.,
Inc. and its subsidiaries, including us, may take place by means of a sale to a
single buyer or group of buyers.
On June 14, 2012, our affiliate ING North America Insurance Corporation
announced that it had entered into a seven-year agreement with Cognizant
Technology Solutions U.S. Corporation ("Cognizant") to receive a comprehensive
array of insurance business process services. Under the terms of the agreement,
Cognizant has made employment offers to more than 1,000 employees of
subsidiaries of ING U.S., Inc., most of whom are employed by certain of our U.S.
affiliates and may provide services to us from time to time, and approximately
30 of whom we employ. Employees who accept offers of employment with Cognizant
will continue to perform comparable roles to those they currently perform,
either for us or our applicable affiliates. We do not expect these matters to
have a material financial or operational impact on us.
Impact of New Accounting Pronouncements
For information regarding the impact of new accounting pronouncements, refer to
the Business, Basis of Presentation and Significant Accounting Policies note to
the Condensed Consolidated Financial Statements, included in Part I, Item 1.,
herein.
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Recently Enacted Legislation
On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and
Consumer Protection Act (the "Dodd-Frank Act"). The Dodd-Frank Act directs
existing and newly-created government agencies and bodies to conduct certain
studies and promulgate regulations implementing the law, a process that is
underway and is expected to continue over the next few years. While some studies
have already been completed and the rulemaking process has begun, there
continues to be significant uncertainty regarding the results of ongoing studies
and the ultimate requirements of those regulations that have not yet been
adopted. Until such studies and rulemaking are completed, the precise impact of
the Dodd-Frank Act on ING and its affiliates, including us cannot be determined.
However, there are major elements of the legislation that we have identified to
date that are of particular significance to ING and/or its affiliates, including
us, as described below.
The Dodd-Frank Act creates a new agency, the Financial Stability Oversight
Council ("FSOC"), which is authorized to subject non-bank financial companies to
the supervision of the Federal Reserve if the FSOC determines that material
financial distress of a company or the scope of a company's activities could
pose risks to the financial stability of the United States. A company determined
to be systemically significant by the FSOC would be supervised by the Federal
Reserve Board and would be subject to a comprehensive system of prudential
regulation, including, among other matters, minimum capital requirements,
liquidity standards, credit exposure requirements, management interlock
prohibitions, maintenance of resolution plans, stress testing, additional fees
and assessments and restrictions on proprietary trading and other investments.
The exact scope and consequences of these standards and requirements are subject
to ongoing rulemaking activity by various federal banking regulators and
therefore are currently unclear. However, this comprehensive system of
prudential regulation, if applied to ING U.S., Inc. or us, would significantly
impact the manner in which we operate and could materially and adversely impact
the profitability of our business lines or the level of capital required to
support our activities. So long as we and ING U.S., Inc. continue to be
controlled by ING, the FSOC may consider ING U.S., Inc. and its subsidiaries,
including us, together with ING's other operations in the United States for
purposes of making this determination. Therefore, while we believe it is
unlikely that ING U.S., Inc. or its subsidiaries, including us, either on a
standalone basis or together with ING's other operations in the United States,
will ultimately receive this designation, there is a greater likelihood of such
a designation being made for so long as we are controlled by ING.
Although existing state insurance regulators will remain the primary regulators
of us and our U.S. insurance company affiliates, the legislation also creates a
Federal Insurance Office to be housed within the Treasury Department, which will
be charged with monitoring (but not regulating) the insurance industry,
including gathering information to identify issues or gaps in the regulation of
insurers that could contribute to systemic crisis in the insurance industry or
U.S. financial system; preparing annual reports to Congress on the insurance
industry; conducting studies on modernization of U.S. insurance regulation and
the global reinsurance market; and entering into/implementing agreements with
foreign governments relating to the recognition of prudential measures with
respect to insurance and reinsurance ("International Agreements"), including the
authority to preempt U.S. state law if it is found to be inconsistent with an
International Agreement and treats a non-U.S. insurer less favorably than a U.S.
insurer.
The legislation creates a new framework for regulating over-the-counter ("OTC")
derivatives, which may increase the costs of hedging and other permitted
derivatives trading activity undertaken by us. Under the new regulatory regime
and subject to certain exceptions, OTC derivatives will be cleared through a
centralized clearinghouse and executed on a centralized exchange. It establishes
new regulatory authority for the SEC and the Commodity Futures Trading
Commission ("CFTC") over derivatives and "swap dealers," "security-based swap
dealers," "major swap participants," and "major security-based swap
participants" as to be defined by SEC and CFTC regulations. Based on final rules
jointly developed by the CFTC and the SEC and published in the Federal Register
on May 23, 2012, which further define the terms "swap dealer," "security-based
swap dealer," "major swap participant," and "major security-based swap
participant," we do not believe we should be considered a "swap dealer,"
"security-based swap dealer," "major swap participant," or "major security-based
swap participant." However, if it is determined that we meet one of these
definitions, it could substantially increase the amount of regulatory
requirements for us and the cost of hedging and other permitted derivatives
trading activity undertaken by us.
The CFTC and SEC also jointly adopted final rules, the adopting release for
which was made publicly available on July 13, 2012, to further define the terms
"swap" and "security-based swap," and to clarify that certain products (i)
issued by entities subject to supervision by the insurance commissioner (or
similar official or agency) of any state or by the United States or an agency or
instrumentality thereof (the "Provider Test") and (ii) regulated as insurance or
otherwise enumerated by rule are excluded from the definition of a "swap" and
"security-based swap." Thus, companies would not be considered "swap dealers,"
"security-based swap dealers," "major swap participants" or "major
security-based swap participants" as a result of issuing such insurance
products. In addition, any insurance contracts which might otherwise be included
within the definition of "swap" or "security-based swap" which are issued on or
before the effective date of the rules will be grandfathered and thereby
excluded from the definitions, so long as the issuer satisfies the Provider
Test. However, the rulemaking does not extend the exemption to certain products
issued
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by insurance companies including guaranteed investment contracts ("GICs"),
synthetic GICs, funding agreements, structured settlements and deposit
administration contracts which the CFTC and SEC determined should be considered
in a facts and circumstances analysis. As a result, there remains some
uncertainty regarding the applicability of the definitions of "swap" and
"security-based swap" to some products offered by us. We do not believe our
products come within the definition of "swap" or "security-based swap." However,
if any products issued by us meet the criteria for either definition they would
be subject to regulation under the Dodd-Frank Act, including clearing of
transactions through a centralized clearinghouse, execution of trades on a
centralized exchange and related reporting requirements. The legislation also
requires the SEC and CFTC to conduct a study to determine whether stable value
contracts fall within the definition of swap contracts, and if so, to determine
whether an exemption to their regulation is appropriate. Stable value contracts
are exempt from the legislation's swap provisions, pending the effective date of
any such regulatory action.
The Dodd-Frank Act also imposes various ex-post assessments on certain financial
companies, which may include us, to provide funds necessary to repay any
borrowings and to cover the costs of any special resolution of a financial
company under the new resolution authority established under the legislation
(although assessments already imposed under state insurance guaranty funds will
be taken into account in calculating such assessments).
We will continue to monitor and assess the potential effects of the Dodd-Frank Act as regulatory requirements are finalized and mandated studies are conducted.
Legislative and Regulatory Initiatives
Legislative proposals, which have been or may again be considered by Congress,
include changing the taxation of annuity benefits, changing the tax treatment of
insurance products relative to other financial products and changing life
insurance company taxation. Some of these proposals, if enacted, either on their
own or as part of an omnibus deficit reduction package could have a material
adverse effect on life insurance, annuity and other retirement savings product
sales, while others could have a material beneficial effect. Administrative
budget proposals to disallow insurance companies a portion of the dividends
received deduction in connection with variable product separate accounts could
increase the cost of such products to policyholders. In 2011, the Department of
Labor ("DOL") issued interim final regulations concerning the fee disclosure
obligations under Employee Retirement Income Security Act of 1974 ("ERISA") for
service providers to defined contribution plans as well as final regulations
addressing fee disclosure obligations to plan participants. Final plan sponsor
fee disclosure regulations were issued on February 2, 2012. In the final
regulations, the DOL extended the effective date of provider fee disclosure to
July 1, 2012. The effective date for fee disclosure to plan participants was
extended to August 30, 2012. The DOL also issued a Field Assistance Bulletin
relating to the final regulations on participant fee disclosure on May 7, 2012,
which imposes additional disclosure requirements. These fee disclosure
developments could heighten fee sensitivities in the defined contribution
marketplace and could potentially generate pressure on the pricing of our
defined contribution retirement products and services. In the fourth quarter of
2011, the DOL withdrew a proposed rule under ERISA that would more broadly
define the circumstances under which a person is considered to be a "fiduciary"
by reason of giving investment advice to an employee benefit plan or a plan's
participants. The DOL has indicated that it expects to issue a new proposed
regulation in 2012. The rule, if ultimately re-proposed and finalized, could
potentially alter the way our products and services are marketed and sold to
ERISA plans and to ERISA plan participants.
The SEC proposed in the third quarter of 2010, rescinding Rule 12b-1 under the
Investment Company Act of 1940 and adopting a new Rule 12b-2. If adopted, the
proposal would impose new limitations on the level of distribution-related
charges that could be paid by mutual funds, including funds offered for sale
through our annuity and other products and could reduce the levels of revenue we
derive from fund-related distribution. At this time, it is unclear when or if
further action will be taken on this proposal.
Contingencies
For information regarding other contingencies related to legal proceedings,
regulatory matters and other contingencies involving us, see the Commitments and
Contingent Liabilities note to the Condensed Consolidated Financial Statements
included in Part I, Item 1.
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