METLIFE INC – 10-Q – Management’s Discussion and Analysis of Financial Condition and Results of Operations
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For purposes of this discussion, "MetLife ," the "Company," "we," "our" and "us" refer toMetLife, Inc. , aDelaware corporation incorporated in 1999, its subsidiaries and affiliates. Following this summary is a discussion addressing the consolidated results of operations and financial condition of the Company for the periods indicated. This discussion should be read in conjunction withMetLife, Inc.'s Annual Report on Form 10-K for the year endedDecember 31, 2011 , as revised byMetLife, Inc.'s Current Report on Form 8-K filed with theU.S. Securities and Exchange Commission onMay 23, 2012 (as revised, the "2011 Annual Report"), the forward-looking statement information included below, the "Risk Factors" set forth in Part II, Item 1A, and the additional risk factors referred to therein, and the Company's interim condensed consolidated financial statements included elsewhere herein. This Management's Discussion and Analysis of Financial Condition and Results of Operations may contain or incorporate by reference information that includes or is based upon forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements give expectations or forecasts of future events. These statements can be identified by the fact that they do not relate strictly to historical or current facts. They use words such as "anticipate," "estimate," "expect," "project," "intend," "plan," "believe" and other words and terms of similar meaning in connection with a discussion of future operating or financial performance. In particular, these include statements relating to future actions, prospective services or products, future performance or results of current and anticipated services or products, sales efforts, expenses, the outcome of contingencies such as legal proceedings, trends in operations and financial results. Any or all forward-looking statements may turn out to be wrong. Actual results could differ materially from those expressed or implied in the forward-looking statements. See "Note Regarding Forward-Looking Statements." The following discussion includes references to our performance measures, operating earnings and operating earnings available to common shareholders, that are not based on accounting principles generally accepted inthe United States of America ("GAAP"). Operating earnings is the measure of segment profit or loss we use to evaluate segment performance and allocate resources. Consistent with GAAP accounting guidance for segment reporting, operating earnings is our measure of segment performance. Operating earnings is also a measure by which senior management's and many other employees' performance is evaluated for the purposes of determining their compensation under applicable compensation plans. Operating earnings is defined as operating revenues less operating expenses, both net of income tax. Operating earnings available to common shareholders is defined as operating earnings less preferred stock dividends.
Operating revenues and operating expenses exclude results of discontinued operations and other businesses that have been or will be sold or exited by
The following additional adjustments are made to GAAP revenues, in the line items indicated, in calculating operating revenues:
• Universal life and investment-type product policy fees excludes the
amortization of unearned revenue related to net investment gains (losses) and
net derivative gains (losses) and certain variable annuity guaranteed minimum
income benefits ("GMIB") fees ("GMIB Fees");
• Net investment income: (i) includes amounts for scheduled periodic settlement
payments and amortization of premium on derivatives that are hedges of
investments but do not qualify for hedge accounting treatment, (ii) includes
income from discontinued real estate operations, (iii) excludes post-tax
operating earnings adjustments relating to insurance joint ventures accounted
for under the equity method, (iv) excludes certain amounts related to
contractholder-directed unit-linked investments, and (v) excludes certain
amounts related to securitization entities that are variable interest entities ("VIEs") consolidated under GAAP; and
• Other revenues are adjusted for settlements of foreign currency earnings
hedges. 134
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The following additional adjustments are made to GAAP expenses, in the line items indicated, in calculating operating expenses:
• Policyholder benefits and claims and policyholder dividends excludes:
(i) changes in the policyholder dividend obligation related to net investment
gains (losses) and net derivative gains (losses), (ii) inflation-indexed
benefit adjustments associated with contracts backed by inflation-indexed
investments and amounts associated with periodic crediting rate adjustments
based on the total return of a contractually referenced pool of assets,
(iii) benefits and hedging costs related to GMIBs ("GMIB Costs"), and
(iv) market value adjustments associated with surrenders or terminations of
contracts ("Market Value Adjustments");
• Interest credited to policyholder account balances includes adjustments for
scheduled periodic settlement payments and amortization of premium on
derivatives that are hedges of policyholder account balances ("PABs") but do
not qualify for hedge accounting treatment and excludes amounts related to
net investment income earned on contractholder-directed unit-linked investments;
• Amortization of deferred policy acquisition costs ("DAC") and value of
business acquired ("VOBA") excludes amounts related to: (i) net investment
gains (losses) and net derivative gains (losses), (ii) GMIB Fees and GMIB
Costs, and (iii) Market Value Adjustments; • Amortization of negative VOBA excludes amounts related to Market Value
Adjustments;
• Interest expense on debt excludes certain amounts related to securitization
entities that are VIEs consolidated under GAAP; and
• Other expenses excludes costs related to: (i) noncontrolling interests,
(ii) implementation of new insurance regulatory requirements, and
(iii) acquisition and integration costs.
We believe the presentation of operating earnings and operating earnings available to common shareholders as we measure it for management purposes enhances the understanding of our performance by highlighting the results of operations and the underlying profitability drivers of our business. Operating revenues, operating expenses, operating earnings, and operating earnings available to common shareholders, should not be viewed as substitutes for the following financial measures calculated in accordance with GAAP: GAAP revenues, GAAP expenses, GAAP income (loss) from continuing operations, net of income tax, and GAAP net income (loss) available toMetLife, Inc.'s common shareholders, respectively. Reconciliations of these measures to the most directly comparable GAAP measures are included in "- Results of Operations." In 2011, management modified its definition of operating earnings and operating earnings available to common shareholders to exclude the impacts of the Divested Businesses, which includes certain operations ofMetLife Bank , National Association ("MetLife Bank ") and our insurance operations in theCaribbean region,Panama andCosta Rica (the "Caribbean Business"), as these results are not relevant to understanding the Company's ongoing operating results. In the third quarter of 2012,MetLife, Inc. began reporting additionalMetLife Bank operations as Divested Businesses. See Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements. Consequently, prior period results for Corporate & Other have decreased by$41 million , net of$25 million of income tax, and$44 million , net of$27 million of income tax, for the three months and nine months endedSeptember 30, 2011 , respectively. Also, prior period results forLatin America have decreased by$3 million , net of$2 million of income tax, and$10 million , net of$5 million of income tax, for the three months and nine months endedSeptember 30, 2011 , respectively. As a result of the modified definition, prior period consolidated operating earnings and operating earnings available to common shareholders have decreased by$44 million , net of$27 million of income tax, and$54 million , net of$32 million of income tax, for the three months and nine months endedSeptember 30, 2011 , respectively. 135
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In this discussion, we sometimes refer to sales activity for various products. These sales statistics do not correspond to revenues under GAAP, but are used as relevant measures of business activity. Additionally, the impact of changes in our foreign currency exchange rates is calculated using the average foreign currency exchange rates for the current period and is applied to the prior period. Also, operating return on common equity is defined as operating earnings available to common shareholders divided by average GAAP common equity.
Executive Summary
MetLife is a leading global provider of insurance, annuities and employee benefit programs throughoutthe United States ,Japan ,Latin America ,Asia ,Europe and theMiddle East . Through its subsidiaries and affiliates,MetLife offers life insurance, annuities, property & casualty insurance, and other financial services to individuals, as well as group insurance and retirement & savings products and services to corporations and other institutions. Our well-recognized brand, leading market positions, competitive and innovative product offerings and financial strength and expertise should help drive future growth and enhance shareholder value, building on a long history of fairness, honesty and integrity. Over the course of the next several years, we will pursue the following objectives to position the Company for continued growth and achieve our vision of being recognized as the leading global life insurance and employee benefits provider: • Refocus our U.S. businesses - Manage mature markets for cash flow - Shift product mix away from capital intensive products
- Invest in growth initiatives for the voluntary/worksite and direct channels
- Drive margin improvement • Build the Global Employee Benefits business
- Accelerate our local employee benefits businesses outside
- Grow our global benefits businesses through multinational and expatriate
solutions • Grow emerging markets presence
- Seek opportunistic mergers and acquisitions opportunities to complement
our organic growth
- Accelerate our base of earnings in emerging markets in which we already
have a strong presence • Drive toward customer centricity and a global brand - Develop a deep understanding of our customers' needs and expectations - Capture unique market and industry consumer insights - Build a global brand with a singular global brand promise As announced inNovember 2011 , the Company reorganized its business from its former U.S. Business and International structure into three broad geographic regions to better reflect its global reach. As a result, in the first quarter of 2012, the Company reorganized into six segments, reflecting these broad geographic regions: Retail; Group, Voluntary & Worksite Benefits; Corporate Benefit Funding; andLatin America (collectively, "TheAmericas ");Asia ; andEurope , theMiddle East andAfrica ("EMEA"). As anticipated, in the third quarter of 136
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2012, the Company continued to realign certain products and businesses among its existing segments to better conform to the way it manages and assesses its business as noted below. Management continues to evaluate the Company's segment performance and allocated resources and may adjust such measurements in the future to better reflect segment profitability. The Group, Voluntary & Worksite Benefits segment is now organized into two businesses: Group and Voluntary & Worksite. The insurance products and services that were previously reported in the former Non-Medical Health business are now divided between the Group and Voluntary & Worksite businesses as follows: dental, group short- and long-term disability, and accidental death & dismemberment coverages are reported in Group; and long-term care, prepaid legal plans, and critical illness are reported in Voluntary & Worksite. Also, individual disability income, previously reported in the former Non-Medical Health business, is now reported in the Life & Other business (formerly the Life business) in the Retail segment. The products that were previously reported in the former Property & Casualty business are now reported in the Life & Other business in the Retail segment and the Voluntary & Worksite business in the Group, Voluntary & Worksite Benefits segment, based on such products' distribution channel. In addition, the businesses inSouth Asia andIndia are now reported in theAsia segment. They were previously reported in the EMEA segment.
The
• Retail. Our Retail segment offers a broad range of protection products and
services and a variety of annuities to individuals and employees of
corporations and other institutions, and is organized into two businesses:
Life & Other and Annuities. Our Life & Other insurance products and services
include variable life, universal life, term life and whole life products.
Additionally, through our broker-dealer affiliates, we offer a full range of
mutual funds and other securities products. Our Life & Other products and
services also include individual disability income products and personal
lines property & casualty insurance, including private passenger automobile,
homeowners and personal excess liability insurance. Annuities include a variety of variable and fixed annuities which provide for both asset accumulation and asset distribution needs.
• Group, Voluntary & Worksite Benefits. Our Group, Voluntary & Worksite
Benefits segment offers a broad range of protection products and services to
individuals and corporations, as well as other institutions and their
respective employees, and is organized into two businesses: Group and
Voluntary & Worksite. Group insurance products and services include variable
life, universal life and term life products. Our Group insurance products and
services also include dental, group short- and long-term disability and
accidental death & dismemberment coverages. Our Voluntary & Worksite business
includes personal lines property & casualty insurance, including private
passenger automobile, homeowners and personal excess liability insurance
offered to employees on a voluntary basis. Our Voluntary & Worksite business
also includes long-term care, prepaid legal plans and critical illness
products.
• Corporate Benefit Funding. Our Corporate Benefit Funding segment offers a
broad range of annuity and investment products, including guaranteed interest
products and other stable value products, income annuities, and separate
account contracts for the investment management of defined benefit and
defined contribution plan assets. This segment also includes certain products
to fund postretirement benefits and company-, bank- or trust-owned life
insurance used to finance non-qualified benefit programs for executives.
•
both individuals and corporations, as well as other institutions and their
respective employees, which include life insurance, accident and health
insurance, group medical, dental, credit life insurance, annuities, endowment
and retirement & savings products.
Asia . OurAsia segment offers a broad range of products to both individuals and corporations, as well as other institutions and their respective employees, which include whole life, term life, variable life, universal life, accident and health insurance, fixed and variable annuities and endowment products. 137
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EMEA. Our EMEA segment offers a broad range of products to both individuals and corporations, as well as other institutions and their respective employees, which include life insurance, accident and health insurance, credit life insurance, annuities, endowment and retirement & savings products.
In addition, the Company reports certain of its results of operations in Corporate & Other, which includesMetLife Bank (see Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements for information regardingMetLife Bank's exit from certain of its businesses (the "MetLife Bank Events")) and other business activities. Corporate & Other contains the excess capital not allocated to the segments, external integration costs, internal resource costs for associates committed to acquisitions and various start-up and certain run-off entities. Corporate & Other also includes assumed reinsurance of certain variable annuity products from our former operating joint venture inJapan . This in-force reinsurance agreement reinsures living and death benefit guarantees issued in connection with variable annuity products. Additionally, Corporate & Other includes interest expense related to the majority of the Company's outstanding debt, expenses associated with certain legal proceedings, and income tax audit issues. Corporate & Other also includes the elimination of intersegment amounts, which generally relate to intersegment loans, which bear interest rates commensurate with related borrowings. As discussed above, in the third quarter of 2012, as anticipated as part of theNovember 2011 reorganization, management realigned certain individual disability income and property & casualty products and began reporting such product results in the Retail segment. As a result of the first quarter segment reorganization, these results had been reported in the Group, Voluntary & Worksite Benefits segment. In accordance with the third quarter 2012 realignment, prior period operating earnings for the Retail segment increased by$14 million , net of$6 million of income tax benefit, and$17 million , net of$29 million of income tax benefit, with a corresponding decrease in the Group, Voluntary & Worksite Benefits segment, for the three months and nine months endedSeptember 30, 2011 , respectively. Also, as anticipated as part of theNovember 2011 reorganization, in the third quarter of 2012, management realigned the businesses inSouth Asia andIndia and began reporting such results in theAsia segment. As a result of the first quarter segment reorganization, these results had been reported in the EMEA segment. In accordance with the third quarter 2012 realignment, prior period operating earnings for theAsia segment increased by$0 , net of$2 million of income tax, and$4 million , net of$5 million of income tax, with a corresponding decrease in the EMEA segment, for the three months and nine months endedSeptember 30, 2011 , respectively. In the first quarter of 2012, the Company adopted new guidance regarding accounting for DAC. See Note 1 of the Notes to the Interim Condensed Consolidated Financial Statements for further information. As a result, prior period results have been revised in connection with the Company's reorganization and the retrospective application of the first quarter 2012 adoption of new guidance regarding accounting for DAC. We continue to experience an increase in sales in several of our businesses; however, global economic conditions continue to negatively impact the demand for some of our products. Portfolio growth, resulting from strong sales in the majority of our businesses, drove positive investment results and higher asset-based fee revenue. In addition, changes in interest rates and the impact of the nonperformance risk adjustment on variable 138
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annuity embedded derivatives resulted in significant derivative losses. Also, a goodwill impairment charge recorded in the current period drove a net loss.
Three Months Nine Months Ended Ended September 30, September 30, 2012 2011 2012 2011 (In millions) Income (loss) from continuing operations, net of income tax $ (957 ) $ 3,442 $ 1,209 $ 5,428 Less: Net investment gains (losses) 22 (55 ) (152 ) (309 ) Less: Net derivative gains (losses) (718 ) 4,196 (604 ) 4,233 Less: Goodwill impairment (1,868 ) - (1,868 ) - Less: Other adjustments to continuing operations (1) (472 ) (345 ) (1,619 ) (915 ) Less: Provision for income tax (expense) benefit 632 (1,349 ) 1,048 (1,105 ) Operating earnings 1,447 995 4,404 3,524 Less: Preferred stock dividends 30 30 91 91 Operating earnings available to common shareholders $ 1,417 $ 965 $ 4,313 $ 3,433
(1) See definitions of operating revenues and operating expenses for the
components of such adjustments
Three Months Ended
During the three months endedSeptember 30, 2012 , income (loss) from continuing operations, net of income tax, decreased$4.4 billion from the prior period. The change was predominantly due to a$4.9 billion ($3.2 billion , net of income tax) unfavorable change in net derivative gains (losses) primarily driven by changes in interest rates, equity market movements, decreased volatility and the impact of a nonperformance risk adjustment. In addition, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment associated with our U.S. retail annuities business. Also included in income (loss) from continuing operations, net of income tax, were the unfavorable results of the Divested Businesses which decreased$179 million ($116 million , net of income tax) from the prior period. These declines were partially offset by a$452 million , net of income tax, increase in operating earnings available to common shareholders. The increase in operating earnings available to common shareholders was primarily driven by improved investment results and higher asset-based fee revenue as strong sales levels drove portfolio growth. The low interest rate environment reduced investment yields; however, it also resulted in a decline in interest credited rates, which more than offset the negative impact on yields. Catastrophe losses were lower in the current period as compared to the significant weather-related claims in the prior period. The prior period also included a$117 million charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File and similar databases to identify potential life insurance claims that have not yet been presented to the Company ("Death Master File").
Nine Months Ended
During the nine months endedSeptember 30, 2012 , income (loss) from continuing operations, net of income tax, decreased$4.2 billion from the prior period. The change was predominantly due to a$4.8 billion ($3.1 billion , net of income tax), unfavorable change in net derivative gains (losses) primarily driven by changes in interest rates, equity market movements, decreased volatility and the impact of a nonperformance risk adjustment. In addition, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment associated with our U.S. retail annuities business. Also included in income (loss) from continuing operations, net of income tax, were the unfavorable results of the Divested Businesses which decreased$590 million ($382 million , net of income tax) from the prior period. These declines were partially offset by an$880 million increase in operating earnings available to common shareholders. 139
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The increase in operating earnings available to common shareholders was primarily driven by improved investment results and higher asset-based fee revenue as strong sales levels drove portfolio growth. In addition, the low interest rate environment resulted in lower average interest credited rates. Catastrophe losses were lower in the current period as compared to the significant weather-related claims in the prior period. In addition, the prior period included a$117 million charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File. The prior period also included$40 million of expenses incurred related to a liquidation plan filed by theNew York State Department of Financial Services (the "Department of Financial Services ") forExecutive Life Insurance Company of New York ("ELNY"). Current period results include a$52 million charge representing a multi-state examination payment related to unclaimed property andMetLife's use of theU.S. Social Security Administration's Death Master File to identify potential life insurance claims, as well as the expected acceleration of benefit payments to policyholders under the settlements.
Consolidated Company Outlook
In 2012, we expect a solid improvement in the operating earnings of the Company over 2011, driven primarily by the following:
• Growth in premiums, fees and other revenues driven by: - Rational pricing strategy in the group insurance marketplace; - Higher fees earned on separate accounts primarily due to favorable net flows of variable annuities, which are expected to remain strong through
the end of 2012, thereby increasing the value of those separate accounts;
and - Increases in our businesses outside of the U.S., notably accident and
health, from continuing organic growth throughout our various geographic
regions and leveraging of our multichannel distribution network. • Expanding our presence in emerging markets.
• Focus on disciplined underwriting. We see no significant changes to the
underlying trends that drive underwriting results and continue to anticipate
solid results through the end of 2012; however, unanticipated catastrophes
could result in a high volume of claims. Hurricane Sandy, which made
landfall in
extensive property damage. Because of the limited information available, the
Company is currently unable to reasonably estimate the impact of the hurricane on its property & casualty insurance operations or other businesses.
• Focus on expense management. We continue to focus on expense control
throughout the Company, and managing the costs associated with the integration of American Life Insurance Company andDelaware American Life Insurance Company (collectively, "ALICO").
• Continued disciplined approach to investing and asset/liability management
("ALM"), including significant hedging to protect against low interest
rates.
As a result of new financial accounting guidance for DAC which we adopted in the first quarter of 2012, we estimate that there will be a negative impact on our 2012 operating earnings primarily in theAsia segment, with no impact on our future cash flows. See Note 1 of the Notes to the Interim Condensed Consolidated Financial Statements. We expect only modest investment losses in 2012, but more difficult to predict is the impact of potential changes in fair value of freestanding and embedded derivatives as even relatively small movements in market variables, including interest rates, equity levels and volatility, can have a large impact on the fair value of derivatives and net derivative gains (losses). Additionally, changes in fair value of embedded derivatives within certain insurance liabilities may have a material impact on net derivative gains (losses) related to the inclusion of a nonperformance risk adjustment. 140
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As part of an enterprise-wide strategic initiative, by 2016, the Company expects to increase its operating return on common equity to between 12% and 14%, up from 10.3% atDecember 31, 2011 , driven by higher operating earnings. The Company will leverage its scale to improve the value it provides to customers and shareholders in order to achieve$1 billion in efficiencies,$600 million of which is related to net pre-tax expense savings, and$400 million of which will be reinvested in our technology, platforms and functionality to improve our current operations and develop new capabilities. Additionally, the Company will shift its product mix toward protection products and away from more capital-intensive products, in order to generate more predictable operating earnings and cash flows, and improve its risk profile and free cash flow. The Company expects that by 2016, more than 20% of its operating earnings will come from emerging markets. Industry Trends
We continue to be impacted by the unstable global financial and economic environment that has been affecting the industry.
Financial and Economic Environment
Our business and results of operations are materially affected by conditions in the global capital markets and the economy generally. Stressed conditions, volatility and disruptions in global capital markets, particular markets, or financial asset classes can have an adverse effect on us, in part because we have a large investment portfolio and our insurance liabilities are sensitive to changing market factors. Global market factors, including interest rates, credit spreads, equity prices, real estate markets, foreign currency exchange rates, consumer spending, business investment, government spending, the volatility and strength of the capital markets, deflation and inflation, all affect the business and economic environment and, ultimately, the amount and profitability of our business. Disruptions in one market or asset class can also spread to other markets or asset classes. Upheavals in the financial markets can also affect our business through their effects on general levels of economic activity, employment and customer behavior. While our diversified business mix and geographically diverse business operations partially mitigate these risks, correlation across regions, countries and global market factors may reduce the benefits of diversification. Concerns about economic conditions, capital markets and the solvency of certainEuropean Union member states, includingPortugal ,Ireland ,Italy ,Greece andSpain ("Europe's perimeter region") andCyprus , and of financial institutions that have significant direct or indirect exposure to debt issued by these countries, have been a cause of elevated levels of market volatility. See "- Investments - Current Environment" for information regarding credit ratings downgrades, support programs forEurope's perimeter region and our exposure to obligations of European governments and private obligors. The financial markets have also been affected by concerns that otherEuropean Union member states could experience similar financial troubles, that some countries could default on their obligations, have to restructure their outstanding debt, or be unable or unwilling to comply with the terms of any aid provided to them, that financial institutions with significant holdings of sovereign or private debt issued by borrowers inEurope's perimeter region could experience financial stress, or that one or more countries may exit the Euro zone, any of which could have significant adverse effects on the European and global economies and on financial markets, generally. InSeptember 2012 , theEuropean Central Bank ("ECB") announced a new bond buying program, Outright Monetary Transactions, intended to stabilize the European financial crisis and help certain countries struggling with their levels of sovereign debt. This program involves the purchase by the ECB of unlimited quantities of short-term sovereign bonds, with maturities of one to three years. These large scale purchases of short-term sovereign bonds are intended to increase the price of the bonds, and lower their interest rates, making it less expensive for certain countries to borrow money. As a condition to participating in this program, countries must agree to strict levels of economic reform and oversight. See "Risk Factors - We Are Exposed to Significant Financial and Capital Markets Risk Which May Adversely Affect Our Results of Operations, Financial Condition and Liquidity, and May Cause Our Net Investment Income to Vary from Period to Period" included in the 2011 Annual Report. Financial markets have also been affected by concerns over U.S. fiscal policy, including the uncertainty regarding the "fiscal cliff," which is comprised of a series of tax increases and automatic government spending 141
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cuts that will become effective at the beginning of 2013 unless steps are taken to delay or offset them, as well as the need to again raise the U.S. federal government's debt ceiling by the end of 2012 and reduce the federal deficit. These issues could, on their own, or combined with the slowing of the global economy generally, send the U.S. into a new recession, have severe repercussions to the U.S. and global credit and financial markets, further exacerbate concerns over sovereign debt of other countries and disrupt economic activity in the U.S. and elsewhere. See "Risk Factors - Concerns Over U.S. Fiscal Policy and the "Fiscal Cliff" in the U.S., as well as Rating Agency Downgrades ofU.S. Treasury Securities , Could Have an Adverse Effect on Our Business, Financial Condition and Results of Operations" included in theMetLife, Inc. Quarterly Report on Form 10-Q for the quarter endedJune 30, 2012 (the "Form 10-Q"). In September 2012 , Moody's Investors Service ("Moody's") changed its outlook for the U.S. life insurance industry to negative from stable, saying it expects interest rates to remain in the low single digits for the next few years, depressing such companies' earnings. InJune 2012 , Moody's announced that it downgraded the long-term ratings and standalone credit for a number of banks and securities firms with global capital markets operations. Through our ongoing credit evaluation process, we have been closely monitoring our financial institution investment holdings, including the impact of the Moody's downgrades to these institutions, and do not expect these downgrades to have a material adverse effect on our business, results of operations and financial condition. Impact of a Sustained Low Interest Rate Environment. As a financial holding company with significant operations in the U.S., we are affected by the monetary policy of theBoard of Governors of theFederal Reserve System (the "Federal Reserve Board") and the Federal Reserve Bank ofNew York (the "FRB of NY" and, collectively with theFederal Reserve Board , the "Federal Reserve"). TheFederal Reserve Board has taken a number of actions in recent years to spur economic activity by keeping interest rates low and may take further actions to influence interest rates in the future, which may have an impact on the pricing levels of risk-bearing investments, and may adversely impact the level of product sales. InSeptember 2012 , theFederal Reserve Board announced that it anticipates that low interest rates are likely to be warranted at least through mid-2015, in order to improve the pace of recovery from stressed economic conditions. It also announced that it will expand its holdings of longer-term securities with open-ended purchases of$40 billion each month of agency mortgage-backed securities. Finally, it reiterated its plan to continue "Operation Twist" through the end of 2012. This program, announced inSeptember 2011 by the Federal Open Market Committee, involves the purchase of U.S. Treasury securities with remaining maturities of six to 30 years and the sale of, over the same period, an equal par value of U.S. Treasury securities with remaining maturities of approximately three years or less. By reducing the supply of longer-term securities in the market, both of these programs are intended to put downward pressure on longer-term interest rates relative to levels that would otherwise prevail. The reduction in longer-term interest rates, in turn, is intended to contribute to a broad easing of financial market conditions that could provide additional stimulus to support the economic recovery. As a global insurance company, we are also affected by the monetary policy of central banks around the world. While the major central banks are not lowering interest rates at the same pace as in prior quarters, theFederal Reserve Board , ECB, Bank ofEngland and Bank of Japan have all increased their use of "non-traditional" means of monetary policy via their asset purchase programs. We cannot predict with certainty the effect of these asset purchase programs on interest rates or the impact on the pricing levels of risk-bearing investments at this time. See "Risk Factors - Governmental and Regulatory Actions for the Purpose of Stabilizing and Revitalizing the Financial Markets andProtecting Investors and Consumers May Not Achieve the Intended Effect or Could Adversely Affect Our Competitive Position" included in the 2011 Annual Report and "- Investments - Current Environment." Some of our products expose us to the risk that changes in interest rates will reduce our investment margin or "spread," or the difference between the amounts that we are required to fund under contracts in our general account liabilities and the rate of return we are able to earn on general account investments intended to support obligations under the contracts. Our spread is a key component of our net income. 142
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In periods of declining interest rates, we may have to invest insurance cash flows and to reinvest the cash flows we received as interest or return of principal on our investments in lower yielding instruments. Moreover, borrowers may prepay or redeem the fixed income securities, commercial or agricultural mortgage loans and mortgage-backed securities in our investment portfolio with greater frequency in order to borrow at lower market rates. In periods of changing interest rates, net derivative gains (losses) will also be impacted, particularly when changes in interest rates are highly volatile. Our expectation for future spreads is an important component in the amortization of DAC and VOBA, and significantly lower spreads may cause us to accelerate amortization, thereby reducing net income in the affected reporting period. Lower net income and operating earnings may also impact the carrying value of certain assets such as goodwill or potentially result in loss recognition on certain policy liabilities. Mitigating Actions. The Company has been and continues to be proactive in its investment strategies, product designs, and crediting rate strategies to mitigate the risk of unfavorable consequences in this type of environment. Lowering interest crediting rates can help offset decreases in investment margins on some products. Our ability to lower interest crediting rates could be limited by competition, regulatory approval, or contractual guarantees of minimum rates and may not match the timing or magnitude of changes in asset yields. As a result, our spread could decrease or potentially become negative. The Company applies disciplined asset-liability management strategies, including the use of derivatives, to protect spreads on products subject to these risks as part of its investment strategy in mitigating the risk of sustained low interest rates in the U.S. In addition, business actions, such as shifting the sales focus to less interest rate sensitive products, can also mitigate this risk. As a result of these actions, the Company expects to be able to substantially mitigate the negative impact of a sustained low interest rate environment in the U.S. on the Company's profitability. Based on a near to intermediate term analysis of sustained lower interest rate environment in the U.S., the Company anticipates operating earnings will continue to increase, although at a slower growth rate. In addition, the Company is well diversified across product, distribution, and geography. Our non-U.S. businesses, reported within ourLatin America ,Asia and EMEA segments, which account for approximately 34% of our operating earnings, are not significantly interest rate or market sensitive. The Company's primary exposure within these segments is insurance risk. We expect our non-U.S. businesses to grow faster than our U.S. businesses and, over time, to become a larger percentage of our total business.
The products that have significant sensitivity to U.S. interest rates are concentrated in the Company's
Competitive Pressures The life insurance industry remains highly competitive. The product development and product life-cycles have shortened in many product segments, leading to more intense competition with respect to product features. Larger companies have the ability to invest in brand equity, product development, technology and risk management, which are among the fundamentals for sustained profitable growth in the life insurance industry. In addition, several of the industry's products can be quite homogeneous and subject to intense price competition. Sufficient scale, financial strength and financial flexibility are becoming prerequisites for sustainable growth in the life insurance industry. Larger market participants tend to have the capacity to invest in additional distribution capability and the information technology needed to offer the superior customer service demanded by an increasingly sophisticated industry client base. We believe that the turbulence in financial markets that began in the second half of 2007, its impact on the capital position of many competitors, and subsequent actions by regulators and rating agencies have highlighted financial strength as a significant differentiator from the perspective of customers and certain distributors. In addition, the financial market turbulence and the economic recession have led many companies in our industry to re-examine the pricing and features of the products they offer and may lead to consolidation in the life insurance industry. 143
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Regulatory Developments
The U.S. life insurance industry is regulated primarily at the state level, with some products and services also subject to Federal regulation. As life insurers introduce new and often more complex products, regulators refine capital requirements and introduce new reserving standards for the life insurance industry. Regulations recently adopted or currently under review can potentially impact the statutory reserve and capital requirements of the industry. In addition, regulators have undertaken market and sales practices reviews of several markets or products, including equity-indexed annuities, variable annuities and group products, as well as reviews of the utilization of affiliated captive reinsurers or off-shore entities to reinsure insurance risks. The regulation of the financial services industry in the U.S. and internationally has received renewed scrutiny as a result of the disruptions in the financial markets. Significant regulatory reforms have been recently adopted and additional reforms proposed, and these or other reforms could be implemented. See "Risk Factors - Our Insurance, Brokerage and Banking Businesses Are Highly Regulated, and Changes in Regulation and in Supervisory and Enforcement Policies May Reduce Our Profitability and Limit Our Growth" and "Risk Factors - Our Statutory Reserve Financings May Be Subject to Cost Increases and New Financings May Be Subject to Limited Market Capacity," as well as "Risk Factors - Changes in U.S. Federal and State Securities Laws and Regulations, and State Insurance Regulations Regarding Suitability of Annuity Product Sales, May Affect Our Operations and Our Profitability" included in the 2011 Annual Report. The Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank"), which was signed byPresident Obama inJuly 2010 , effected the most far-reaching overhaul of financial regulation in the U.S. in decades. The full impact of Dodd-Frank on us will depend on the numerous rulemaking initiatives required or permitted by Dodd-Frank which have begun to be implemented, but which are not likely to be completed for some time. See "Risk Factors - Various Aspects of Dodd-Frank Could Impact Our Business Operations, Capital Requirements and Profitability and Limit Our Growth" included in the 2011 Annual Report. As a federally chartered national banking association,MetLife Bank is subject to a wide variety of banking laws, regulations and guidelines, as isMetLife, Inc. , as a bank holding company. Numerous other proposed or recently adopted enhanced regulatory requirements will apply toMetLife, Inc. if it remains a bank holding company, as discussed below. IfMetLife is able to deregister as a bank holding company, it may be subject to some of the same or other enhanced regulatory requirements if, in the future, it is designated as a non-bank systemically important financial institution subject to enhanced supervision by the Federal Reserve (a "non-bank systemically important financial institution" or "non-bank SIFI") or as a global systemically important insurer ("G-SII"), as described below. InDecember 2011 ,MetLife Bank andMetLife, Inc. entered into a definitive agreement to sell most of the depository business ofMetLife Bank toGE Capital Bank (formerly known asGE Capital Financial Inc. ). InSeptember 2012 , this agreement was amended. Under the new structure,MetLife Bank's depository business would be assumed byGE Capital Retail Bank , rather than byGE Capital Bank . The key terms of the agreement, whereby aGE Capital affiliate will acquire approximately$7 billion inMetLife Bank deposits, including certificates of deposit and money market accounts, remain unchanged. The transaction, as amended, will now be subject to approval by theOffice of the Comptroller of the Currency (the "OCC"), the primary regulator ofGE Capital Retail Bank , and other customary closing conditions. The approval of theFederal Deposit Insurance Corporation (the "FDIC") will no longer be required for the transaction. Upon completion of the sale,MetLife Bank would take the remaining administrative steps with theFDIC to terminate its deposit insurance andMetLife, Inc. would deregister as a bank holding company. Upon completion of the foregoing,MetLife, Inc. will no longer be regulated as a bank holding company or subject to enhanced supervision and prudential standards as a bank holding company with assets of$50 billion or more. However, if, in the future, theFinancial Stability Oversight Council ("FSOC") designatesMetLife, Inc. as a non-bank SIFI, we would once again be subject to regulation by the Federal Reserve and enhanced supervision and prudential standards, such as those in the Federal Reserve's proposed Regulation YY. See "- Industry Trends - Regulatory Developments - Regulatory Developments Relating to Non-Bank SIFIs and G-SIIs."
Additionally, in
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servicing reverse residential mortgage loans and that it andMetLife Bank entered into a definitive agreement to sellMetLife Bank's reverse mortgage servicing portfolio. InJune 2012 , the Company sold the majority ofMetLife Bank's reverse mortgage servicing rights and related assets and liabilities, with the remainder sold inSeptember 2012 pursuant to the same sales agreement. See Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements. Also, in the third quarter of 2012, we began exploring the sale ofMetLife Bank's forward mortgage servicing assets and operations and, therefore, began reporting this business as divested. OnNovember 2, 2012 ,MetLife, Inc. andMetLife Bank entered into a definitive agreement to sellMetLife Bank's forward mortgage servicing portfolio toJPMorganChase Bank, N.A. The transaction is subject to certain regulatory approvals and other customary closing conditions. Upon entering into this agreement,MetLife Bank has committed to sell or has otherwise exited most of its operations. Regulatory Developments Applicable to Bank Holding Companies. The Federal Reserve's capital plans rule requires all bank holding companies with assets of more than$50 billion , includingMetLife, Inc. , to submit annual capital plans which include proposed capital actions and projections of the company's capital levels under baseline and stress scenarios over a nine-quarter period. The Federal Reserve will approve or object to a company's proposed capital distributions, such as dividends and stock repurchases, based on the results of those capital plans and the Federal Reserve's assessment of the robustness of the company's capital planning processes. In addition, in recent years, the Federal Reserve has conducted the Comprehensive Capital Analysis and Review ("CCAR"), an assessment of the internal capital planning processes, capital adequacy and proposed capital distributions of large bank holding companies, includingMetLife, Inc. The capital plan we submitted to the Federal Reserve inJanuary 2012 included an anticipated repurchase of common stock and an anticipated increase toMetLife, Inc.'s annual dividend to its stockholders. The Federal Reserve objected to the capital plan in March of 2012; therefore,MetLife, Inc. is unable to repurchase its common stock or increase its aggregate annual dividend amount above$0.74 per share or$0.8 billion based on the outstanding shares atSeptember 30, 2012 , until such time asMetLife is no longer subject to the capital plans rule and supervision by the Federal Reserve, or submits a capital plan that is approved by the Federal Reserve. The Federal Reserve, pursuant toMetLife's request, has extended the time forMetLife to resubmit its capital plan untilJanuary 5, 2013 . UnlessMetLife receives an extension, it may also need to submit a capital plan for 2013 ifMetLife, Inc. is still a bank holding company onJanuary 5, 2013 . See "Risk Factors - Our Ability to Pay Dividends and Repurchase Common Stock is Subject to Regulatory Restrictions and to Restrictions Under the Terms of Certain of Our Securities" for additional information on dividend restrictions. InJune 2012 , the OCC,Federal Reserve Board and theFDIC published three notices of proposed rulemaking (the "Bank Capital NPRs") that would revise and replace the agencies' current capital rules with rules consistent with (i) the final rules for increased capital and liquidity requirements for bank holding companies, such asMetLife, Inc. , published by theBasel Committee on Banking Supervision (the "Basel Committee") inDecember 2010 ("Basel III"), as well as the applicable sections of Dodd-Frank, (ii) a series of revisions adopted by the Basel Committee to the market risk capital requirements for exposures in a banking organization's trading book in 2005, 2009 and 2010 (collectively, "Basel II.5"), and (iii) the market risk capital requirements as initially published by the Basel Committee inJune 2004 ("Basel II"). The first Bank Capital NPR, to be phased in from 2013 through 2019, focuses on establishing new risk-based and leverage capital ratios, and would revise rules on what constitutes "capital" in accordance with Basel III. The second Bank Capital NPR, to be effective onJanuary 1, 2015 , focuses primarily on the risk-weighting of assets and activities of banking organizations in accordance with Basel II. The third Bank Capital NPR includes revisions to the advanced approaches risk-based capital rules of Basel II, applicable to the largest banking organizations, to make them consistent with Basel III and Dodd-Frank. Finally, the agencies finalized the market risk capital rule, implementing Basel II.5. These capital requirements would not apply toMetLife, Inc. if it succeeds in deregistering as a bank holding company before the rules become effective. The Basel Committee has also published rules requiring a capital surcharge for globally systemically important banks. The Bank Capital NPRs did not implement this capital surcharge. Rules implementing the capital surcharge are expected to be finalized by 2014, with a phase-in from 2016 to 2019. As currently proposed, 145
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this surcharge would not apply to global non-bank SIFIs. However, international regulatory bodies are currently engaged in evaluating standards to identify such companies and to develop a regulatory regime that would apply to them, which may include enhanced capital requirements or other measures, as discussed below. InDecember 2011 , theFederal Reserve Board issued a notice of proposed rulemaking relating to enhanced prudential standards required by Dodd-Frank for bank holding companies with assets of$50 billion or more and non-bank SIFIs, known as Regulation YY. Regulation YY would impose (i) enhanced risk-based capital requirements, (ii) leverage limits, (iii) liquidity requirements, (iv) single counterparty exposure limits, (v) governance requirements for risk management, (vi) stress test requirements, and (vii) special debt-to-equity limits for certain companies, and would establish a procedure for early remediation based on the failure to comply with these requirements. InOctober 2012 , theFederal Reserve Board issued a final rule implementing the stress testing requirements that it had earlier proposed as part of Regulation YY. The rule will require bank holding companies with$50 billion or more of assets and non-bank SIFIs to undergo three stress tests each year: an annual supervisory stress test conducted by theFederal Reserve Board and two company-run stress tests (an annual test which coincides with the timing of the supervisory stress test, and a mid-cycle test). The stress tests will project various measures of a company's revenues, earnings, losses on loans, securities and other assets, and capital levels over a nine-month planning period under baseline, adverse and severely adverse scenarios. The Federal Reserve will publish some of the results of the supervisory stress test and will require participating companies to publish some of the results of the company-run stress tests. Companies will be required to take the results of the stress tests into consideration in their annual capital planning and resolution and recovery planning. As a bank holding company with more than$50 billion of assets,MetLife will be subject to these requirements; it will have to submit the results of its company-run annual stress test onJanuary 5, 2013 if it is still a bank holding company on that date, unless theFederal Reserve Board extends the due date. IfMetLife, Inc. is able to deregister as a bank holding company but is subsequently designated a non-bank SIFI, it will become subject to the stress testing requirements for non-bank SIFIs. The ability ofMetLife Bank andMetLife, Inc. , as a bank holding company, to pay dividends, repurchase common stock or other securities or engage in other transactions that could affect its capital or need for capital could be reduced by any additional capital requirements that might be imposed as a result of the enactment of Dodd-Frank, Regulation YY and/or the adoption of theBank Capital NPRs, stress testing and other regulatory initiatives, ifMetLife Inc. is unable to deregister as a bank holding company before the requirements become effective or ifMetLife, Inc. is designated a non-bank SIFI in the future.See "Risk Factors - Our Insurance, Brokerage and Banking Businesses Are Highly Regulated, and Changes in Regulation and in Supervisory and Enforcement Policies May Reduce Our Profitability and Limit Our Growth." InApril 2011 , theFederal Reserve Board and theFDIC proposed a rule regarding the implementation of the Dodd-Frank requirement that (i) each non-bank SIFI and each bank holding company with assets of$50 billion or more report periodically to theFederal Reserve Board , theFDIC and the FSOC the plan of such company for rapid and orderly resolution in the event of material financial distress or failure (sometimes referred to as a "living will"), and (ii) that each such company report on the nature and extent of credit exposures of such company to significant bank holding companies and significant non-bank financial companies and the nature and extent of credit exposures of significant bank holding companies and significant non-bank financial companies to such covered company. InNovember 2011 , theFederal Reserve Board and theFDIC adopted a final rule implementing the resolution plan requirement, effectiveNovember 30, 2011 , but deferred finalizing the credit exposure reporting requirement until a later date.MetLife, Inc. was not among the institutions that were required to submit a resolution plan onJuly 2, 2012 , but the requirement may apply toMetLife, Inc. if it remains a bank holding company, or if, in the future, the FSOC designatesMetLife, Inc. as a non-bank SIFI. Regulatory Developments Relating to Non-Bank SIFIs and G-SIIs. IfMetLife, Inc. is able to deregister as a bank holding company, many of the foregoing requirements will not apply to it. However, if, in the future, the FSOC designatesMetLife, Inc. as a non-bank SIFI, it could once again be subject to regulation by the Federal 146
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Reserve and enhanced supervision and prudential standards, such as enhanced prudential standards pursuant to Regulation YY and the requirements relating to stress testing, resolution planning and (when adopted) credit exposure reporting. As proposed, Regulation YY would apply the same enhanced regulatory standards to non-bank SIFIs as would apply to systemically important banks; theFederal Reserve Board has solicited and is considering comments on the appropriateness of this treatment. For further information regarding enhanced prudential standards and Regulation YY, see "Business - U.S. Regulation -Dodd Frank and Other Legislative and Regulatory Developments - Enhanced Prudential Standards" included in the 2011 Annual Report. InApril 2012 , the FSOC adopted final rules setting forth the process it will follow and the criteria it will use to assess whether a non-bank financial company should be subject to enhanced supervision by the Federal Reserve as a non-bank SIFI. The FSOC will follow a three-stage process. In Stage 1, a set of uniform quantitative metrics will be applied to a broad group of non-bank financial companies in order to identify non-bank financial companies for further evaluation. If a non-bank financial company meets the total consolidated assets threshold and at least one of the other five quantitative thresholds used in the first stage, the FSOC will continue with two stages of further analysis using additional sources of data and qualitative and quantitative factors.MetLife, Inc. is currently a bank holding company and, as a result, it is not subject to designation as a non-bank SIFI. However, ifMetLife, Inc. succeeds in deregistering as a bank holding company, it could be considered for designation as a non-bank SIFI. As ofSeptember 30, 2012 ,MetLife, Inc. met the total consolidated assets threshold and at least one of the other Stage 1 quantitative thresholds. As part of the global initiative to identify global systemically important financial institutions, inMay 2012 , theInternational Association of Insurance Supervisors ("IAIS") published a proposed assessment methodology for designating G-SIIs. The proposed methodology is intended to identify those insurers whose distress or disorderly failure, because of their size, complexity and interconnectedness, would cause significant disruption to the global financial system and economic activity. The proposed methodology has three steps: (i) data collection; (ii) assessment using a quantitative indicator-based assessment (addressing five categories: size, extent of global activity, degree of interconnectedness within the financial system, amount of non-traditional and non-insurance activities and substitutability) and a more qualitative business segment assessment; and (iii) supervisory judgment and validation process, including quantitative and qualitative assessments. Based on information obtained from the IAIS, the Financial Stability Board, an international entity established to coordinate, develop and promote effective regulatory, supervisory and other financial sector policies in the interest of financial stability, will make final recommendations in consultation with national supervisory authorities. Comments on the proposal were submittedJuly 1, 2012 and, onSeptember 21, 2012 , the IAIS published a report proposing the resolution of issues raised during the comment period. The IAIS expects to publish the first list of G-SIIs in the first half of 2013, with annual updates thereafter, enabling insurers to move on and off the list, in order to incentivize insurers to reduce their systemic importance. Any insurers identified as G-SIIs would be subject to additional policy measures. These policy measures were outlined in anOctober 2012 IAIS consultation paper (with comments due inDecember 2012 ) and the IAIS has stated that it intends to finalize them at the same time as the first group of G-SIIs is identified. The proposed policy measures, which would need to be implemented by legislation or regulation in relevant jurisdictions, include higher capital requirements (both for non-traditional and non-insurance activities and for G-SIIs overall), enhanced supervision (including more detailed and frequent reporting, removal of barriers to orderly resolution of the G-SII and reduction of the G-SII's systemic risk over time), as well as additional measures to improve the degree of self-sufficiency of a G-SII's different business segments (including separate legal structures for traditional insurance and non-traditional or non-insurance activities, and restrictions on intercompany subsidies). IfMetLife, Inc. were identified as a G-SII, its competitive position relative to other life insurers that were not so designated could be adversely affected. See "Risk Factors - Our Insurance, Brokerage and Banking Businesses Are Highly Regulated, and Changes in Regulation and in Supervisory and Enforcement Policies May Reduce Our Profitability and Limit Our Growth." Regulatory Developments Affecting Investment Activities and Derivatives, including the Volcker Rule. Dodd-Frank also includes provisions that may impact the investments and investment activities ofMetLife, Inc. and its subsidiaries, including the federal regulation of such activities. Such provisions include the regulation of the 147
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over-the-counter ("OTC") derivatives markets and the prohibitions onFDIC -insured depository institutions and their affiliates engaging in proprietary trading or sponsoring or investing in hedge funds or private equity funds (commonly known as the Volcker Rule). Dodd-Frank provides an exemption to the Volcker Rule for investment activity by a regulated insurance company or its affiliate solely for the general account of such insurance company if such activity is in compliance with the insurance company investment laws of the state or jurisdiction in which such company is domiciled and the appropriate Federal regulators after consultation with relevant insurance commissioners have not jointly determined such laws to be insufficient to protect the safety and soundness of the institution or the financial stability of the U.S. Other exemptions to the Volcker Rule, including, but not limited to, activities for risk-mitigating hedging and activities on behalf of customers, may be available for the general account or separate account activities of insurance companies. Notwithstanding the foregoing, the appropriate Federal regulatory authorities are permitted under Dodd-Frank to impose, as part of rulemaking, additional capital requirements and other restrictions on any exempted activity to protect the safety and soundness of an entity engaged in such activity. Dodd-Frank provides for a period of rulemaking during which the effects of the statutory language may be clarified. Among other things, one task of the rulemaking is to appropriately accommodate the business of insurance within an insurance company subject to regulation in accordance with relevant insurance company investments laws. Pursuant to Dodd-Frank, the Volcker Rule became effective onJuly 21, 2012 , notwithstanding the fact that final regulations on the Volcker Rule were not implemented by such date. OnApril 19, 2012 , theFederal Reserve Board adopted a statement clarifying that a covered banking entity has the full two-year period provided by Dodd-Frank (i.e., untilJuly 21, 2014 ) to fully conform its activities and investments to the Volcker Rule, subject to further extensions (up to three one-year extensions) by the Board in accordance with the statute. According to the statement, during the conformance period, every covered banking entity is expected to engage in good faith efforts, appropriate for its activities and investments, that will result in the conformance of all its activities and investments to such restrictions by no later than the end of the conformance period. If and whenMetLife Bank's FDIC insurance is terminated,MetLife, Inc. and its affiliates will not be subject to the bans on proprietary trading and fund activities under the Volcker Rule. However, because the Volcker Rule nevertheless imposes additional capital requirements and quantitative limits on such trading and activities by a non-bank SIFI,MetLife, Inc. and its affiliates could be subject to such requirements and limits wereMetLife, Inc. to be designated a non-bank SIFI. Regulations defining and governing such requirements and limits on non-bank SIFIs have not been proposed. Subject to safety and soundness determinations as part of rulemaking that could require additional capital requirements and quantitative limits, Dodd-Frank provides that the exemptions under the Volcker Rule also are available to exempt any additional capital requirements and quantitative limits on non-bank SIFIs. AlthoughMetLife believes that the statutory exemptions apply to the activities and investments of its insurance companies and other applicable affiliates, while it remains subject to the Volcker Rule and, until the rulemaking is complete, including the scope of the statutory exemptions to be applied to insurance companies for each of the prohibitions on proprietary trading and fund sponsoring or investing, it is unclear whetherMetLife, Inc. may have to alter any of its future activities to comply, including continuing to invest in private investment funds for its general accounts or to issue certain insurance products backed by its separate accounts. See "Risk Factors - Various Aspects of Dodd-Frank Could Impact Our Business Operations, Capital Requirements and Profitability and Limit Our Growth" included in the 2011 Annual Report.
Mortgage and Foreclosure-Related Exposures
Since 2008,MetLife , through its affiliate,MetLife Bank , has been engaged in the forward and reverse residential mortgage origination and servicing business. InJanuary 2012 ,MetLife, Inc. announced that it was exiting the business of originating forward residential mortgage loans and, inApril 2012 , announced it was exiting the businesses of originating and servicing reverse residential mortgage loans and that it andMetLife Bank entered into a definitive agreement to sellMetLife Bank's reverse mortgage servicing portfolio. InJune 2012 , the Company sold the majority ofMetLife Bank's reverse mortgage servicing rights and related assets and 148
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liabilities, with the remainder sold inSeptember 2012 pursuant to the same agreement. See Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements. Also, in the third quarter of 2012, we began exploring the sale ofMetLife Bank's forward mortgage servicing assets and operations and, therefore, began reporting this business as divested. OnNovember 2, 2012 ,MetLife, Inc. andMetLife Bank entered into a definitive agreement to sellMetLife Bank's forward mortgage servicing portfolio toJPMorganChase Bank, N.A. The transaction is subject to certain regulatory approvals and other customary closing conditions. Upon entering into this agreement,MetLife Bank has committed to sell or has otherwise exited most of its operations. Notwithstanding the foregoing,MetLife Bank continues to have obligations to repurchase loans or compensate for losses upon demand by investors due to claims alleging defects in servicing of the loans or that material representations made in connection with the sale of the loans (relating, for example, to the underwriting and origination of the loans) are incorrect. WhileMetLife Bank is indemnified by the sellers of the acquired assets, for various periods depending on the transaction and the nature of the claim, for origination and servicing deficiencies that occurred prior toMetLife Bank's acquisition, including indemnification for any repurchase claims made from investors who purchased mortgage loans from the sellers, it is possible that the sellers may be unwilling or unable to honor such indemnification obligations. Substantially all mortgage servicing rights ("MSRs") that were acquired byMetLife Bank relate to loans sold to Federal National Mortgage Association ("FNMA") or Federal Home Loan Mortgage Corporation ("FHLMC").MetLife Bank formerly originated and sold conventional residential mortgage loans primarily into FNMA and FHLMC securities and government residential mortgage loans (insured by theFederal Housing Administration or guaranteed by theUnited States Department of Veterans Affairs ) into mortgage-backed securities guaranteed byGovernment National Mortgage Association ("GNMA") (collectively, the "Agency Investors ") and, to a limited extent, a small number of private investors. Substantially all ofMetLife Bank's $69.1 billion servicing portfolio consists ofAgency Investors' product. WhileMetLife Bank's exposure to repurchase obligations and losses related to origination deficiencies should be limited to the approximately$63.9 billion of loans originated byMetLife Bank (all of which have been originated sinceSeptember 2008 ), it is possible thatMetLife Bank may repurchase loans (originated prior toSeptember 2008 by the seller of such loans toMetLife Bank ) serviced byMetLife Bank for which indemnification obligations are not honored or available. Reserves for representation and warranty repurchases and indemnifications were$79 million and$69 million atSeptember 30, 2012 andDecember 31, 2011 , respectively.MetLife Bank is exposed to losses due to claims alleging servicing deficiencies on loans originated and sold, as well as servicing acquired, to the extent such servicing deficiencies occurred whileMetLife Bank was the servicer of record. Management is satisfied that adequate provision has been made in the Company's consolidated financial statements for those repurchase obligations and losses that are currently probable and reasonably estimable. Since 2008,MetLife , through its affiliate,MetLife Bank , has been engaged in the forward and reverse residential mortgage origination and servicing business. State and federal regulatory and law enforcement authorities have initiated various inquiries, investigations or examinations of alleged irregularities in the foreclosure practices of the residential mortgage servicing industry. Mortgage servicing practices have also been the subject of Congressional attention. Authorities have publicly stated that the scope of the investigations extends beyond foreclosure documentation practices to include mortgage loan modification and loss mitigation practices. OnApril 13, 2011 , the OCC entered into consent decrees with several banks, includingMetLife Bank . The consent decrees require an independent review of foreclosure practices and set forth new residential mortgage servicing standards, including a requirement for a designated point of contact for a borrower during the loss mitigation process. In addition, theFederal Reserve Board entered into consent decrees with the affiliated bank holding companies of these banks, includingMetLife, Inc. , to enhance the supervision of the mortgage servicing activities of their banking subsidiaries. OnAugust 6, 2012 , theFederal Reserve Board issued an Order of Assessment of a Civil Monetary Penalty Issued Upon Consent againstMetLife, Inc. that will impose a penalty of up to$3.2 million for the alleged deficiencies in oversight ofMetLife Bank's servicing of residential mortgage loans and processing foreclosures that were the subject of the 2011 consent decree. 149
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MetLife Bank has also responded to a subpoena issued by theNew York State Department of Financial Services ("Department of Financial Services ") regarding hazard insurance and flood insurance thatMetLife Bank obtains to protect the lienholder's interest when the borrower's insurance has lapsed. In April andMay 2012 ,MetLife Bank received two subpoenas issued by theOffice of Inspector General for the U.S. Department of Housing andUrban Development regardingFederal Housing Administration ("FHA") insured loans. In June andSeptember 2012 ,MetLife Bank received two Civil Investigative Demands that theU.S. Department of Justice issued as part of a False Claims Act investigation of allegations thatMetLife Bank had improperly originated and/or underwritten loans insured by the FHA. The consent decrees, as well as the inquiries or investigations referred to above, could adversely affectMetLife's reputation or result in material fines, penalties, equitable remedies or other enforcement actions, and result in significant legal costs in responding to governmental investigations or other litigation. In addition, the changes to the mortgage servicing business required by the consent decrees and the resolution of any other inquiries or investigations may affect the profitability of such business. The MetLife Bank Events may not relieveMetLife from complying with the consent decrees, or protect it from the inquiries and investigations relating to residential mortgage servicing and foreclosure activities, or any fines, penalties, equitable remedies or enforcement actions that may result, the costs of responding to any such governmental investigations, or other litigation.
Summary of Critical Accounting Estimates
The preparation of financial statements in conformity with GAAP requires management to adopt accounting policies and make estimates and assumptions that affect amounts reported in the Interim Condensed Consolidated Financial Statements. The most critical estimates include those used in determining:
(i) estimated fair values of investments in the absence of quoted market values; (ii) investment impairments;
(iii) estimated fair values of freestanding derivatives and the recognition and
estimated fair value of embedded derivatives requiring bifurcation; (iv) capitalization and amortization of DAC and the establishment and amortization of VOBA; (v) measurement of goodwill and related impairment; (vi) liabilities for future policyholder benefits and the accounting for reinsurance;
(vii) measurement of income taxes and the valuation of deferred tax assets;
(viii) measurement of employee benefit plan liabilities; and (ix) liabilities for litigation and regulatory matters. In addition, the application of acquisition accounting requires the use of estimation techniques in determining the estimated fair values of assets acquired and liabilities assumed - the most significant of which relate to aforementioned critical accounting estimates. In applying the Company's accounting policies, we make subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these policies, estimates and related judgments are common in the insurance and financial services industries; others are specific to the Company's business and operations. Actual results could differ from these estimates. 150
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The above critical accounting estimates are described in "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates" and Note 1 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report. Critical accounting estimate updates relating to goodwill are discussed below.
DAC
For a discussion of the new accounting guidance on DAC, see Note 1 of the Notes to the Interim Condensed Consolidated Financial Statements.
Goodwill
Goodwill is tested for impairment at least annually or more frequently if events or circumstances, such as adverse changes in the business climate, indicate that there may be justification for conducting an interim test. For purposes of goodwill impairment testing, if the carrying value of a reporting unit exceeds its estimated fair value, the implied fair value of the reporting unit goodwill is compared to the carrying value of that goodwill to measure the amount of impairment loss, if any. In such instances, the implied fair value of the goodwill is determined in the same manner as the amount of goodwill that would be determined in a business acquisition. The key inputs, judgments and assumptions necessary in determining estimated fair value of the reporting units include projected operating earnings, current book value, the level of economic capital required to support the mix of business, long-term growth rates, comparative market multiples, the account value of in-force business, projections of new and renewal business, as well as margins on such business, the level of interest rates, credit spreads, equity market levels, and the discount rate that we believe is appropriate for the respective reporting unit. The estimated fair values of the Retail Annuities and Retail Life reporting units are particularly sensitive to interest rate and equity market levels. In the third quarter of 2012, the Company performed its annual goodwill impairment test on its Retail Annuities reporting unit based upon data atJune 30, 2012 . The Company utilized both the market multiple and discounted cash flow ("DCF") valuation approaches. Results for both approaches indicated that the fair value of the Retail Annuities reporting unit was below its carrying value. As a result, an actuarial appraisal, which estimates the net worth of the reporting unit, the value of existing business and the value of new business, was performed. This appraisal resulted in a fair value of the Retail Annuities reporting unit that was less than the carrying value, indicating a potential for goodwill impairment. The actuarial appraisal reflected the expected market impact to a buyer of changes in the regulatory environment, continued low interest rates for an extended period of time, and other market and economic factors. Specifically, inJuly 2012 , theDepartment of Financial Services initiated an inquiry into the use of captive or off-shore reinsurers, strategies many market participants have used for capital efficiency on variable annuity products; theNational Association of Insurance Commissioners ("NAIC") has also been studying the use of captives. See "Risk Factors - Our Insurance Brokerage and Banking Businesses Are Highly Regulated, and Changes in Regulation and in Supervision and Enforcement Policies May Reduce Our Profitability and Limit Our Growth" and "Risk Factors - Our Statutory Reserve Financings May Be Subject to Cost Increases and New Financings May be Subject to Limited Market Capacity." Additionally, in the third quarter of 2012, the Federal Reserve announced that it anticipated that low interest rates are likely to be warranted at least through mid-2015, extending the time horizon from previous announcements. InJuly 2012 , the 10-year U.S. Treasury rate was at its lowest point since the 1940's. Finally, also in the third quarter of 2012, Moody's changed its outlook for the U.S. life insurance industry to negative from stable, stating it expects interest rates to remain in the low single digits for the next few years. As a result, the Company performed Step 2 of the goodwill impairment process, which compares the implied fair value of the reporting unit's goodwill with its carrying value. This analysis indicated that the recorded goodwill associated with this reporting unit was not recoverable. Therefore, the Company recorded a non-cash charge of$1.9 billion ($1.6 billion , net of income tax) for the impairment of the entire goodwill balance that is reported in goodwill impairment in the interim condensed consolidated statements of operations and comprehensive income for both the three months and nine months endedSeptember 30, 2012 . 151
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In the third quarter of 2012, the Company performed its annual goodwill impairment test on its Retail Life reporting unit based upon data atJune 30, 2012 . The Retail Life reporting unit passed both the market multiple valuation and the DCF valuation approaches. The fair value of the reporting unit, calculated based on application of the DCF valuation approach, exceeded the carrying value by approximately 3%. If we had assumed that the discount rate was 100 basis points higher than the discount rate used, the fair value of the Retail Life reporting unit would have been less than the carrying value by approximately 1%. As ofJune 30, 2012 , the amount of goodwill allocated to the Retail Life reporting unit was approximately$1.3 billion . In addition, the Company performed its annual goodwill impairment tests of its other reporting units during the third quarter of 2012 using a market multiple and/or the DCF approach based upon data atJune 30, 2012 and concluded that the fair values of all such reporting units were in excess of their carrying values and, therefore, goodwill was not impaired. As anticipated, in the third quarter of 2012, the Company continued to realign certain products and businesses among its existing segments. As a result, beginning in the third quarter of 2012, the Retail Life reporting unit was integrated with other products and businesses, including the Retail property & casualty business, which is less sensitive to changes in interest rates. The amount of goodwill allocated to the Retail Life & Other reporting unit was approximately$1.5 billion as ofSeptember 30, 2012 . As a result of the realignment during the third quarter, the Company performed an analysis to identify all reporting units under the revised structure. Based on a qualitative assessment performed, the Company concluded that atSeptember 30, 2012 there were no indicators of a scenario in which it was more likely than not that any reporting units had a carrying value that exceeded fair value, and thus, no further impairment analysis was performed. On an ongoing basis, we evaluate potential triggering events that may affect the estimated fair value of our reporting units to assess whether any goodwill impairment exists. We apply significant judgment when determining the estimated fair value of our reporting units and when assessing the relationship of market capitalization to the aggregate estimated fair value of our reporting units. The valuation methodologies utilized are subject to key judgments and assumptions that are sensitive to change. Estimates of fair value are inherently uncertain and represent only management's reasonable expectation regarding future developments. These estimates and the judgments and assumptions upon which the estimates are based will, in all likelihood, differ in some respects from actual future results. Declines in the estimated fair value of our reporting units could result in goodwill impairments in future periods which could materially adversely affect our results of operations or financial position.See "Risk Factors - If Our Business Does Not Perform Well, We May Be Required to Recognize an Impairment of Our Goodwill or Other Long-Lived Assets or to Establish a Valuation Allowance Against the Deferred Income Tax Asset, Which Could Adversely Affect Our Results of Operations or Financial Condition" included in the 2011 Annual Report.
See Note 7 of the Notes to the Interim Condensed Consolidated Financial Statements for additional information on the Company's goodwill.
Economic capital is an internally developed risk capital model, the purpose of which is to measure the risk in the business and to provide a basis upon which capital is deployed. The economic capital model accounts for the unique and specific nature of the risks inherent in the Company's business. The Company's economic capital model aligns segment allocated equity with emerging standards and consistent risk principles. Segment net investment income is credited or charged based on the level of allocated equity; however, changes in allocated equity do not impact the Company's consolidated net investment income, operating earnings or income (loss) from continuing operations, net of income tax.
Acquisitions and Dispositions
See Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements.
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Results of Operations
Three Months Ended
Consolidated Results
We have experienced growth and an increase in sales in several of our businesses, both domestic and foreign. In the U.S., the economy has continued to slowly improve and, as a result, our group term life and disability businesses exhibited growth from new sales, and our dental business continued to benefit from strong enrollments and renewals along with a large new group contract that began in the second quarter of 2012. Sales of annuities declined in response to actions taken to manage sales volume as we focus on pricing discipline and risk management in this challenging economic environment. While we continue to experience strong sales in our pension closeout business in theU.K , weak equity market returns and lower interest rates adversely impacted sales of our pension closeouts and structured settlements in the U.S. Although policy sales of our property and casualty products remained sluggish, our average premiums for new policies increased. Three Months Ended September 30, 2012 2011 Change % Change (In millions) Revenues Premiums $ 9,096 $ 9,342 $ (246 ) (2.6 )% Universal life and investment-type product policy fees 2,131 1,998 133 6.7 % Net investment income 5,517 4,252 1,265 29.8 % Other revenues 455 720 (265 ) (36.8 )% Net investment gains (losses) 22 (55 )
77
Net derivative gains (losses) (718 ) 4,196 (4,914 ) Total revenues 16,503 20,453 (3,950 ) (19.3 )% Expenses Policyholder benefits and claims and policyholder dividends 9,298 9,402 (104 ) (1.1 )% Interest credited to policyholder account balances 2,102 738 1,364 Goodwill impairment 1,868 - 1,868 Capitalization of DAC (1,302 ) (1,527 ) 225 14.7 % Amortization of DAC and VOBA 1,008 1,718 (710 ) (41.3 )% Amortization of negative VOBA (170 ) (170 ) - - % Interest expense on debt 326 425 (99 ) (23.3 )% Other expenses 4,383 4,752 (369 ) (7.8 )% Total expenses 17,513 15,338 2,175 14.2 % Income (loss) from continuing operations before provision for income tax (1,010 ) 5,115 (6,125 ) Provision for income tax expense (benefit) (53 ) 1,673 (1,726 ) Income (loss) from continuing operations, net of income tax (957 ) 3,442 (4,399 ) Income (loss) from discontinued operations, net of income tax - 8
(8 ) (100.0 )%
Net income (loss) (957 ) 3,450 (4,407 ) Less: Net income (loss) attributable to noncontrolling interests (3 ) (6 ) 3 50.0 % Net income (loss) attributable to MetLife, Inc. (954 ) 3,456 (4,410 ) Less: Preferred stock dividends 30 30 - - % Preferred stock redemption premium - - - - % Net income (loss) available to MetLife, Inc.'s common shareholders $ (984 ) $ 3,426 $ (4,410 ) 153
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During the three months endedSeptember 30, 2012 , income (loss) from continuing operations, before provision for income tax, decreased$6.1 billion ($4.4 billion , net of income tax) from the prior period primarily driven by an unfavorable change in net derivative gains (losses) and a goodwill impairment charge in the current period. We manage our investment portfolio using disciplined ALM principles, focusing on cash flow and duration to support our current and future liabilities. Our intent is to match the timing and amount of liability cash outflows with invested assets that have cash inflows of comparable timing and amount, while optimizing risk-adjusted net investment income and risk-adjusted total return. Our investment portfolio is heavily weighted toward fixed income investments, with over 80% of our portfolio invested in fixed maturity securities and mortgage loans. These securities and loans have varying maturities and other characteristics which cause them to be generally well suited for matching the cash flow and duration of insurance liabilities. Other invested asset classes including, but not limited to, equity securities, other limited partnership interests and real estate and real estate joint ventures, provide additional diversification and opportunity for long-term yield enhancement in addition to supporting the cash flow and duration objectives of our investment portfolio. We also use derivatives as an integral part of our management of the investment portfolio to hedge certain risks, including changes in interest rates, foreign currency exchange rates, credit spreads and equity market levels. Additional considerations for our investment portfolio include current and expected market conditions and expectations for changes within our specific mix of products and business segments. In addition, the general account investment portfolio includes, within trading and other securities, contractholder-directed investments supporting unit-linked variable annuity type liabilities, which do not qualify as separate account assets. The returns on these contractholder-directed investments, which can vary significantly period to period, include changes in estimated fair value subsequent to purchase, inure to contractholders and are offset in earnings by a corresponding change in PABs through interest credited to policyholder account balances. The composition of the investment portfolio of each business segment is tailored to the specific characteristics of its insurance liabilities, causing certain portfolios to be shorter in duration and others to be longer in duration. Accordingly, certain portfolios are more heavily weighted in longer duration, higher yielding fixed maturity securities, or certain sub-sectors of fixed maturity securities, than other portfolios. Investments are purchased to support our insurance liabilities and not to generate net investment gains and losses. However, net investment gains and losses are incurred and can change significantly from period to period due to changes in external influences, including changes in market factors such as interest rates, foreign currency exchange rates, credit spreads and equity markets; counterparty specific factors such as financial performance, credit rating and collateral valuation; and internal factors such as portfolio rebalancing. Changes in these factors from period to period can significantly impact the levels of both impairments and realized gains and losses on investments sold. We use freestanding interest rate, equity, credit and currency derivatives to hedge certain invested assets and insurance liabilities. Certain of these hedges are designated and qualify as accounting hedges, which reduce volatility in earnings. For those hedges not designated as accounting hedges, changes in market factors lead to the recognition of fair value changes in net derivative gains (losses) generally without an offsetting gain or loss recognized in earnings for the item being hedged. Certain variable annuity products with minimum benefit guarantees contain embedded derivatives that are measured at estimated fair value separately from the host variable annuity contract, with changes in estimated fair value recorded in net derivative gains (losses). The Company uses freestanding derivatives to hedge the market risks inherent in these variable annuity guarantees. The valuation of these embedded derivatives includes a nonperformance risk adjustment, which is unhedged and can be a significant driver of net derivative gains (losses) but does not have an economic impact on the Company. The variable annuity embedded derivatives and associated freestanding derivative hedges are collectively referred to as "VA program derivatives" in the following table. All other derivatives that are economic hedges of certain invested assets and insurance liabilities are referred to as "non-VA program derivatives" in the following 154
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table. The table below presents the impact on net derivative gains (losses) from non-VA program derivatives and VA program derivatives:
Three Months Ended September 30, 2012 2011 Change (In millions) Non-VA program derivatives Interest rate $ (135 ) $ 1,912 $ (2,047 ) Foreign currency (174 ) 461 (635 ) Credit 2 164 (162 ) Equity 1 (2 ) 3 Non-VA embedded derivatives (31 ) (1 ) (30 ) Total non-VA program derivatives (337 )
2,534 (2,871 )
VA program derivatives Market and other risks in embedded derivatives 792 (4,258 ) 5,050 Nonperformance risk on embedded derivatives (534 )
1,951 (2,485 )
Total embedded derivatives 258
(2,307 ) 2,565 Freestanding derivatives hedging embedded derivatives (639 ) 3,969 (4,608 )
Total VA program derivatives (381 )
1,662 (2,043 )
Net derivative gains (losses) $ (718 ) $
4,196 $ (4,914 )
The unfavorable change in net derivative gains (losses) on non-VA program derivatives was$2.9 billion ($1.9 billion , net of income tax). This reflects long-term interest rates increasing in the current period and decreasing significantly in the prior period, which primarily impacted receive-fixed interest rate swaps, long interest rate floors, receiver swaptions and long interest rate futures. These freestanding derivatives are primarily hedging long duration liability portfolios. In addition, a weakening of the U.S. dollar relative to other key currencies unfavorably impacted foreign currency swaps and forwards, which primarily hedge certain foreign denominated bonds. Because certain of these hedging strategies are not designated or do not qualify as accounting hedges, the changes in the estimated fair value of these freestanding derivatives are recognized in net derivative gains (losses) without an offsetting gain or loss recognized in earnings for the item being hedged. The unfavorable change in net derivative gains (losses) on VA program derivatives was$2.0 billion ($1.3 billion , net of income tax). This was due to an unfavorable change of$2.5 billion ($1.6 billion , net of income tax) related to the change in the nonperformance risk adjustment on embedded derivatives, partially offset by a favorable change of$442 million ($287 million , net of income tax) in freestanding derivatives that hedge market risks in embedded derivatives, net of market and other risks in our embedded derivatives. The favorable change of$442 million is comprised of a$5.1 billion ($3.3 billion , net of income tax) favorable change in market and other risks in our embedded derivatives which were driven by changes in market factors and a$4.6 billion ($3.0 billion , net of income tax) unfavorable change in freestanding derivatives that hedge market risks in embedded derivatives. Changes in non-market factors, which are unhedged, contributed to a favorable change of$461 million . The primary changes in market factors are summarized as follows:
• U.S. equity index levels increased in the current period and decreased in the
prior period and equity volatility decreased in the current period and
increased in the prior period. These changes contributed to a favorable
change in our embedded derivatives and an unfavorable change in our freestanding derivatives.
• Long-term interest rates increased in the current period and decreased
significantly in the prior period and contributed to an unfavorable change in
our freestanding derivatives and a favorable change in our embedded derivatives. 155
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• Changes in foreign currency exchange rates contributed to an unfavorable
change in our freestanding derivatives and a favorable change in our embedded
derivatives.
The improvement in net investment gains (losses) from losses in the prior period to gains in the current period primarily reflects a decrease in impairments of fixed maturity securities, primarily onGreece sovereign debt as a result of theJuly 2011 announcement of a debt exchange program, partially offset by a decrease in gains on sales of real estate investments and reductions to the mortgage loan valuation allowance in the prior period. In addition, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment associated with our U.S. retail annuities business. Income (loss) from continuing operations, before provision for income tax, related to the Divested Businesses, excluding net investment gains (losses) and net derivative gains (losses), decreased$179 million to a loss of$108 million in the third quarter of 2012 compared to a gain of$71 million in the prior period. Included in this loss was a decrease in total revenues of$358 million and a decrease in total expenses of$179 million . Income tax benefit for the three months endedSeptember 30, 2012 was$53 million , or 5% of income (loss) from continuing operations before provision for income tax, compared with income tax expense of$1.7 billion , or 33% of income (loss) from continuing operations before provision for income tax, for the prior period. The Company's third quarter 2012 and 2011 effective tax rates differ from the U.S. statutory rate of 35% primarily due to the impact of certain permanent tax differences, including non-taxable investment income and tax credits for investments in low income housing, in relation to income (loss) from continuing operations before provision for income tax, as well as certain foreign permanent tax differences. In addition, as previously mentioned, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment. The tax benefit associated with this charge is limited to$247 million on the associated tax goodwill. As more fully described in the discussion of performance measures above, we use operating earnings, which does not equate to income (loss) from continuing operations, net of income tax, as determined in accordance with GAAP, to analyze our performance, evaluate segment performance, and allocate resources. We believe that the presentation of operating earnings and operating earnings available to common shareholders, as we measure it for management purposes, enhances the understanding of our performance by highlighting the results of operations and the underlying profitability drivers of the business. Operating earnings and operating earnings available to common shareholders should not be viewed as substitutes for GAAP income (loss) from continuing operations, net of income tax, and GAAP net income (loss) available toMetLife, Inc.'s common shareholders, respectively. Operating earnings available to common shareholders increased$452 million , net of income tax, to$1.4 billion , net of income tax, for the third quarter of 2012 from$965 million , net of income tax, in the prior period. 156
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Reconciliation of income (loss) from continuing operations, net of income tax, to operating earnings available to common shareholders
Three Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Income (loss) from continuing operations, net of income tax $ (986 ) $ 212 $ 159 $ 201 $ 193 $ 104 $ (840 ) $ (957 ) Less: Net investment gains (losses) 53 5 (25 ) (2 ) (47 ) 73 (35 ) 22 Less: Net derivative gains (losses) 191 (81 ) (194 ) 19 (31 ) 13 (635 ) (718 ) Less: Goodwill impairment (1,692 ) - - - - - (176 ) (1,868 ) Less: Other adjustments to continuing operations (1) (254 ) (33 ) (3 ) 44 (15 ) (12 ) (199 ) (472 ) Less: Provision for income tax (expense) benefit 224 38 78 (12 ) 27 (32 ) 309 632 Operating earnings $ 492 $ 283 $ 303 $ 152 $ 259 $ 62 (104 ) 1,447 Less: Preferred stock dividends 30 30 Operating earnings available to common shareholders $ (134 ) $ 1,417
Three Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Income (loss) from continuing operations, net of income tax $ 1,134 $ 795 $
615 $ (11 )
(15 ) 83 (8 ) (34 ) (220 ) 91 (55 ) Less: Net derivative gains (losses) 1,474 1,034 447 (45 ) 168 22 1,096 4,196 Less: Goodwill impairment - - - - - - - - Less: Other adjustments to continuing operations (1) (108 ) (34 ) (2 ) (143 ) (26 ) (25 ) (7 ) (345 ) Less: Provision for income tax (expense) benefit (494 ) (343 ) (185 ) 44 (55 ) 84 (400 ) (1,349 ) Operating earnings $ 214 $ 153 $ 272 $ 141 $ 222 $ 65 (72 ) 995 Less: Preferred stock dividends 30 30 Operating earnings available to common shareholders $ (102 ) $ 965
(1) See definitions of operating revenues and operating expenses for the
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Reconciliation of GAAP revenues to operating revenues and GAAP expenses to operating expenses
Three Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Total revenues $ 5,109 $ 4,360 $
1,785
53 5 (25 ) (2 ) (47 ) 73 (35 ) 22 Less: Net derivative gains (losses) 191 (81 ) (194 ) 19 (31 ) 13 (635 ) (718 ) Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) (3 ) - - - (2 ) 1 - (4 ) Less: Other adjustments to revenues (1) (19 ) (33 ) 16 62 142 348 76 592 Total operating revenues $ 4,887 $ 4,469 $
1,988
Total expenses $ 6,066 $ 4,041 $ 1,541 $ 931 $ 2,973 $ 1,036 $ 925 $ 17,513 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 10 - - - 2 2 - 14 Less: Goodwill impairment 1,692 - - - - - 176 1,868 Less: Other adjustments to expenses (1) 222 - 19 18 153 359 275 1,046 Total operating expenses $ 4,142 $ 4,041 $
1,522
Three Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Total revenues $ 6,385 $ 5,118 $
2,905
48 (15 ) 83 (8 ) (34 ) (220 ) 91 (55 ) Less: Net derivative gains (losses) 1,474 1,034 447 (45 ) 168 22 1,096 4,196 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 16 - - - - - - 16 Less: Other adjustments to revenues (1) 4 (36 ) 35 32 (438 ) (388 ) 483 (308 ) Total operating revenues $ 4,843 $ 4,135 $
2,340
Total expenses $ 4,656 $ 3,906 $ 1,959 $ 1,146 $ 2,234 $ 408 $ 1,029 $ 15,338 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 406 - - - 20 - - 426 Less: Goodwill impairment - - - - - - - - Less: Other adjustments to expenses (1) (278 ) (2 ) 37 175 (432 ) (363 ) 490 (373 ) Total operating expenses $ 4,528 $ 3,908 $ 1,922 $ 971 $ 2,646 $ 771 $ 539 $ 15,285
(1) See definitions of operating revenues and operating expenses for the
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Consolidated Results-Operating
Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 9,080 $ 9,319 $ (239 ) (2.6 )% Universal life and investment-type product policy fees 2,048 1,906 142 7.5 % Net investment income 5,048 4,961 87 1.8 % Other revenues 435 418 17 4.1 % Total operating revenues 16,611 16,604 7 - % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 8,995 9,604 (609 ) (6.3 )% Interest credited to policyholder account balances 1,589 1,534 55 3.6 % Capitalization of DAC (1,301 ) (1,524 ) 223 14.6 % Amortization of DAC and VOBA 1,051 1,162 (111 ) (9.6 )% Amortization of negative VOBA (155 ) (150 ) (5 ) (3.3 )% Interest expense on debt 286 327 (41 ) (12.5 )% Other expenses 4,120 4,332 (212 ) (4.9 )% Total operating expenses 14,585 15,285 (700 ) (4.6 )% Provision for income tax expense (benefit) 579 324 255 78.7 % Operating earnings 1,447 995 452 45.4 % Less: Preferred stock dividends 30 30 - - % Operating earnings available to common shareholders $ 1,417 $ 965 $ 452 46.8 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Stronger investment results, higher policy fee income and lower catastrophe losses were the primary drivers of the increase in operating earnings. In addition, the prior period included a$117 million charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File. These positive impacts were partially offset by changes in foreign currency exchange rates, which had a$30 million negative impact on results compared to the prior period. Positive net flows from strong sales led to growth in our investment portfolio which generated higher net investment income of$149 million . Since many of our products are interest spread-based, the growth in our individual life and structured settlement businesses also resulted in a$96 million increase to interest credited expenses. In addition, strong variable annuity sales, primarily in 2011, increased our average separate account assets which resulted in higher policy fee income of$88 million . Commission expenses decreased$149 million primarily driven by lower annuity sales in the U.S, which was largely offset by a corresponding decrease in DAC capitalization. The low interest rate environment continued to result in lower interest credited expense as we set interest credited rates lower on both new business, as well as certain in-force business with rate resets that are contractually tied to external indices or contain discretionary rate reset provisions. The improving equity markets resulted in lower DAC amortization and higher fee income in our annuity business. However, as a result of the low interest rate environment, investment yields on our fixed maturity securities and securities lending program declined. We also had lower investment returns on our real estate, real estate joint ventures and private equity investments. These negative impacts on yields were partially offset by higher income from equity-linked notes, trading securities, prepayment fees and interest rate derivatives. Changes in market factors discussed above resulted in an$89 million increase in operating earnings. Lower severity of property & casualty catastrophe claims in the current period increased operating earnings by$76 million as a result of severe storm activity in the prior period. However, this was partially offset by 159
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unfavorable claims experience, primarily in our
Liability and DAC refinements, primarily in our Retail segment, in both periods resulted in a$22 million increase in operating earnings. In addition, the prior period included$40 million of expenses incurred related to a liquidation plan filed by theDepartment of Financial Services for ELNY . The third quarter of 2012 included$35 million of employee-related and other costs associated with the Company's enterprise-wide strategic initiative. Retail Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 1,604 $ 1,770 $ (166 ) (9.4 )% Universal life and investment-type product policy fees 1,132 1,027 105 10.2 % Net investment income 1,930 1,842 88 4.8 % Other revenues 221 204 17 8.3 % Total operating revenues 4,887 4,843 44 0.9 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 2,228 2,523 (295 ) (11.7 )% Interest credited to policyholder account balances 598 617 (19 ) (3.1 )% Capitalization of DAC (430 ) (660 ) 230 34.8 % Amortization of DAC and VOBA 438 521 (83 ) (15.9 )% Other expenses 1,308 1,527 (219 ) (14.3 )% Total operating expenses 4,142 4,528 (386 ) (8.5 )% Provision for income tax expense (benefit) 253 101 152 Operating earnings $ 492 $ 214 $ 278
Unless otherwise stated, all amounts, with the exception of sales data, discussed below are net of income tax.
The Company implemented several changes to product pricing and variable annuity riders as we continued to manage sales volume, focusing on pricing discipline and risk management in this challenging economic environment. These actions resulted in a net decrease in the overall segment sales in the current period, most notably a$4.2 billion , or 47%, decrease in annuity sales. Consistent with the decrease in sales, retail life and annuity net flows were down$4.4 billion compared to the prior period. Stronger sales of variable annuities in the prior period increased our average separate account assets and, as a result, generated higher asset-based fee revenues. This, coupled with positive net flows from life products, as well as the impact of an increase in allocated equity for the annuity business, bolstered invested assets, increasing net investment income. Business growth also generated higher DAC amortization and consistent with a growing block of variable annuities with guarantees, there was an increase in certain variable annuity liabilities. The reduction of sales levels from the prior period resulted in lower deferrable expenses, which were directly offset by lower DAC capitalization; however, stronger annuity sales in the prior period significantly increased our in-force business contributing to an increase in non-deferrable expenses. The net impact of these items resulted in a$29 million increase in operating earnings. The improving equity market resulted in lower DAC amortization, higher fee income and a decrease in certain variable annuity liabilities. The low interest rate environment continued to result in lower interest credited expense as we reduced interest credited rates on contracts with discretionary rate reset provisions. Net investment income was also higher primarily from equity-linked notes, prepayment fees and derivatives. The higher 160
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derivatives income was primarily from interest rate floors purchased prior to the onset of the low interest rate environment. The net impact of these items resulted in a$139 million increase in operating earnings. Our property & casualty business increased operating earnings by$40 million , which resulted from favorable claim experience, mainly due to a decrease in catastrophes. The impact of this can be seen in the favorable change in the combined ratio, including catastrophes to 94.6% in the third quarter of 2012 from 107.6% in the prior period. The combined ratio, excluding catastrophes, was 90.6% in the third quarter of 2012, compared to 87.4% in the prior period. Favorable mortality experience in the traditional life business, primarily driven by a prior period charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File, was partially offset by unfavorable mortality in the variable and universal life and income annuities businesses, resulting in a$17 million increase in operating earnings.
The impact of the reduction in our closed block dividend scale, which was announced in the fourth quarter of 2011, increased operating earnings by
Group, Voluntary & Worksite Benefits
Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 3,753 $ 3,431 $ 322 9.4 % Universal life and investment-type product policy fees 166 159 7 4.4 % Net investment income 450 448 2 0.4 % Other revenues 100 97 3 3.1 % Total operating revenues 4,469 4,135 334 8.1 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 3,449 3,319 130 3.9 % Interest credited to policyholder account balances 42 46 (4 ) (8.7 )% Capitalization of DAC (38 ) (47 ) 9 19.1 % Amortization of DAC and VOBA 40 43 (3 ) (7.0 )% Interest expense on debt 1 - 1 Other expenses 547 547 - - % Total operating expenses 4,041 3,908 133 3.4 % Provision for income tax expense (benefit) 145 74 71 95.9 % Operating earnings $ 283 $ 153 $ 130 85.0 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Most of our businesses continued to experience growth in the third quarter of 2012, as the economy has continued to slowly improve. Our group term life and disability businesses grew as a result of new sales, and our dental business continued to benefit from strong enrollments and renewals, as well as revenues associated with the implementation of a new dental contract from a large customer that began in the second quarter of 2012. Although we have discontinued selling our long-term care ("LTC") product, we continue to collect premiums and administer the existing block of business, contributing to asset growth in the segment. Although policy sales for both auto and homeowners remained sluggish, the impact of an increase in the average premium for new policies sold more than offset the decline in policy sales. 161
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Lower severity of our property & casualty catastrophe claims in the current period resulted in an increase of$32 million to operating earnings, while non-catastrophe frequency and severity were essentially flat as compared to the prior period. Favorable morbidity and mortality experience in our dental and life businesses contributed$14 million and$5 million , respectively, to operating earnings. Partially offsetting these positive results was less favorable claims experience in our accidental death and dismemberment business, resulting in a decrease in operating earnings of$7 million . The mortality ratio of our life businesses was 88.1% in the third quarter of 2012 as compared to 98.5% in the prior period. In our life businesses, the impact of a prior period charge related to our use of theU.S. Social Security Administration's Death Master File contributed$81 million to the increase in operating earnings. Excluding the charge in the prior period, the mortality ratio for the prior period was 89.0%, more in-line with our results for the current period. The impact of the items discussed above related to the property & casualty business can be seen in the favorable change in the combined ratio, excluding catastrophes, to 87.2% in the third quarter of 2012 from 88.6% in the prior period, as well as the favorable change in the combined ratio, including catastrophes, to 87.8% in the third quarter of 2012 from 103.6% in the prior period. Investment yields were flat reflecting the offsetting effects of increased prepayment fee income and lower returns from our securities lending program and real estate joint ventures. Unlike in the Retail and Corporate Benefit Funding segments, a reduction in investment yield does not necessarily drive a corresponding change in the rates credited on certain insurance liabilities. However, marginally lower crediting rates in the current period resulted in a$5 million increase in operating earnings. Current period premiums and deposits, together with growth in the securities lending program, mostly offset by a reduction in allocated equity, have resulted in an increase in our average invested assets, contributing a slight increase to operating earnings. Consistent with the growth in average invested assets, primarily in our LTC business, interest credited on long-duration contracts increased by$6 million . In addition, the increase in average premium per policy in both our homeowners and auto businesses improved operating earnings by$8 million . Corporate Benefit Funding Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 450 $ 835 $ (385 ) (46.1 )% Universal life and investment-type product policy fees 53 69 (16 ) (23.2 )% Net investment income 1,421 1,375 46 3.3 % Other revenues 64 61 3 4.9 % Total operating revenues 1,988 2,340 (352 ) (15.0 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 1,070 1,459 (389 ) (26.7 )% Interest credited to policyholder account balances 339 327 12 3.7 % Capitalization of DAC (13 ) (6 ) (7 ) Amortization of DAC and VOBA 4 4 - - % Interest expense on debt 2 2 - - % Other expenses 120 136 (16 ) (11.8 )% Total operating expenses 1,522 1,922 (400 ) (20.8 )% Provision for income tax expense (benefit) 163 146 17 11.6 % Operating earnings $ 303 $ 272 $ 31 11.4 %
Unless otherwise stated, all amounts discussed below are net of income tax.
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The sustained low interest rate environment has resulted in underfunded pension plans, which limits our customers' ability to engage in full pension plan closeout terminations. However, we expect that customers may choose to close out portions of pension plans over time, at costs reflecting current interest rates and availability of capital. While this is predominantly impacting sales in the U.S., sales in theU.K. $278 million, before income tax, reflecting a more competitive market and a decrease in demand due to the low interest rate environment. Changes in premiums for these businesses were almost entirely offset by the related change in policyholder benefits. The impact of current period premiums, deposits, and funding agreement issuances contributed to an increase in invested assets, partially offset by a decrease in allocated equity, resulting in an increase of$85 million to operating earnings. The growth in premiums, deposits and funding agreement issuances resulted in a corresponding increase in interest credited on certain insurance liabilities, which decreased operating earnings by$28 million . Expenses declined largely as a result of disciplined spending and a decrease in sales volume-related costs, such as commissions and premium taxes. A decrease in structured settlement commissions was partially offset by an increase in commissions from sales of funding agreements. The decrease in expenses was partially offset by related changes in DAC capitalization and certain revenue items. The decrease in expenses coupled with an increase in fees generated by separate account deposits, increased operating earnings by$6 million . The low interest rate environment continued to impact our investment returns, as well as our interest credited on certain insurance liabilities. We experienced lower investment returns on our fixed maturity securities and our securities lending program, as well as on our private equity investments, which were partially offset by higher mortgage prepayment fees and increased earnings on interest rate derivatives. Many of our funding agreement and guaranteed interest contract liabilities have interest credited rates that are contractually tied to external indices and, as a result, interest credited rates on new business were set lower, as were the rates on existing business with terms that can fluctuate. The positive impact of lower interest credited rates was partially offset by an increase in interest credited expense resulting from the impact of derivatives that are used to hedge certain liabilities. The net impact of lower interest credited expense and lower investment returns resulted in a decrease in operating earnings of$37 million . Mortality experience did not have a material impact on our financial results this period; however, the impact of a charge in the prior period in connection with the Company's use of theU.S. Social Security Administration's Death Master File in our post-retirement benefit business resulted in an increase in operating earnings of$8 million . 163
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Table of ContentsLatin America Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 610 $ 672 $ (62 ) (9.2 )% Universal life and investment-type product policy fees 189 188 1 0.5 % Net investment income 299 289 10 3.5 % Other revenues 3 8 (5 ) (62.5 )% Total operating revenues 1,101 1,157 (56 ) (4.8 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 507 576 (69 ) (12.0 )% Interest credited to policyholder account balances 99 95 4 4.2 % Capitalization of DAC (83 ) (78 ) (5 ) (6.4 )% Amortization of DAC and VOBA 42 45 (3 ) (6.7 )% Amortization of negative VOBA (1 ) - (1 ) Interest expense on debt (4 ) - (4 ) Other expenses 353 333 20 6.0 % Total operating expenses 913 971 (58 ) (6.0 )% Provision for income tax expense (benefit) 36 45 (9 ) (20.0 )% Operating earnings $ 152 $ 141 $ 11 7.8 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings increased by$11 million over the prior period. The impact of changes in foreign currency exchange rates reduced operating earnings by$10 million for the third quarter of 2012 compared to the prior period.Latin America experienced sales growth driven primarily by group and retirement products inMexico andBrazil and by universal life products inMexico , as well as increased accident and health sales inArgentina through our direct marketing channel. The resulting premium growth was more than offset by a decrease in the annuity premiums inChile due to a contract that was not renewed by the customer. These premium decreases for these products were almost entirely offset by the related change in policyholder benefits. The growth in our businesses drove an increase in average invested assets, which generated higher net investment income and higher policy fee income, partially offset by an increase in interest credited to policyholders. The increase in sales also generated higher commission expense, which was partially offset by a corresponding increase in DAC capitalization. The items discussed above were the primary drivers of a$7 million improvement in operating earnings. The current period results include various favorable income tax items of$13 million inArgentina ,Mexico andChile . In addition, the current period results include liability refinements which were mostly offset by a write-off of capitalized software, both inMexico . 164
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Table of ContentsAsia Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 2,112 $ 1,967 $ 145 7.4 % Universal life and investment-type product policy fees 388 357 31 8.7 % Net investment income 709 643 66 10.3 % Other revenues 4 8 (4 ) (50.0 )% Total operating revenues 3,213 2,975 238 8.0 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 1,455 1,325 130 9.8 % Interest credited to policyholder account balances 468 414 54 13.0 % Capitalization of DAC (579 ) (576 ) (3 ) (0.5 )% Amortization of DAC and VOBA 396 407 (11 ) (2.7 )% Amortization of negative VOBA (128 ) (137 ) 9 6.6 % Other expenses 1,206 1,213 (7 ) (0.6 )% Total operating expenses 2,818 2,646 172 6.5 % Provision for income tax expense (benefit) 136 107 29 27.1 % Operating earnings $ 259 $ 222 $ 37 16.7 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings increased by
Asia experienced sales growth in ordinary and universal life products inJapan , resulting in higher premiums and universal life fees, and variable life products inKorea , which drove higher fees over the prior period. This was partially offset by a decline in life product sales and persistency inHong Kong , which reduced premiums. Changes in premiums for these businesses were partially offset by related changes in policyholder benefits. In addition, average invested assets increased over the prior period, reflecting positive cash flows from our annuity business inJapan generating an increase in net investment income, which was partially offset by an increase in interest credited to policyholders. The combined impact of the items discussed above improved operating earnings by$69 million . The repositioning of theJapan investment portfolio to longer duration and higher yielding investments contributed to an increase in investment yields. In addition, yields improved as a result of growth in the Australian dollar annuity business, reflecting the investment of funds in higher yielding Australian dollar investments, as well as higher returns on our real estate investments. However, these increases in yields were slightly offset by lower joint venture income fromChina resulting in a net increase to operating earnings of$5 million .
Changes in actuarial assumptions in
Unfavorable claims experience decreased operating earnings by$11 million . Prior period results inJapan included a$12 million benefit from the release of previously recorded liabilities and$5 million of operating expenses related to theMarch 2011 earthquake and tsunami. 165
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Table of Contents EMEA Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 536 $ 630 $ (94 ) (14.9 )% Universal life and investment-type product policy fees 82 67 15 22.4 % Net investment income 122 151 (29 ) (19.2 )% Other revenues 35 29 6 20.7 % Total operating revenues 775 877 (102 ) (11.6 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 255 341 (86 ) (25.2 )% Interest credited to policyholder account balances 32 35 (3 ) (8.6 )% Capitalization of DAC (158 ) (157 ) (1 ) (0.6 )% Amortization of DAC and VOBA 130 142 (12 ) (8.5 )% Amortization of negative VOBA (26 ) (13 ) (13 ) (100.0 )% Interest expense on debt 2 - 2 Other expenses 440 423 17 4.0 % Total operating expenses 675 771 (96 ) (12.5 )% Provision for income tax expense (benefit) 38 41 (3 ) (7.3 )% Operating earnings $ 62 $ 65 $ (3 ) (4.6 )%
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings decreased by$3 million over the prior period. The impact of changes in foreign currency exchange rates reduced operating earnings by$15 million for the third quarter of 2012 compared to the prior period and resulted in significant variances in the financial statement line items. The fourth quarter 2011 purchase of a Turkish life insurance and pension company increased operating earnings by$10 million . The segment continued to experience business growth; however, certain European countries in the region continued to be affected by the challenging economic environment. Sales increased across all major product lines and all regions. The disposal of certain closed blocks of business in theU.K. reduced operating earnings and resulted in lower net investment income, partially offset by the release of certain liabilities. Dividends paid toMetLife, Inc. at the end of 2011 decreased net investment income, as a result of lower average invested assets. Consistent with business growth, operating expenses increased, most notably due to higher compensation and administrative costs. The items discussed above, on a combined basis, resulted in a$6 million decrease in operating earnings.
Current period results benefited by
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Table of Contents Corporate & Other Three Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 15 $ 14 $ 1 7.1 % Universal life and investment-type product policy fees 38 39 (1 ) (2.6 )% Net investment income 117 213 (96 ) (45.1 )% Other revenues 8 11 (3 ) (27.3 )% Total operating revenues 178 277 (99 ) (35.7 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 31 61 (30 ) (49.2 )% Interest credited to policyholder account balances 11 - 11 Amortization of DAC and VOBA 1 - 1 Interest expense on debt 285 325 (40 ) (12.3 )% Other expenses 146 153 (7 ) (4.6 )% Total operating expenses 474 539 (65 ) (12.1 )%
Provision for income tax expense (benefit) (192 ) (190 )
(2 ) (1.1 )% Operating earnings (104 ) (72 ) (32 ) (44.4 )% Less: Preferred stock dividends 30 30 - - % Operating earnings available to common shareholders $ (134 ) $ (102 ) $ (32 ) (31.4 )%
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings available to common shareholders and operating earnings each decreased$32 million , primarily due to lower net investment income, lower operating earnings on invested assets that were funded usingFederal Home Loan Bank ("FHLB") advances and lower tax credits in the third quarter of 2012. These decreases were partially offset by higher earnings from the assumed reinsurance of a variable annuity business and lower interest expense on debt.
Net investment income decreased
Operating earnings on invested assets that were funded using FHLB advances decreased
Corporate & Other benefits from the impact of certain permanent tax differences, including non-taxable investment income and tax credits for investments in low income housing. As a result, our effective tax rates differ from the U.S. statutory rate of 35%. In the third quarter of 2012, we had lower utilization of tax preferenced investments which decreased operating earnings by$10 million from the prior period. In the prior period, the Company incurred$40 million of expenses related to the liquidation plan filed by theDepartment of Financial Services for ELNY . In the third quarter of 2012, the Company incurred$35 million of employee-related and other costs associated with the Company's enterprise-wide strategic initiative and$10 million of higher other employee-related charges. 167
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Operating earnings associated with the assumed reinsurance of certain variable annuity products from our former operating joint venture inJapan increased$19 million . This was primarily due to a decrease in benefit liabilities resulting from higher returns in the underlying funds. Interest expense on debt, excluding the FHLB which is discussed above, decreased$8 million primarily due to the maturity of$750 million in long-term debt inDecember 2011 . Nine Months EndedSeptember 30, 2012 Compared with the Nine Months EndedSeptember 30, 2011 Consolidated Results Nine Months Ended September 30, 2012 2011 Change % Change (In millions) Revenues Premiums $ 27,386 $ 27,190 $ 196 0.7 % Universal life and investment-type product policy fees 6,306 5,856 450 7.7 % Net investment income 16,436 14,658 1,778 12.1 % Other revenues 1,445 1,878 (433 ) (23.1 )% Net investment gains (losses) (152 ) (309 ) 157 50.8 % Net derivative gains (losses) (604 ) 4,233 (4,837 ) Total revenues 50,817 53,506 (2,689 ) (5.0 )% Expenses Policyholder benefits and claims and policyholder dividends 28,008 27,506 502 1.8 % Interest credited to policyholder account balances 5,681 4,104 1,577 38.4 % Goodwill impairment 1,868 - 1,868 Capitalization of DAC (3,981 ) (4,158 ) 177 4.3 % Amortization of DAC and VOBA 3,201 3,911 (710 ) (18.2 )% Amortization of negative VOBA (506 ) (536 ) 30 5.6 % Interest expense on debt 1,026 1,260 (234 ) (18.6 )% Other expenses 13,601 13,510 91 0.7 % Total expenses 48,898 45,597 3,301 7.2 % Income (loss) from continuing operations before provision for income tax 1,919 7,909 (5,990 ) (75.7 )% Provision for income tax expense (benefit) 710 2,481
(1,771 ) (71.4 )%
Income (loss) from continuing operations, net of income tax 1,209 5,428 (4,219 ) (77.7 )% Income (loss) from discontinued operations, net of income tax 17 (1 ) 18 Net income (loss) 1,226 5,427 (4,201 ) (77.4 )% Less: Net income (loss) attributable to noncontrolling interests 29 (6 )
35
Net income (loss) attributable to MetLife, Inc. 1,197 5,433 (4,236 ) (78.0 )% Less: Preferred stock dividends 91 91 - - % Preferred stock redemption premium - 146
(146 ) (100.0 )%
Net income (loss) available to MetLife, Inc.'s common shareholders $ 1,106 $ 5,196
$ (4,090 ) (78.7 )%
During the nine months endedSeptember 30, 2012 , income (loss) from continuing operations, before provision for income tax, decreased$6.0 billion ($4.2 billion , net of income tax) from the prior period primarily driven by an unfavorable change in net derivative gains (losses) and a goodwill impairment charge in the current period. 168
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The variable annuity embedded derivatives and associated freestanding derivative hedges are collectively referred to as "VA program derivatives" in the following table. All other derivatives that are economic hedges of certain invested assets and insurance liabilities are referred to as "non-VA program derivatives" in the following table. The table below presents the impact on net derivative gains (losses) from non-VA program derivatives and VA program derivatives: Nine Months Ended September 30, 2012 2011 Change (In millions) Non-VA program derivatives Interest rate $ 453 $ 2,194 $ (1,741 ) Foreign currency (161 ) 168 (329 ) Credit (105 ) 144 (249 ) Equity 1 6 (5 ) Non-VA embedded derivatives (79 ) 20 (99 ) Total non-VA program derivatives 109
2,532 (2,423 )
VA program derivatives Market and other risks in embedded derivatives 1,922 (3,764 ) 5,686 Nonperformance risk on embedded derivatives (1,170 )
1,985 (3,155 )
Total embedded derivatives 752
(1,779 ) 2,531 Freestanding derivatives hedging embedded derivatives (1,465 ) 3,480 (4,945 )
Total VA program derivatives (713 )
1,701 (2,414 )
Net derivative gains (losses) $ (604 ) $
4,233 $ (4,837 )
The unfavorable change in net derivative gains (losses) on non-VA program derivatives was$2.4 billion ($1.6 billion , net of income tax). This was primarily due to interest rates decreasing less in the current period than in the prior period, unfavorably impacting receive-fixed interest rate swaps, long interest rate floors and receiver swaptions. These freestanding derivatives are primarily hedging long duration liability portfolios. The weakening of the U.S. dollar and Japanese yen relative to other key currencies unfavorably impacted foreign currency swaps and forwards, which primarily hedge certain foreign denominated bonds. Additionally, the narrowing of credit spreads in the current period compared to widening in the prior period unfavorably impacted credit default swaps hedging certain bonds. Because certain of these hedging strategies are not designated or do not qualify as accounting hedges, the changes in the estimated fair value of these freestanding derivatives are recognized in net derivative gains (losses) without an offsetting gain or loss recognized in earnings for the item being hedged. The unfavorable change in net derivative gains (losses) on VA program derivatives was$2.4 billion ($1.6 billion , net of income tax). This was due to an unfavorable change of$3.2 billion ($2.1 billion , net of income tax) related to the change in the nonperformance risk adjustment on embedded derivatives, partially offset by a favorable change of$741 million ($482 million , net of income tax) on market and other risks in embedded derivatives, net of the impact of freestanding derivatives hedging those risks. The favorable change of$741 million is comprised of a$4.9 billion ($3.2 billion , net of income tax) unfavorable change in freestanding derivatives that hedge market risks in embedded derivatives, which was more than offset by a$5.7 billion ($3.7 billion , net of income tax) favorable change in market and other risks in our embedded derivatives, which was driven by changes in market factors. Changes in non-market factors, which are unhedged, contributed to a favorable change of$491 million . The primary changes in market factors are summarized as follows:
• Equity index levels increased in the current period but decreased in the
prior period, and equity volatility decreased in the current period but was
mixed in the prior period. These changes contributed to an unfavorable change
in our freestanding derivatives and favorable changes in our embedded derivatives. 169
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• Long-term interest rates decreased less in the current period than in the
prior period and contributed to an unfavorable change in our freestanding
derivatives and favorable changes in our embedded derivatives.
The decrease in net investment losses primarily reflects a decrease in impairments on fixed maturity and equity securities, primarily onGreece sovereign debt as a result of theJuly 2011 announcement of a debt exchange program, combined with increases in gains on fixed maturity securities sold in connection with the planned disposition ofMetLife Bank , partially offset by a decrease in gains on sales of certain real estate investments and reductions to the mortgage loan valuation allowance in the prior period. In addition, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment associated with our U.S. retail annuities business. Income (loss) from continuing operations, before provision for income tax, related to the Divested Businesses, excluding net investment gains (losses) and net derivative gains (losses), decreased$590 million to a loss of$504 million during the first nine months of 2012 compared to a gain of$86 million in the prior period. Included in this loss was a decrease in total revenues of$479 million and an increase in total expenses of$111 million . Income tax expense for the nine months endedSeptember 30, 2012 was$710 million , or 37% of income (loss) from continuing operations before provision for income tax, compared with income tax expense of$2.5 billion , or 31% of income (loss) from continuing operations before provision for income tax, for the prior period. The Company's 2012 and 2011 effective tax rates differ from the U.S. statutory rate of 35% primarily due to the impact of certain permanent tax differences, including non-taxable investment income and tax credits for investments in low income housing, in relation to income (loss) from continuing operations before provision for income tax, as well as certain foreign permanent tax differences. In addition, as previously mentioned, the current period includes a$1.9 billion ($1.6 billion , net of income tax) non-cash charge for goodwill impairment. The tax benefit associated with this charge is limited to$247 million on the associated tax goodwill. As more fully described in the discussion of performance measures above, we use operating earnings, which does not equate to income (loss) from continuing operations, net of income tax, as determined in accordance with GAAP, to analyze our performance, evaluate segment performance, and allocate resources. We believe that the presentation of operating earnings and operating earnings available to common shareholders, as we measure it for management purposes, enhances the understanding of our performance by highlighting the results of operations and the underlying profitability drivers of the business. Operating earnings and operating earnings available to common shareholders should not be viewed as substitutes for GAAP income (loss) from continuing operations, net of income tax, and GAAP net income (loss) available toMetLife, Inc.'s common shareholders, respectively. Operating earnings available to common shareholders increased$880 million , net of income tax, to$4.3 billion , net of income tax, for the nine months endedSeptember 30, 2012 from$3.4 million , net of income tax, in the prior period. 170
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Reconciliation of income (loss) from continuing operations, net of income tax, to operating earnings available to common shareholders
Nine Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Income (loss) from continuing operations, net of income tax $ 23 $ 795 $
843
11 21 (12 ) (168 ) 37 (219 ) (152 ) Less: Net derivative gains (losses) 637 99 (149 ) 42 (11 ) 56 (1,278 ) (604 ) Less: Goodwill impairment (1,692 ) - - - - - (176 ) (1,868 ) Less: Other adjustments to continuing operations (1) (622 ) (107 ) 11 (153 ) (11 ) (22 ) (715 ) (1,619 ) Less: Provision for income tax (expense) benefit 153 (1 ) 41 36 59 (18 ) 778 1,048 Operating earnings $ 1,369 $ 793 $ 919 $ 435 $ 839 $ 212 (163 ) 4,404 Less: Preferred stock dividends 91 91 Operating earnings available to common shareholders $ (254 ) $ 4,313
Nine Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions)
Income (loss) from continuing operations, net of income tax
(16 ) 85 (1 ) (196 ) (304 ) (11 ) (309 ) Less: Net derivative gains (losses) 1,759 1,089 280 (42 ) 229 29 889 4,233 Less: Goodwill impairment - - - - - - - - Less: Other adjustments to continuing operations (1) (317 ) (101 ) 53 (327 ) 2 (71 ) (154 ) (915 ) Less: Provision for income tax (expense) benefit (550 ) (340 ) (147 ) 83 (14 ) 107 (244 ) (1,105 ) Operating earnings $ 891 $ 651 $ 886 $ 391 $ 621 $ 204 (120 ) 3,524 Less: Preferred stock dividends 91 91 Operating earnings available to common shareholders $ (211 ) $ 3,433
(1) See definitions of operating revenues and operating expenses for the
components of such adjustments. 171
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Reconciliation of GAAP revenues to operating revenues and GAAP expenses to operating expenses
Nine Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Total revenues $ 15,315 $ 13,166 $
6,014
178 11 21 (12 ) (168 ) 37 (219 ) (152 ) Less: Net derivative gains (losses) 637 99 (149 ) 42 (11 ) 56 (1,278 ) (604 ) Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) - - - - (4 ) 14 - 10 Less: Other adjustments to revenues (1) (51 ) (107 ) 55 191 304 628 551 1,571
Total operating revenues
Total expenses $ 14,742 $ 11,969 $ 4,717 $ 3,208 $ 8,519 $ 2,888 $ 2,855 $ 48,898 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 61 - - - - 18 - 79 Less: Goodwill impairment 1,692 - - - - - 176 1,868 Less: Other adjustments to expenses (1) 510 - 44 344 311 646 1,266 3,121
Total operating expenses
Nine Months Ended
Group, Voluntary Corporate & Worksite Benefit Latin Corporate Retail Benefits Funding America Asia EMEA & Other Total (In millions) Total revenues $ 16,046 $ 13,518 $
7,138
134 (16 ) 85 (1 ) (196 ) (304 ) (11 ) (309 ) Less: Net derivative gains (losses) 1,759 1,089 280 (42 ) 229 29 889 4,233 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 14 - - - - - - 14 Less: Other adjustments to revenues (1) 14 (103 ) 109 119 (366 ) (128 ) 1,178 823
Total operating revenues
Total expenses $ 13,136 $ 11,570 $ 5,356 $ 3,161 $ 7,334 $ 2,280 $ 2,760 $ 45,597 Less: Adjustments related to net investment gains (losses) and net derivative gains (losses) 490 - - - 20 - - 510 Less: Goodwill impairment - - - - - - - - Less: Other adjustments to expenses (1) (145 ) (2 )
56 446 (388 ) (57 ) 1,332 1,242
Total operating expenses
(1) See definitions of operating revenues and operating expenses for the
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Consolidated Results-Operating
Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 27,326 $ 27,121 $ 205 0.8 % Universal life and investment-type product policy fees 6,056 5,646 410 7.3 % Net investment income 15,297 14,746 551 3.7 % Other revenues 1,313 1,232 81 6.6 % Total operating revenues 49,992 48,745 1,247 2.6 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 27,066 27,315 (249 ) (0.9 )% Interest credited to policyholder account balances 4,653 4,521 132 2.9 % Capitalization of DAC (3,976 ) (4,151 ) 175 4.2 % Amortization of DAC and VOBA 3,231 3,295 (64 ) (1.9 )% Amortization of negative VOBA (456 ) (476 ) 20 4.2 % Interest expense on debt 898 978 (80 ) (8.2 )% Other expenses 12,414 12,363 51 0.4 % Total operating expenses 43,830 43,845 (15 ) (0.0 )% Provision for income tax expense (benefit) 1,758 1,376 382 27.8 % Operating earnings 4,404 3,524 880 25.0 % Less: Preferred stock dividends 91 91 - - % Operating earnings available to common shareholders $ 4,313 $ 3,433 $ 880 25.6 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Higher policy fee income, stronger investment results and favorable claims experience were the primary drivers of the increase in operating earnings. In addition, the prior period included a$117 million charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File. These positive impacts on operating earnings were partially offset by a$52 million charge taken in the first quarter of 2012 representing a multi-state examination payment related to unclaimed property andMetLife's use of theU.S. Social Security Administration's Death Master File to identify potential life insurance claims, as well as the expected acceleration of benefit payments to policyholders under the settlements. In addition, changes in foreign currency exchange rates had a$61 million negative impact on results compared to the prior period. We benefited from strong sales, as well as growth and higher persistency in our business across many of our products. In addition, as a result of stronger sales of variable annuities in 2011, we experienced growth in both our average separate account assets and our investment portfolio. The growth in the average separate account assets generated higher policy fee income of$298 million . The growth in our investment portfolio generated higher net investment income of$318 million . Since many of our products are interest spread-based, the growth in our individual life and structured settlement businesses also resulted in a$275 million increase to interest credited expenses. These increased sales also generated an increase in commissions which was partially offset by an increase in related DAC capitalization which combined, resulted in a$36 million increase to operating earnings. In addition, other non-variable expenses increased$177 million and our annuity business growth in 2011 generated higher DAC amortization of$92 million in the current period. Higher premiums partially offset by higher policyholder benefits in our international segments improved operating earnings by$40 million . 173
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The low interest rate environment continued to result in lower interest credited expense as we set interest credited rates lower on both new business, as well as on certain in-force business with rate resets that are contractually tied to external indices or contain discretionary rate reset provisions. The improving equity markets resulted in lower DAC amortization and higher fee income in our annuity business. Various market factors drove a reduction in investment yields and a decrease in net investment income. The unfavorable impact of the low interest rate environment on our fixed maturity securities and securities lending program combined with lower returns on our real estate investments and lower prepayment fees negatively impacted yields; however, this was partially offset by the favorable impact of other market factors, including higher income from equity-linked notes, trading securities, real estate joint ventures and interest rate derivatives. Changes in market factors discussed above resulted in a$281 million increase in operating earnings. Lower severity of property & casualty catastrophe claims in the current period increased operating earnings by$170 million as a result of severe storm activity in the prior period. Favorable claims experience across many of our products was more than offset by less favorable mortality results in our Group, Voluntary & Worksite Benefits segment and unfavorable mortality in ourAsia segment, resulting in a slight decrease in operating earnings. Liability and DAC refinements, primarily from our Retail,Asia and EMEA segments, in both periods resulted in a$79 million net increase in operating earnings. In addition, the prior period included$40 million of expenses incurred related to a liquidation plan filed by theDepartment of Financial Services for ELNY and$37 million of insurance claims and operating expenses related to theMarch 2011 earthquake and tsunami inJapan . The current period included$66 million of employee-related and other costs associated with the Company's enterprise-wide strategic initiative. The Company benefited from the impact of certain permanent tax differences, including non-taxable investment income and tax credits for investments in low income housing. As a result, our effective tax rates differ from the U.S. statutory rate of 35%. In the first nine months of 2012, we benefited primarily from higher utilization of tax preferenced investments, which improved operating earnings by$60 million over the prior period. Retail Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 4,804 $ 4,907 $ (103 ) (2.1 )% Universal life and investment-type product policy fees 3,365 3,050 315 10.3 % Net investment income 5,735 5,585 150 2.7 % Other revenues 647 583 64 11.0 % Total operating revenues 14,551 14,125 426 3.0 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 6,668 7,013 (345 ) (4.9 )% Interest credited to policyholder account balances 1,784 1,803 (19 ) (1.1 )% Capitalization of DAC (1,352 ) (1,728 ) 376 21.8 % Amortization of DAC and VOBA 1,319 1,363 (44 ) (3.2 )% Other expenses 4,060 4,340 (280 ) (6.5 )% Total operating expenses 12,479 12,791 (312 ) (2.4 )% Provision for income tax expense (benefit) 703 443 260 58.7 % Operating earnings $ 1,369 $ 891 $ 478 53.6 % 174
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Unless otherwise stated, all amounts discussed below are net of income tax.
Stronger sales of variable annuities in the prior period increased our average separate account assets and, as a result, generated higher asset-based fee revenues. This, coupled with positive net flows from life products as well as the impact of an increase in allocated equity for annuities, led to growth in the investment portfolio, increasing net investment income. Consistent with a growing block of variable annuities with guarantees, there was an increase in certain variable annuity liabilities. Business growth in 2011 also generated higher interest credited on certain insurance liabilities and DAC amortization in the current period. The reduction of sales levels from the prior period resulted in lower deferrable expenses, which were directly offset by lower DAC capitalization. However, stronger annuity sales in the prior period significantly increased our in-force business contributing to an increase in non-deferrable expenses. The net impact of these items resulted in a$124 million increase in operating earnings. The improving equity market resulted in lower DAC amortization, higher fee income and a decrease in certain variable annuity liabilities. The low interest rate environment continued to result in lower interest credited expense, as we reduced interest credited rates on contracts with discretionary rate reset provisions. Partially offsetting these favorable variances was a decrease in investment yields and related net investment income. Lower interest rates negatively impacted earnings on fixed maturity securities and mortgage loan yields. The foregoing, combined with lower returns on our private equity investments, was partially offset by higher income from derivatives. The higher derivatives income was primarily from interest rate floors purchased prior to the onset of the low interest rate environment. The net impact of these items resulted in a$140 million increase in operating earnings. Our property & casualty business increased operating earnings by$131 million , resulting from favorable claim experience, mainly due to a decrease in catastrophes. The impact of this can be seen in the favorable change in the combined ratio, including catastrophes to 97.1% in 2012 from 112.7% in 2011. The combined ratio, excluding catastrophes was 86.2% in 2012, compared to 88.2% in the prior period. Favorable mortality experience in the traditional life business was partially offset by unfavorable mortality experience in the variable and universal life and income annuities businesses resulting in a$7 million increase in operating earnings. The current period results included a charge of$26 million for the expected acceleration of benefit payments to policyholders under a multi-state examination related to unclaimed property. The prior period results included a charge of$28 million , in connection with the Company's use of theU.S. Social Security Administration's Death Master File. The impact of the reduction in our closed block dividend scale, which was announced in the fourth quarter of 2011, increased operating earnings by$23 million , net of DAC amortization. In addition, certain insurance-related liabilities and DAC refinements in both the current and prior periods resulted in a$45 million increase in operating earnings. 175
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Group, Voluntary & Worksite Benefits
Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 11,021 $ 10,458 $ 563 5.4 % Universal life and investment-type product policy fees 497 473 24 5.1 % Net investment income 1,325 1,330 (5 ) (0.4 )% Other revenues 320 287 33 11.5 % Total operating revenues 13,163 12,548 615 4.9 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 10,153 9,803 350 3.6 % Interest credited to policyholder account balances 127 134 (7 ) (5.2 )% Capitalization of DAC (102 ) (144 ) 42 29.2 % Amortization of DAC and VOBA 98 140 (42 ) (30.0 )% Interest expense on debt 1 - 1 Other expenses 1,692 1,639 53 3.2 % Total operating expenses 11,969 11,572 397 3.4 % Provision for income tax expense (benefit) 401 325 76 23.4 % Operating earnings $ 793 $ 651 $ 142 21.8 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Lower severity of property & casualty catastrophe claims in the current period increased operating earnings by$59 million , mainly as a result of severe storm activity in the second quarter of 2011. While property & casualty non-catastrophe claims experience was relatively flat period over period, an increase in severity of$21 million , primarily in the auto business, was mostly offset by lower claims frequency of$19 million in both our auto and homeowners businesses. A decrease in claims in our dental, disability and accidental death and dismemberment businesses resulted in a$49 million increase to operating earnings. Less favorable mortality experience in our life businesses resulted in a decrease in operating earnings of$50 million . The mortality ratio for our life businesses has returned to a more historically representative level of 88.2% in 2012, from a near record low of 86.4% in the prior period, as adjusted for a charge in the prior period. In our life businesses, the impact of a prior period charge related to our use of theU.S. Social Security Administration's Death Master File contributed$81 million to the increase in operating earnings. The impact of the items discussed above related to the property & casualty business can be seen in the favorable change in the combined ratio, excluding catastrophes, to 87.9% in 2012 from 89.4% in the prior period, as well as the favorable change in the combined ratio, including catastrophes, to 92.9% in 2012 from 103.6% in the prior period. Current period premiums and deposits, together with growth in the securities lending program, partially offset by a reduction in allocated equity, have resulted in an increase in our average invested assets, contributing$17 million to operating earnings. Consistent with the growth in average invested assets, primarily in our LTC business, interest credited on long-duration contracts increased by$21 million . Increased expenses associated with the implementation of the new dental contract in the second quarter of 2012, along with growth across our businesses, reduced operating earnings by$10 million . An increase in the average premium per policy in both our auto and homeowners businesses, as well as an increase in exposures, improved operating earnings by$26 million . Exposures represent each automobile for the auto line of business and each residence for the property line of business. 176
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The low interest rate environment and lower returns in the real estate market resulted in a decline in investment yields on our fixed maturity securities, securities lending program and real estate joint ventures. Unlike in the Retail and Corporate Benefit Funding segments, a reduction in investment yield does not necessarily drive a corresponding change in the rates credited on certain insurance liabilities. The reduction in investment yield, partially offset by marginally lower crediting rates in the current period, resulted in a$7 million decrease in operating earnings. Corporate Benefit Funding Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 1,480 $ 2,132 $ (652 ) (30.6 )% Universal life and investment-type product policy fees 161 181 (20 ) (11.0 )% Net investment income 4,253 4,169 84 2.0 % Other revenues 193 182 11 6.0 % Total operating revenues 6,087 6,664 (577 ) (8.7 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 3,293 3,925 (632 ) (16.1 )% Interest credited to policyholder account balances 1,016 993 23 2.3 % Capitalization of DAC (28 ) (23 ) (5 ) (21.7 )% Amortization of DAC and VOBA 18 14 4 28.6 % Interest expense on debt 6 7 (1 ) (14.3 )% Other expenses 368 384 (16 ) (4.2 )% Total operating expenses 4,673 5,300 (627 ) (11.8 )% Provision for income tax expense (benefit) 495 478 17 3.6 % Operating earnings $ 919 $ 886 $ 33 3.7 %
Unless otherwise stated, all amounts discussed below are net of income tax.
The impact of current year premiums, deposits, and funding agreement issuances contributed to an increase in invested assets, partially offset by a decrease in allocated equity, resulting in an increase of$114 million to operating earnings. The growth in premiums, deposits and funding agreement issuances resulted in a corresponding increase in interest credited on certain insurance liabilities, which decreased operating earnings by$88 million . Expenses declined largely as a result of disciplined spending and a decrease in sales volume-related costs, such as commissions and premium taxes. A decrease in structured settlement commissions was partially offset by an increase in commissions from sales of funding agreements. The decrease in expenses was partially offset by related changes in DAC capitalization and certain revenue items. The decrease in expenses coupled with an increase in fees generated by separate account deposits, increased operating earnings by$10 million . The low interest rate environment continued to impact our investment returns, as well as our interest credited on certain insurance liabilities. Lower investment returns on our fixed maturity securities and our securities lending program were partially offset by increased earnings on interest rate derivatives. Many of our funding agreement and guaranteed interest contract liabilities have interest credited rates that are contractually tied to external indices and, as a result, interest credited rates on new business were set lower, as were the rates on existing business with terms that can fluctuate. The positive impact of lower interest credited rates was partially offset by an increase in interest credited expense resulting from the impact of derivatives that are used to hedge 177
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certain liabilities. The net impact of lower interest credited expense and lower investment returns resulted in a decrease in operating earnings of
The net impact of insurance liability refinements and a prior period charge in connection with the Company's use of theU.S. Social Security Administration's Death Master File in our post-retirement benefit business, partially offset by lower mortality experience, resulted in an increase in operating earnings of$13 million .Latin America Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 1,948 $ 1,913 $ 35 1.8 % Universal life and investment-type product policy fees 581 571 10 1.8 % Net investment income 881 727 154 21.2 % Other revenues 11 14 (3 ) (21.4 )% Total operating revenues 3,421 3,225 196 6.1 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 1,667 1,534 133 8.7 % Interest credited to policyholder account balances 289 280 9 3.2 % Capitalization of DAC (238 ) (231 ) (7 ) (3.0 )% Amortization of DAC and VOBA 151 154 (3 ) (1.9 )% Amortization of negative VOBA (4 ) (4 ) - - % Interest expense on debt (3 ) 1 (4 ) Other expenses 1,002 981 21 2.1 % Total operating expenses 2,864 2,715 149 5.5 % Provision for income tax expense (benefit) 122 119 3 2.5 % Operating earnings $ 435 $ 391 $ 44 11.3 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings increased by$44 million over the prior period. The impact of changes in foreign currency exchange rates reduced operating earnings by$32 million for the first nine months of 2012 compared to the prior period.Latin America experienced strong sales growth driven primarily by retirement products inMexico ,Chile andBrazil and by accident and health products inArgentina andChile . Changes in premiums for these products were almost entirely offset by the related changes in policyholder benefits. The growth in our businesses drove an increase in average invested assets, which generated higher net investment income and higher policy fee income, partially offset by an increase in interest credited to policyholders. The increase in sales also generated higher commission expense, which was partially offset by a corresponding increase in DAC capitalization. The items discussed above were the primary drivers of a$48 million improvement in operating earnings. The impact of inflation increased operating earnings by$19 million . An increase in investment yields reflects the period over period change from lower yields in the prior period due to the impact of changes in assumptions for measuring the effects of inflation on certain inflation-indexed investments, primarily inChile , offset by lower inflation on inflation-linked investments, mainly inChile andBrazil . The decrease in net investment income from lower inflation was substantially offset by a corresponding decrease in policyholder benefits and lower interest credited expense. 178
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Current period results include various favorable income tax items of$13 million inArgentina ,Mexico andChile . In addition, the current period results benefited from liability reserve refinements of$15 million inChile andMexico which were entirely offset by an unfavorable DAC capitalization adjustment of$8 million inChile and a write-off of capitalized software of$7 million inMexico .Asia Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 6,215 $ 5,774 $ 441 7.6 % Universal life and investment-type product policy fees 1,102 1,020 82 8.0 % Net investment income 2,150 1,799 351 19.5 % Other revenues 17 28 (11 ) (39.3 )% Total operating revenues 9,484 8,621 863 10.0 % OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 4,250 3,931 319 8.1 % Interest credited to policyholder account balances 1,323 1,193 130 10.9 % Capitalization of DAC (1,721 ) (1,530 ) (191 ) (12.5 )% Amortization of DAC and VOBA 1,188 1,163 25 2.1 % Amortization of negative VOBA (387 ) (426 ) 39 9.2 % Interest expense on debt 5 - 5 Other expenses 3,550 3,371 179 5.3 % Total operating expenses 8,208 7,702 506 6.6 % Provision for income tax expense (benefit) 437 298 139 46.6 % Operating earnings $ 839 $ 621 $ 218 35.1 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings increased by$218 million over the prior period. The impact of changes in foreign currency exchange rates reduced operating earnings by$4 million for the first nine months of 2012 compared to the prior period.Asia experienced sales growth in ordinary and universal life products inJapan , resulting in higher premiums and universal life fees and higher sales of variable life products inKorea which drove higher fees over the prior period. This was partially offset by a decline in life product sales and persistency inHong Kong , which reduced premiums. Changes in premiums for these businesses were almost entirely offset by the related change in policyholder benefits. In addition, average invested assets increased over the prior period, reflecting positive cash flows from our annuity business inJapan generating increases in both net investment income and policy fee income, partially offset by an increase in interest credited to policyholders. The increase in sales also generated higher commissions and other sales-related expenses, which were partially offset by an increase in related DAC capitalization. The items discussed above were the primary drivers of a$109 million improvement in operating earnings. The repositioning of theJapan investment portfolio to longer duration and higher yielding investments contributed to an increase in investment yields. In addition, yields improved as a result of growth in the Australian dollar annuity business, reflecting the investment of funds in higher yielding Australian dollar investments, as well as higher returns on our private equity investments. These increases in yields improved net investment income and increased operating earnings by$96 million . 179
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The positive impact of liability refinements in both the current and prior periods was partially offset by unfavorable changes in actuarial assumptions in the current period which, combined, resulted in an$11 million net increase to operating earnings. Unfavorable claims experience in the current period decreased operating earnings by$19 million . Prior period results inJapan included$37 million of insurance claims and operating expenses related to theMarch 2011 earthquake and tsunami. In addition, prior period results also included a tax benefit of$12 million . EMEA Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 1,815 $ 1,896 $ (81 ) (4.3 )% Universal life and investment-type product policy fees 233 236 (3 ) (1.3 )% Net investment income 406 455 (49 ) (10.8 )% Other revenues 98 84 14 16.7 % Total operating revenues 2,552 2,671 (119 ) (4.5 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 941 1,008 (67 ) (6.6 )% Interest credited to policyholder account balances 91 118 (27 ) (22.9 )% Capitalization of DAC (535 ) (495 ) (40 ) (8.1 )% Amortization of DAC and VOBA 456 461 (5 ) (1.1 )% Amortization of negative VOBA (65 ) (46 ) (19 ) (41.3 )% Interest expense on debt 3 1 2 Other expenses 1,333 1,290 43 3.3 % Total operating expenses 2,224 2,337 (113 ) (4.8 )% Provision for income tax expense (benefit) 116 130 (14 ) (10.8 )% Operating earnings $ 212 $ 204 $ 8 3.9 %
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings increased by$8 million over the prior period. The impact of changes in foreign currency exchange rates reduced operating earnings by$25 million for the first nine months of 2012 compared to the prior period and resulted in significant variances in the financial statement line items. The fourth quarter 2011 purchase of a Turkish life insurance and pension company increased operating earnings by$15 million . The segment continued to experience business growth; however, certain European countries in the region continued to be affected by the challenging economic environment. Sales for retirement, accident and health and credit life products increased primarily in theMiddle East , westernEurope andRussia . Retirement sales were generated by strong sales of fixed and variable annuity products. A modest recovery in credit markets resulted in higher premiums and policyholder benefits in our credit life business. The disposal of certain closed blocks of business in theU.K. reduced operating earnings and resulted in lower net investment income, partially offset by the release of certain liabilities. Dividends paid toMetLife, Inc. at the end of 2011 decreased net investment income, as a result of lower average invested assets. Operating expenses increased, most notably due to higher compensation and administrative costs. The increased sales generated an increase in commissions, which was largely offset by a corresponding increase in DAC capitalization. DAC amortization also increased due to business growth. Fee income increased largely due to growth in theMiddle East and centralEurope . The combined impact of the items discussed above reduced operating earnings by$61 million . 180
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Operating earnings increased
Operating earnings benefited by$16 million primarily due to a release of negative VOBA associated with the conversion of certain policies. In addition, certain income tax items in both periods resulted in an$18 million increase in operating earnings. Corporate & Other Nine Months Ended September 30, 2012 2011 Change % Change (In millions) OPERATING REVENUES Premiums $ 43 $ 41 $ 2 4.9 % Universal life and investment-type product policy fees 117 115 2 1.7 % Net investment income 547 681 (134 ) (19.7 )% Other revenues 27 54 (27 ) (50.0 )% Total operating revenues 734 891 (157 ) (17.6 )% OPERATING EXPENSES Policyholder benefits and claims and policyholder dividends 94 101 (7 ) (6.9 )% Interest credited to policyholder account balances 23 -
23
Amortization of DAC and VOBA 1 -
1
Interest expense on debt 886 969 (83 ) (8.6 )% Other expenses 409 358 51 14.2 % Total operating expenses 1,413 1,428 (15 ) (1.1 )% Provision for income tax expense (benefit) (516 ) (417 ) (99 ) (23.7 )% Operating earnings (163 ) (120 ) (43 ) (35.8 )% Less: Preferred stock dividends 91 91 - - % Operating earnings available to common shareholders $ (254 ) $ (211 ) $ (43 ) (20.4 )%
Unless otherwise stated, all amounts discussed below are net of income tax.
Operating earnings available to common shareholders and operating earnings each decreased$43 million , primarily due to higher expenses, lower net investment income and lower operating earnings on invested assets that were funded using FHLB advances. These decreases were partially offset by lower interest expense on debt and higher tax credits. In 2012, the Company incurred$66 million of employee-related and other costs associated with its enterprise-wide strategic initiative. In the first quarter of 2012, the Company also incurred a$26 million charge representing a multi-state examination payment related to unclaimed property andMetLife's use of theU.S. Social Security Administration's Death Master File. In addition, advertising costs were$11 million higher compared to the prior period. Partially offsetting these charges were$40 million of expenses incurred in the prior period related to the liquidation plan filed by theDepartment of Financial Services for ELNY . Net investment income decreased$28 million , excluding the FHLB which is discussed below, driven by an increase in the amount credited to the segments due to growth in the economic capital managed by Corporate & Other on their behalf, lower returns from private equity and real estate investments, and decreased earnings on credit sensitive derivatives, partially offset by higher returns on real estate joint ventures. 181
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Operating earnings on invested assets that were funded using FHLB advances decreased$22 million , reflected by decreases in net investment income and interest expense on debt, due to the transfer of$3.8 billion of FHLB advances and underlying assets fromMetLife Bank to the Corporate Benefit Funding segment inApril 2012 . Corporate & Other benefits from the impact of certain permanent tax differences, including non-taxable investment income and tax credits for investments in low income housing. As a result, our effective tax rates differ from the U.S. statutory rate of 35%. In the first nine months of 2012, we benefited primarily from higher utilization of tax preferenced investments which improved operating earnings by$49 million from the prior period. Interest expense on debt, excluding the FHLB which is discussed above, decreased$21 million primarily due to the maturity of$750 million in long-term debt inDecember 2011 . Investments Investment Risks The Company's primary investment objective is to optimize, net of income tax, risk-adjusted investment income and risk-adjusted total return while ensuring that assets and liabilities are managed on a cash flow and duration basis. The Company is exposed to five primary sources of investment risk:
• credit risk, relating to the uncertainty associated with the continued
ability of a given obligor to make timely payments of principal and interest;
• interest rate risk, relating to the market price and cash flow variability
associated with changes in market interest rates; • liquidity risk, relating to the diminished ability to sell certain investments in times of strained market conditions;
• market valuation risk, relating to the variability in the estimated fair
value of investments associated with changes in market factors such as credit
spreads; and
• currency risk, relating to the variability in currency exchange rates for
foreign denominated investments.
The Company manages risk through in-house fundamental analysis of the underlying obligors, issuers, transaction structures and real estate properties. The Company also manages credit risk, market valuation risk and liquidity risk through industry and issuer diversification and asset allocation. For real estate and agricultural assets, the Company manages credit risk and market valuation risk through geographic, property type and product type diversification and asset allocation. The Company manages interest rate risk as part of its asset and liability management strategies; through product design, such as the use of market value adjustment features and surrender charges; and through proactive monitoring and management of certain non-guaranteed elements of its products, such as the resetting of credited interest and dividend rates for policies that permit such adjustments. The Company also uses certain derivative instruments in the management of credit, interest rate, currency and equity market risks. The Company generally enters into market standard purchased credit default swap contracts to mitigate the credit risk of its investment portfolio. Payout under such contracts is generally triggered by certain credit events experienced by the referenced entities. For credit default swaps covering North American corporate issuers, credit events typically include bankruptcy and failure to pay on borrowed money. For European corporate issuers, credit events typically also include involuntary restructuring. With respect to credit default contracts on western European sovereign debt, credit events typically include failure to pay debt obligations, repudiation, moratorium, or involuntary restructuring. In each case, payout on a credit default swap is triggered only after the relevantCredit Derivatives Determinations Committee of the International Swaps andDerivatives Association deems that a credit event has occurred. 182
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Current Environment
The global economy and markets are still affected by a period of significant stress that began in the second half of 2007. This disruption adversely affected the financial services sector in particular and global capital markets. As a financial holding company with significant operations in the U.S., we are affected by the monetary policy of the Federal Reserve. TheFederal Reserve Board has taken a number of actions in recent years to spur economic activity by keeping interest rates low and, may take further actions to influence interest rates in the future, which may have an impact on the pricing levels of risk-bearing investments. InSeptember 2012 , theFederal Reserve Board announced that it anticipates that low interest rates are likely to be warranted at least through mid-2015, in order to improve the pace of recovery from stressed economic conditions. It also announced that it will expand its holdings of longer-term securities with open-ended purchases of$40 billion each month of agency mortgage-backed securities. Finally, it reiterated its plan to continue "Operation Twist," through the end of 2012. This program, announced inSeptember 2011 by the Federal Open Market Committee, involves the purchase of U.S. Treasury securities with remaining maturities of six to 30 years and the sale of, over the same period, an equal par value of U.S. Treasury securities with remaining maturities of approximately three years or less. By reducing the supply of longer-term securities in the market, both of these programs are intended to put downward pressure on longer-term interest rates relative to levels that would otherwise prevail. The reduction in longer-term interest rates, in turn, is intended to contribute to a broad easing of financial market conditions that could provide additional stimulus to support the economic recovery. As a global insurance company, we are also affected by the monetary policy of central banks around the world. While the major central banks are not lowering interest rates at the same pace as in prior quarters, theFederal Reserve Board , ECB, Bank ofEngland , and Bank of Japan have all increased their use of "non-traditional" means of monetary policy via their asset purchase programs. We cannot predict with certainty the effect of these asset purchase programs on interest rates or the impact on the pricing levels of risk-bearing investments at this time. See "Risk Factors - Governmental and Regulatory Actions for the Purpose of Stabilizing and Revitalizing the Financial Markets andProtecting Investors and Consumers May Not Achieve the Intended Effect or Could Adversely Affect Our Competitive Position" included in the 2011 Annual Report. Financial markets have also been affected by concerns over U.S. fiscal policy, including the uncertainty regarding the "fiscal cliff," which is comprised of a series of tax increases and automatic government spending cuts that will become effective at the beginning of 2013 unless steps are taken to delay or offset them, as well as the need to again raise the U.S. federal government's debt ceiling by the end of 2012 and reduce the federal deficit. These issues could, on their own, or combined with the slowing of the global economy generally, send the U.S. into a new recession, have severe repercussions to the U.S. and global credit and financial markets, further exacerbate concerns over sovereign debt of other countries and disrupt economic activity in the U.S. and elsewhere. See "Risk Factors - Concerns Over U.S. Fiscal Policy and the "Fiscal Cliff" in the U.S., as well as Rating Agency Downgrades ofU.S. Treasury Securities , Could Have an Adverse Effect on Our Business, Financial Condition and Results of Operations" included in theJune 30, 2012 Form 10-Q. Concerns about economic conditions, capital markets and the solvency of certainEuropean Union member states, includingEurope's perimeter region andCyprus , and of financial institutions that have significant direct or indirect exposure to the debt issued by these countries have been a cause of elevated levels of market volatility. This market volatility will continue to affect the performance of various asset classes during 2012, and perhaps longer, until there is an ultimate resolution of these sovereign debt-related concerns. The financial markets have also been affected by concerns that one or more countries may exit the Euro zone. As a result of concerns about the ability ofEurope's perimeter region to service its sovereign debt, certain countries have experienced credit ratings downgrades. Despite official financial support programs for the most stressed governments inEurope's perimeter region, concerns about sovereign debt sustainability subsequently expanded to otherEuropean Union member states. As a result, in late 2011 and continuing in 2012, several of theEuropean Union member states have experienced sovereign credit ratings downgrades or had their credit ratings outlook revised to negative. 183
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InSeptember 2012 , the ECB announced a new bond buying program, Outright Monetary Transactions, intended to stabilize the European financial crisis and help certain countries struggling with their levels of sovereign debt. This program involves the purchase by the ECB of unlimited quantities of short-term sovereign bonds, with maturities of one to three years. These large scale purchases of short-term sovereign bonds are intended to increase the price of the bonds, and lower their interest rates, making it less expensive for certain countries to borrow money. As a condition to participating in this program, countries must agree to strict levels of economic reform and oversight. As summarized below, atSeptember 30, 2012 , the Company did not have significant exposure to the sovereign debt ofEurope's perimeter region. Accordingly, we do not expect such investments to have a material adverse effect on our results of operations or financial condition. Outside ofEurope's perimeter region, the Company's holdings of sovereign debt, corporate debt and perpetual hybrid securities in certainEuropean Union member states and other countries in the region that are not members of theEuropean Union (collectively, the "European Region ") were concentrated in theUnited Kingdom ,Germany ,France ,the Netherlands ,Poland ,Switzerland andNorway , the sovereign debt of which continues to maintain the highest credit ratings from all major rating agencies. Greece Support Program. InMarch 2012 , the leaders of theEuropean Union member states nations approvedGreece's second support program. In connection with this €130 billion support program,Greece exchanged €177 billion of its domestic law sovereign debt with private sector holders in exchange for a package of four new securities issued byGreece and the public sector supportedEuropean Financial Stability Facility ("EFSF"). The debt exchange resulted in a loss to private sector holders of approximately 70% on a net present value basis.Greece's newly issued sovereign debt is rated C by Moody's, CCC by Standard & Poor's Rating Services ("S&P") and CCC by Fitch Ratings ("Fitch").Europe's Perimeter Region Sovereign Debt Securities . Our holdings ofGreece sovereign debt were acquired in the acquisition of ALICO and our amortized cost basis reflects recording such securities at estimated fair value onNovember 1, 2010 , which was substantially below par, partially mitigating our exposure. During the year endedDecember 31, 2011 , we sold a significant portion of ourEurope's perimeter region sovereign debt, thereby substantially reducing our exposure. During 2011, we recorded non-cash impairment charges of$405 million on our holdings ofGreece sovereign debt. In 2012, we recorded an insignificant gain on the exchange of our holdings ofGreece sovereign debt. In the exchange described above, we received both EFSF debt andGreece sovereign debt, which reduced our exposure toGreece sovereign debt from$158 million to$57 million on the date of the exchange, while the short-dated EFSF debt, which was rated Aaa by Moody's and Fitch and AA+ by S&P was valued at$115 million on the date of exchange. The par value, amortized cost and estimated fair value of holdings in sovereign debt ofEurope's perimeter region were$244 million ,$77 million and$56 million atSeptember 30, 2012 , respectively, and$874 million ,$254 million and$264 million atDecember 31, 2011 , respectively. 184
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Select European Countries - Investment Exposures. Due to the current level of economic, fiscal and political strain inEurope's perimeter region andCyprus , the Company continually monitors and adjusts its level of investment exposure in these countries. We manage direct and indirect investment exposure in these countries through fundamental credit analysis. The following table presents a summary of investments by invested asset class and related purchased credit default protection acrossEurope's perimeter region, by country, andCyprus . Summary of Select European Country Investment Exposure at September 30, 2012 (1) (2) Fixed maturity securities (3) All Other General Account Purchased Non- Investment Credit Financial Financial Exposure Total Default Net Sovereign Services Services Total (4) Exposure % Protection (5) Exposure % (In millions) (In millions)Europe's perimeter region:Portugal $ - $ - $ 55$ 55 $ 4 $ 59 2 % $ - $ 59 2 %Italy 15 152 683 850 72 922 26 (5 ) 917 26Ireland - 20 229 249 1,346 1,595 45 - 1,595 45Greece 39 - - 39 192 231 7 - 231 7Spain 2 76 516 594 43 637 18 - 637 18 TotalEurope's perimeter region 56 248 1,483 1,787 1,657 3,444 98 (5 ) 3,439 98Cyprus 59 - - 59 28 87 2 - 87 2 Total $ 115 $ 248 $ 1,483$ 1,846 $ 1,685$ 3,531 100 % $ (5 )$ 3,526 100 % As percent of total cash and invested assets 0.0 % 0.0 % 0.3 % 0.3 % Investment grade percent 12 % 94 % 91 % Non-investment grade percent 88 % 6 % 9 %
(1) Information is presented on a country of risk basis (e.g. the country where
the issuer primarily conducts business).
(2) The Company has not written any credit default swaps with an underlying risk
related to any of these six countries. For
of commitments to fund partnership investments atSeptember 30, 2012 .
(3) Presented at estimated fair value. The par value and amortized cost of the
fixed maturity securities were
atSeptember 30, 2012 .
(4) Comprised of equity securities, fair value option ("FVO") general account
securities, real estate and real estate joint ventures, other limited
partnership interests, cash, cash equivalents and short-term investments, and
other invested assets at carrying value. See Note 1 of the Notes to the
Consolidated Financial Statements included in the 2011 Annual Report for an
explanation of the carrying value for these invested asset classes. Excludes
FVO contractholder-directed unit-linked investments of
support unit-linked variable annuity type liabilities and do not qualify for
separate account summary total assets and liabilities. The contractholder,
and not the Company, directs the investment of these funds. The related
variable annuity type liability is satisfied from the contractholder's
account balance and not from the general account investments of the Company.
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Table of Contents (5) Purchased credit default protection is stated at the estimated fair value of
the swap. For
financial services corporate securities and these swaps had a notional amount
of
2012. The counterparties to these swaps are financial institutions with S&P
credit ratings ranging from A+ to A as of
European Region Investments. The Company has investments across theEuropean Region . We have proactively mitigated risk in both direct and indirect exposures in theEuropean Region by investing in a diversified portfolio of high quality investments with a focus on the higher-rated countries, reducing our holdings through sales of financial services securities during 2010, 2011 and 2012 and sales ofEurope's perimeter region sovereign debt in 2011 and 2012, and by purchasing certain single name credit default protection in 2010 and 2011. Our sales of financial services securities were focused on institutions with exposure toEurope's perimeter region, lower preference capital structure instruments and larger positions. Investments in sovereign debt and corporate securities (fixed maturity and perpetual hybrid securities) were$40.4 billion atSeptember 30, 2012 . Sovereign debt issued by countries outside ofEurope's perimeter region comprised$8.8 billion , or 99% ofEuropean Region sovereign fixed maturity securities, at estimated fair value, atSeptember 30, 2012 .The European Region corporate securities are invested in a diversified portfolio of primarily non-financial services securities, which comprised$23.8 billion , or 75% ofEuropean Region total corporate securities, at estimated fair value, atSeptember 30, 2012 . Of theseEuropean Region sovereign fixed maturity and corporate securities, 91% were investment grade and, for the 9% that were below investment grade, the majority were non-financial services corporate securities, atSeptember 30, 2012 .European Region financial services corporate securities, at estimated fair value, were$7.8 billion , including$5.9 billion within the banking sector, with 92% invested in investment grade rated corporate securities, atSeptember 30, 2012 . Rating Actions -U.S. Treasury Securities . As a result of a special Congressional committee failing to agree on certain deficit-reduction measures, inAugust 2011 , U.S. Treasury securities were downgraded to AA+ by S&P with negative outlook. Financial markets have also been affected by concerns over U.S. fiscal policy, including the uncertainty regarding the "fiscal cliff" as discussed above. These issues could result in the future downgrade of U.S. credit ratings. We continue to closely evaluate the implications on our investment portfolio of further rating agency downgrades of U.S. Treasury securities and believe our investment portfolio is well positioned.See "Risk Factors - Concerns Over U.S. Fiscal Policy and the "Fiscal Cliff" in the U.S., as well as Rating Agency Downgrades ofU.S. Treasury Securities , Could Have an Adverse Effect on Our Business, Financial Condition and Results of Operations" included in theJune 30, 2012 Form 10-Q. Summary. All of these factors have had and could continue to have an adverse effect on the financial results of companies in the financial services industry, includingMetLife . Such global economic conditions, as well as the global financial markets, continue to impact our net investment income, our net investment gains (losses) and net derivative gains (losses), level of unrealized gains and (losses) within the various asset classes within our investment portfolio and our allocation to lower yielding cash equivalents and short-term investments. See "- Industry Trends" and "Risk Factors - Difficult Conditions in the Global Capital Markets and the Economy Generally May Materially Adversely Affect Our Business and Results of Operations and These Conditions May Not Improve in the Near Future" included inMetLife, Inc.'s Quarterly Report on Form 10-Q for the quarter endedMarch 31, 2012 . 186
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Composition of Investment Portfolio and Investment Portfolio Results
The composition of the investment portfolio, the related investment portfolio results and gains (losses) on derivative instruments which are used to manage risk for certain invested assets and certain insurance liabilities is presented in the yield table below: At or For the At or For the Three Months Nine Months Ended Ended September 30, September 30, 2012 2011 2012 2011 (In millions)Fixed Maturity Securities : Yield (1) 4.85 % 4.79 % 4.86 % 4.95 % Investment income (2),(3),(4) $ 3,833 $ 3,721 $ 11,393 $ 11,208 Investment gains (losses) (3) 34 (186 ) (121 ) (454 ) Ending carrying value (2),(3) 378,748 354,611 378,748 354,611 Mortgage Loans: Yield (1) 5.81 % 5.56 % 5.62 % 5.54 % Investment income (3),(4) 810 806 2,404 2,330 Investment gains (losses) (3) - 45 49 160 Ending carrying value (3) 56,291 59,722 56,291 59,722 Real Estate andReal Estate Joint Ventures : Yield (1) 2.95 % 4.67 % 5.14 % 4.15 % Investment income (3) 64 96 329 252 Investment gains (losses) (3) (15 ) 165 (10 ) 241 Ending carrying value 8,749 8,197 8,749 8,197 Policy Loans: Yield (1) 5.25 % 5.43 % 5.27 % 5.46 % Investment income 157 162 471 482 Ending carrying value 11,949 11,932
11,949 11,932Equity Securities : Yield (1) 3.65 % 3.59 % 4.36 % 4.42 % Investment income 26 28 96 106 Investment gains (losses) 3 (3 ) 13 (37 ) Ending carrying value 2,803 3,118 2,803 3,118 Other Limited Partnership Interests: Yield (1) 8.66 % 11.08 % 12.00 % 12.07 % Investment income 145 180 593 582 Investment gains (losses) (7 ) - (18 ) 8 Ending carrying value 6,730 6,538 6,730 6,538 Cash and Short-Term Investments: Yield (1),(7) 0.66 % 1.03 % 0.67 % 1.10 % Investment income 34 38 100 122 Investment gains (losses) 3 - 3 1 Ending carrying value (3) 31,625 25,901 31,625 25,901 Other Invested Assets: (1) Investment income (7) 140 158 469 331 Investment gains (losses) (3) 12 - (23 ) (3 ) Ending carrying value (7) 23,477 23,103 23,477 23,103 Total Investments: Investment income yield (1),(3),(5),(7) 4.88 % 4.97 % 4.98 % 5.05 % Investment fees and expenses yield (0.13 ) (0.13
) (0.13 ) (0.13 )
Net Investment Income Yield (1),(3),(5),(7) 4.75 % 4.84
% 4.85 % 4.92 %
Investment income (5),(7) $ 5,209 $ 5,189 $ 15,855 $ 15,413 Investment fees and expenses (140 ) (137
) (419 ) (403 )
Net investment income including certain Divested Businesses (5),(7) 5,069 5,052 15,436 15,010 Less: net investment income from certain Divested Businesses (5) 21 91 139 264 Net Investment Income (3),(6),(7) $ 5,048 $ 4,961
Ending Carrying Value (3),(5),(7) $ 520,372 $ 493,122
Investment portfolio gains (losses) including Divested Businesses $ 30 $ 21 $ (107 ) $ (84 ) Less: investment portfolio gains (losses) from Divested Businesses (5) (26 ) 7 35 (2 )
Investment portfolio gains (losses) (3),(5),(6) $ 56 $ 14
$ (142 ) $ (82 )
Gross investment gains $ 257 $ 474 $ 790 $ 1,107 Gross investment losses (127 ) (199 ) (644 ) (730 ) Writedowns (74 ) (261 ) (288 ) (459 ) Investment Portfolio Gains (Losses) (3),(5),(6) 56 14 (142 ) (82 ) Investment portfolio gains (losses) income tax (expense) benefit (13 ) (5 ) 44 30 Investment Portfolio Gains (Losses), Net of Income Tax $ 43 $ 9
$ (98 ) $ (52 )
Derivative gains (losses) including Divested Businesses $ (824 ) $ 4,129 $ (904 ) $ 4,036 Less: derivative gains (losses) from Divested Businesses (5) - (139 ) (7 ) (150 ) Derivative gains (losses) (3),(5),(6) (824 ) 4,268 (897 ) 4,186 Derivative gains (losses) income tax (expense) benefit 281 (1,496
) 309 (1,472 )
Derivative Gains (Losses), Net of Income Tax $ (543 )
$ (588 ) $ 2,714 187
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As described in the footnotes below, the yield table reflects certain differences from the GAAP presentation of invested assets, net investment income, net investment gains (losses) and net derivative gains (losses) as presented in the consolidated balance sheets and consolidated statements of operations and comprehensive income. This yield table presentation is consistent with how we measure our investment performance for management purposes, and we believe it enhances understanding of our investment portfolio results.
(1) Yields are calculated as investment income as a percent of average quarterly
asset carrying values. Investment income excludes recognized gains and losses
and reflects GAAP adjustments related to net investment income. Asset carrying values exclude unrealized gains (losses), collateral received in connection with our securities lending program, freestanding derivative assets, collateral received from derivative counterparties, the effects of consolidating under GAAP certain VIEs that are treated as consolidated securitization entities ("CSEs"), contractholder-directed unit-linked investments and securitized reverse residential mortgage loans. A yield is
not presented for other invested assets, as it is not considered a meaningful
measure of performance for this asset class.
(2) Fixed maturity securities include
fair value of trading and other securities at
respectively. Fixed maturity securities include
of investment income (loss) related to trading and other securities for the
three months and nine months ended
other securities for the three months and nine months ended September 30,
2011, respectively.
(3) As described in footnote (1) above, ending carrying values exclude
contractholder-directed unit-linked investments - reported within trading and
other securities, securities held by CSEs - reported within trading and other
securities, and securitized reverse residential mortgage loans- reported
within mortgage loans. The related adjustments to ending carrying value,
investment income and investment gains (losses) by invested asset class are
presented below. The adjustments to investment income, net investment income
and investment gains (losses) in the aggregate are as shown in footnote
(6) to this yield table. The adjustment to investment gains (losses)
presented below and in footnote (6) to this yield table includes the effects
of remeasuring both the invested assets and long-term debt in accordance with the FVO. At or For the Three Months EndedSeptember 30, 2012 At or For the Nine
Months Ended
As Reported in the Excluded As Reported in the Excluded Yield Table Amounts Total Yield Table Amounts Total (In millions) (In millions)Trading and Other Securities : (included within Fixed Maturity Securities): Ending carrying value $ 743 $ 15,252 $ 15,995 $ 743 $ 15,252 $ 15,995 Investment income $ 24 $ 513 $ 537 $ 68 $ 1,014 $ 1,082 Investment gains (losses) $ 1 $ 8 $ 9 $ 4 $ (2 ) $ 2 Mortgage Loans: Ending carrying value $ 56,291 $ 2,879 $ 59,170 $ 56,291 $ 2,879 $ 59,170 Investment income $ 810 $ 42 $ 852 $ 2,404 $ 131 $ 2,535 Investment gains (losses) $ - $ 7 $ 7 $ 49 $ 16 $ 65 Cash and Short-Term Investments: Ending carrying value $ 31,625 $ 3 $ 31,628 $ 31,625 $ 3 $ 31,628 Total Investments: Ending carrying value $ 520,372 $ 18,134 $ 538,506 $ 520,372 $ 18,134 $ 538,506 188
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At or For the Three Months EndedSeptember 30, 2011 At or For the Nine
Months Ended
As Reported in the Excluded As Reported in the Excluded Yield Table Amounts Total Yield Table Amounts Total (In millions) (In millions) Trading and Other Securities: (included within FixedMaturity Securities ): Ending carrying value $ 684 $ 18,014 $ 18,698 $ 684 $ 18,014 $ 18,698 Investment income $ (38 ) $ (818 ) $ (856 ) $ 6 $ (430 ) $ (424 ) Investment gains (losses) $ - $ 1 $ 1 $ - $ (7 ) $ (7 ) Mortgage Loans: Ending carrying value $ 59,722 $ 3,227 $ 62,949 $ 59,722 $ 3,227 $ 62,949 Investment income $ 806 $ 95 $ 901 $ 2,330 $ 286 $ 2,616 Investment gains (losses) $ 45 $ (8 ) $ 37 $ 160 $ 9 $ 169 Cash and Short-Term Investments: Ending carrying value $ 25,901 $ 13 $ 25,914 $ 25,901 $ 13 $ 25,914 Total Investments: Ending carrying value $ 493,122 $ 21,254 $ 514,376 $ 493,122 $ 21,254 $ 514,376
(4) Investment income from fixed maturity securities and mortgage loans includes
prepayment fees.
(5) Yields are calculated including net investment income of certain of the
Divested Businesses and related ending carrying values. The net investment
income adjustment in footnote (6) to this yield table for the Divested
Businesses for the three months and nine months ended
includes
residential mortgage loans that was excluded from the Mortgage Loans and
total yield sections presented above. For further information on the Divested
Businesses, see Note 17 of the Notes to the Interim Condensed Consolidated
Financial Statements. Certain amounts in the prior periods have been revised
to conform with current period presentation. In the third quarter 2012,
Businesses. 189
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Table of Contents (6) Net investment income, investment portfolio gains (losses) and derivative
gains (losses) presented in this yield table vary from the most directly
comparable measures presented in the GAAP consolidated statements of operations and comprehensive income due to certain reclassifications affecting net investment income, net investment gains (losses), net derivative gains (losses), interest credited to policyholder account
balances, and other revenues, and excludes the effects of consolidating under
GAAP certain VIEs that are treated as CSEs. Such reclassifications are presented in the tables below. Three Months Nine Months Ended Ended September 30, September 30, 2012 2011 2012 2011 (In
millions)
Net investment income - in above yield table
$ 15,297 $ 14,746 Real estate discontinued operations - deduct from net investment income - (3 ) (2 ) (9 ) Scheduled periodic settlement payments on derivatives not qualifying for hedge accounting -deduct from net investment income, add to net derivative gains (losses) (108 ) (70 ) (310 ) (164 ) Equity method operating joint ventures- add to net investment income, deduct from net derivative gains (losses) - - - (23 ) Net investment income on contractholder-directed unit-linked investments - reported within trading and other securities - add to net investment income 512 (824 ) 1,010 (437 ) Divested Businesses - add to net investment income 25 91 316 264 Incremental net investment income from CSEs - add to net investment income 40 97 125 281 Net investment income - GAAP consolidated statements of operations and comprehensive income $ 5,517 $ 4,252
Investment portfolio gains (losses) including Divested Businesses - in above yield table $ 30 $ 21 $ (107 ) $ (84 ) Real estate discontinued operations - deduct from net investment gains (losses) - (26 ) (25 ) (97 ) Investment gains (losses) related to CSEs - add to net investment gains (losses) 15 (7 ) 14 2 Other gains (losses) - add to net investment gains (losses) (23 ) (43 )
(34 ) (130 )
Net investment gains (losses) - GAAP consolidated statements of operations and comprehensive income $ 22 $ (55 )
$ (152 ) $ (309 )
Derivative gains (losses) including Divested Businesses - in above yield table $ (824 ) $ 4,129 $ (904 ) $ 4,036 Scheduled periodic settlement payments on derivatives not qualifying for hedge accounting -add to net derivative gains (losses), deduct from net investment income 108 70 310 164 Scheduled periodic settlement payments on derivatives not qualifying for hedge accounting - add to net derivative gains (losses), deduct from interest credited to policyholder account balances 5 2 8 18 Settlement of foreign currency earnings - add to net derivative gains (losses), deduct from other revenues (7 ) (5 ) (18 ) (8 ) Equity method operating joint ventures- add to net investment income, deduct from net derivative gains (losses) - - - 23 Net derivative gains (losses) - GAAP consolidated statements of operations and comprehensive income $ (718 ) $ 4,196 $ (604 ) $ 4,233
(7) Certain amounts in the prior periods have been revised in connection with the
retrospective application of the first quarter 2012 adoption of the new
guidance regarding accounting for DAC. Prior period yields have been recast
to conform to the current presentation to exclude from asset carrying values
freestanding derivatives and collateral received from derivative
counterparties.
See "- Results of Operations - Three Months EndedSeptember 30, 2012 Compared with the Three Months EndedSeptember 30, 2011 - Consolidated Results" and "- Results of Operations - Nine Months EndedSeptember 30, 2012 Compared with the Nine Months EndedSeptember 30, 2011 - Consolidated Results" for analyses of the period over period changes in net investment income, net investment gains (losses) and net derivative gains (losses).
Fixed Maturity and Equity Securities Available-for-Sale
Fixed maturity securities, which consisted principally of publicly-traded and privately placed fixed maturity securities, were$378.0 billion and$350.3 billion , at estimated fair value, or 70% and 67% of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. Publicly-traded fixed maturity securities represented$328.6 billion and$303.6 billion , at estimated fair value, atSeptember 30, 2012 andDecember 31, 2011 , respectively, or 87% of total fixed maturity securities, at bothSeptember 30, 2012 andDecember 31, 2011 . Privately placed fixed maturity securities represented$49.4 billion and$46.7 billion , at estimated fair value, atSeptember 30, 2012 andDecember 31, 2011 , respectively, or 13% of total fixed maturity securities, at estimated fair value, at bothSeptember 30, 2012 andDecember 31, 2011 . 190
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Equity securities, which consisted principally of publicly-traded and privately-held common and preferred stocks, including certain perpetual hybrid securities and mutual fund interests, were$2.8 billion and$3.0 billion , at estimated fair value, or 0.5% and 0.6%, of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. Publicly-traded equity securities represented$1.7 billion , at estimated fair value, at bothSeptember 30, 2012 andDecember 31, 2011 , or 61% and 57% of total equity securities, atSeptember 30, 2012 andDecember 31, 2011 , respectively. Privately-held equity securities represented$1.1 billion and$1.3 billion , at estimated fair value, or 39% and 43%, of total equity securities, atSeptember 30, 2012 andDecember 31, 2011 , respectively. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations - Investments -Fixed Maturity and Equity Securities Available-for-Sale - Valuation of Securities" included in the 2011 Annual Report for a discussion of the processes we use to value securities and the related controls. Fair Value Hierarchy and Level 3 Rollforward -Fixed Maturity and Equity Securities . Fixed maturity securities and equity securities available-for-sale measured at estimated fair value on a recurring basis and their corresponding fair value pricing sources and fair value hierarchy are as follows: September 30, 2012 Fixed Maturity % of Equity % of Pricing Source: Securities Total Securities Total (In millions) (In millions) Level 1: Quoted prices in active markets for identical assets $ 29,681 7.9 % $ 860 30.7 % Level 2: Independent pricing source 287,254 76.0 415 14.8 Internal matrix pricing or discounted cash flow techniques 38,695 10.2 840 30.0 Significant other observable inputs 325,949 86.2 1,255 44.8 Level 3: Independent pricing source 8,472 2.2 474 16.9 Internal matrix pricing or discounted cash flow techniques 11,977 3.2 199 7.1 Independent broker quotations 1,926 0.5 15 0.5 Significant unobservable inputs 22,375 5.9 688 24.5 Total estimated fair value $ 378,005 100.0 % $ 2,803 100.0 % September 30, 2012 Fair Value Measurements Using Quoted Prices Significant in Active Other Significant Total Markets for Observable Unobservable Estimated Identical Assets Inputs Inputs Fair Fair Value Hierarchy: (Level 1) (Level 2) (Level 3) Value (In millions)Fixed Maturity Securities : U.S. corporate securities $ - $ 106,243 $ 7,699 $ 113,942 Foreign corporate securities - 59,947 5,310 65,257 Foreign government securities - 54,815 2,590 57,405 U.S. Treasury and agency securities 28,672 22,702 74 51,448 Residential mortgage-backed securities ("RMBS") 1,009 37,009 2,573 40,591 Commercial mortgage-backed securities ("CMBS") - 18,226 1,214 19,440 Asset-backed securities ("ABS") - 12,155 2,850 15,005 State and political subdivision securities - 14,852 65 14,917 Total fixed maturity securities $ 29,681 $ 325,949 $ 22,375 $ 378,005 Equity Securities: Common stock $ 860 947 262 $ 2,069 Non-redeemable preferred stock - 308 426 734 Total equity securities $ 860 $ 1,255 $ 688 $ 2,803 191
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The composition of fair value pricing sources for and significant changes in Level 3 securities at
• The majority of the Level 3 fixed maturity and equity securities (91%, as
presented above) were concentrated in five sectors: U.S. and foreign corporate securities, ABS, foreign government securities and RMBS.
• Level 3 fixed maturity securities are priced principally through market
standard valuation methodologies, independent pricing services and, to a much
lesser extent, independent non-binding broker quotations using inputs that
are not market observable or cannot be derived principally from or
corroborated by observable market data. Level 3 fixed maturity securities
consist of less liquid securities with very limited trading activity or where
less price transparency exists around the inputs to the valuation
methodologies including alternative residential mortgage loan ("Alt-A") and
sub-prime RMBS, certain below investment grade private securities and less
liquid investment grade corporate securities (included in U.S. and foreign
corporate securities), less liquid ABS and foreign government securities.
• During the three months ended
securities increased by
purchases in excess of sales and an increase in estimated fair value
recognized in accumulated other comprehensive income (loss), partially offset
by net transfers out of Level 3.
• During the nine months ended
securities increased by
purchases in excess of sales.
An analysis of transfers into and/or out of Level 3, purchases and sales on a sector basis, as well as additional information about the valuation techniques and inputs by level by major classes of invested assets that affect the amounts reported above, is presented in Note 5 of the Notes to the Interim Condensed Consolidated Financial Statements. A rollforward of the fair value measurements for fixed maturity securities and equity securities available-for-sale measured at estimated fair value on a recurring basis using significant unobservable (Level 3) inputs is as follows: Three Months Nine Months Ended Ended September 30, 2012 September 30, 2012 Fixed Fixed Maturity Equity Maturity Equity Securities Securities Securities Securities (In
millions)
Balance, beginning of period $ 20,824 $ 714 $ 17,765 $ 719 Total realized/unrealized gains (losses) included in: Earnings (1) 9 9 (36 ) - Other comprehensive income (loss) 649 2 803 30 Purchases 2,337 77 7,021 116 Sales (1,294 ) (162 ) (2,907 ) (215 ) Transfers into Level 3 390 48 695 51 Transfers out of Level 3 (540 ) - (966 ) (13 ) Balance, end of period $ 22,375 $ 688 $ 22,375 $ 688
(1) Total gains and losses in earnings and other comprehensive income (loss) are
calculated assuming transfers into or out of Level 3 occurred at the
beginning of the period. Items transferred into and out during the same
period are excluded from the rollforward. Total gains (losses) for fixed
maturity securities included in other comprehensive income (loss) of
into Level 3, for both the three months and nine months ended September 30,
2012. No gains (losses) were included in earnings. 192
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See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates - Estimated Fair Value of Investments" included in the 2011 Annual Report for further information on the estimates and assumptions that affect the amounts reported above.
• Fixed maturity and equity securities on a sector basis;
• Government and agency securities holdings in excess of 10% of the Company's
equity; and • Maturities of fixed maturity securities. Fixed Maturity Securities Credit Quality - Ratings. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Fixed Maturity Securities Credit Quality - Ratings" included in the 2011 Annual Report for a discussion of the ratings methodologies used by rating agencies and theSecurities Valuation Office of the NAIC for fixed maturity securities. The following table presents total fixed maturity securities by Nationally Recognized Statistical Rating Organizations ("NRSRO") designation and the equivalent designations of the NAIC, except for certain structured securities, which utilize NAIC rating methodologies, as well as the percentage, based on estimated fair value that each designation is comprised of at: September 30, 2012 December 31, 2011 Estimated Estimated NAIC Amortized Fair % of Amortized Fair % of Rating Rating Agency Designation Cost Value Total Cost Value Total (In millions) (In millions) 1 Aaa/Aa/A $ 240,309 $ 264,892 70.1 % $ 230,195 $ 246,786 70.5 % 2 Baa 79,495 87,930 23.3 73,352 78,531 22.4 3 Ba 14,662 15,029 4.0 14,604 14,375 4.1 4 B 8,773 8,881 2.3 9,437 8,849 2.5 5 Caa and lower 1,490 1,207 0.3 2,142 1,668 0.5 6 In or near default 62 66 - 81 62 - Total fixed maturity securities $ 344,791 $ 378,005 100.0 % $ 329,811 $ 350,271 100.0 % 193
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The following tables present total fixed maturity securities, based on estimated fair value, by sector classification and by NRSRO designation and the equivalent designations of the NAIC, except for certain structured securities, which are presented as described above, that each designation is comprised of at: Fixed Maturity Securities - by Sector & Credit Quality Rating at September 30, 2012 NAIC Rating: 1 2 3 4 5 6 Total Caa and In or Near Estimated Rating Agency Designation: Aaa/Aa/A Baa Ba B Lower Default Fair Value (In millions) U.S. corporate securities $ 52,954
31,447 29,226 3,177 1,344 58 5 65,257 Foreign government securities 46,105 8,545 1,152 1,564 39 - 57,405 U.S. Treasury and agency securities 51,448 - - - - - 51,448 RMBS (1) 35,358 1,354 1,706 1,378 774 21 40,591 CMBS (1) 19,036 221 114 21 48 - 19,440 ABS (1) 14,451 468 20 40 22 4 15,005 State and political subdivision securities 14,093 815 9 - - - 14,917 Total fixed maturity securities $ 264,892 $ 87,930 $ 15,029 $ 8,881 $ 1,207 $ 66 $ 378,005 Percentage of total 70.1 % 23.3 % 4.0 % 2.3 % 0.3 % - % 100.0 % Fixed Maturity Securities - by Sector & Credit Quality Rating at December 31, 2011 NAIC Rating: 1 2 3 4 5 6 Total Caa and In or Near Estimated Rating Agency Designation: Aaa/Aa/A Baa Ba B Lower Default Fair Value (In millions) U.S. corporate securities $ 51,045
33,403 26,383 2,915 1,173 140 4 64,018 Foreign government securities 42,360 7,553 1,146 1,281 196 - 52,536 U.S. Treasury and agency securities 40,012 - - - - - 40,012 RMBS (1) 36,699 1,477 1,450 2,026 933 52 42,637 CMBS (1) 18,403 388 125 57 96 - 19,069 ABS (1) 12,507 355 39 50 24 4 12,979 State and political subdivision securities 12,357 842 23 5 8 - 13,235 Total fixed maturity securities $ 246,786 $ 78,531 $ 14,375 $ 8,849 $ 1,668 $ 62 $ 350,271 Percentage of total 70.5 % 22.4 % 4.1 % 2.5 % 0.5 % - % 100.0 %
(1) Presented using the revised NAIC rating methodologies described above.
The Company held below investment grade fixed maturity securities with an estimated fair value of
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to any single issuer in excess of 1% of total investments. The tables below present information about U.S. and foreign corporate securities at:
September 30, 2012 December 31, 2011 Estimated Estimated Fair % of Fair % of Value Total Value Total (In millions) (In millions) Corporate fixed maturity securities - by sector: Foreign corporate fixed maturity securities (1) $ 65,257 36.4 % $ 64,018 37.7 % U.S. corporate fixed maturity securities - by industry: Consumer 29,683 16.6 26,739 15.7 Industrial 29,629 16.5 26,962 15.9 Finance 21,754 12.1 20,854 12.3 Utility 20,164 11.3 19,508 11.5 Communications 8,908 5.0 8,178 4.8 Other 3,804 2.1 3,544 2.1 Total $ 179,199 100.0 % $ 169,803 100.0 % (1) Includes U.S. dollar and foreign denominated fixed maturity securities of foreign obligors. September 30, 2012 December 31, 2011 Estimated Estimated Fair % of Total Fair % of Total Value Investments Value Investments (In millions) (In millions) Concentrations within corporate fixed maturity securities: Largest exposure to a single issuer $ 1,630 0.3 % $ 1,642 0.3 % Holdings in ten issuers with the largest exposures $ 9,285 1.8 % $ 10,716 2.1 %Structured Securities . The following table presents information about structured securities at: September 30, 2012 December 31, 2011 Estimated Estimated Fair % of Fair % of Value Total Value Total (In millions) (In millions) RMBS $ 40,591 54.1 % $ 42,637 57.1 % CMBS 19,440 25.9 19,069 25.5 ABS 15,005 20.0 12,979 17.4 Total structured securities $ 75,036 100.0 % $ 74,685 100.0 % Ratings profile: RMBS rated Aaa $ 29,827 73.5 % $ 31,690 74.3 % RMBS rated NAIC 1 $ 35,358 87.1 % $ 36,699 86.1 % CMBS rated Aaa $ 15,517 79.8 % $ 15,785 82.8 % CMBS rated NAIC 1 $ 19,036 97.9 % $ 18,403 96.5 % ABS rated Aaa $ 9,463 63.1 % $ 8,223 63.4 % ABS rated NAIC 1 $ 14,451 96.3 % $ 12,507 96.4 % 195
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RMBS. The table below presents information about RMBS at:
September 30, 2012 December 31, 2011 Estimated Estimated Fair % of Fair % of Value Total Value Total (In millions) (In millions) By security type: Collateralized mortgage obligations $ 21,378 52.7 % $ 23,392 54.9 % Pass-through securities 19,213 47.3 19,245 45.1 Total RMBS $ 40,591 100.0 % $ 42,637 100.0 % By risk profile: Agency $ 28,355 69.9 % $ 31,055 72.8 % Prime 5,538 13.6 5,959 14.0 Alt-A 5,036 12.4 4,648 10.9 Sub-prime 1,662 4.1 975 2.3 Total RMBS $ 40,591 100.0 % $ 42,637 100.0 %
See also "Management's Discussion and Analysis of Financial Condition and Results of Operations - Investments - Fixed Maturity and Equity Securities Available-for-Sale -
AtSeptember 30, 2012 andDecember 31, 2011 , the Company's Alt-A RMBS portfolio has no exposure to option adjustable rate mortgage loans ("ARMs") and a minimal exposure to hybrid ARMs. The Company's Alt-A RMBS portfolio is comprised primarily of fixed rate mortgage loans (94% and 93% atSeptember 30, 2012 andDecember 31, 2011 , respectively) which have performed better than both option ARMs and hybrid ARMs in the Alt-A market. The Company's Alt-A RMBS holdings had unrealized losses of$268 million and$871 million atSeptember 30, 2012 andDecember 31, 2011 , respectively. The Company's sub-prime RMBS holdings are comprised primarily of vintage year 2005 and prior holdings (53% and 79% atSeptember 30, 2012 andDecember 31, 2011 , respectively). These older vintages from 2005 and prior benefit from better underwriting, improved credit enhancement levels and higher residential property price appreciation. The Company's sub-prime RMBS holdings had unrealized losses of$216 million and$347 million atSeptember 30, 2012 andDecember 31, 2011 , respectively. 196
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CMBS. The following tables present our CMBS by rating agency designation and by vintage year at: September 30, 2012 Below Investment Aaa Aa A Baa Grade Total Estimated Estimated Estimated Estimated Estimated Estimated Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value (In millions) 2004 & Prior$ 7,377 $ 7,602 $ 514 $ 534 $ 180 $ 180 $ 87 $ 85 $ 55 $ 41$ 8,213 $ 8,442 2005 3,164 3,467 415 444 286 299 125 119 20 19 4,010
4,348
2006 2,143 2,346 267 287 45 44 54 53 35 29 2,544
2,759
2007 969 1,030 222 226 131 139 85 73 19 24 1,426 1,492 2008 - - - - - - - - 26 24 26 24 2009 - - - - - - - - - - - - 2010 3 3 - - - - 59 64 - - 62 67 2011 576 626 1 1 82 85 - - 8 6 667 718 2012 429 443 344 357 735 749 - - 39 41 1,547
1,590
Total $ 14,661 $ 15,517
410 $ 394 $ 202 $ 184
Ratings Distribution 79.8 % 9.5 % 7.7 % 2.0 % 1.0 % 100.0 % December 31, 2011Below Investment Aaa Aa A Baa Grade Total Estimated Estimated Estimated Estimated Estimated Estimated Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value Cost Value Cost Value Cost Value (In millions) 2004 & Prior $ 9,160 $ 9,407 $ 606 $ 616 $ 226 $ 217 $
137 $ 132 $ 61 $ 52
$ 10,424 2005 3,081 3,318 427 432 277 269 184 175 31 28 4,000
4,222
2006 1,712 1,835 245 237 89 83 118 110 123 106 2,287
2,371
2007 643 665 395 332 163 138 67 71 94 88 1,362 1,294 2008 - - - - - - - - 25 27 25 27 2009 - - - - - - - - - - - - 2010 3 3 - - - - 60 66 - - 63 69 2011 536 557 1 1 92 96 - - 9 8 638 662 Total $ 15,135 $ 15,785
566 $ 554 $ 343 $ 309
Ratings Distribution 82.8 % 8.5 % 4.2 % 2.9 % 1.6 % 100.0 %
The above tables reflect rating agency designations assigned by nationally recognized rating agencies including
ABS. The Company's ABS are diversified both by collateral type and by issuer. The following table presents information about ABS held at:
September 30, 2012 December 31, 2011 Estimated Estimated Fair % of Fair % of Value Total Value Total (In millions) (In millions) By collateral type: Credit card loans $ 2,900 19.3 % $ 4,038 31.1 % Foreign residential loans 2,800 18.7 1,771 13.7 Automobile loans 2,519 16.8 977 7.5 Collateralized debt obligations 2,423 16.1 2,575 19.8 Student loans 2,321 15.5 2,434 18.8 Other loans 2,042 13.6 1,184 9.1 Total $ 15,005 100.0 % $ 12,979 100.0 % 197
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Evaluation of
See the following sections within Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for information about the evaluation of fixed maturity securities and equity securities available-for-sale for other-than-temporary impairments ("OTTI"):
• Evaluating available-for-sale securities for other-than-temporary impairment;
• Net unrealized investment gains (losses);
• Continuous gross unrealized losses and OTTI losses for fixed maturity and
equity securities available-for-sale by sector; • Aging of gross unrealized losses and OTTI losses for fixed maturity and
equity securities available-for-sale;
• Concentration of gross unrealized losses and OTTI losses for fixed maturity
and equity securities available-for-sale; and • Evaluating temporarily impaired available-for-sale securities.
Trading and Other Securities
The Company has a trading securities portfolio, principally invested in fixed maturity securities, to support investment strategies that involve the active and frequent purchase and sale of securities ("Actively Traded Securities ") and the execution of short sale agreements. Trading and other securities also include securities for which the FVO has been elected ("FVO Securities "). See also "Management's Discussion and Analysis of Financial Condition and Results of Operations - Investments - Trading and Other Securities" included in the 2011 Annual Report for further information about composition ofActively Traded Securities andFVO Securities . Trading and other securities were$16.0 billion and$18.3 billion at estimated fair value, or 3.0% and 3.5% of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for information about theActively Traded Securities andFVO Securities , related short sale agreement liabilities and investments pledged to secure short sale agreement liabilities: Trading and other securities and trading (short sale agreement) liabilities, measured at estimated fair value on a recurring basis and their corresponding fair value hierarchy, are presented as follows: September 30, 2012 Trading and Other % of Trading % of Securities Total Liabilities Total (In millions) (In millions) Quoted prices in active markets for identical assets and liabilities (Level 1) $ 8,568 54 % $ 118 98 % Significant other observable inputs (Level 2) 6,261 39 3 2 Significant unobservable inputs (Level 3) 1,166 7 - - Total estimated fair value $ 15,995 100 % $ 121 100 % 198
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A rollforward of the fair value measurements for trading and other securities measured at estimated fair value on a recurring basis using significant unobservable (Level 3) inputs for the three months and nine months ended
Three Months Nine Months Ended Ended September 30, 2012 September 30, 2012 (In millions) Balance, beginning of period $ 1,135 $ 1,409 Total realized/unrealized gains (losses) included in earnings 39 22 Purchases 917 932 Sales (922 ) (1,161 ) Transfers into Level 3 1 2 Transfers out of Level 3 (4 ) (38 ) Balance, end of period $ 1,166 $ 1,166
See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates" included in the 2011 Annual Report for further information on the estimates and assumptions that affect the amounts reported above.
See Note 5 of the Notes to the Interim Condensed Consolidated Financial Statements for further information about the valuation techniques and inputs by level of major classes of invested assets that affect the amounts reported above.
Net Investment Gains (Losses) Including OTTI Losses Recognized in Earnings
See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for tables that present:
• The components of net investment gains (losses);
• Proceeds from sales or disposals of fixed maturity and equity securities and
the components of fixed maturity and equity securities net investment gains
(losses);
• Fixed maturity security OTTI losses recognized in earnings by sector and
industry within the U.S. and foreign corporate securities sector; and
• Equity security OTTI losses recognized in earnings by sector and industry.
Overview of Fixed Maturity and Equity Security OTTI Losses Recognized in Earnings. Impairments of fixed maturity and equity securities were$56 million and$297 million for the three months and nine months endedSeptember 30, 2012 , respectively, and$289 million and$588 million for the three months and nine months endedSeptember 30, 2011 , respectively. Impairments of fixed maturity securities were$47 million and$271 million for the three months and nine months endedSeptember 30, 2012 , respectively, and$284 million and$530 million for the three months and nine months endedSeptember 30, 2011 , respectively. Impairments of equity securities were$9 million and$26 million for the three months and nine months endedSeptember 30, 2012 , respectively, and$5 million and$58 million for the three months and nine months endedSeptember 30, 2011 , respectively.
The Company's credit-related impairments of fixed maturity securities were
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The Company's three largest impairments totaled$21 million and$79 million for the three months and nine months endedSeptember 30, 2012 , respectively, and$227 million and$290 million for the three months and nine months endedSeptember 30, 2011 , respectively. The Company sold or disposed of fixed maturity and equity securities at a loss that had an estimated fair value of$3.1 billion and$17.1 billion for the three months and nine months endedSeptember 30, 2012 , respectively, and$6.2 billion and$24.6 billion for the three months and nine months endedSeptember 30, 2011 , respectively. Gross losses excluding impairments for fixed maturity and equity securities were$123 million and$613 million for the three months and nine months endedSeptember 30, 2012 , respectively, and$158 million and$663 million for the three months and nine months endedSeptember 30, 2011 , respectively.
Explanations of period over period changes in fixed maturity and equity securities impairments are as follows:
Three months endedSeptember 30, 2012 compared to the three months endedSeptember 30, 2011 - Overall OTTI losses recognized in earnings on fixed maturity and equity securities were$56 million for the three months endedSeptember 30, 2012 as compared to$289 million in the prior period. The most significant decrease in the current period, as compared to the prior period, was in foreign government securities, primarily attributable to prior period impairments onGreece sovereign debt securities of$206 million as a result of theJuly 2011 announcement of a debt exchange program on maturities through 2019 and a reduction in the expected recoverable amount for the longer maturities and, to a lesser extent, a decrease in impairments on RMBS, reflecting improved economic fundamentals. Nine months endedSeptember 30, 2012 compared to the nine months endedSeptember 30, 2011 - Overall OTTI losses recognized in earnings on fixed maturity and equity securities were$297 million for the nine months endedSeptember 30, 2012 as compared to$588 million in the prior period. The most significant decrease in the current period, as compared to the prior period, was in foreign government securities, primarily attributable to prior period impairments onGreece sovereign debt securities of$217 million as a result of theJuly 2011 announcement of a debt exchange program on maturities through 2019 and a reduction in the expected recoverable amount for the longer maturities, while utility industry impairments within U.S. and foreign corporate securities increased$54 million in the current period. Future Impairments. Future OTTIs will depend primarily on economic fundamentals, issuer performance (including changes in the present value of future cash flows expected to be collected), changes in credit ratings, changes in collateral valuation, changes in interest rates and changes in credit spreads. If economic fundamentals or any of the above factors deteriorate, additional OTTIs may be incurred in upcoming quarters.
Credit Loss Rollforward
See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for the credit loss rollforward.
Securities Lending
The Company participates in a securities lending program whereby blocks of securities, which are included in fixed maturity securities, short-term investments, equity securities and cash and cash equivalents, are loaned to third parties, primarily brokerage firms and commercial banks. See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for certain information regarding the Company's securities lending program.
Invested Assets on Deposit, Held in Trust and Pledged as Collateral
See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for a table of the invested assets on deposit, held in trust and pledged as collateral.
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Mortgage Loans
The Company's mortgage loans are principally collateralized by commercial real estate, agricultural real estate and residential properties. The carrying value of mortgage loans was$59.2 billion and$72.1 billion , or 11.0% and 13.8% of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. The decrease of$12.9 billion sinceDecember 31, 2011 is primarily due to the Company's exit from the businesses of originating forward and reverse residential mortgage loans and the de-recognition of the securitized reverse residential mortgage loans in connection with the sale ofMetLife Bank's reverse mortgage servicing rights. See Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for a table that presents the Company's mortgage loans held-for-investment of$57.9 billion and$56.9 billion by portfolio segment atSeptember 30, 2012 andDecember 31, 2011 , respectively, as well as the components of the mortgage loans held-for-sale of$1.3 billion and$15.2 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively. The information presented below excludes the effects of consolidating certain VIEs that are treated as CSEs and securitized reverse residential mortgage loans. Such amounts are presented in the aforementioned table. The Company diversifies its mortgage loan portfolio by both geographic region and property type to reduce the risk of concentration. Of the Company's commercial and agricultural mortgage loans, 90% are collateralized by properties located in the U.S., with the remaining 10% collateralized by properties located outside the U.S., calculated as a percent of the total mortgage loans held-for-investment (excluding commercial mortgage loans held by CSEs) atSeptember 30, 2012 . The three locations with the most commercial and agricultural mortgage loans wereCalifornia ,New York andTexas at 19%, 11% and 7%, respectively, of total mortgage loans held for investment (excluding commercial mortgage loans held by CSEs) atSeptember 30, 2012 . Additionally, the Company manages risk when originating commercial and agricultural mortgage loans by generally lending only up to 75% of the estimated fair value of the underlying real estate collateral. 201
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Commercial Mortgage Loans byGeographic Region and Property Type. Commercial mortgage loans are the largest component of the mortgage loan invested asset class as it represents over 75% of total mortgage loans held-for-investment (excluding the effects of consolidating certain VIEs that are treated as CSEs) at bothSeptember 30, 2012 andDecember 31, 2011 . The tables below present the diversification across geographic regions and property types of commercial mortgage loans held-for-investment at: September 30, 2012 December 31, 2011 % of % of Amount Total Amount Total (In millions) (In millions) Region: South Atlantic $ 8,430 20.1 % $ 9,022 22.3 % Pacific 8,189 19.5 8,209 20.3 Middle Atlantic 7,014 16.7 6,370 15.8 International 5,436 13.0 4,713 11.7 West South Central 3,485 8.3 3,220 8.0 East North Central 3,161 7.5 2,984 7.3 New England 1,551 3.7 1,563 3.9 Mountain 990 2.4 746 1.8 East South Central 459 1.1 487 1.2 West North Central 335 0.8 365 0.9 Multi-Region and Other 2,891 6.9 2,761 6.8 Total recorded investment 41,941 100.0 % 40,440 100.0 % Less: valuation allowances 300 398 Carrying value, net of valuation allowances $ 41,641 $ 40,042 Property Type: Office $ 18,899 45.1 % $ 18,582 45.9 % Retail 9,758 23.3 9,524 23.6 Apartments 4,114 9.8 4,011 9.9 Hotel 3,482 8.3 3,114 7.7 Industrial 3,237 7.7 3,102 7.7 Other 2,451 5.8 2,107 5.2 Total recorded investment 41,941 100.0 % 40,440 100.0 % Less: valuation allowances 300 398 Carrying value, net of valuation allowances $ 41,641
$ 40,042
Mortgage Loan Credit Quality - Restructured, Potentially Delinquent, Delinquent or Under Foreclosure. The Company monitors its mortgage loan investments on an ongoing basis, including reviewing loans that are restructured, potentially delinquent, and delinquent or under foreclosure. These loan classifications are consistent with those used in the insurance industry. We define restructured mortgage loans as loans in which we, for economic or legal reasons related to the debtor's financial difficulties, grants a concession to the debtor that it would not otherwise consider. We define potentially delinquent loans as loans that, in management's opinion, have a high probability of becoming delinquent in the near term. We define delinquent mortgage loans consistent with industry practice, when interest and principal payments are past due as follows: commercial and residential mortgage loans - 60 days or more and agricultural mortgage loans - 90 days or more. We define mortgage loans under foreclosure as loans in which foreclosure proceedings have formally commenced. 202
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The following table presents the recorded investment and valuation allowance for all mortgage loans held-for-investment distributed by the above stated loan classifications at: September 30, 2012 December 31, 2011 % of % of Recorded % of Valuation Recorded Recorded % of Valuation Recorded Investment Total Allowance Investment Investment Total Allowance Investment (In millions) (In millions) Commercial: Performing $ 41,566 99.1 % $ 246 0.6 % $ 40,106 99.1 % $ 339 0.8 % Restructured (1) 182 0.4 44 24.2 % 248 0.6 44 17.7 % Potentially delinquent 112 0.3 10 8.9 % 23 0.1 15 65.2 % Delinquent or under foreclosure 81 0.2 - - % 63 0.2 - - % Total $ 41,941 100.0 % $ 300 0.7 % $ 40,440 100.0 % $ 398 1.0 % Agricultural (2): Performing $ 12,407 98.5 % $ 30 0.2 % $ 12,899 98.3 % $ 41 0.3 % Restructured (3) 65 0.5 10 15.4 % 58 0.4 7 12.1 % Potentially delinquent 41 0.3 5 12.2 % 25 0.2 4 16.0 % Delinquent or under foreclosure (3) 87 0.7 7 8.0 % 147 1.1 29 19.7 % Total $ 12,600 100.0 % $ 52 0.4 % $ 13,129 100.0 % $ 81 0.6 % Residential (4): Performing $ 792 96.8 % $ - - % $ 664 96.4 % $ 1 0.2 % Restructured - - - - % - - - - % Potentially delinquent - - - - % - - - - % Delinquent or under foreclosure 26 3.2 2 7.7 % 25 3.6 1 4.0 % Total $ 818 100.0 % $ 2 0.2 % $ 689 100.0 % $ 2 0.3 %
(1) As of
mortgage loans were comprised of eight and 10 restructured loans, respectively, all of which were performing.
(2) Of the
substantial portion of these mortgage loans have been successfully reset,
refinanced or extended at market terms.
(3) As of
mortgage loans were comprised of 15 and 11 restructured loans, respectively,
all of which were performing. There were no restructured agricultural mortgage loans classified as delinquent or under foreclosure as ofSeptember 30, 2012 . Additionally, as ofDecember 31, 2011 , delinquent or
under foreclosure agricultural mortgage loans included four restructured
loans with a recorded investment of
(4) Residential mortgage loans held-for-investment consist primarily of first
lien residential mortgage loans.
See Notes 3 and 5 of the Notes to the Interim Condensed Consolidated Financial Statements for tables that present, by portfolio segment, mortgage loans by credit quality indicator, impaired mortgage loans, past due and nonaccrual mortgage loans, loans modified through troubled debt restructurings, the activity in the Company's valuation allowances, the Company's valuation allowances by type of credit loss and information on impairments of mortgage loans and the related carrying value after impairments. 203
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Mortgage Loan Credit Quality - Monitoring Process - Commercial and Agricultural Mortgage Loans. The Company reviews all commercial mortgage loans on an ongoing basis. These reviews may include an analysis of the property financial statements and rent roll, lease rollover analysis, property inspections, market analysis, estimated valuations of the underlying collateral, loan-to-value ratios, debt service coverage ratios, and tenant creditworthiness. The monitoring process focuses on higher risk loans, which include those that are classified as restructured, potentially delinquent, delinquent or in foreclosure, as well as loans with higher loan-to-value ratios and lower debt service coverage ratios. The monitoring process for agricultural mortgage loans is generally similar, with a focus on higher risk loans, such as loans with higher loan-to-value ratios, including reviews on a geographic and property type basis. Loan-to-value ratios and debt service coverage ratios are common measures in the assessment of the quality of commercial mortgage loans. Loan-to-value ratios are a common measure in the assessment of the quality of agricultural mortgage loans. Loan-to-value ratios compare the amount of the loan to the estimated fair value of the underlying collateral. A loan-to-value ratio greater than 100% indicates that the loan amount is greater than the collateral value. A loan-to-value ratio of less than 100% indicates an excess of collateral value over the loan amount. The debt service coverage ratio compares a property's net operating income to amounts needed to service the principal and interest due under the loan. For commercial mortgage loans, the average loan-to-value ratio was 58% and 61% atSeptember 30, 2012 andDecember 31, 2011 , respectively, and the average debt service coverage ratio was 2.2x and 2.1x atSeptember 30, 2012 andDecember 31, 2011 , respectively. The commercial mortgage loan debt service coverage ratio and loan-to-value ratio, as well as the values utilized in calculating these ratios, are updated annually, on a rolling basis, with a portion of the commercial mortgage loan portfolio updated each quarter. For agricultural mortgage loans, the average loan-to-value ratio was 46% and 48% atSeptember 30, 2012 andDecember 31, 2011 , respectively. The values utilized in calculating the agricultural mortgage loan loan-to-value ratio are developed in connection with the ongoing review of the agricultural loan portfolio and are routinely updated. Mortgage Loan Credit Quality - Monitoring Process - Residential Mortgage Loans. The Company has a conservative residential mortgage loan portfolio and does not hold any option ARMs, sub-prime or low teaser rate loans. Higher risk loans include those that are classified as restructured, potentially delinquent, delinquent or in foreclosure, as well as loans with higher loan-to-value ratios and interest-only loans. The Company's investment in residential junior lien loans and residential mortgage loans with a loan-to-value ratio of 80% or more was$43 million and$74 million atSeptember 30, 2012 andDecember 31, 2011 , respectively, and certain of the higher loan-to-value residential mortgage loans have mortgage insurance coverage which reduces the loan-to-value ratio to less than 80%. Mortgage Loan Valuation Allowances. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Investments - Mortgage Loans - Mortgage Loan Valuation Allowance" included in the 2011 Annual Report for further information on our mortgage valuation allowance policy.
Real Estate and
Real estate holdings by type consisted of the following:
September 30, 2012 December 31, 2011 Carrying % of Carrying % of Value Total Value Total (In millions) (In millions) Traditional $ 7,326 83.7 % $ 5,836 68.2 % Real estate joint ventures and funds 1,083 12.4 2,340 27.3 Real estate and real estate joint ventures 8,409 96.1 8,176 95.5 Foreclosed (commercial, agricultural and residential) 328 3.8 264 3.1 Real estate held-for-investment 8,737 99.9 8,440 98.6 Real estate held-for-sale 12 0.1 123 1.4 Total real estate and real estate joint ventures $ 8,749 100.0 % $ 8,563 100.0 % 204
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See also Note 3 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report for a discussion of the types of investments reported within traditional real estate and real estate joint ventures and funds. The estimated fair value of the traditional real estate investment portfolio was$9.4 billion and$7.6 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively. The Company diversifies its real estate investments by both geographic region and property type to reduce risk of concentration. Of the Company's real estate investments, 84% are located inthe United States , with the remaining 16% located outsidethe United States , atSeptember 30, 2012 . The three locations with the largest real estate investments wereCalifornia ,Japan andFlorida at 20%, 14%, and 12%, respectively, atSeptember 30, 2012 . Impairments recognized on real estate held-for-investment were$14 million and$17 million for the three months and nine months endedSeptember 30, 2012 , respectively. There were no impairments recognized on real estate held-for-investment for the three months and nine months endedSeptember 30, 2011 . There were no impairments recognized on real estate held-for-sale for the three months endedSeptember 30, 2012 and$4 million for the nine months endedSeptember 30, 2012 . There were no impairments recognized on real estate held-for-sale for the three months endedSeptember 30, 2011 and$1 million for the nine months endedSeptember 30, 2011 . See Note 5 of the Notes to the Interim Condensed Consolidated Financial Statements for information about impairments on real estate joint ventures and the related carrying value after impairment.
Other Limited Partnership Interests
The carrying value of other limited partnership interests (which primarily represent ownership interests in pooled investment funds that principally make private equity investments in companies inthe United States and overseas) was$6.7 billion and$6.4 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively, which included$1.3 billion and$1.1 billion of hedge funds, atSeptember 30, 2012 andDecember 31, 2011 , respectively. See Note 5 of the Notes to the Interim Condensed Consolidated Financial Statements for information about impairments on other limited partnerships and the related carrying value after impairment. Other Invested Assets The following table presents the Company's other invested assets by type at: September 30, 2012 December 31, 2011 Carrying % of Carrying % of Value Total Value Total (In millions) (In millions) Freestanding derivatives with positive estimated fair values $ 15,728 67.1 % $ 16,200 68.7 % Leveraged leases, net of non-recourse debt 2,217 9.4 2,248 9.5 Tax credit partnerships 1,860 7.9 1,531 6.5 Funds withheld 640 2.7 608 2.6 MSRs 490 2.1 666 2.8 Joint venture investments 220 0.9 171 0.7 Other 2,322 9.9 2,157 9.2 Total $ 23,477 100.0 % $ 23,581 100.0 %
Short-term Investments and Cash Equivalents
The carrying value of short-term investments, which includes securities and other investments with remaining maturities of one year or less, but greater than three months, at the time of purchase was$14.7 billion and$17.3 billion , or 2.7% and 3.3% of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. The carrying value of cash equivalents, which includes securities and other investments with an original or remaining maturity of three months or less at the time of purchase, was$7.9 billion and$5.0 billion , or 1.5% and 1.0% of total cash and invested assets, atSeptember 30, 2012 andDecember 31, 2011 , respectively. 205
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Derivative Financial Instruments
Derivatives. The Company is exposed to various risks relating to its ongoing business operations, including interest rate risk, foreign currency exchange rate risk, credit risk and equity market risk. The Company uses a variety of strategies to manage these risks, including the use of derivative instruments. See Note 4 of the Notes to the Interim Condensed Consolidated Financial Statements for:
• A comprehensive description of the nature of the Company's derivative
instruments, including the strategies for which derivatives are used in managing various risks.
• Information about the notional amount, estimated fair value, and primary
underlying risk exposure of the Company's derivative financial instruments,
excluding embedded derivatives held at
2011.
Hedging. See Note 4 of the Notes to the Interim Condensed Consolidated Financial Statements for information about:
• The notional amount and estimated fair value of derivatives and
non-derivative instruments designated as hedging instruments by type of hedge
designation atSeptember 30, 2012 andDecember 31, 2011 .
• The notional amount and estimated fair value of derivatives that were not
designated or do not qualify as hedging instruments by derivative type at
September 30, 2012 andDecember 31, 2011 .
• The statement of operations effects of derivatives in cash flow, fair value,
or non-qualifying hedge relationships for the three months and nine months
ended
See "Quantitative and Qualitative Disclosures About Market Risk - Management of Market Risk Exposures - Hedging Activities" for more information about the Company's use of derivatives by major hedge program.
Fair Value Hierarchy. Derivatives measured at estimated fair value on a recurring basis and their corresponding fair value hierarchy, are presented as follows: September 30, 2012 Derivative % of Derivative % of Assets Total Liabilities Total (In millions) (In millions) Quoted prices in active markets for identical assets and liabilities (Level 1) $ 75 - % $ 22 - % Significant other observable inputs (Level 2) 14,743 94 4,419 94 Significant unobservable inputs (Level 3) 910 6 270 6 Total estimated fair value $ 15,728 100 % $ 4,711 100 % The valuation of Level 3 derivatives involves the use of significant unobservable inputs and generally requires a higher degree of management judgment or estimation than the valuations of Level 1 and Level 2 derivatives. Although Level 3 inputs are unobservable, management believes they are consistent with what other market participants would use when pricing such instruments and are considered appropriate given the circumstances. The use of different inputs or methodologies could have a material effect on the estimated fair value of Level 3 derivatives and could materially affect net income. Derivatives categorized as Level 3 atSeptember 30, 2012 include: interest rate swaps and interest rate forwards with maturities which extend beyond the observable portion of the yield curve; cancellable foreign currency swaps with unobservable currency correlation inputs; foreign currency swaps and forwards with certain unobservable inputs, including unobservable portion of the yield curve; credit default swaps priced using 206
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unobservable credit spreads, or that are priced through independent broker quotations; equity variance swaps with unobservable volatility inputs; and equity options with unobservable correlation inputs. At
A rollforward of the fair value measurements for derivatives measured at estimated fair value on a recurring basis using significant unobservable (Level 3) inputs for the three months and nine months endedSeptember 30, 2012 is as follows: Three Months Nine Months Ended Ended September 30, 2012 September 30, 2012 (In millions) Balance, beginning of period $ 867 $ 1,234 Total realized/unrealized gains (losses) included in: Earnings (147 ) (425 ) Other comprehensive income (loss) (15 ) 12 Purchases, sales, issuances and settlements (65 ) (182 ) Transfer into and/or out of Level 3 - 1 Balance, end of period $ 640 $ 640 The($147) million and($425) million gain (loss) for the three months and nine months endedSeptember 30, 2012 in the table above primarily relates to certain purchased equity options that are valued using models dependent on an unobservable market correlation input and equity variance swaps that are valued using observable equity volatility data plus an unobservable equity variance spread. The unobservable equity variance spread is calculated from a comparison between broker offered variance swap volatility levels and observable plain vanilla equity option volatility. Other significant inputs, which are observable, include equity index levels, equity volatility and the swap yield curve. The Company validates the reasonableness of these inputs by valuing the positions using internal models and comparing the results to broker quotations. The primary drivers of the loss during the three months endedSeptember 30, 2012 were decreases in equity volatility, both historical and implied, and increases in equity index levels, which in total accounted for approximately 87% of the loss. Changes in the unobservable inputs accounted for approximately 13% of the loss. The primary drivers of the loss during the nine months endedSeptember 30, 2012 were significant decreases in equity volatility, both historical and implied, and increases in equity index levels, which in total accounted for approximately 90% of the loss. Changes in the unobservable inputs accounted for approximately 10% of the loss. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates - Derivative Financial Instruments" included in the 2011 Annual Report for further information on the estimates and assumptions that affect the amounts reported above. Credit Risk. See Note 4 of the Notes to the Interim Condensed Consolidated Financial Statements for information about how the Company manages credit risk related to its freestanding derivatives, including the use of master netting agreements and collateral arrangements. The Company's policy is not to offset the fair value amounts recognized for derivatives executed with the same counterparty under the same master netting agreement. This policy applies to the recognition of derivatives in the consolidated balance sheets, and does not affect the Company's legal right of offset. The estimated fair 207
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value of the Company's net derivative assets and net derivative liabilities after the application of master netting agreements and collateral were as follows at
September 30, 2012 Net Derivative Net Derivative Assets Liabilities (In millions) Estimated Fair Value of OTC Derivatives After Application of Master Netting Agreements (1) $ 11,868 $ 763 Cash collateral on OTC Derivatives (8,561 ) (3 ) Estimated Fair Value of OTC Derivatives After Application of Master Netting Agreements and Cash Collateral (1) 3,307 760 Securities Collateral on OTC Derivatives (2) (3,258 ) (600 ) Estimated Fair Value of OTC Derivatives After Application of Master Netting Agreements and Cash and Securities Collateral (1) 49 160 Estimated Fair Value of Exchange-Traded Derivatives 76 22 Total Estimated Fair Value of Derivatives After Application of Master Netting Agreements and Cash and Securities Collateral (1) $ 125 $ 182
(1) Includes income accruals on derivatives.
(2) The collateral is held in separate custodial accounts and is not recorded on
the Company's consolidated balance sheets.
Credit Derivatives. See Note 4 of the Notes to the Interim Condensed Consolidated Financial Statements for information about the estimated fair value and maximum amount at risk related to the Company's written credit default swaps.
Embedded Derivatives. The embedded derivatives measured at estimated fair value on a recurring basis and their corresponding fair value hierarchy, are presented as follows: September 30, 2012 Net Embedded Derivatives Within Liability Asset Host % of Host % of Contracts Total Contracts Total (In millions) (In millions) Quoted prices in active markets for identical assets and liabilities (Level 1) $ - - % $ - - % Significant other observable inputs (Level 2) 1 - 19 - Significant unobservable inputs (Level 3) 428 100 4,350 100 Total estimated fair value $ 429 100 % $ 4,369 100 % 208
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A rollforward of the fair value measurements for net embedded derivatives measured at estimated fair value on a recurring basis using significant unobservable (Level 3) inputs is as follows:
Three Months Nine Months Ended Ended September 30, 2012 September 30, 2012 (In millions) Balance, beginning of period $ (3,961 ) $ (4,203 ) Total realized/unrealized gains (losses) included in: Earnings 287 793 Other comprehensive income (loss) (78 ) (39 ) Purchases, sales, issuances and settlements (170 ) (473 ) Transfer into and/or out of Level 3 - - Balance, end of period $ (3,922 ) $ (3,922 ) The valuation of guaranteed minimum benefits includes a nonperformance risk adjustment. The amounts included in net derivative gains (losses), in connection with this adjustment, were($534) million and($1.2) billion for the three months and nine months endedSeptember 30, 2012 , respectively, and$2.0 billion for both the three months and nine months endedSeptember 30, 2011 . See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates" included in the 2011 Annual Report. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations - Summary of Critical Accounting Estimates - Derivative Financial Instruments" included in the 2011 Annual Report for further information on the estimates and assumptions that affect the amounts reported above.
Off-Balance Sheet Arrangements
Credit and Committed Facilities
The Company maintains unsecured credit facilities and committed facilities with various financial institutions. See "- Liquidity and Capital Resources - The Company - Liquidity and Capital Sources - Credit and Committed Facilities" for further descriptions of such arrangements.
Collateral for Securities Lending and Derivative Financial Instruments
The Company participates in a securities lending program in the normal course of business for the purpose of enhancing the Company's total return on its investment portfolio. The Company has non-cash collateral for securities lending from counterparties on deposit from customers, which cannot be sold or repledged, and which has not been recorded on its consolidated balance sheets. The amount of this collateral was$63 million and$371 million at estimated fair value atSeptember 30, 2012 andDecember 31, 2011 , respectively. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Investments - Securities Lending" and "Securities Lending" in Note 1 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report for further information on discussion of the Company's securities lending program and the classification of revenues and expenses and the nature of the secured financing arrangement and associated liability. The Company enters into derivative financial instruments to manage various risks relating to its ongoing business operations. The Company has non-cash collateral from counterparties for derivative financial instruments, which can be sold or repledged subject to certain constraints, and has not been recorded on its consolidated balance sheets. The amount of this collateral was$3.3 billion and$2.5 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively, which were held in separate custodial accounts and not recorded on the Company's consolidated balance sheets. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources -The Company - Liquidity and Capital Sources - Collateral Financing Arrangements" included in the 2011 Annual Report and "Derivatives" in Note 4 of the 209
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Notes to the Interim Condensed Consolidated Financial Statements for information on the earned income on and the gross notional amount, estimated fair value of assets and liabilities and primary underlying risk exposure of the Company's derivative financial instruments.
Guarantees
See "Guarantees" in Note 12 of the Notes to the Interim Condensed Consolidated Financial Statements.
Other
Additionally, the Company has the following commitments in the normal course of business for the purpose of enhancing the Company's total return on its investment portfolio:
• Commitments to Fund Partnership Investments; • Mortgage Loan Commitments; and
• Commitments to Fund Bank Credit Facilities, Bridge Loans and Private
Corporate Bond Investments.
See "Net Investment Income" and "Net Investment Gains (Losses)" in Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements for information on the investment income, investment expense, gains and losses from such investments. See also "Fixed Maturity and Equity Securities Available-for-Sale," and "Mortgage Loans" in Note 3 of the Notes to the Interim Condensed Consolidated Financial Statements and " - Investments - Real Estate andReal Estate Joint Ventures and Other Limited Partnerships" for information on our investments in fixed maturity securities, mortgage loans and partnership investments.
Other than the commitments disclosed in Note 12 of the Notes to the Interim Condensed Consolidated Financial Statements, there are no other material obligations or liabilities arising from the commitments to fund partnership investments, mortgage loans, bank credit facilities, bridge loans, and private corporate bond investments.
See also "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - The Company - Liquidity and Capital Uses - Contractual Obligations" included in the 2011 Annual Report for further information on commitments to fund partnership investments, mortgage loans, bank credit facilities, bridge loans and private corporate bond investments. In addition, see "Primary Risks Managed by Derivative Financial Instruments and Non-Derivative Financial Instruments" in Note 4 of the Notes to the Interim Condensed Consolidated Financial Statements for further information on interest rate lock commitments.
Policyholder Liabilities
Policyholder Account Balances
PABs are generally equal to the account value, which includes accrued interest credited, but exclude the impact of any applicable surrender charge that may be incurred upon surrender. See Note 1 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report and Note 8 of the Notes to the Interim Condensed Consolidated Financial Statements for additional information. Retail. The Life & Other PABs are held for death benefit disbursement retained asset accounts, universal life policies and the fixed account of variable life insurance policies. PABs are credited interest at a rate set by the Company, which are influenced by current market rates. The majority of the PABs have a guaranteed minimum credited rates between 4.0% and 6.0%. A sustained low interest rate environment could negatively impact earnings as a result of the minimum credited rate guarantees. The Company has various derivative positions, primarily interest rate floors, to partially mitigate the risks associated with such a scenario. For Annuities, PABs are held for fixed deferred annuities and the fixed account portion of variable annuities, for certain income annuities, and for certain portions of guaranteed benefits. PABs are credited interest at a rate set by the Company. 210
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Credited rates for deferred annuities are influenced by current market rates, and most of these contracts have a minimum guaranteed rate between 1.0% and 4.0%. See "- Variable Annuity Guarantees."
The table below presents the breakdown of account value subject to minimum guaranteed credited rates for Retail:
September 30, 2012 Account Account Value at Guaranteed Minimum Credited Rate Value Guarantee (In millions) Life & Other: Greater than 0% but less than 2% $ 66 $ 66 Equal to 2% but less than 4% $ 10,546 $ 4,500 Equal to or greater than 4% $ 10,885 $ 6,359 Annuities: Greater than 0% but less than 2% $ 6,267 $ 1,932 Equal to 2% but less than 4% $ 34,356 $ 26,385 Equal to or greater than 4% $ 3,031 $ 2,931 As a result of acquisitions, the Company establishes additional liabilities known as excess interest reserves for policies with credited rates in excess of market rates as of the acquisition date. AtSeptember 30, 2012 , excess interest reserves were$149 million and$396 million for Life & Other and Annuities, respectively. Group, Voluntary & Worksite Benefits. PABs are held for death benefit disbursement retained asset accounts, universal life policies, the fixed account of variable life insurance policies and specialized life insurance products for benefit programs. PABs are credited interest at a rate set by the Company, which are influenced by current market rates. The majority of the PABs have a guaranteed minimum credited rates between 0.5% and 6.0%. A sustained low interest rate environment could negatively impact earnings as a result of the minimum credited rate guarantees. The Company has various derivative positions, primarily interest rate floors, to partially mitigate the risks associated with such a scenario.
The table below presents the breakdown of account value subject to minimum guaranteed credited rates for Group, Voluntary & Worksite Benefits:
September 30, 2012 Account Account Value at Guaranteed Minimum Credited Rate Value Guarantee (In millions) Greater than 0% but less than 2% $ 5,586 $ 5,586 Equal to 2% but less than 4% $ 2,501 $ 2,490 Equal to or greater than 4% $ 560 $ 532 Corporate Benefit Funding. PABs are comprised of funding agreements. Interest crediting rates vary by type of contract, and can be fixed or variable. Variable interest crediting rates are generally tied to an external index, most commonly (1-month or 3-month) London Inter-Bank Offer Rate ("LIBOR").MetLife is exposed to interest rate risks, as well as foreign exchange risk when guaranteeing payment of interest and return of principal at the contractual maturity date. The Company may invest in floating rate assets or enter into floating rate swaps, also tied to external indices, as well as caps, to mitigate the impact of changes in market interest rates. The Company also mitigates its risks by implementing an asset/liability matching policy and seeks to hedge all foreign currency exchange rate risk through the use of foreign currency hedges, including cross currency swaps. 211
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Latin America . PABs are held largely for deferred annuities mainly inMexico andBrazil , and for universal life products mainly inMexico . Some of the deferred annuities inBrazil are unit-linked-type funds that do not meet the GAAP definition of separate accounts. The rest of the deferred annuities have minimum credited rate guarantees, and these liabilities and the universal life liabilities are generally impacted by sustained periods of low interest rates. Liabilities for unit-linked-type funds are impacted by changes in the fair value of the associated underlying investments, as the return on assets is generally passed directly to the policyholder.Asia . PABs are held largely for fixed income retirement and savings plans, fixed deferred annuities, interest sensitive whole life products, universal life and, to a lesser degree, amounts for unit-linked-type funds in certain countries that do not meet the GAAP definition of separate accounts. Also included are certain liabilities for retirement and savings products sold in certain countries inAsia that generally are sold with minimum credited rate guarantees. Liabilities for guarantees on certain variable annuities inAsia are accounted for as embedded derivatives and recorded at estimated fair value and are also included within PABs. These liabilities are generally impacted by sustained periods of low interest rates, where there are interest rate guarantees. The Company mitigates its risks by implementing an asset/liability matching policy and by hedging its variable annuity guarantees and with reinsurance. Liabilities for unit-linked-type funds are impacted by changes in the fair value of the associated underlying investments, as the return on assets is generally passed directly to the policyholder. See "- Variable Annuity Guarantees." EMEA. PABs are held mostly for universal life, deferred annuity, pension products, and unit-linked-type funds that do not meet the GAAP definition of separate accounts. They are also held for endowment products without significant mortality risk. Where there are interest rate guarantees, these liabilities are generally impacted by sustained periods of low interest rates. The Company mitigates its risks by implementing an asset/liability matching policy. Liabilities for unit-linked-type funds are impacted by changes in the fair value of the associated underlying investments, as the return on assets is generally passed directly to the policyholder. Corporate & Other. Variable annuity guaranteed minimum accumulation benefits and guaranteed minimum withdrawal benefits were assumed from a former operating joint venture inJapan . Liabilities for these guarantees are recorded at estimated fair value and included in PABs. The Company mitigates its risks by hedging its variable annuity guarantees. Liabilities are impacted by changes in the fair value of the associated underlying investments of variable annuity funds, lapse experience and capital market volatility. See "- Variable Annuity Guarantees." Variable Annuity Guarantees The Company issues, directly and through assumed reinsurance, certain variable annuity products with guaranteed minimum benefits that provide the policyholder a minimum return based on their initial deposit (i.e., the benefit base) less withdrawals. See Note 1 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report and Note 8 of the Notes to the Interim Condensed Consolidated Financial Statements for additional information. Guarantees, including portions thereof, accounted for as embedded derivatives, are recorded at estimated fair value and included in PABs. Guarantees accounted for as embedded derivatives include guaranteed minimum accumulation benefits, the non-life-contingent portion of guaranteed minimum withdrawal benefits ("GMWB") and the portion of certain GMIB that do not require annuitization. The estimated fair values of guarantees accounted for as embedded derivatives are determined based on the present value of projected future benefits minus the present value of projected future fees. The projections of future benefits and future fees require capital market and actuarial assumptions including expectations concerning policyholder behavior. A risk neutral valuation methodology is used to project the cash flows from the guarantees under multiple capital market scenarios to determine an economic liability. The reported estimated fair value is then determined by taking the present value of these risk-free generated cash flows using a discount rate that incorporates a spread over the risk free rate to reflect the Company's nonperformance risk and adding a risk margin. For more information on the determination of estimated fair value, see Note 5 of the Notes to the Interim Condensed Consolidated Financial Statements. 212
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The table below contains the carrying value for guarantees included in PABs at: September 30, 2012 December 31, 2011 (In millions) TheAmericas : Guaranteed minimum accumulation benefit $ (63 ) $ 52 Guaranteed minimum withdrawal benefit 481 710 Guaranteed minimum income benefit 274 988
Guaranteed minimum accumulation benefit 17 11 Guaranteed minimum withdrawal benefit 217 175
EMEA:
Guaranteed minimum accumulation benefit 31 168 Guaranteed minimum withdrawal benefit 55 - Corporate & Other: Guaranteed minimum accumulation benefit 504 515 Guaranteed minimum withdrawal benefit 2,676 1,825 Total $ 4,192 $ 4,444
The carrying amounts above include a nonperformance risk adjustment of
The nonperformance risk adjustments represent the impact of including a credit spread when discounting the underlying risk neutral cash flows to determine the estimated fair values. Therefore, the amount of the nonperformance risk adjustment is a function of both the size of the economic liability and credit spreads. In certain periods, changes in the nonperformance risk adjustment can be a significant driver of net derivative gains (losses). Additionally, changes in the underlying cash flows can have a greater impact on the nonperformance risk adjustment than changes in credit spreads. The nonperformance risk adjustment does not have an economic impact on the Company as it cannot be monetized given the nature of these policyholder liabilities. The estimated fair value of guarantees accounted for as embedded derivatives can change significantly during periods of sizable and sustained shifts in equity market performance, equity volatility, interest rates or foreign currency exchange rates. The Company uses derivative instruments to mitigate the risk of loss and the volatility of net income arising from these market factors. The change in valuation arising from the nonperformance risk adjustment is not hedged. 213
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The table below presents the estimated fair value of the derivatives hedging guarantees accounted for as embedded derivatives:
September 30, 2012 December 31, 2011 Primary Underlying Notional Estimated Fair Value Notional Estimated Fair Value Risk Exposure Instrument Type Amount Assets Liabilities Amount Assets Liabilities (In millions) Interest rate Interest rate swaps $ 23,594 $ 2,324 $ 752 $ 22,719 $ 1,869 $ 598 Interest rate futures 9,579 10 18 11,126 17 16 Interest rate options 11,440 488 12 11,372 567 6 Foreign currency Foreign currency forwards 2,221 6 32 2,311 41 4 Foreign currency futures 289 - - 177 - - Equity market Equity futures 4,759 50 2 4,916 15 10 Equity options 18,901 3,058 236 16,367 3,239 177 Variance swaps 19,335 142 239 18,402 390 75 Total rate of return swaps 1,287 5 60 1,274 8 31 Total $ 91,405 $ 6,083 $ 1,351 $ 88,664 $ 6,146 $ 917 Guarantees, including portions thereof, have liabilities established that are included in future policy benefits. Guarantees accounted for in this manner include Guaranteed Minimum Death Benefits, the life-contingent portion of certain GMWB, and the portion of GMIB that requires annuitization. These liabilities are accrued over the life of the contract in proportion to actual and future expected policy assessments based on the level of guaranteed minimum benefits generated using multiple scenarios of separate account returns. The scenarios use best estimate assumptions consistent with those used to amortize deferred acquisition costs. When current estimates of future benefits exceed those previously projected or when current estimates of future assessments are lower than those previously projected, liabilities will increase, resulting in a current period charge to net income. The opposite result occurs when the current estimates of future benefits are lower than that previously projected or when current estimates of future assessments exceed those previously projected. At each reporting period, the Company updates the actual amount of business remaining in-force, which impacts expected future assessments and the projection of estimated future benefits resulting in a current period charge or increase to earnings. The table below contains the carrying value for guarantees included in future policy benefits at: September 30, 2012 December 31, 2011 (In millions) The Americas: Guaranteed minimum death benefit $ 334 $ 260 Guaranteed minimum income benefit 872 722
Guaranteed minimum death benefit 10 12 Life contingent guaranteed minimum withdrawal benefit 143 133
EMEA:
Guaranteed minimum death benefit 5 4 Life contingent guaranteed minimum withdrawal benefit 8 17 Corporate & Other: Guaranteed minimum death benefit 139 102 Total $ 1,511 $ 1,250 The carrying amount of guarantees accounted for as insurance liabilities can change significantly during periods of sizable and sustained shifts in equity market performance, increased equity volatility, or changes in 214
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interest rates. The Company uses reinsurance in combination with derivative instruments to mitigate the liability exposure, risk of loss and the volatility of net income associated with these liabilities. Derivative instruments used for risk mitigation are primarily equity futures, equity options and variance swaps. The net amount at risk ("NAR") for guarantees can change significantly during periods of sizable and sustained shifts in equity market performance, increased equity volatility, or changes in interest rates. The NAR disclosed in Note 8 of the Notes to the Interim Condensed Consolidated Financial Statements represents management's estimate of the current value of the benefits under these guarantees if they were all exercised simultaneously atSeptember 30, 2012 andDecember 31, 2011 . However, there are features, such as deferral periods and benefits requiring annuitization or death, that limit the amount of benefits that will be payable in the near future. While the Company believes that the reinsurance and hedging strategies employed for guarantees included in both PABs and in future policy benefits, as well as other risk management actions, have mitigated the risks related to these benefits, the Company remains liable for the guaranteed benefits in the event that reinsurers or derivative counterparties are unable or unwilling to pay. Certain of the Company's reinsurance agreements and most derivative positions are collateralized and derivatives positions are subject to master netting agreements, both of which significantly reduce the exposure to counterparty risk. In addition, the Company is subject to the risk that hedging and other risk management actions prove ineffective or that unanticipated policyholder behavior or mortality, combined with adverse market events, produces economic losses beyond the scope of the risk management techniques employed.
Liquidity and Capital Resources
Overview
Our business and results of operations are materially affected by conditions in the global capital markets and the economy generally. Stressed conditions, volatility and disruptions in global capital markets, particular markets, or financial asset classes can have an adverse effect on us, in part because we have a large investment portfolio and our insurance liabilities are sensitive to changing market factors. The global economy and global markets continue to experience significant volatility that may affect our financing costs and market interest for our securities. Concerns about economic conditions, capital markets and the solvency of certainEuropean Union member states and of financial institutions that have significant direct or indirect exposure to debt issued by these countries have been a cause of elevated levels of market volatility. Financial markets continue to be affected by concerns over U.S. fiscal policy, including the uncertainty regarding the "fiscal cliff," which is comprised of a series of tax increases and automatic government spending cuts that will become effective at the beginning of 2013 unless steps are taken to delay or offset them, as well as the need to again raise the U.S. federal government's debt ceiling by the end of 2012 and reduce the federal deficit. These issues could, on their own, or combined with the slowing of the global economy generally, send the U.S. into a new recession, have severe repercussions to the U.S. and global credit and financial markets, further exacerbate concerns over sovereign debt of other countries and disrupt economic activity in the U.S. and elsewhere. All of these factors could affect the Company's ability to meet liquidity needs and obtain capital. See "- Industry Trends" and "- Investments - Current Environment."
Liquidity Management
Based upon the strength of its franchise, diversification of its businesses and strong financial fundamentals, we continue to believe the Company has ample liquidity to meet business requirements under current market conditions and unlikely but reasonably possible stress scenarios. The Company's short-term liquidity position includes cash and cash equivalents and short-term investments, excluding: (i) cash collateral received under the Company's securities lending program that has been reinvested in cash and cash equivalents, short-term investments and publicly-traded securities, and (ii) cash collateral received from counterparties in connection
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with derivative instruments. AtSeptember 30, 2012 andDecember 31, 2011 , the Company's short-term liquidity position was$20.4 billion and$16.2 billion , respectively. We continuously monitor and adjust our liquidity and capital plans forMetLife, Inc. and its subsidiaries in light of changing needs and opportunities. See " - Investments - Current Environment."
Capital Management
The Company has established several senior management committees as part of its capital management process. These committees, including the Capital Management Committee and the Enterprise Risk Committee, regularly review actual and projected capital levels (under a variety of scenarios including stress scenarios) andMetLife's capital plan in accordance with its capital policy. The Capital Management Committee is comprised of members of senior management, includingMetLife, Inc.'s Chief Financial Officer, Treasurer and Chief Risk Officer. The Enterprise Risk Committee is also comprised of members of senior management, includingMetLife, Inc.'s Chief Financial Officer, Chief Risk Officer and Chief Investment Officer.MetLife's Board and senior management are directly involved in the development and maintenance ofMetLife's capital policy. The capital policy sets forth, among other things, minimum and target capital levels and the governance of the capital management process. All capital actions, including proposed changes to the capital plan, capital targets or capital policy, are reviewed by theFinance and Risk Committee of the Board prior to obtaining full Board approval. The Board approves the capital policy and the annual capital plan and authorizes capital actions, as required. See "- Industry Trends - Regulatory Developments - Regulatory Developments Applicable to Bank Holding Companies" and "Risk Factors - Our Ability to Pay Dividends and Repurchase Common Stock is Subject to Regulatory Restrictions and to Restrictions Under the Terms of Certain of Our Securities," as well as Note 14 of the Notes to the Interim Condensed Consolidated Financial Statements, for information on the Company's capital plan submitted to the Federal Reserve and restrictions on dividends and stock repurchases.
The Company
Liquidity
Liquidity refers to a company's ability to generate adequate amounts of cash to meet its needs. In the event of significant cash requirements beyond anticipated liquidity needs, the Company has various alternatives available depending on market conditions and the amount and timing of the liquidity need. These options include cash flows from operations, the sale of liquid assets, global funding sources and various credit facilities.
Capital
The Company's capital position is managed to maintain its financial strength and credit ratings and is supported by its ability to generate strong cash flows at the operating companies, borrow funds at competitive rates and raise additional capital to meet its operating and growth needs. 216
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Summary of Primary Sources and Uses of Liquidity and Capital
The Company's primary sources and uses of liquidity and capital are summarized as follows: Nine Months EndedSeptember 30, 2012 2011 (In millions) Sources: Net cash provided by operating activities$ 15,288
4,720
2,910
Net cash provided by changes in payables for collateral under securities loaned and other transactions
4,777
7,661
Net cash provided by changes in bank deposits -
296
Net cash provided by short-term debt issuances -
145
Long-term debt issued 750
1,346
Cash received in connection with collateral financing arrangements
-
100
Net change in liability for securitized reverse residential mortgage loans
1,198
-
Common stock issued, net of issuance costs -
2,950
Stock options exercised 89
77
Effect of change in foreign currency exchange rates on cash and cash equivalents balances 24 133 Total sources 26,846 24,652 Uses: Net cash used in investing activities 14,075
23,343
Net cash used for changes in bank deposits 4,052
-
Net cash used for short-term debt repayments 586
-
Long-term debt repaid 1,106
1,192
Collateral financing arrangements repaid 349
-
Cash paid in connection with collateral financing arrangements 44
-
Debt issuance costs 7
1
Redemption of convertible preferred stock -
2,805
Preferred stock redemption premium - 146 Dividends on preferred stock 91 91 Net cash used in other, net 47 68 Total uses 20,357 27,646 Net increase (decrease) in cash and cash equivalents $ 6,489 $ (2,994 ) Liquidity and Capital Sources Cash Flows from Operations. The Company's principal cash inflows from its insurance activities come from insurance premiums, annuity considerations and deposit funds. A primary liquidity concern with respect to these cash inflows is the risk of early contractholder and policyholder withdrawal. Cash Flows from Investments. The Company's principal cash inflows from its investment activities come from repayments of principal, proceeds from maturities, sales of invested assets, settlements of freestanding derivatives and net investment income. The primary liquidity concerns with respect to these cash inflows are the risk of default by debtors and market disruption. The Company closely monitors and manages these risks through its credit risk management process.
Liquid Assets. An integral part of the Company's liquidity management is the amount of liquid assets it holds. Liquid assets include cash and cash equivalents, short-term investments and publicly-traded securities, excluding:
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(i) cash collateral received under the Company's securities lending program that has been reinvested in cash and cash equivalents, short-term investments and publicly-traded securities; (ii) cash collateral received from counterparties in connection with derivative instruments; (iii) cash and cash equivalents, short-term investments and securities on deposit with regulatory agencies; and (iv) securities held in trust in support of collateral financing arrangements and pledged in support of debt and funding agreements, derivative transactions and short sale agreements. AtSeptember 30, 2012 andDecember 31, 2011 , the Company had$291.1 billion and$258.9 billion , respectively, in liquid assets. Global Funding Sources. Liquidity is provided by a variety of short-term instruments, including funding agreements, credit facilities and commercial paper. Capital is provided by a variety of instruments, including short-term and long-term debt, preferred securities, junior subordinated debt securities and equity and equity-linked securities. The diversity of the Company's funding sources enhances funding flexibility, limits dependence on any one market or source of funds and generally lowers the cost of funds. The Company's global funding sources include:
•
commercial paper programs supported by
credit facilities (see "- The Company - Liquidity and Capital Sources -
Credit and Committed Facilities"). MetLife Funding, a subsidiary of
unit for the Company. MetLife Funding raises cash from its commercial paper
program and uses the proceeds to extend loans, through
another subsidiary of MLIC, to
order to enhance the financial flexibility and liquidity of these companies.
Outstanding balances for the commercial paper program fluctuate in line with
changes to affiliates' financing arrangements. Pursuant to a support
agreement, MLIC has agreed to cause MetLife Funding to have a tangible net
worth of at leastone dollar . At bothSeptember 30, 2012 andDecember 31, 2011 , MetLife Funding had a tangible net worth of$12 million . AtSeptember 30, 2012 andDecember 31, 2011 , MetLife Funding had total
outstanding liabilities for its commercial paper program, including accrued
interest payable, of
liabilities for its commercial paper program.
•
opportunities with the Federal Home Loan Bank of
meet variable funding requirements from residential mortgage originations, to
term fund certain assets, and as an alternate source of liquidity. In January
2012,
advances from the FHLB of NY of
2012,
outstanding advances, and MLIC assumed the associated obligations under terms
similar to those of the transferred advances. In connection with the
Bank Events, there will be timing differences in
giving rise to short-term liquidity needs. In order to meet these needs,
through a combination of internally and externally sourced funds. See "-
Support Agreements."
• The Company had obligations under advances evidenced by funding agreements
with the FHLB of NY of
and
During the nine months ended
respectively, of such funding agreements. See Note 8 of the Notes to the
Consolidated Financial Statements included in the 2011 Annual Report. In
connection with the aforementioned
agreements and associated transfer of cash to MLIC in
funding agreements to the FHLB of NY under similar terms, which are included
in the total issuances for the nine months endedSeptember 30, 2012 .
• The Company had obligations under advances evidenced by funding agreements
with the Federal Home Loan Bank of
at bothSeptember 30, 2012 andDecember 31 , 218
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2011, for MetLife Insurance Company of
included in PABs. During the nine months ended
the Company issued$0 and$400 million and repaid$0 and$50 million , respectively, of such funding agreements. See Note 8 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report.
• The Company had obligations under advances evidenced by funding agreements
with the Federal Home Loan Bank of
billion and$695 million atSeptember 30, 2012 andDecember 31, 2011 , respectively, forGeneral American Life Insurance Company andMetLife Investors Insurance Company , which are included in PABs. During the nine
months ended
funding agreements. See Note 8 of the Notes to the Consolidated Financial
Statements included in the 2011 Annual Report.
• The Company issues fixed and floating rate funding agreements, which are
denominated in either U.S. dollars or foreign currencies, to certain special
purpose entities ("SPEs") that have issued either debt securities or
commercial paper for which payment of interest and principal is secured by
such funding agreements. During the nine months ended
2011, the Company issued
which are included in PABs, were$30.5 billion and$25.5 billion , respectively. See Note 8 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report.
• The Company issued funding agreements to the Federal Agricultural Mortgage
Corporation ("Farmer Mac") and to certain SPEs that have issued debt
securities for which payment of interest and principal is secured by such
funding agreements; such debt securities are also guaranteed as to payment of
interest and principal by Farmer Mac. The obligations under all such funding
agreements are secured by a pledge of certain eligible agricultural real
estate mortgage loans and may, under certain circumstances, be secured by
other qualified collateral. The amount of the Company's liability for funding
agreements issued was
September 30, 2012 and 2011, the Company issued$0 and$1.5 billion and repaid$0 and$1.5 billion , respectively, of such funding agreements. See
Note 8 of the Notes to the Consolidated Financial Statements included in the
2011 Annual Report.
Outstanding Debt. The following table summarizes the outstanding debt of the Company at: September 30, 2012 December 31, 2011 (In millions) Short-term debt $ 100 $ 686 Long-term debt (1) $ 16,888 $ 20,624 Collateral financing arrangements $ 4,196 $ 4,647 Junior subordinated debt securities $ 3,192 $ 3,192
(1) Excludes
2011, respectively, of long-term debt relating to CSEs. See Note 3 of the
Notes to the Interim Condensed Consolidated Financial Statements.
Debt Issuances and Other Borrowings. During the nine months endedSeptember 30, 2012 and 2011,MetLife Bank received advances related to long-term borrowings totaling$0 and$1.3 billion , respectively, from the FHLB of NY. During the nine months endedSeptember 30, 2012 and 2011,MetLife Bank received advances related to short-term borrowings totaling$150 million and$5.8 billion , respectively, from the FHLB of NY.
In
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Collateral Financing Arrangements. See Note 11 of the Notes to the Interim Condensed Consolidated Financial Statements.
Remarketing of
Credit and Committed Facilities. The Company maintains unsecured credit facilities and committed facilities, which aggregated
The unsecured credit facilities are used for general corporate purposes, to support the borrowers' commercial paper programs and for the issuance of letters of credit. AtSeptember 30, 2012 , the Company had outstanding$2.1 billion in letters of credit and no drawdowns against these facilities. Remaining unused commitments were$1.9 billion atSeptember 30, 2012 . InSeptember 2012 ,MetLife, Inc. and MetLife Funding entered into a$1.0 billion five-year credit agreement which amended and restated the three-year agreement datedOctober 2010 . All borrowings under the 2012 five-year credit agreement must be repaid bySeptember 2017 , except that letters of credit outstanding on that date may remain outstanding until no later thanSeptember 2018 .MetLife, Inc. incurred costs of$4 million related to the amended and restated credit facility, which have been capitalized and included in other assets. These costs will be amortized over the remaining term of the amended and restated facility.
The committed facilities are used for collateral for certain of the Company's affiliated reinsurance liabilities. At
We have no reason to believe that our lending counterparties will be unable to fulfill their respective contractual obligations under these facilities. As commitments associated with letters of credit and financing arrangements may expire unused, these amounts do not necessarily reflect the Company's actual future cash funding requirements.
Covenants. Certain of the Company's debt instruments, credit facilities and committed facilities contain various administrative, reporting, legal and financial covenants. The Company believes it was in compliance with all such covenants at
Common Stock. During the nine months endedSeptember 30, 2012 and 2011,MetLife, Inc. issued 4,689,799 and 3,152,662 new shares of common stock for$148 million and$103 million , respectively, to satisfy various stock option exercises and other stock-based awards. For a discussion of common stock issued in connection with the remarketing of senior debt securities and settlement of stock purchase contracts, see Note 19 of the Notes to the Interim Condensed Consolidated Financial Statements.
Liquidity and Capital Uses
Debt Repayments. InJune 2012 ,MetLife, Inc. repaid its$397 million senior note with an interest rate of three-month LIBOR + 0.32%. During the nine months endedSeptember 30, 2012 and 2011,MetLife Bank made repayments of$374 million and$690 million , respectively, to the FHLB of NY related to long-term borrowings. During the nine months endedSeptember 30, 2012 and 2011,MetLife Bank made repayments to the FHLB of NY related to short-term borrowings of$735 million and$5.6 billion , respectively. Debt Repurchases. We may from time to time seek to retire or purchase our outstanding debt through cash purchases and/or exchanges for other securities, in open market purchases, privately negotiated transactions or otherwise. Any such repurchases or exchanges will be dependent upon several factors, including our liquidity 220
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requirements, contractual restrictions, general market conditions, and applicable regulatory, legal and accounting factors. Whether or not to repurchase any debt and the size and timing of any such repurchases will be determined in the Company's discretion.
Insurance Liabilities. The Company's principal cash outflows primarily relate to the liabilities associated with its various life insurance, property and casualty, annuity and group pension products, operating expenses and income tax, as well as principal and interest on its outstanding debt obligations. Liabilities arising from its insurance activities primarily relate to benefit payments under the aforementioned products, as well as payments for policy surrenders, withdrawals and loans. For annuity or deposit type products, surrender or lapse product behavior differs somewhat by segment. In the Retail segment, which includes individual annuities, lapses and surrenders tend to occur in the normal course of business. During the nine months endedSeptember 30, 2012 and 2011, general account surrenders and withdrawals from annuity products were$3.1 billion and$2.8 billion , respectively. In Corporate Benefit Funding, which includes pension closeouts, bank-owned life insurance and other fixed annuity contracts, as well as funding agreements (including funding agreements with the FHLB of NY, the FHLB ofDes Moines and the FHLB ofBoston ) and other capital market products, most of the products offered have fixed maturities or fairly predictable surrenders or withdrawals. With regard to Corporate Benefit Funding liabilities that provide customers with limited liquidity rights, atSeptember 30, 2012 there were$3.2 billion of funding agreements and other capital market products that could be put back to the Company after a period of notice. Of these liabilities,$535 million were subject to a notice period of 90 days. The remainder was subject to a notice period of five months or greater. Dividends. Common stock dividend decisions are determined byMetLife, Inc.'s Board of Directors after taking into consideration factors such as the Company's current earnings, expected medium-term and long-term earnings, financial condition, regulatory capital position, and applicable governmental regulations and policies. The payment of dividends and other distributions byMetLife, Inc. to its security holders is subject to regulation by the Federal Reserve. See "Risk Factors - Our Ability to Pay Dividends and Repurchase Common Stock is Subject to Regulatory Restrictions and to Restrictions Under the Terms of Certain of Our Securities" and Note 19 of the Notes to the Interim Condensed Consolidated Financial Statements. Information on the declaration, record and payment dates, as well as per share and aggregate dividend amounts, for Preferred Stock is as follows for the nine months endedSeptember 30, 2012 : Dividend Series A Per Series A Series B Series B Declaration Date Record Date Payment Date Share Aggregate Per Share Aggregate (In millions, except per share data) August 15, 2012 August 31, 2012 September 17, 2012 $ 0.2555555 $ 6 $ 0.4062500 $ 24 May 15, 2012 May 31, 2012 June 15, 2012 $ 0.2555555 7 $ 0.4062500 24 March 5, 2012 February 29, 2012 March 15, 2012 $ 0.2527777 6 $ 0.4062500 24 $ 19 $ 72 Residential Mortgage Loans Held-for-Sale. AtSeptember 30, 2012 andDecember 31, 2011 , the Company held$1.2 billion and$15.2 billion , respectively, in residential mortgage loans held-for-sale. Securitized reverse residential mortgage loans were funded through issuance of GNMA securities, for which the corresponding liability atSeptember 30, 2012 andDecember 31, 2011 of$0 and$7.7 billion , respectively, is included in other liabilities. See Note 2 of the Notes to the Interim Condensed Consolidated Financial Statements. Investment and Other. Additional cash outflows include those related to obligations of securities lending activities, investments in real estate, limited partnerships and joint ventures, as well as litigation-related liabilities. Also, the Company pledges collateral to, and has collateral pledged to it by, counterparties under the Company's current derivative transactions. AtSeptember 30, 2012 andDecember 31, 2011 , the Company was obligated to return cash collateral under its control of$8.6 billion and$9.5 billion , respectively. See "- Investments - Derivative Financial Instruments - Credit Risk." With respect to derivative transactions 221
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with credit ratings downgrade triggers, a two-notch downgrade would have increased the Company's derivative collateral requirements by$98 million atSeptember 30, 2012 . In addition, the Company has pledged collateral and has had collateral pledged to it, and may be required from time to time to pledge additional collateral or be entitled to have additional collateral pledged to it, in connection with collateral financing arrangements related to the reinsurance of closed block liabilities and universal life secondary guarantee liabilities. Securities Lending. The Company participates in a securities lending program whereby blocks of securities, which are included in fixed maturity securities, short-term investments, equity securities and cash and cash equivalents, are loaned to third parties, primarily brokerage firms and commercial banks. The Company obtains collateral, usually cash, from the borrower, which must be returned to the borrower when the loaned securities are returned to the Company. Under the Company's securities lending program, the Company was liable for cash collateral under its control of$29.9 billion and$24.2 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively. Of these amounts,$5.8 billion and$2.7 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively, were on open, meaning that the related loaned security could be returned to the Company on the next business day upon return of cash collateral. The estimated fair value of the securities on loan related to the cash collateral on open atSeptember 30, 2012 was$5.7 billion , of which$5.4 billion were U.S. Treasury and agency securities which, if put to the Company, can be immediately sold to satisfy the cash requirements. See "- Investments - Securities Lending" for further information. Contractual Obligations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - The Company - Liquidity and Capital Uses - Contractual Obligations" included in the 2011 Annual Report for additional information on the Company's contractual obligations. Support Agreements.MetLife, Inc. and several of its subsidiaries (each, an "Obligor") are parties to various capital support commitments, guarantees and contingent reinsurance agreements with certain subsidiaries ofMetLife, Inc. Under these arrangements, each Obligor, with respect to the applicable entity, has agreed to cause such entity to meet specified capital and surplus levels, has guaranteed certain contractual obligations or has agreed to provide, upon the occurrence of certain contingencies, reinsurance for such entity's insurance liabilities. We anticipate that, in the event that these arrangements place demands upon the Company, there will be sufficient liquidity and capital to enable the Company to meet anticipated demands. InJuly 2012 , in connection with an operating agreement with the OCC governingMetLife Bank's operations during its wind-down process,MetLife Bank andMetLife, Inc. entered into a capital support agreement with theOCC andMetLife, Inc. andMetLife Bank entered into an indemnification and capital maintenance agreement under which agreementsMetLife, Inc. will provide financial and other support toMetLife Bank to ensure thatMetLife Bank can wind down its operations in a safe and sound manner. See "- Liquidity and Capital Resources -MetLife, Inc. - Liquidity and Capital Uses - Support Agreements." Litigation. Putative or certified class action litigation and other litigation, and claims and assessments against the Company, in addition to those discussed elsewhere herein and those otherwise provided for in the Company's consolidated financial statements, have arisen in the course of the Company's business, including, but not limited to, in connection with its activities as an insurer, mortgage lending bank, employer, investor, investment advisor and taxpayer. Further, state insurance regulatory authorities and other federal and state authorities regularly make inquiries and conduct investigations concerning the Company's compliance with applicable insurance and other laws and regulations. See Note 12 of the Notes to the Interim Condensed Consolidated Financial Statements. The Company establishes liabilities for litigation and regulatory loss contingencies when it is probable that a loss has been incurred and the amount of the loss can be reasonably estimated. For material matters where a loss is believed to be reasonably possible but not probable, no accrual is made but the Company discloses the nature of the contingency and an aggregate estimate of the reasonably possible range of loss in excess of amounts accrued, when such an estimate can be made. It is not possible to predict or determine the ultimate outcome of all pending investigations and legal proceedings. In some of the matters referred to herein, very large and/or indeterminate 222
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amounts, including punitive and treble damages, are sought. Although in light of these considerations, it is possible that an adverse outcome in certain cases could have a material adverse effect upon the Company's financial position, based on information currently known by the Company's management, in its opinion, the outcome of such pending investigations and legal proceedings are not likely to have such an effect. However, given the large and/or indeterminate amounts sought in certain of these matters and the inherent unpredictability of litigation, it is possible that an adverse outcome in certain matters could, from time to time, have a material adverse effect on the Company's consolidated net income or cash flows in particular quarterly or annual periods.
Capital
Restrictions and Limitations onBank Holding Companies andFinancial Holding Companies.MetLife, Inc. and its insured depository institution subsidiary,MetLife Bank , are subject to risk-based and leverage capital guidelines issued by the federal banking regulatory agencies for banks and bank and financial holding companies. The federal banking regulatory agencies are required by law to take specific prompt corrective actions with respect to institutions that do not meet minimum capital standards. As ofSeptember 30, 2012 , all ofMetLife, Inc.'s andMetLife Bank's risk-based and leverage capital ratios met the federal banking regulatory agencies' "well capitalized" standards. In addition to requirements which may be imposed in connection with the implementation of Dodd-Frank, such as the enhanced prudential standards under proposed Regulation YY, the adoption of the Bank Capital NPRs, stress testing and other regulatory initiatives will also lead to increased capital and liquidity requirements for bank holding companies, such asMetLife, Inc. See "- Industry Trends - Regulatory Developments - Regulatory Developments Applicable toBank Holding Companies" and "Risk Factors - Our Insurance, Brokerage and Banking Businesses Are Highly Regulated, and Changes in Regulation and in Supervisory and Enforcement Policies May Reduce Our Profitability and Limit Our Growth." See also "Business - U.S. Regulation" included in the 2011 Annual Report. See Note 2 to the Notes to the Interim Condensed Consolidated Financial Statements for information regarding the Company's progress toward deregistering as a bank holding company. IfMetLife is able to deregister as a bank holding company, it may be subject to some of the same or other enhanced regulatory requirements if, in the future, it is designated as a non-bank SIFI or as a G-SII. See "- Industry Trends - Regulatory Developments - Regulatory Developments Relating to Non-Bank SIFIs and G-SIIs."
Liquidity and Capital Sources
Dividends from Subsidiaries.MetLife, Inc. relies in part on dividends from its subsidiaries to meet its cash requirements.MetLife, Inc.'s insurance subsidiaries are subject to regulatory restrictions on the payment of dividends imposed by the regulators of their respective domiciles. The dividend limitation for U.S. insurance subsidiaries is generally based on the surplus to policyholders at the end of the immediately preceding calendar year and statutory net gain from operations for the immediately preceding calendar year. Statutory accounting practices, as prescribed by insurance regulators of various states in which the Company conducts business, differ in certain respects from accounting principles used in financial statements prepared in conformity with GAAP. The significant differences relate to the treatment of DAC, certain deferred income tax, required investment liabilities, statutory reserve calculation assumptions, goodwill and surplus notes. The table below sets forth the dividends permitted to be paid by the respective insurance subsidiary without insurance regulatory approval and the respective dividends paid: 2012 Permitted w/o Company Paid Approval (1) (In millions)
American Life Insurance Company $ 1,000 (2) $
168
MetLife Insurance Company of
504
Metropolitan
82
18
Delaware American Life Insurance Company $ - $
12 223
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(1) Reflects dividend amounts that may be paid during 2012 without prior
regulatory approval. However, because dividend tests may be based on dividends previously paid over rolling 12-month periods, if paid before a specified date during 2012, some or all of such dividends may require
regulatory approval. No available amounts were paid by the above subsidiaries
to
described for American Life and MICC.
(2) During
extraordinary dividend for an amount up to the funds remitted in connection
with the Company's restructuring of American Life's business in
dividend may be paid in installments by
billion was remitted to American Life. See Note 2 of the Notes to the Interim
Condensed Consolidated Financial Statements. Of this approved amount, $1.0
billion was paid to
2012, which included the
approval later in 2012, due to the timing of such dividend.
<p>(3) During
an in-kind extraordinary dividend of
statutory basis. Regulatory approval for this extraordinary dividend was
obtained due to the timing of payment. Remaining dividends permitted to be
paid in 2012 without regulatory approval total
The dividend capacity of our non-U.S. operations is subject to similar restrictions established by the local regulators. The non-U.S. regulatory regimes also commonly limit the dividend payments to the parent to a portion of the prior year's statutory income, as determined by the local accounting principles. The regulators of our non-U.S. operations, includingJapan's Financial Services Agency , may also limit or not permit profit repatriations or other transfers of funds to the U.S. if such transfers are deemed to be detrimental to the solvency or financial strength of the non-U.S. operations, or for other reasons. Most of the non-U.S. subsidiaries are second tier subsidiaries which are owned by various non-U.S. holding companies. The capital and rating considerations applicable to the first tier subsidiaries may also impact the dividend flow intoMetLife, Inc. The Company's management actively manages its target and excess capital levels and dividend flows on a proactive basis and forecasts local capital positions as part of the financial planning cycle. The dividend capacity of certain U.S. and non-U.S. subsidiaries is also subject to business targets in excess of the minimum capital necessary to maintain the desired rating or level of financial strength in the relevant market. Management ofMetLife, Inc. cannot provide assurances thatMetLife, Inc.'s subsidiaries will have statutory earnings to support payment of dividends toMetLife, Inc. in an amount sufficient to fund its cash requirements and pay cash dividends and that the applicable regulators will not disapprove any dividends that such subsidiaries must submit for approval. See "Risk Factors - As a Holding Company,MetLife, Inc. Depends on the Ability of Its Subsidiaries to Transfer Funds to It to Meet Its Obligations and Pay Dividends" and Note 18 of the Notes to the Consolidated Financial Statements included in the 2011 Annual Report. Liquid Assets. An integral part ofMetLife, Inc.'s liquidity management is the amount of liquid assets it holds. Liquid assets include cash and cash equivalents, short-term investments and publicly-traded securities, excluding: (i) cash collateral received under the Company's securities lending program that has been reinvested in cash and cash equivalents, short-term investments and publicly-traded securities; (ii) cash collateral received from counterparties in connection with derivative instruments; and (iii) securities held in trust in support of collateral financing arrangements and pledged in support of advances agreements and derivative transactions. AtSeptember 30, 2012 andDecember 31, 2011 ,MetLife, Inc. and otherMetLife holding companies had$5.7 billion and$4.2 billion , respectively, in liquid assets. Of these amounts,$5.0 billion and$3.8 billion atSeptember 30, 2012 andDecember 31, 2011 , respectively, were held byMetLife, Inc. Global Funding Sources. Liquidity is also provided by a variety of short-term instruments, including commercial paper. Capital is provided by a variety of instruments, including medium- and long-term debt, junior subordinated debt securities, collateral financing arrangements, capital securities and stockholders' equity. The 224
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diversity of
We continuously monitor and adjust our liquidity and capital plans in light of changing requirements and market conditions.
Long-term Debt. The following table summarizes the outstanding long-term debt ofMetLife, Inc. at: September 30, 2012 December 31, 2011 (In millions) Long-term debt - unaffiliated $ 16,061 $ 15,666 Long-term debt - affiliated (1) $ 1,000 $ 500 Collateral financing arrangements $ 2,797 $ 2,797 Junior subordinated debt securities $ 1,748 $ 1,748
(1) In
from
for the assumed debt. In
notes matured, and in
issued by
in
The
fixed rate of 3.57%, payable semi-annually.
Covenants. Certain ofMetLife, Inc.'s debt instruments, credit facilities and committed facilities contain various administrative, reporting, legal and financial covenants.MetLife, Inc. believes it was in compliance with all such covenants atSeptember 30, 2012 .
Common Stock. For information on common stock issued by
Liquidity and Capital Uses
The primary uses of liquidity ofMetLife, Inc. include debt service, cash dividends on common and preferred stock, capital contributions to subsidiaries, payment of general operating expenses and acquisitions. Based on our analysis and comparison of our current and future cash inflows from the dividends we receive from subsidiaries that are permitted to be paid without prior insurance regulatory approval, our asset portfolio and other cash flows and anticipated access to the capital markets, we believe there will be sufficient liquidity and capital to enableMetLife, Inc. to make payments on debt, make cash dividend payments on its common and preferred stock, contribute capital to its subsidiaries, pay all general operating expenses and meet its cash needs. Affiliated Capital Transactions. During the nine months endedSeptember 30, 2012 and 2011,MetLife, Inc. invested an aggregate of$1.6 billion and$1.3 billion , respectively, in various subsidiaries.MetLife, Inc. lends funds, as necessary, to its subsidiaries, some of which are regulated, to meet their capital requirements. InMarch 2012 , American Life issued a note toMetLife, Inc. for$175 million which American Life repaid inJune 2012 . AtDecember 31, 2011 ,MetLife, Inc. did not have any loans to subsidiaries outstanding. Debt Repayments. InJune 2012 ,MetLife, Inc. repaid a$397 million senior note with an interest rate of three-month LIBOR + 0.32%.MetLife, Inc. intends to repay all or refinance in whole or in part the debt that is due in 2012. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources -MetLife, Inc. - Liquidity and Capital Sources - Senior Notes" included in the 2011 Annual Report. 225
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Support Agreements.
InJuly 2012 , in connection with an operating agreement with the OCC governingMetLife Bank's operations during its wind-down process,MetLife Bank andMetLife, Inc. entered into a capital support agreement with theOCC and MetLife, Inc. andMetLife Bank entered into an indemnification and capital maintenance agreement under which agreementsMetLife, Inc. will provide financial and other support toMetLife Bank to ensure thatMetLife Bank can wind down its operations in a safe and sound manner. Pursuant to the agreements,MetLife, Inc. is required to ensure thatMetLife Bank meets or exceeds certain minimum capital and liquidity requirements once its FDIC insurance has been terminated and make indemnification payments toMetLife Bank in connection withMetLife Bank's obligation under theApril 2011 consent decree betweenMetLife Bank and the OCC.
Adoption of New Accounting Pronouncements
See Note 1 of the Notes to the Interim Condensed Consolidated Financial Statements.
Future Adoption of New Accounting Pronouncements
See Note 1 of the Notes to the Interim Condensed Consolidated Financial Statements.
Subsequent Events
See Note 19 of the Notes to the Interim Condensed Consolidated Financial Statements.
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