Newswires
AMERICAN EQUITY INVESTMENT LIFE HOLDING CO – 10-Q – Management's Discussion and Analysis of Financial Condition and Results of Operations
Management's discussion and analysis reviews our unaudited consolidated financial position atSeptember 30, 2022 , and the unaudited consolidated results of operations for the three and nine month periods endedSeptember 30, 2022 and 2021, and where appropriate, factors that may affect future financial performance. This analysis should be read in conjunction with our unaudited consolidated financial statements and notes thereto appearing elsewhere in this Form 10-Q, and the audited consolidated financial statements, notes thereto and selected consolidated financial data appearing in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . Interim operating results for the three and nine months endedSeptember 30, 2022 are not necessarily indicative of the results expected for the entire year. Preparation of financial statements requires use of management estimates and assumptions.
Cautionary Statement Regarding Forward-Looking Information
All statements, trend analysis and other information contained in this report and elsewhere (such as in filings by us with theSEC , press releases, presentations by us or management or oral statements) may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended. Forward-looking statements give expectations or forecasts of future events and do not relate strictly to historical or current facts. They may relate to markets for our products, trends in our operations or financial results, strategic alternatives, future operations, strategies, plans, partnerships, investments, share buybacks and other financial developments. They use words and terms such as anticipate, assume, believe, can, continue, could, enable, estimate, expect, foreseeable, goal, improve, intend, likely, may, model, objective, opportunity, outlook, plan, potential, project, remain, risk seek, should, strategy, target, will, would, and other words and terms of similar meaning or that are otherwise tied to future periods or future performance, in each case in all forms of speech and derivative forms, or similar words, as well as any projections of future events or results. Forward-looking statements, by their nature, are subject to a variety of assumptions, risks, and uncertainties that could cause actual results to differ materially from the results projected. Many of these risks and uncertainties cannot be controlled by the Company. Factors that may cause our actual decisions or results to differ materially from those contemplated by these forward-looking statements include, among other things: • results differing from assumptions, estimates, and models. • interest rate condition changes. • investment losses or failures to grow as quickly as expected due to market, credit, liquidity, concentration, default, and other risks. • option costs increases. • counterparty credit risks. • third parties service-provider failures to perform or to comply with legal or regulatory requirements. • poor attraction and retention of customers or distributors due to competitors' greater resources, broader array of products, and higher ratings. • information technology and communication systems failures or security breaches. • credit or financial strength downgrades. • inability to raise additional capital to support our business and sustain our growth on favorable terms. •U.S. and global capital market and economic deterioration due to major public health issues, including the COVID-19 pandemic, political or social developments, or otherwise. • failure to authorize and pay dividends on our preferred stock. • subsidiaries' inability to pay dividends or make other payments to us. • failure at reinsurance, investment management, or third-party capital arrangements. • failure to prevent excessive risk-taking. • failure of policies and procedures to protect from operational risks. • increased litigation, regulatory examinations, and tax audits. • changes to laws, regulations, accounting, and benchmarking standards. • takeover or combination delays or deterrence by laws, corporate governance documents, or change-in-control agreements. • effects of climate changes, or responses to it. • failure of efforts to meet environmental, social, and governance standards and to enhance sustainability. For a detailed discussion of these and other factors that might affect our performance, see Item 1A of our Annual Report on Form 10-K for the year endedDecember 31, 2021 and any disclosure in Item 1A of our Quarterly Reports on Form 10-Q. Forward -looking statements speak only as of the date the statement was made and the Company undertakes no obligation to update such forward-looking statements. There can be no assurance that other factors not currently disclosed or anticipated by the Company will not materially adversely affect our results of operations or plans. Investors are cautioned not to place undue reliance on any forward-looking statements made by us or on our behalf.
Our Business and Profitability
We specialize in the sale of individual annuities (primarily fixed and fixed
index deferred annuities) through independent marketing organizations ("IMOs"),
agents, banks and broker-dealers. Fixed and fixed index annuities are an
important product for Americans looking to fund their retirement needs as
annuities have the ability to provide retirees a paycheck for life.
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UnderU.S. GAAP, premium collections for deferred annuities are reported as deposit liabilities instead of as revenues. Similarly, cash payments to policyholders are reported as decreases in the liabilities for policyholder account balances and not as expenses. Sources of revenues for products accounted for as deposit liabilities are net investment income, surrender charges assessed against policy withdrawals and fees deducted from policyholder account balances for lifetime income benefit riders, net realized gains (losses) on investments and changes in fair value of derivatives. Components of expenses for products accounted for as deposit liabilities are interest sensitive and index product benefits (primarily interest credited to account balances and changes in the liability for lifetime income benefit riders), changes in fair value of embedded derivatives, amortization of deferred sales inducements and deferred policy acquisition costs, other operating costs and expenses and income taxes.
Our profitability depends in large part upon:
•the amount of assets under our management, •investment spreads we earn on our policyholder account balances, •our ability to manage our investment portfolio to maximize returns and minimize risks such as interest rate changes and defaults or credit losses, •our ability to appropriately price for lifetime income benefit riders offered on certain of our fixed rate and fixed index annuity policies, •our ability to manage interest rates credited to policyholders and costs of the options purchased to fund the annual index credits on our fixed index annuities, •our ability to manage the costs of acquiring new business (principally commissions paid to agents and distribution partners and bonuses credited to policyholders), •our ability to manage our operating expenses, and •income taxes. While the business looks considerably different today than it did when it was started back in 1995, the themes have been consistent. We offer our customers simple fixed and fixed index annuity products, which we primarily sell through independent insurance agents in the IMO distribution channel. We have consistently been a leader in the IMO market. We benefit from two secular trends: the demographic trends of people retiring or getting close to retirement who want to accumulate wealth through index based investing while protecting their principal and the need of retirees and pre-retirees to have a way to deaccumulate their wealth into income for life. A traditional brokerage based equity bond portfolio can't really meet these unique needs, but a fixed index annuity can as part of a holistic financial plan. Finally, there is a scarcity value to what we do: that is originating billions of dollars of annuity funding each year at scale from the IMO channel, which is generally longer term funding than that achieved through sales in the bank and broker dealer channel. In the past decade, the fixed and fixed index annuity market has seen many new entrants and as a result has become more competitive. Adding to that, low interest rates have made it more difficult for traditional, core investment grade fixed income asset allocations to support return expectations on annuity liabilities. With these changes in the macro environment, we began to implement an updated strategy, referred to as AEL 2.0, after having undertaken a thorough review of our business in 2020. AEL 2.0 is designed to capitalize on the scarcity value of our annuity origination and couple it with an "open architecture" investment management platform for investing the annuity assets. Our approach to investment management is to partner with best in class investment management firms across a wide array of asset classes and capture part of the asset management value chain economics for our shareholders. This will enable us to operate at the intersection of both asset management and insurance. Our updated strategy focuses on four key pillars: Go-to-Market, Investment Management, Capital Structure and Foundational Capabilities.
During the first nine months of 2022, we continued to make significant progress
in the execution of the AEL 2.0 strategy. Key areas of progress include the
following:
•We continued to increase our allocation of investments to private assets. As of
portfolio consisted of private assets.
•We executed an agreement with North End Re (Cayman) SPC ("North End Re"), a
wholly owned subsidiary of Brookfield Reinsurance to expand our income products
that will fund the additional $6 billion in capacity that exists under the
reinsurance treaty signed with North End Re in 2021.
•American Equity Life ranked #1 annuity provider for Customer Satisfaction among
Annuity Providers in the
•We repurchased 13.6 million shares of Company common stock at an average price
of
•We established a new five-year credit agreement for$300 million in unsecured delayed draw term loan commitments. This agreement is part of our plans for access to liquidity for general corporate purposes as we continue to implement AEL 2.0. InJuly 2022 , we borrowed$300 million under the unsecured delayed draw term loan and are using the proceeds for general corporate purposes. •During the third quarter of 2022, we made an equity investment in 26NorthHoldings LP , a multi-asset investment platform founded and led byJosh Harris . Over time, we believe this may present AEL an attractive opportunity to source assets in private credit and private equity that aligns well with an insurer's balance sheet and risk profile. 38
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•EffectiveOctober 1, 2022 , we entered into a reinsurance agreement to cede 100% of certain 2008 and 2010 fixed index and fixed rate annuity policies, totaling$4.3 billion of GAAP reserves, withAeBe ISA LTD , aBermuda exempted company which is an incorporated segregated account licensed as a Class E reinsurer and is affiliated with 26NorthHoldings LP . 26NorthHoldings LP will provide asset management services to the reinsurance entity, Additionally,Agam Capital , an insurance risk, regulatory oversight, and liability consulting firm with offices inBermuda , US andIndia , will provide liability management services to the reinsurance entity. We estimate the initial capital release from the execution of the agreement to be in excess of$250 million while the impact to 2023 operating earnings is expected to be immaterial. Additionally, under the agreement, we have the optionality to cede up to$525 million of single premium fixed deferred annuities in a given calendar year, subject to risk adjusted pricing terms that are acceptable to American Equity at that time. See Note 10 - Subsequent Events for more information. In the next few years, we expect to migrate to a capital efficient business model with increased fee-like earnings. We will scale our investments into higher returning private assets, grow reinsured liabilities to side-cars to grow return on asset earnings, and write new business that converts us from the traditional spread based return on equity model to a "fee like" return on assets model through reinsurance. During the first quarter of 2022, an additional 6,775,000 shares were issued to Brookfield at$37.33 per share, the Company's adjusted book value as ofSeptember 30, 2021 . The additional issuance increased Brookfield's total combined ownership to approximately 16% of the Company's common stock at the time of issuance. OnOctober 18, 2020 , the Company's Board of Directors approved a$500 million share repurchase program. OnNovember 19, 2021 , the Company's Board of Directors authorized the repurchase of an additional$500 million of Company common stock. The purpose of the share repurchase program is to both offset dilution from the issuance of shares to Brookfield and to institute a regular capital return program for shareholders. From the 2020 inception of the share repurchase program throughSeptember 30, 2022 , we have repurchased approximately 22.7 million shares of our common stock at an average price of$34.63 per common share. OnApril 29, 2022 , Fitch affirmed its "A-" financial strength rating onAmerican Equity Investment Life Insurance Company and its life insurance subsidiaries, its "BBB" issuer default rating onAmerican Equity Investment Life Holding Company and its "BBB-" senior unsecured debt ratings, and revised its outlook to "stable" from "negative" on its financial strength, issuer default and senior unsecured debt ratings. OnSeptember 9, 2022 ,A.M. Best affirmed its "A-" financial strength rating onAmerican Equity Investment Life Insurance Company and its subsidiaries,American Equity Investment Life Insurance Company of New York andEagle Life Insurance Company , its "bbb-" long-term issuer credit rating ofAmerican Equity Investment Life Holding Company , its "bbb-" senior unsecured debt ratings, and its "bb" perpetual, non-cumulative preferred stock ratings. The outlook for these credit ratings of "stable" was also affirmed byA.M. Best onSeptember 9, 2022 .
Earnings from products accounted for as deposit liabilities are primarily
generated from the excess of net investment income earned over the interest
credited or the cost of providing index credits to the policyholder, or the
"investment spread." Our investment spread is summarized as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Average yield on invested assets 4.48% 3.91% 4.33% 3.71%
Aggregate cost of money 1.75% 1.51% 1.69% 1.55%
Aggregate investment spread 2.73% 2.40% 2.64% 2.16%
Impact of:
Investment yield - additional prepayment
income 0.03% 0.12% 0.04% 0.11%
Cost of money benefit from over hedging -% 0.08% 0.02% 0.05%
The cost of money for fixed index annuities and average crediting rates for
fixed rate annuities are computed based upon policyholder account balances and
do not include the impact of amortization of deferred sales inducements. See
Critical Accounting Policies - Deferred Policy Acquisition Costs and Deferred
Sales Inducements included in Management's Discussion and Analysis in our Annual
Report on Form 10-K for the year ended December 31, 2021 . With respect to our
fixed index annuities, the cost of money includes the average crediting rate on
amounts allocated to the fixed rate strategy and expenses we incur to fund the
annual index credits. Proceeds received upon expiration of call options
purchased to fund annual index credits are recorded as part of the change in
fair value of derivatives, and are largely offset by an expense for interest
credited to annuity policyholder account balances. See Critical Accounting
Policies - Policy Liabilities for Fixed Index Annuities and Financial Condition
- Derivative Instruments included in Management's Discussion and Analysis in our
Annual Report on Form 10-K for the year ended December 31, 2021 .
Average yields on invested assets increased primarily as a result of strong
returns on partnerships and other mark to market assets, lower average cash
balances and the ramp in private assets partly offset by lower prepayment
income. See Net investment income. The aggregate cost of money increased
primarily due to increases in options costs as compared to prior periods. We
have the flexibility to reduce our crediting rates if necessary and could
decrease our cost of money by approximately 74 basis points if we reduce current
rates to guaranteed minimums.
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Results of Operations for the Three and Nine Months Ended
2021
Annuity deposits by product type collected during the three and nine months
ended
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
American Equity Investment Life Insurance
Company :
Fixed index annuities $ 627,444 $ 727,641 $ 2,055,120 $ 1,947,241
Annual reset fixed rate annuities 1,271 1,462 3,473 5,285
Multi-year fixed rate annuities 4,465 14,196 7,295 849,062
Single premium immediate annuities 1,915 16,282 18,441 45,671
635,095 759,581 2,084,329 2,847,259
Eagle Life Insurance Company :
Fixed index annuities 102,379 187,611 333,507 520,967
Annual reset fixed rate annuities 143 - 150 337
Multi-year fixed rate annuities 14,684 362,769 17,147 1,556,391
117,206 550,380 350,804 2,077,695
Consolidated:
Fixed index annuities 729,823 915,252 2,388,627 2,468,208
Annual reset fixed rate annuities 1,414 1,462 3,623 5,622
Multi-year fixed rate annuities 19,149 376,965 24,442 2,405,453
Single premium immediate annuities 1,915 16,282 18,441 45,671
Total before coinsurance ceded 752,301 1,309,961 2,435,133 4,924,954
Coinsurance ceded 253,446 203,218 682,461 209,968
Net after coinsurance ceded $ 498,855 $ 1,106,743
Annuity deposits before and after coinsurance ceded decreased 43% and 55%, respectively, during the third quarter of 2022 compared to the same period in 2021 and decreased 51% and 63%, respectively, during the nine months endedSeptember 30, 2022 compared to the same period in 2021. The decreases in sales for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 were primarily driven by a reduction in sales of multi-year fixed rate annuity products at bothAmerican Equity Life and Eagle Life, which is in line with our 2022 sales strategy of focusing on sales of fixed index annuities. The decreases in sales of fixed index annuities for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 was driven by our choice to maintain operational discipline over chasing the market as interest rates fluctuated. EffectiveJuly 1, 2021 , we ceded 100% of an in-force block of fixed index annuities and began ceding 75% of certain fixed index annuities issued afterJuly 1, 2021 to North End Re, which caused the increase in coinsurance ceded premiums for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021. Net income available to common stockholders increased to$301.7 million in the third quarter of 2022 and increased to$1,206.6 million for the nine months endedSeptember 30, 2022 compared to$141.9 million and$348.1 million for the same periods in 2021. The increase in net income available to common stockholders for the three months endedSeptember 30, 2022 was driven primarily by an increase in net investment income and decrease in interest sensitive and index product benefits. These changes were partially offset by a decrease in the change in fair value of derivatives, an increase in amortization of deferred sales inducements and deferred policy acquisition costs, and an increase in the change in fair value of embedded derivatives . The increase in net income available to common stockholders for the nine months endedSeptember 30, 2022 was driven primarily by an increase in net investment income, a decrease in the change in fair value of embedded derivatives and a decrease in interest sensitive and index product benefits. These changes were partially offset by a decrease in the change in fair value of derivatives and increase in amortization of deferred sales inducements and deferred policy acquisition costs. Net income available to common stockholders for the three and nine months endedSeptember 30, 2022 was positively impacted by an increase in the aggregate investment spread as previously noted. Net income, in general, is impacted by the volume of business in force and the investment spread earned on this business. The average amount of annuity account balances outstanding (net of annuity liabilities ceded under coinsurance agreements) decreased 0.6% to$52.3 billion for the third quarter of 2022 and 3.3% to$52.8 billion for the nine months endedSeptember 30, 2022 compared to$52.6 billion and$54.6 billion for the same periods in 2021. Our investment spread measured in dollars was$382.7 million for the third quarter of 2022 and$1,091.7 million for the nine months endedSeptember 30, 2022 compared to$323.2 million and$876.0 million for the same periods in 2021. Investment income for the three and nine months endedSeptember 30, 2022 was positively impacted by strong returns on partnerships and other mark to market assets, the benefit from higher short-term interest rates, lower cash balances and an increase in allocation to higher yielding privately sourced assets (see Net investment income). The volume of cash and cash equivalent holdings decreased in the fourth quarter of 2021 and the first quarter of 2022 with the execution of the reinsurance treaty with North End Re and the investment of cash balances above our target levels. 40
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Net income was also impacted by the change in fair value of derivatives and embedded derivatives, which fluctuates from period to period based upon changes in fair values of call options purchased to fund the annual index credits for fixed index annuities and changes in interest rates used to discount the embedded derivative liability. Net income for the three and nine months endedSeptember 30, 2022 was positively impacted by decreases in expected index credits on the next policy anniversary dates resulting from decreases in the fair value of the call options acquired to fund these index credits and net increases in the discount rates used to estimate the fair value of our embedded derivative liabilities, the impacts of which were partially offset by decreases in the change in fair value of derivatives and increases in amortization of deferred policy acquisition costs and deferred sales inducements related to changes in fair value of derivatives and embedded derivatives. See discussion below for the drivers of changes in net income as a result of actuarial assumption updates. See Change in fair value of derivatives, Change in fair value of embedded derivatives, Amortization of deferred sales inducements and Amortization of deferred policy acquisition costs. We periodically update the key assumptions used in the calculation of amortization of deferred policy acquisition costs and deferred sales inducements retrospectively through an unlocking process when estimates of current or future gross profits/margins (including the impact of realized investment gains and losses) to be realized from a group of products are revised. In addition, we periodically update the assumptions used in determining the liability for lifetime income benefit riders and the embedded derivative component of our fixed index annuity policy benefit reserves as experience develops that is different from our assumptions.
Net income available to common stockholders for the 2022 and 2021 periods
includes effects from updates to assumptions as follows:
Three and Nine Months Ended
September 30,
2022 2021
(Dollars in thousands)
Increase (decrease) in amortization of deferred sales inducements $ 45,682 $ (51,412)
Increase (decrease) in amortization of deferred policy
acquisition costs 56,853 (52,602)
(Decrease) increase in interest sensitive and index product
benefits
(53,042) 233,178 Decrease in change in fair value of embedded derivatives (94,770) (125,752) Effect on net income available to common stockholders 35,543 (2,678)
We review these assumptions quarterly and as a result of these reviews, we made
updates to assumptions in the third quarter of 2022 and 2021.
The most significant assumption updates made in the third quarter of 2022 were to investment spread assumptions, including the net investment earned rate and crediting rate on policies, lapse rate and partial withdrawal assumptions, and lifetime income benefit rider utilization assumptions. We updated our assumption for net investment spread forAmerican Equity Life to remain steady at 2.60% through an eight-year reversion period. We increased our long-term net investment earned rate assumption by 40 basis points with an assumption of 4.25% in the near term increasing to 5.00% over the eight-year reversion period, and we increased our long-term crediting/discount rate assumption by 30 basis points with an assumption of 1.65% in the near term increasing to 2.40% over the eight year reversion period. In addition, we adjusted the grading of the discount rate assumption in the embedded derivative calculation. This change results in an increase in expected future gross profits and therefore a slight increase in the deferred policy acquisition costs and deferred sales inducements balances. This also results in a decrease in the liability for lifetime income benefit riders due to a higher discount rate and a decrease in the fair value of the embedded derivative due to the grading of the crediting rate assumption. We updated lapse rate and partial withdrawal assumptions based on actual historical experience. We refreshed lapse tables based on five years of lapse experience and implemented a 1% lapse floor. For policies with a lifetime income benefit rider that does not charge a fee, we increased the lapse rates. For policies with a lifetime income benefit rider that has been utilized, we decreased the lapse rates. We expanded our partial withdrawal assumptions to include scalars in our assumptions during the surrender charge period, shock period, and post-shock period. This resulted in partial withdrawals extending beyond the surrender charge period. The net impact of the lapse rate and partial withdrawal assumptions resulted in a decrease in expected future gross profits and a decrease in the deferred policy acquisition costs and deferred sales inducements balances. The net impact of these changes resulted in an increase in the liability for lifetime income benefit riders due to higher excess claims and lower gross profits and increased the fair value of the embedded derivative due to lower overall lapses and partial withdrawals. We updated our lifetime income benefit rider utilization assumption structure to capture policyholder characteristics at a more granular level. This resulted in an increase in the number of policies utilizing and increased the excess claims. The impact of this change results in an increase in the liability for lifetime income benefit riders, an increase in the fair value of the embedded derivative, and an increase in the deferred policy acquisition costs and deferred sales inducements balances. The most significant assumption updates made in the third quarter of 2021 were to investment spread assumptions, including the net investment earned rate and crediting rate on policies, lifetime income benefit rider utilization assumptions, mortality assumptions, and lapse rate assumptions as discussed below. Due to the continued low interest rate environment, we updated our assumption for investment spread forAmerican Equity Life to 2.25% in the near term and increasing to 2.50% over an eight-year reversion period and our assumption for crediting/discount rate to 1.55% increasing 41
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to 2.10% over an eight-year reversion period. Prior to these assumption updates,
our long-term assumption for aggregate investment spread was at 2.60% at then
end of an eight-year reversion period, with a near term crediting/discount rate
of 1.90% increasing to 2.10% over an eight-year reversion period. The assumption
change to decrease aggregate investment spread resulted in lower expected future
gross profits as compared to previous estimates and a decrease in the balances
of deferred policy acquisition costs and deferred sales inducements.
We updated lapse rate and mortality assumptions based on historical experience.
For certain annuity products without a lifetime income benefit rider, the lapse
rate assumption was increased in more recent cohorts to reflect higher lapses on
polices with a market value adjustment ("MVA") feature. For other annuity
products with a lifetime income benefit rider, the population was bifurcated
based on whether policies had utilized the rider. For those policies which had
utilized the rider, the lapse rate assumption was decreased in later durations.
The overall mortality assumption was lowered to reflect historical experience.
The net impact of the updates to the lapse rate and mortality assumptions
resulted in higher expected future gross profits as compared to previous
estimates and an increase in the balances of deferred policy acquisition costs
and deferred sales inducements. The net impact of the updates to lapse rate and
mortality assumptions resulted in an increase in the liability for lifetime
income benefit riders due to a greater amount of expected benefit payments in
excess of account values.
We updated the lifetime income benefit rider utilization assumption based on
historical experience. The ultimate utilization assumption was lowered for
policies with a fee rider and certain policies with a no-fee rider. In addition,
the utilization assumption was changed to reflect seasonality with higher
utilization rates during the first quarter of each year. The net impact of the
updates to the utilization assumption resulted in a decrease in the liability
for lifetime income benefit riders due to a lower amount of expected benefits
payments due to lower expected utilization. The net impact of the updates to the
utilization assumption resulted in higher expected future gross profits as
compared to previous estimates and an increase in the balances of deferred
policy acquisition costs and deferred sales inducements.
The most significant assumption update to the calculation of the fair value of
the embedded derivative component of our fixed index annuity policy benefit
reserve in the third quarter of 2021 was the change in lapse rate assumptions
discussed above. The net impact of the updates to the lapse rate assumption
resulted in a decrease in the embedded derivative component of our fixed index
annuity policy benefit reserves as less funds ultimately qualify for excess
benefits.
Non-GAAP operating income available to common stockholders, a non-GAAP financial
measure, increased to $114.0 million in the third quarter of 2022 and increased
to $295.0 million for the nine months ended September 30, 2022 compared to $79.5
million and $214.7 million for the same periods in 2021.
In addition to net income available to common stockholders, we have consistently
utilized non-GAAP operating income available to common stockholders, a non-GAAP
financial measure commonly used in the life insurance industry, as an economic
measure to evaluate our financial performance. Non-GAAP operating income
available to common stockholders equals net income available to common
stockholders adjusted to eliminate the impact of items that fluctuate from
quarter to quarter in a manner unrelated to core operations, and we believe
measures excluding their impact are useful in analyzing operating trends. The
most significant adjustments to arrive at non-GAAP operating income available to
common stockholders eliminate the impact of fair value accounting for our fixed
index annuity business and are not economic in nature but rather impact the
timing of reported results. We believe the combined presentation and evaluation
of non-GAAP operating income available to common stockholders together with net
income available to common stockholders provides information that may enhance an
investor's understanding of our underlying results and profitability.
Non-GAAP operating income available to common stockholders is not a substitute
for net income available to common stockholders determined in accordance with
GAAP. The adjustments made to derive non-GAAP operating income available to
common stockholders are important to understand our overall results from
operations and, if evaluated without proper context, non-GAAP operating income
available to common stockholders possesses material limitations. As an example,
we could produce a low level of net income available to common stockholders or a
net loss available to common stockholders in a given period, despite strong
operating performance, if in that period we experience significant net realized
losses from our investment portfolio. We could also produce a high level of net
income available to common stockholders in a given period, despite poor
operating performance, if in that period we generate significant net realized
gains from our investment portfolio. As an example of another limitation of
non-GAAP operating income available to common stockholders, it does not include
the decrease in cash flows expected to be collected as a result of credit losses
on financial assets. Therefore, our management reviews net realized investment
gains (losses) and analyses of our net investment income, including impacts
related to credit losses, in connection with their review of our investment
portfolio. In addition, our management examines net income available to common
stockholders as part of their review of our overall financial results.
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The adjustments made to net income available to common stockholders to arrive at non-GAAP operating income available to common stockholders for the three and nine months endedSeptember 30, 2022 and 2021 are set forth in the table that follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (Dollars in thousands) Reconciliation from net income available to common stockholders to non-GAAP operating income available to common stockholders: Net income available toAmerican Equity Investment Life Holding Company common stockholders$ 301,682 $ 141,947 $ 1,206,647 $ 348,099 Adjustments to arrive at non-GAAP operating income available to common stockholders: Net realized (gains) losses on financial assets, including credit losses 9,738 (3,900) 51,595 2,528 Change in fair value of derivatives and embedded derivatives (248,823) (75,879) (1,219,322) (172,746) Income taxes 51,403 17,285 256,120 36,801 Non-GAAP operating income available to common stockholders$ 114,000 $ 79,453
The amounts disclosed in the reconciliation above are presented net of related
adjustments to amortization of deferred sales inducements and deferred policy
acquisition costs and accretion of lifetime income benefit rider reserves where
applicable.
Non-GAAP operating income available to common stockholders for
the 2022 and 2021 periods includes effects from updates to assumptions as
follows:
Three and Nine Months Ended
September 30,
2022 2021
(Dollars in thousands)
Increase (decrease) in amortization of deferred sales inducements $ 8,670 $ (73,791)
Increase (decrease) in amortization of deferred policy
acquisition costs 10,520 (87,029)
(Decrease) increase in interest sensitive and index product
benefits
(53,042) 233,178
Effect on non-GAAP operating income available to common
stockholders
26,572 (56,801) The impact to net income available to common stockholders and non-GAAP operating income available to common stockholders from assumption updates varies due to the impact of fair value accounting for our fixed index annuity business as non-GAAP operating income available to common stockholders eliminates the impact of fair value accounting for our fixed index annuity business. While the assumption updates made during 2022 and 2021 were consistently applied, the impact to net income available to common stockholders and non-GAAP operating income available to common stockholders varies due to different amortization rates being applied to gross profit adjustments included in the valuation. The changes in non-GAAP operating income available to common stockholders for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 were primarily a result of the impact of assumption updates as previously noted. Non-GAAP operating income available to common stockholders adjusted for the impact of updates to assumptions for the three and nine months months endedSeptember 30, 2022 decreased compared to the same periods in 2021. The decrease is primarily due an increase in the liability for lifetime income benefit riders, higher amortization of deferred policy acquisition costs and deferred sales inducements and higher interest credited to policyholders partially offset by higher investment income. See Net income available to common stockholders. 43
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Annuity product charges (surrender charges assessed against policy withdrawals and fees deducted from policyholder account balances for lifetime income benefit riders) increased 4% to$60.8 million in the third quarter of 2022 and decreased 7% to$168.7 million for the nine months endedSeptember 30, 2022 compared to$58.5 million and$182.3 million for the same periods in 2021. The components of annuity product charges are set forth in the table that follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (Dollars in thousands) Surrender charges$ 19,783 $ 16,481 $ 50,669 $ 54,019 Lifetime income benefit riders (LIBR) fees 41,036 41,999 118,019 128,302$ 60,819 $ 58,480 $ 168,688 $ 182,321 Withdrawals from annuity policies subject to surrender charges$ 328,503 $ 313,557 $ 785,956 $ 875,046 Average surrender charge collected on withdrawals subject to surrender charges 6.0 % 5.3 % 6.4 % 6.2 % Fund values on policies subject to LIBR fees$ 5,061,814 $ 5,260,739 $ 14,820,475 $ 16,563,433 Weighted average per policy LIBR fee 0.81 % 0.80 % 0.80 % 0.77 % The increase in annuity product charges for the three months endedSeptember 30, 2022 compared to the same period in 2021 was attributable to increases in withdrawals from annuity policies subject to surrender charges partially offset by decreases in fees assessed for lifetime income benefit riders due to a smaller volume of business in force subject to the fee. The decrease in annuity product charges for the nine months endedSeptember 30, 2022 compared to the same period in 2021 was attributable to decreases in withdrawals from annuity policies subject to surrender charges and decreases in fees assessed for lifetime income benefit riders due to a smaller volume of business in force subject to the fee. The smaller volume of business subject to the fee is primarily due to the execution of the North End Re reinsurance treaty which was effective onJuly 1, 2021 . See Interest sensitive and index product benefits below for corresponding expense recognized on lifetime income benefit riders. Net investment income increased 16% to$609.7 million in the third quarter of 2022 and 16% to$1,769.5 million for the nine months endedSeptember 30, 2022 compared to$526.4 million and$1,522.9 million for the same periods in 2021. The increases were principally attributable to increases in the average yield earned on average invested assets during the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021. Average invested assets excluding derivative instruments (on an amortized cost basis) increased 1% to$54.4 billion for the third quarter of 2022 and decreased 1% to$54.6 billion for the nine months endedSeptember 30, 2022 compared to$53.8 billion and$54.9 billion for the same periods in 2021. The average yield earned on average invested assets was 4.48% for the third quarter of 2022 and 4.33% for the nine months endedSeptember 30, 2022 compared to 3.91% and 3.71% for the same periods in 2021. The increases in yield earned on average invested assets for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 were primarily due to strong returns on partnerships and other mark to market assets, the benefit from higher short-term interest rates, lower average cash balances and an increase private assets partly offset by lower prepayment income. Cash and cash equivalents holdings averaged$650 million during the three months endedSeptember 30, 2022 , compared to$6.9 billion during the three months endedSeptember 30, 2021 . As ofSeptember 30, 2022 , we held approximately$761 million of cash and cash equivalents in our investment portfolios which is within our stated target portfolio allocation of 1% to 2% of our investment portfolio in cash and cash equivalents. The expected return on investments purchased during the three and nine months endedSeptember 30, 2022 was 6.42% and 4.46%, net of third-party investment management expenses, including$1.3 billion of privately sourced assets with an expected return of 6.50% and$3.6 billion of privately sourced assets with an expected return of 5.80% for the three and nine months endedSeptember 30, 2022 , respectively. The expected return on investments purchased during the three and nine months endedSeptember 30, 2021 was 4.63% and 4.07%, net of third-party investment management expenses. 44
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Change in fair value of derivatives primarily consists of call options purchased
to fund annual index credits on fixed index annuities. The components of change
in fair value of derivatives are as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
Call options:
Gain on option expiration $ (151,540) $ 346,674 $ (146,530) $ 1,058,152
Change in unrealized gains/losses (10,768) (418,362) (995,991) (232,771)
Warrants 83 987 262 1,103
Interest rate swaps (14,446) - (18,112) -
$ (176,671) $ (70,701) $ (1,160,371) $ 826,484
The differences between the change in fair value of derivatives between periods
for call options are primarily due to the performance of the indices upon which
our call options are based which impacts the level of gains on call option
expirations, the fair values of those call options and changes in the fair
values of those call options between periods. The changes in gain on option
expiration and unrealized gains/losses on call options for the three and nine
months ended September 30, 2022 compared to the same periods in 2021 are due to
equity market performance for the three and nine months ended September 30, 2022
compared to the same periods in 2021. A substantial portion of our call options
are based upon the S&P 500 Index with the remainder based upon other equity and
bond market indices. The range of index appreciation (after applicable caps,
participation rates and asset fees) for options expiring during the three and
nine months ended September 30, 2022 and 2021 is as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
S&P 500 Index
Point-to-point strategy 0.0% - 0.0% 1.0% - 17.6% 0.0% - 12.50% 0.0% - 42.6%
Monthly average strategy 0.0% - 1.8% 1.0% - 12.2% 0.0% - 8.6% 0.0% - 29.4%
Monthly point-to-point strategy 0.0% - 0.0% 0.4% - 20.2% 0.0% - 12.9% 0.0% - 21.7%
Volatility control index point-to-point
strategy 0.0% - 0.0% 0.0% - 8.3% 0.0% - 7.3% 0.0% - 9.7%
Fixed income (bond index) strategies 0.0% - 6.0% 0.0% - 4.7% 0.0% - 6.5% 0.0% - 10.0%
The change in fair value of derivatives is also influenced by the aggregate cost
of options purchased. The aggregate cost of options for the three and nine
months ended September 30, 2022 was higher than for the same periods in 2021 as
option costs increased during the first three quarters of 2022 compared to the
same periods of 2021. The aggregate cost of options is also influenced by the
amount of policyholder funds allocated to the various indices and market
volatility which affects option pricing. See Critical Accounting Policies -
Policy Liabilities for Fixed Index Annuities included in Management's Discussion
and Analysis in our Annual Report on Form 10-K for the year ended December 31,
2021 .
Net realized gains (losses) on investments includes gains and losses on the sale
of securities and other investments and changes in allowances for credit losses
on our securities and mortgage loans on real estate. Net realized gains (losses)
on investments fluctuate from year to year primarily due to changes in the
interest rate and economic environment and the timing of the sale of
investments. See Note 3 - Investments and Note 4 - Mortgage Loans on Real Estate
to our unaudited consolidated financial statements and Financial Condition -
Credit Losses for a detailed presentation of the types of investments that
generated the gains (losses) as well as discussion of credit losses on our
securities recognized during the periods presented and Financial Condition -
Investments and Note 4 - Mortgage Loans on Real Estate to our unaudited
consolidated financial statements for discussion of credit losses recognized on
mortgage loans on real estate.
Securities sold at losses are generally due to our long-term fundamental concern
with the issuers' ability to meet their future financial obligations or to
improve our risk or duration profiles as they pertain to our asset liability
management.
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Other revenue increased 44% to$11.0 million in the third quarter of 2022 and 276% to$28.8 million for the nine months endedSeptember 30, 2022 compared to$7.6 million and$7.6 million for the same periods in 2021. The components of other revenue are summarized as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (Dollars in thousands)
Asset liability management fees
Amortization of deferred gain
7,691 4,962 19,549 4,962
$ 10,989 $ 7,644 $ 28,773 $ 7,644
The increases in other revenue for the three and nine months ended September 30,
2022 compared to the same periods in 2021 were due to the increase in business
ceded under the North End Re reinsurance treaty which was effective July 1,
2021 .
Interest sensitive and index product benefits decreased 85% to $121.9 million in
the third quarter of 2022 and 65% to $729.4 million for the nine months ended
September 30, 2022 compared to $817.0 million and $2.1 billion for the same
periods in 2021. The components of interest sensitive and index product benefits
are summarized as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
Index credits on index policies $ 4,648 $ 475,292 $ 301,431 $ 1,535,320
Interest credited (including changes in
minimum guaranteed interest for fixed
index annuities) 65,687 65,637 197,167 188,279
Lifetime income benefit riders 51,555 276,085 230,809 382,991
$ 121,890 $ 817,014 $ 729,407 $ 2,106,590
The decreases in index credits for the three and nine months ended September 30,
2022 compared to the same periods in 2021 were due to changes in the level of
appreciation of the underlying indices (see discussion above under Change in
fair value of derivatives) and the amount of funds allocated by policyholders to
the respective index options. Total proceeds received upon expiration of the
call options purchased to fund the annual index credits were $4.9 million and
$308.1 million for the three and nine months ended September 30, 2022 , compared
to $489.9 million and $1,559.5 million for the same periods in 2021. The
increases in interest credited for the three and nine months ended September 30,
2022 compared to the same periods in 2021 were due to increases in single
premium deferred annuity products that receive a fixed rate of interest
partially offset by a reduction in interest credited to funds allocated to the
fixed option within our fixed index annuities due to a decrease in the net
average balance allocated to the fixed option. The decreases in benefits
recognized for lifetime income benefit riders for the three and nine months
ended September 30, 2022 compared to the same periods in 2021 were primarily due
to the impact of assumption updates made during the third quarter of 2022
compared to assumption updates made during the third quarter of 2021 partially
offset by the impacts on the calculation of the lifetime income benefit rider
reserve of actual results compared to expected results for items such as
lifetime income benefit rider election rates and the level of index credits. The
net impact of updating expected results with actual results led to increases in
the lifetime income benefit rider reserve for the three and nine months ended
September 30, 2022 compared to decreases in the same periods in 2021.
The liability (net of coinsurance ceded) for lifetime income benefit riders was
respectively which includes the impact of unrealized gains and losses on
available for sale securities on the liability for lifetime income benefit
riders of
Amortization of deferred sales inducements is based on historical, current and future expected gross profits. The changes in amortization from period to period are the result of differences in actual gross profits compared to expected or modeled gross profits and changes to the underlying business. The increases in amortization before and after gross profit adjustments for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 were primarily due to the impact of assumption updates made during the third quarter of 2022 as compared to the impact of assumption updates made during the third quarter of 2021. See Net income available to common stockholders and Non-GAAP operating income available to common stockholders above for discussion of the impact of assumption updates for the three and nine months endedSeptember 30, 2022 and 2021. In addition, amortization of deferred sales inducements for the three and nine months endedSeptember 30, 2022 increased due to increases in actual gross profits for the three and nine months endedSeptember 30, 2022 as compared to the same periods in 2021. Bonus products represented 67% of our net annuity account values at bothSeptember 30, 2022 andSeptember 30, 2021 , respectively. The amount of amortization is affected by amortization associated with fair value accounting for derivatives and embedded derivatives utilized in our fixed index annuity business and amortization associated with net realized gains (losses) on investments. Fair value accounting for derivatives and embedded derivatives utilized in our fixed index annuity business creates differences in the recognition of revenues and expenses from derivative instruments including the embedded derivative liabilities in our fixed index annuity contracts. The change in fair value of the embedded derivatives will not correspond to the change in fair value of the derivatives (purchased call options), because the purchased call options are one-year options while the options valued in the fair value of embedded derivatives cover the expected lives of the contracts which typically exceed ten years. 46
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Amortization of deferred sales inducements is summarized as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
Amortization of deferred sales inducements
before gross profit adjustments $ 68,137 $ (34,854) $ 174,588 $ 57,887
Gross profit adjustments:
Fair value accounting for derivatives and
embedded derivatives 61,729 17,613 191,890 35,752
Net realized gains (losses) on investments (2,082) 69 (4,703) (356)
Amortization of deferred sales inducements
after gross profit adjustments $ 127,784 $ (17,172)
Change in fair value of embedded derivatives includes changes in the fair value
of our fixed index annuity embedded derivatives (see Note 6 - Derivative
Instruments to our unaudited consolidated financial statements). The components
of change in fair value of embedded derivatives are as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
Fixed index annuities - embedded
derivatives $ (466,244) $ (681,509) $ (2,658,376) $ (932,546)
Other changes in difference between policy
benefit reserves computed using derivative
accounting vs. long-duration contracts
accounting 167,100 145,105 481,465 387,442
Reinsurance related embedded derivative (116,230) - (518,096) -
$ (415,374) $ (536,404) $ (2,695,007) $ (545,104)
The change in fair value of the fixed index annuity embedded derivatives
resulted from (i) changes in the expected index credits on the next policy
anniversary dates, which are related to the change in fair value of the call
options acquired to fund those index credits discussed above in Change in fair
value of derivatives; (ii) changes in the expected annual cost of options we
will purchase in the future to fund index credits beyond the next policy
anniversary; (iii) changes in the discount rates used in estimating our embedded
derivative liabilities; and (iv) the growth in the host component of the policy
liability. The amounts presented as "Other changes in difference between policy
benefit reserves computed using derivative accounting vs. long-duration
contracts accounting" represent the total change in the difference between
policy benefit reserves for fixed index annuities computed under the derivative
accounting standard and the long-duration contracts accounting standard at each
balance sheet date, less the change in fair value of our fixed index annuities
embedded derivative. See Critical Accounting Policies - Policy Liabilities for
Fixed Index Annuities included in Management's Discussion and Analysis in our
Annual Report on Form 10-K for the year ended December 31, 2021 .
The primary reasons for the increase in the change in fair value of the fixed
index annuity embedded derivatives during the three months ended September 30,
2022 compared to the same period of 2021 was due to decreases in the fair value
of the call options acquired to fund the index credits partially offset by
larger increases in the net discount rates used in the calculation during the
three months ended September 2022 compared to the same period in 2021. The
primary reasons for the decrease in the change in fair value of the fixed index
annuity embedded derivatives during the nine months ended September 30, 2022
compared to the same period of 2021 were due to decreases in expected index
credits on the next policy anniversary dates resulting from decreases in the
fair value of the call options acquired to fund the index credits during the
nine months ended September 30, 2022 compared to increases in the expected index
credits resulting from increases in the fair value of the call options acquired
to fund these index credits during the nine months ended September 30, 2021 and
larger increases in the net discount rates used in the calculation during the
nine months ended September 30, 2022 compared to the same period in 2021. The
discount rates used in estimating our embedded derivative liabilities fluctuate
based on the changes in the general level of risk free interest rates and our
own credit spread.
The reinsurance agreement executed in 2021 with North End Re to cede certain
fixed index annuity product liabilities on a modified coinsurance basis contains
an embedded derivative. The fair value of this embedded derivative is based on
the unrealized gains and losses of the underlying assets held in the modified
coinsurance portfolio which decreased during the three and nine months ended
September 30, 2022 . See Note 6 - Derivative Instruments for discussion on this
embedded derivative.
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Amortization of deferred policy acquisition costs is based on historical, current and future expected gross profits. The changes in amortization from period to period are the result of differences in actual gross profits compared to expected or modeled gross profits and changes to the underlying business. The increases in amortization after gross profit adjustments for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021 were primarily due to the impact of assumption updates made during the third quarter of 2022 as compared to the impact of assumption updates made during the third quarter of 2021. See Net income available to common stockholders and Non-GAAP operating income available to common stockholders above for discussion of the impact of assumption updates for the three and nine months endedSeptember 30, 2022 and 2021. In addition, amortization of deferred policy acquisition costs for the three and nine months endedSeptember 30, 2022 increased due to increases in actual gross profits for the three and nine months endedSeptember 30, 2022 as compared to the same periods in 2021. The amount of amortization is affected by amortization associated with fair value accounting for derivatives and embedded derivatives utilized in our fixed index annuity business and amortization associated with net realized gains (losses) on investments. As discussed above, fair value accounting for derivatives and embedded derivatives utilized in our fixed index annuity business creates differences in the recognition of revenues and expenses from derivative instruments including the embedded derivative liabilities in our fixed index annuity contracts.
Amortization of deferred policy acquisition costs is summarized as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(Dollars in thousands)
Amortization of deferred policy
acquisition costs before gross profit
adjustments $ 96,321 $ (33,190) $ 251,088 $ 106,963
Gross profit adjustments:
Fair value accounting for derivatives and
embedded derivatives 90,399 31,582 307,759 79,107
Net realized gains (losses) on investments (3,538) 20 (7,885) (741)
Amortization of deferred policy
acquisition costs after gross profit
adjustments $ 183,182 $ (1,588)
Other operating costs and expenses increased 5% to$59.5 million in the third quarter of 2022 and 0.1% to$177.6 million for the nine months endedSeptember 30, 2022 compared to$56.5 million and$177.4 million for the same periods in 2021 and are summarized as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (Dollars in thousands) Salary and benefits$ 46,185 $ 33,733 $ 115,432 $ 97,441 Other 13,347 22,785
62,143 79,992
Total other operating costs and expenses
Salary and benefits increased$12.5 million for the three months endedSeptember 30, 2022 and increased$18.0 million for the nine months endedSeptember 30, 2022 , respectively, compared to the same periods in 2021. The increases in salary and benefits were primarily due to an increased number of employees related to our continued growth and implementation of AEL 2.0 as well as increases in the expense recognized under our equity and cash incentive compensation programs ("incentive compensation programs"). The increases in expenses related to our incentive compensation programs were primarily due to new compensation programs and increases in the expected payouts due to a larger number of employees participating in the programs. Other expenses decreased for the three and nine months endedSeptember 30, 2022 compared to the same periods in 2021. The decreases is primarily related to a decrease in risk charges expense for the three and nine months endedSeptember 30, 2022 due to the recapture of an existing reinsurance agreement which was replaced with a new agreement with a lower risk charge. We expect the level of other operating costs and expenses to settle into the$60 million per quarter range for the foreseeable future as we continue to execute on the AEL 2.0 strategy. 48
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Income tax expense was$86.2 million in the third quarter of 2022 and$345.6 million for the nine months endedSeptember 30, 2022 compared to$44.7 million and$107.5 million for the same periods in 2021. The changes in income tax expense were primarily due to changes in income before income taxes as well as changes in the effective income tax rates. The effective income tax rates for the three and nine months endedSeptember 30, 2022 were 21.6% and 21.8%, respectively, and 22.6% and 22.0% for the same periods in 2021, respectively. Income tax expense and the resulting effective tax rate are based upon two components of income before income taxes ("pretax income") that are taxed at different tax rates. Life insurance income is generally taxed at a statutory rate of approximately 21.5% reflecting the absence of state income taxes for substantially all of the states that the life insurance subsidiaries do business in. The income (loss) for the parent company and other non-life insurance subsidiaries (the "non-life insurance group") is generally taxed at a statutory tax rate of 28.7% reflecting the combined federal and state income tax rates. The effective income tax rates resulting from the combination of the income tax provisions for the life and non-life sources of income (loss) vary from period to period based primarily on the relative size of pretax income from the two sources. 49
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Table of Contents Financial Condition Investments Our investment strategy is to maximize current income and total investment return through active management while maintaining a responsible asset allocation strategy containing high credit quality investments and providing adequate liquidity to meet our cash obligations to policyholders and others. Our investment strategy is also reflective of insurance statutes, which regulate the type of investments that our life subsidiaries are permitted to make and which limit the amount of funds that may be used for any one type of investment. As previously noted, as part of our AEL 2.0 investment pillar, we intend to ramp up our allocation to private assets in part by partnering with proven asset managers in our focus expansion sectors of commercial real estate, residential real estate including mortgages and single family rental homes, infrastructure debt and equity, middle market lending and lending to revenue, technology and software sector companies.
The composition of our investment portfolio is summarized as follows:
September 30, 2022 December 31, 2021
Carrying Carrying
Amount Percent Amount Percent
(Dollars in thousands)
Fixed maturity securities:
U.S. Government and agencies $ 169,538 0.3 % $ 1,078,746 1.9 %
States, municipalities and territories 4,042,851 8.3 % 3,758,761 6.5 %
Foreign corporate securities and foreign
governments 837,199 1.7 % 375,097 0.6 %
Corporate securities 25,333,341 52.2 % 32,631,189 57.0 %
Residential mortgage backed securities 1,372,741 2.8 % 1,125,049 2.0 %
Commercial mortgage backed securities 3,471,595 7.2 % 4,682,900 8.2 %
Other asset backed securities 3,889,475 8.0 % 5,146,567 9.0 %
Total fixed maturity securities 39,116,740 80.5 % 48,798,309 85.2 %
Mortgage loans on real estate 6,452,614 13.3 % 5,650,480 9.9 %
Real estate investments 897,673 1.9 % 337,939 0.6 %
Derivative instruments 196,656 0.4 % 1,277,480 2.2 %
Other investments 1,881,117 3.9 % 1,210,464 2.1 %
48,544,800 100.0 % 57,274,672 100.0 %
Modified coinsurance investments 2,875,037 3,101,832
$ 51,419,837 $ 60,376,504
Our fixed maturity security portfolio is managed to minimize risks such as interest rate changes and defaults or credit losses while earning a sufficient and stable return on our investments. The largest portion of our fixed maturity securities are in investment grade (typically NAIC designation 1 or 2) publicly traded or privately placed corporate securities.
A summary of our fixed maturity securities by NRSRO ratings is as follows:
September 30, 2022 December 31, 2021
Carrying Percent of Fixed Carrying Percent of Fixed
Rating Agency Rating Amount Maturity Securities Amount Maturity Securities
(Dollars in thousands)
Aaa/Aa/A $ 23,217,697 59.4 % $ 27,496,506 56.4 %
Baa 15,217,776 38.9 % 20,147,369 41.3 %
Total investment grade 38,435,473 98.3 % 47,643,875 97.7 %
Ba 537,358 1.4 % 930,321 1.9 %
B 81,178 0.2 % 117,989 0.2 %
Caa 19,176 - % 39,354 0.1 %
Ca and lower 43,555 0.1 % 66,770 0.1 %
Total below investment grade 681,267 1.7 % 1,154,434 2.3 %
39,116,740 100.0 % 48,798,309 100.0 %
Modified coinsurance
investments 1,971,171 2,507,634
$ 41,087,911 $ 51,305,943
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The NAIC's Securities Valuation Office ("SVO") is responsible for the day-to-day
credit quality assessment of securities owned by state regulated insurance
companies. The purpose of such assessment and valuation is for determining
regulatory capital requirements and regulatory reporting. Insurance companies
report ownership to the SVO when such securities are eligible for regulatory
filings. The SVO conducts credit analysis on these securities for the purpose of
assigning a NAIC designation and/or unit price. Typically, if a security has
been rated by an NRSRO, the SVO utilizes that rating and assigns a NAIC
designation based upon the following system:
NAIC Designation NRSRO Equivalent Rating
1 Aaa/Aa/A
2 Baa
3 Ba
4 B
5 Caa
6 Ca and lower
The NAIC introduced 20 NAIC designation modifiers that are applied to each NAIC
designation to determine a security's NAIC designation category. New risk-based
capital charges for each of the 20 designated categories for reporting were
effective beginning December 31, 2021 .
For most of the bonds held in our portfolio the NAIC designation matches the
NRSRO equivalent rating. However, for certain loan-backed and structured
securities, as defined by the NAIC, the NAIC rating is not always equivalent to
the NRSRO rating presented in the previous table. The NAIC has adopted revised
rating methodologies for certain loan-backed and structured securities comprised
of non-agency residential mortgage backed securities ("RMBS") and commercial
mortgage backed securities ("CMBS"). The NAIC's objective with the revised
rating methodologies for these structured securities is to increase the accuracy
in assessing expected losses and use the improved assessment to determine a more
appropriate capital requirement for such structured securities. The revised
methodologies reduce regulatory reliance on rating agencies and allow for
greater regulatory input into the assumptions used to estimate expected losses
from structured securities.
The use of this process by the SVO may result in certain non-agency RMBS and
CMBS being assigned an NAIC designation that is different than the equivalent
NRSRO rating. The NAIC designations for non-agency RMBS and CMBS are based on
security level expected losses as modeled by an independent third party (engaged
by the NAIC) and the statutory carrying value of the security, including any
purchase discounts or impairment charges previously recognized. Evaluation of
non-agency RMBS and CMBS held by insurers using the NAIC rating methodologies is
performed on an annual basis.
Our fixed maturity security portfolio is managed to minimize risks such as
defaults or impairments while earning a sufficient and stable return on our
investments. Our strategy with respect to our fixed maturity securities
portfolio has been to invest primarily in investment grade securities.
Investment grade is NAIC 1 and 2 securities and Baa3/BBB- and better securities
on the NRSRO scale. We expect this strategy to meet the objective of minimizing
risk while also managing asset capital charges on a regulatory capital basis.
A summary of our fixed maturity securities by NAIC designation is as follows:
September 30, 2022 December 31, 2021
Percent Percent
of Total of Total
Amortized Carrying Carrying Amortized Carrying Carrying
NAIC Designation Cost Fair Value Amount Amount Cost Fair Value Amount Amount
(Dollars in thousands) (Dollars in thousands)
1 $ 26,172,397 $ 23,405,353 $ 23,405,353 59.8 % $ 25,378,938 $ 28,006,835 $ 28,006,835 57.4 %
2 17,054,329 15,048,575 15,048,575 38.5 % 18,028,077 19,667,529 19,667,529 40.3 %
3 625,491 533,889 533,889 1.4 % 909,173 941,071 941,071 2.0 %
4 95,833 82,402 82,402 0.2 % 133,070 147,160 147,160 0.3 %
5 56,835 37,389 37,389 0.1 % 16,496 15,357 15,357 - %
6 15,732 9,132 9,132 - % 24,181 20,357 20,357 - %
44,020,617 39,116,740 39,116,740 100.0 % 44,489,935 48,798,309 48,798,309 100.0 %
Modified coinsurance
investments 2,485,104 1,971,171 1,971,171 2,509,248 2,507,634 2,507,634
$ 46,505,721 $ 41,087,911 $ 41,087,911 $ 46,999,183 $ 51,305,943 $ 51,305,943
The amortized cost and fair value of fixed maturity securities at
2022
unaudited consolidated financial statements in this Form 10-Q, which is
incorporated by reference in this Item 2.
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Unrealized Losses
The amortized cost and fair value of fixed maturity securities that were in an
unrealized loss position were as follows:
Unrealized
Number of Amortized Losses, Net of Allowance for
Securities Cost Allowance Credit Losses Fair Value
(Dollars in thousands)
September 30, 2022
Fixed maturity securities, available
for sale:
U.S. Government and agencies 22 $ 135,872
States, municipalities and
territories
543 3,451,495 (557,979) - 2,893,516
Foreign corporate securities and
foreign governments 47 704,538 (88,291) - 616,247
Corporate securities 2,190 24,469,309 (3,617,452) (3,214) 20,848,643
Residential mortgage backed
securities 211 1,227,407 (107,380) (1,706) 1,118,321
Commercial mortgage backed
securities 333 3,749,244 (350,984) - 3,398,260
Other asset backed securities 512 4,298,995 (434,913) - 3,864,082
3,858 38,036,860 (5,160,537) (4,920) 32,871,403
Modified coinsurance investments 546 2,379,696 (514,230) - 1,865,466
4,404 $ 40,416,556 $ (5,674,767) $ (4,920) $ 34,736,869
December 31, 2021
Fixed maturity securities, available
for sale:
U.S. Government and agencies 8 $ 761,102
States, municipalities and
territories
42 173,106 (2,485) (2,776) 167,845
Foreign corporate securities and
foreign governments 3 34,673 (801) - 33,872
Corporate securities 176 1,433,317 (26,035) - 1,407,282
Residential mortgage backed
securities 74 280,044 (2,093) (70) 277,881
Commercial mortgage backed
securities 89 795,405 (16,553) - 778,852
Other asset backed securities 577 3,118,385 (50,018) - 3,068,367
969 6,596,032 (98,109) (2,846) 6,495,077
Modified coinsurance investments 458 1,327,173 (14,261) - 1,312,912
1,427 $ 7,923,205 $ (112,370) $ (2,846) $ 7,807,989
The unrealized losses at September 30, 2022 are principally related to the
timing of the purchases of certain securities, which carry less yield than those
available at September 30, 2022 . Approximately 98% and 83% of the unrealized
losses on fixed maturity securities shown in the above table for September 30,
2022 and December 31, 2021 , respectively, are on securities that are rated
investment grade, defined as being the highest two NAIC designations.
The increase in unrealized losses from December 31, 2021 to September 30, 2022
was primarily due to an increase in treasury yields during the nine months ended
September 30, 2022 . The 10-year U.S. Treasury yields at September 30, 2022 and
December 31, 2021 were 3.83% and 1.52%, respectively. The 30-year U.S. Treasury
yields at September 30, 2022 and December 31, 2021 were 3.79% and 1.90%,
respectively. In addition, credit spreads widened during the nine months ended
September 30, 2022 which also contributed to the increase in unrealized losses.
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The following table sets forth the composition by credit quality (NAIC
designation) of fixed maturity securities with gross unrealized losses:
Carrying Value of
Securities with Gross
Gross Unrealized Percent of Unrealized Percent of
NAIC Designation Losses Total Losses (1) Total
(Dollars in thousands)
September 30, 2022
1 $ 19,297,462 58.7 % $ (2,963,943) 57.4 %
2 12,921,595 39.3 % (2,068,225) 40.1 %
3 528,329 1.6 % (91,652) 1.8 %
4 82,402 0.3 % (13,399) 0.2 %
5 37,389 0.1 % (19,446) 0.4 %
6 4,226 - % (3,872) 0.1 %
32,871,403 100.0 % (5,160,537) 100.0 %
Modified coinsurance investments 1,865,466 (514,230)
$ 34,736,869 $ (5,674,767)
December 31, 2021
1 $ 3,825,403 58.9 % $ (33,823) 34.4 %
2 2,233,761 34.4 % (47,154) 48.1 %
3 376,933 5.8 % (13,723) 14.0 %
4 33,229 0.5 % (1,083) 1.1 %
5 9,506 0.1 % (1,140) 1.2 %
6 16,244 0.3 % (1,186) 1.2 %
6,495,076 100.0 % (98,109) 100.0 %
Modified coinsurance investments 1,312,912 (14,261)
$ 7,807,988 $ (112,370)
(1)Gross unrealized losses have been adjusted to reflect the allowance for
credit loss of
Our investments' gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position atSeptember 30, 2022 andDecember 31, 2021 , along with a description of the factors causing the unrealized losses is presented in Note 3 - Investments to our unaudited consolidated financial statements in this Form 10-Q, which is incorporated by reference in this Item 2. 53
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The amortized cost and fair value of fixed maturity securities in an unrealized
loss position and the number of months in a continuous unrealized loss position
(fixed maturity securities that carry an NRSRO rating of BBB/Baa or higher are
considered investment grade) were as follows:
Gross
Amortized Unrealized
Number of Cost, Net of Losses, Net of
Securities Allowance (1) Fair Value Allowance (1)
(Dollars in thousands)
September 30, 2022
Fixed maturity securities, available for
sale:
Investment grade:
Less than six months 2,144 $
21,076,070
Six months or more and less than twelve
months
1,421 14,604,340 11,766,243 (2,838,097)
Twelve months or greater 203 1,570,815 1,352,416 (218,399)
Total investment grade 3,768 37,251,225 32,219,057 (5,032,168)
Below investment grade:
Less than six months 29 283,399 261,229 (22,170)
Six months or more and less than twelve
months 17 191,756 149,410 (42,346)
Twelve months or greater 44 305,560 241,707 (63,853)
Total below investment grade 90 780,715 652,346 (128,369)
3,858 38,031,940 32,871,403 (5,160,537)
Modified coinsurance investments 546 2,379,696 1,865,466 (514,230)
4,404 $ 40,411,636 $ 34,736,869 $ (5,674,767)
December 31, 2021
Fixed maturity securities, available for
sale:
Investment grade:
Less than six months 567 $
4,255,321
Six months or more and less than twelve
months
39 132,110 130,156 (1,954)
Twelve months or greater 281 1,752,779 1,705,640 (47,139)
Total investment grade 887 6,140,210 6,059,164 (81,046)
Below investment grade:
Less than six months 11 43,745 42,994 (751)
Six months or more and less than twelve
months 7 28,544 25,706 (2,838)
Twelve months or greater 64 380,686 367,213 (13,473)
Total below investment grade 82 452,975 435,913 (17,062)
969 6,593,185 6,495,077 (98,108)
Modified coinsurance investments 458 1,327,173 1,312,912 (14,261)
1,427 $ 7,920,358 $ 7,807,989 $ (112,369)
(1)Amortized cost and gross unrealized losses have been adjusted to reflect the
allowance for credit loss of $4.9 million and $2.8 million as of September 30,
2022 and December 31, 2021 , respectively.
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The amortized cost and fair value of fixed maturity securities (excludingU.S. Government and agencies) segregated by investment grade (NRSRO rating of BBB/Baa or higher) and below investment grade that had unrealized losses greater than 20% and the number of months in a continuous unrealized loss position were as follows: Gross Amortized Unrealized Number of Cost, Net of Fair Losses, Net of Securities Allowance (1) Value Allowance (1) (Dollars in thousands)September 30, 2022 Investment grade: Less than six months 520 $
6,597,167
Six months or more and less than twelve
months
170 2,605,917 1,724,697 (881,220)
Twelve months or greater - - - -
Total investment grade 690 9,203,084 6,663,092 (2,539,992)
Below investment grade:
Less than six months 19 167,439 125,371 (42,068)
Six months or more and less than twelve
months 3 74,254 47,505 (26,749)
Twelve months or greater - - - -
Total below investment grade 22 241,693 172,876 (68,817)
712 9,444,777 6,835,968 (2,608,809)
Modified coinsurance investments 393 1,314,991 895,510 (419,481)
1,105 $ 10,759,768 $ 7,731,478 $ (3,028,290)
December 31, 2021
Investment grade:
Less than six months - $ - $ - $ -
Six months or more and less than twelve
months - - - -
Twelve months or greater - - - -
Total investment grade - - - -
Below investment grade:
Less than six months - - - -
Six months or more and less than twelve
months - - - -
Twelve months or greater - - - -
Total below investment grade - - - -
- - - -
Modified coinsurance investments - - - -
- $ - $ - $ -
(1) Amortized cost and gross unrealized losses have been adjusted to reflect the
allowance for credit loss of $4.9 million and $2.8 million as of September 30,
2022 and December 31, 2021 , respectively.
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The amortized cost and fair value of fixed maturity securities, by contractual
maturity, that were in an unrealized loss position are shown below. Actual
maturities will differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without call or prepayment
penalties. All of our mortgage and other asset backed securities provide for
periodic payments throughout their lives, and are shown below as a separate
line.
Available for sale
Amortized
Cost Fair Value
(Dollars in thousands)
September 30, 2022
Due in one year or less $ 866,870 $ 862,205
Due after one year through five years 5,113,322 4,845,079
Due after five years through ten years 5,155,334 4,575,984
Due after ten years through twenty years 8,157,911 6,984,806
Due after twenty years
9,467,777 7,222,666
28,761,214 24,490,740
Residential mortgage backed securities 1,227,407 1,118,321
Commercial mortgage backed securities 3,749,244 3,398,260
Other asset backed securities
4,298,995 3,864,082
38,036,860 32,871,403
Modified coinsurance investments 2,379,696 1,865,466
$ 40,416,556 $ 34,736,869
December 31, 2021
Due in one year or less $ 762,035 $ 761,590
Due after one year through five years 49,668 46,687
Due after five years through ten years 476,811 467,284
Due after ten years through twenty years 443,909 435,589
Due after twenty years 669,775 658,827
2,402,198 2,369,977
Residential mortgage backed securities 280,044 277,881
Commercial mortgage backed securities 795,405 778,852
Other asset backed securities 3,118,385 3,068,367
6,596,032 6,495,077
Modified coinsurance investments 1,327,173 1,312,912
$ 7,923,205 $ 7,807,989
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International Exposure
We hold fixed maturity securities with international exposure. As ofSeptember 30, 2022 , 16.0% of the carrying value of our fixed maturity securities was comprised of corporate debt securities of issuers based outside ofthe United States and debt securities of foreign governments. Our fixed maturity securities with international exposure are primarily denominated inU.S. dollars. Our investment professionals analyze each holding for credit risk by economic and other factors of each country and industry. The following table presents our international exposure in our fixed maturity portfolio by country or region: September 30, 2022 Percent of Total Amortized Carrying Amount/ Carrying Cost Fair Value Amount (Dollars in thousands) Europe$ 2,761,905 $ 2,430,776 6.2 % Asia/Pacific 539,417 470,917 1.2 % Latin America 334,845 277,222 0.7 % Non-U.S. North America 1,468,350 1,315,808 3.4 % Australia & New Zealand 999,655 900,881 2.3 % Other 971,584 870,042 2.2 % 7,075,756 6,265,646 16.0 % Modified coinsurance investments 665,788 525,563$ 7,741,544 $ 6,791,209
All of the securities presented in the table above are investment grade (NAIC
designation of either 1 or 2), except for the following:
September 30, 2022
Carrying Amount/
Amortized Cost Fair Value
(Dollars in thousands)
Europe $ 122,217 $ 105,719
Asia/Pacific 68 55
Latin America 45,586 38,712
Non-U.S. North America 41,027 36,667
Australia & New Zealand 276 223
Other 117,014 89,254
326,188 270,630
Modified coinsurance investments - -
$ 326,188 $ 270,630
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At each balance sheet date, we identify invested assets which have characteristics (i.e., significant unrealized losses compared to amortized cost and industry trends) creating uncertainty as to our future assessment of credit losses. As part of this assessment, we review not only a change in current price relative to its amortized cost but the issuer's current credit rating and the probability of full recovery of principal based upon the issuer's financial strength. For corporate issuers, we evaluate the financial stability and quality of asset coverage for the securities relative to the term to maturity for the issues we own. For asset-backed securities, we evaluate changes in factors such as collateral performance, default rates, loss severities and expected cash flows. AtSeptember 30, 2022 , the amortized cost and fair value of securities on the watch list (all fixed maturity securities) are as follows: Net Unrealized Amortized Cost, Losses, Number of Amortized Allowance for Net of Net of Fair General Description Securities Cost Credit Losses Allowance Allowance Value (Dollars in thousands) Corporate securities - Public securities 5$ 12,974 $ -$ 12,974 $ (90) $
12,884
Corporate securities - Private placement securities 1 10,646 (3,214) 7,432 (3,296) 4,136 Residential mortgage backed securities 19 29,207 (1,706) 27,501 (1,441) 26,060 Commercial mortgage backed securities 5 39,734 - 39,734 (2,353) 37,381 Other asset backed securities 1 2,835 - 2,835 (38)
2,797
Collateralized loan obligations 14 66,435 - 66,435 (13,634) 52,801
45 $ 161,831 $ (4,920) $ 156,911 $ (20,852) $ 136,059
We expect to recover the unrealized losses, net of allowances, as we do not have
the intent to sell and it is not more likely than not that we would be required
to sell these securities prior to recovery of the amortized cost basis, net of
allowances. Our analysis of these securities and their credit performance at
September 30, 2022 is as follows:
Corporate securities: The corporate securities included on the watch list
primarily include a security in the utilities industry that is under financial
stress due to the impact of power outages and a security in the retail market
which is in an unrealized loss position and for which we have the intent to sell
as part of our risk reduction effort.
Structured securities: The structured securities included on the watch list have
generally experienced higher levels of stress due to the impact COVID-19 had on
the economy. In addition, certain securities are included on the watch list as
they are in an unrealized loss position and we have the intent to sell as part
of our risk reduction effort.
Credit Losses
We have a policy and process to identify securities in our investment portfolio for which we recognize credit loss. See Note 3 - Investments to our unaudited consolidated financial statements. During the three months endedSeptember 30, 2022 , we recognized$1.5 million of credit losses which includes$3.0 million of credit losses on structured securities primarily due to our intent to sell such securities as ofSeptember 30, 2022 and$0.3 million of credit losses on corporate securities primarily due to our intent to sell such securities as ofSeptember 30, 2022 partially offset by a$1.8 million net reduction in credit losses on certain other securities primarily due to revised financial outlook on securities related to senior living facilities in the Southeastern region ofthe United States driven in part by a restructuring of its debt facilities. During the nine months endedSeptember 30, 2022 , we recognized$14.3 million of credit losses which includes$10.3 million of credit losses on structured securities primarily due to our intent to sell such securities and$6.1 million of credit losses on corporate securities due to$3.3 million of credit losses on a security and$2.8 million of credit losses on securities due to our intent to sell such securities as ofJune 30, 2022 partially offset by$2.1 reduction in credit losses primarily due to revised financial outlook on securities related to senior living facilities in the Southeastern region ofthe United States driven in part by a restructuring of its debt facilities. During the three months endedSeptember 30, 2021 , we recognized a benefit related to a reduction in the allowance for credit losses for our fixed maturity securities of$0.1 million which included recoveries on municipal securities partially offset by additional credit losses realized on corporate securities and residential mortgage backed securities. During the nine months endedSeptember 30, 2021 , we recognized credit losses of$0.1 million which included net credit losses realized on corporate securities partially offset by net recoveries on municipal securities and residential mortgage backed securities. Several factors led us to believe that full recovery of amortized cost is not expected on the securities for which we recognized credit losses. A discussion of these factors, our policy and process to identify securities that could potentially have credit loss is presented in Note 3 - Investments to our unaudited consolidated financial statements in this Form 10-Q, which is incorporated by reference in this Item 2. 58
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Mortgage Loans on Real Estate
Our financing receivables consist of three mortgage loan portfolio segments: commercial mortgage loans, agricultural mortgage loans and residential mortgage loans. Our commercial mortgage loan portfolio consists of loans with an outstanding principal balance of$3.6 billion and$3.6 billion as ofSeptember 30, 2022 andDecember 31, 2021 , respectively. This portfolio consists of mortgage loans collateralized by the related properties and diversified as to property type, location and loan size. Our mortgage lending policies establish limits on the amount that can be loaned to one borrower and other criteria to attempt to reduce the risk of default. Our agricultural mortgage loan portfolio consists of loans with an outstanding principal balance of$582.5 million and$408.1 million as ofSeptember 30, 2022 andDecember 31, 2021 , respectively. These loans are collateralized by agricultural land and are diversified as to location withinthe United States . Our residential mortgage loan portfolio consists of loans with an outstanding principal balance of$2.4 billion and$1.7 billion as ofSeptember 30, 2022 andDecember 31, 2021 , respectively. These loans are collateralized by the related properties and diversified as to location withinthe United States . Mortgage loans on real estate are generally reported at cost adjusted for amortization of premiums and accrual of discounts, computed using the interest method and net of valuation allowances. AtSeptember 30, 2022 andDecember 31, 2021 , the largest principal amount outstanding for any single commercial mortgage loan was$84.3 million and$81.5 million , respectively, and the average loan size was$5.8 million and$5.3 million , respectively. In addition, the average loan-to-value ratio for commercial and agricultural mortgage loans combined was 51.8% and 52.3% atSeptember 30, 2022 andDecember 31, 2021 , respectively, based upon the underwriting and appraisal at the time the loan was made. This loan-to-value ratio is indicative of our conservative underwriting policies and practices for originating mortgage loans and may not be indicative of collateral values at the current reporting date. Our current practice is to only obtain market value appraisals of the underlying collateral at the inception of the loan unless we identify indicators of impairment in our ongoing analysis of the portfolio, in which case, we either calculate a value of the collateral using a capitalization method or obtain a third party appraisal of the underlying collateral. The commercial mortgage loan portfolio is summarized by geographic region and property type in Note 4 - Mortgage Loans on Real Estate to our unaudited consolidated financial statements in this Form 10-Q, incorporated by reference in this Item 2. In the normal course of business, we commit to fund mortgage loans up to 90 days in advance. AtSeptember 30, 2022 , we had commitments to fund commercial mortgage loans totaling$98.8 million , with interest rates ranging from 5.36% to 6.72%. During 2022 and 2021, due to historically low interest rates, the commercial mortgage loan industry has been very competitive. This competition has resulted in a number of borrowers refinancing with other lenders. For the nine months endedSeptember 30, 2022 , we received$380.8 million in cash for loans being paid in full compared to$250.3 million for the nine months endedSeptember 30, 2021 . Some of the loans being paid off have either reached their maturity or are nearing maturity; however, some borrowers are paying the prepayment fee and refinancing at a lower rate. AsSeptember 30, 2022 , we had commitments to fund agricultural mortgage loans totaling$10.2 million with interest rates ranging from 5.56% to 5.56%, and had commitments to fund residential mortgage loans totaling$258.3 million with interest rates ranging from 7.00% to 12.00%. See Note 4 - Mortgage Loans on Real Estate to our unaudited consolidated financial statements, incorporated by reference, for a presentation of our valuation allowance, foreclosure activity and troubled debt restructure analysis. We have a process by which we evaluate the credit quality of each of our mortgage loans. This process utilizes each loan's loan-to-value and debt service coverage ratios as primary metrics. See Note 4 - Mortgage Loans on Real Estate to our unaudited consolidated financial statements, incorporated by reference, for a summary of our portfolio by loan-to-value and debt service coverage ratios. We closely monitor loan performance for our commercial, agricultural and residential mortgage loan portfolios. Commercial, agricultural and residential loans are considered nonperforming when they are 90 days or more past due. Aging of financing receivables is summarized in the following table: 30-59 days 60-89 days Over 90 days Current past due past due past due Total As of September 30, 2022: (Dollars in thousands) Commercial mortgage loans$ 3,583,592 $ - $ - $ -$ 3,583,592 Agricultural mortgage loans 577,660 - - 3,135 580,795 Residential mortgage loans 2,397,036 33,288 10,408 31,930 2,472,662 Total mortgage loans$ 6,558,288 $ 33,288 $ 10,408 $ 35,065 $ 6,637,049 As ofDecember 31, 2021 : Commercial mortgage loans$ 3,628,502 $ - $ - $ -$ 3,628,502 Agricultural mortgage loans 406,999 - - - 406,999 Residential mortgage loans 1,631,999 34,447 3,030 7,045 1,676,521 Total mortgage loans$ 5,667,500 $ 34,447 $ 3,030 $ 7,045 $ 5,712,022 59
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Derivative Instruments
Our derivative instruments consist of call options purchased to provide the income needed to fund the annual index credits on our fixed index annuity products and interest rate swaps used to hedge against changes in fair value due to changes in interest rates. The fair value of the call options is based upon the amount of cash that would be required to settle the call options obtained from the counterparties adjusted for the nonperformance risk of the counterparty. The nonperformance risk for each counterparty is based upon its credit default swap rate. We have no performance obligations related to the call options. The fair value of the pay fixed/receive float interest rate swaps are determined using internal valuation models that generate discounted expected future cash flows by constructing a projected Secure Overnight Financing Rate (SOFR) curve over the term of the swap. Our interest rate swaps qualify for hedge accounting and our call options do not qualify for hedge accounting. Any change in the fair value of the derivatives is recognized immediately in the consolidated statements of operations. A presentation of our derivative instruments along with a discussion of the business strategy involved with our derivatives for both our derivatives designated as hedging instruments and our derivatives not designated as hedging instruments is included in Note 6 - Derivative Instruments to our unaudited consolidated financial statements in this Form 10-Q, which is incorporated by reference in this Item 2.
Liquidity and Capital Resources
Our insurance subsidiaries generally have adequate cash flows from annuity deposits and investment income to meet their policyholder and other obligations. Net cash flows from annuity deposits and funds returned to policyholders as surrenders, withdrawals and death claims were$(1,331.0) million for the nine months endedSeptember 30, 2022 compared to$1,567.7 million for the nine months endedSeptember 30, 2021 , with the decrease attributable to a$2,935.1 million decrease in net annuity deposits after coinsurance and a$36.3 million (after coinsurance) decrease in funds returned to policyholders. We continue to invest the net proceeds from policyholder transactions and investment activities in high quality fixed maturity securities and mortgage loans. We have a highly liquid investment portfolio that can be used to meet policyholder and other obligations as needed. In addition, we intend to hold approximately 1% to 2% of our investment portfolio in cash and cash equivalents. We, as the parent company, are a legal entity separate and distinct from our subsidiaries, and have no business operations. We need liquidity primarily to service our debt (senior notes, term loan and subordinated debentures issued to a subsidiary trust), pay operating expenses and pay dividends to common and preferred stockholders. Our assets consist primarily of the capital stock and surplus notes of our subsidiaries. Accordingly, our future cash flows depend upon the availability of dividends, surplus note interest payments and other statutorily permissible payments from our subsidiaries, such as payments under our investment advisory agreements and tax allocation agreement with our subsidiaries. We expect these sources provide adequate cash flow for us to meet our current and reasonably foreseeable future obligations. The ability of our life insurance subsidiaries to pay dividends or distributions, including surplus note payments, will be limited by applicable laws and regulations of the states in which our life insurance subsidiaries are domiciled, which subject our life insurance subsidiaries to significant regulatory restrictions. These laws and regulations require, among other things, our insurance subsidiaries to maintain minimum solvency requirements and limit the amount of dividends these subsidiaries can pay. Currently,American Equity Life may pay dividends or make other distributions without the prior approval of the Iowa Insurance Commissioner, unless such payments, together with all other such payments within the preceding twelve months, exceed the greater of (1)American Equity Life's net gain from operations for the preceding calendar year, or (2) 10% ofAmerican Equity Life's statutory capital and surplus at the precedingDecember 31 . For 2022, up to$407.9 million can yet be distributed as dividends byAmerican Equity Life without prior approval of the Iowa Insurance Commissioner. In addition, dividends and surplus note payments may be made only out of statutory earned surplus, and all surplus note payments are subject to prior approval by regulatory authorities in the life subsidiary's state of domicile.American Equity Life had$2.6 billion of statutory earned surplus atSeptember 30, 2022 . The maximum distribution permitted by law or contract is not necessarily indicative of an insurer's actual ability to pay such distributions, which may be constrained by business and regulatory considerations, such as the impact of such distributions on surplus, which could affect the insurer's ratings or competitive position, the amount of premiums that can be written and the ability to pay future dividends or make other distributions. Further, state insurance laws and regulations require that the statutory surplus of our life subsidiaries following any dividend or distribution must be reasonable in relation to their outstanding liabilities and adequate for their financial needs. Along with solvency regulations, the primary driver in determining the amount of capital used for dividends is the level of capital needed to maintain desired financial strength ratings from rating agencies. Both regulators and rating agencies could become more conservative in their methodology and criteria, including increasing capital requirements for our insurance subsidiaries which, in turn, could negatively affect the cash available to us from insurance subsidiaries. As ofSeptember 30, 2022 , we estimateAmerican Equity Life has sufficient statutory capital and surplus, combined with capital available to the holding company, to maintain its insurer financial strength rating. However, this capital may not be sufficient if significant future losses are incurred or a rating agency modifies its rating criteria and access to additional capital could be limited. Cash and cash equivalents of the parent holding company atSeptember 30, 2022 , were$318.8 million . We also have the ability to issue equity, debt or other types of securities through one or more methods of distribution. The terms of any offering would be established at the time of the offering, subject to market conditions. 60
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InJanuary 2022 ,American Equity Life became a member of theFederal Home Loan Bank of Des Moines ("FHLB") which provides access to collateralized borrowings and other FHLB products. We may also issue funding agreements to the FHLB. Both the collateralized borrowings and funding agreements require us to pledge qualified assets as collateral. Obligations arising from funding agreements, which totaled$50.0 million as ofSeptember 30, 2022 are used in investment spread activities.
New Accounting Pronouncements
See Note 1 - Significant Accounting Policies to our unaudited consolidated
financial statements in this Form 10-Q, which is incorporated by reference in
this Item 2.
Regulatory Developments
General Scope of Insurance Regulation
We expect to review our
oversight structure in light of regulatory changes to codes of conduct, and may
make certain enhancements.
Investments Regulation The Iowa Insurance Division has proposed changes toIowa law on admitted assets to conformIowa law more closely to NAIC models in some respects. For example, it would change the amount of some assets an insurer could include as admitted. If the legislature enacts these changes, we would review and reconfigure our investments in light of the new requirements and the challenges and opportunities they pose. We do not expect legislative action, if any, until at least 2023.
Financial Strength Ratings
proposal to discount the value of certain assets that have no rating.
Side Car Related Regulation
As we continue to develop and implement third-party capital reinsurance, such as "side cars," we expect to manage additional related regulatory requirements in areas such as employment and labor, governance, reinsurance, securities, and tax. We expect the scope of these requirements and our management strategies to be clearer as our planning and execution continue to progress.
Privacy and Cybersecurity
TheSEC has proposed new cybersecurity disclosure rules for public companies. Under the proposed rule, registrants would have to disclose information about material cybersecurity incidents on a Current Report on Form 8-K within four days of concluding that the incident is material, and update that disclosure at points of its analysis and response to the incident. Registrants would also have to disclose aspects of cybersecurity risk management annually, including governance processes and Board and management responsibilities, and director cybersecurity expertise.
Other State and NAIC Regulatory Developments
In addition, the NAIC is reviewing how insurers' varieties of affiliate
agreements, holding company structures, and forms of public or private ownership
may affect insurers' financial stability.
Other
In
"corporate alternative minimum tax" based on net income, subject to some
adjustments. At this time, we do not expect that we will be liable under this
tax for 2022.
TheSEC has proposed new climate-related disclosure rules for public companies. Among other things, the proposed rules would require registrant disclosure on (1) governance of climate-related risks; (2) climate-related impacts on strategy, business model and outlook; (3) climate-related risk management; (4) greenhouse gas ("GHG") emissions; and (5) any internal carbon price or climate-related targets and goals. Large accelerated filers, such as us, would also have to obtain attestation by an independent third party of certain of their GHG emissions metrics. The proposed rules would also require registrants to include climate-related financial statement metrics (which would consist of disaggregated climate-related impacts on existing financial statement line items) and related disclosures in a note to audited financial statements, subject to adequate internal controls and to audit by an independent registered public accounting firm. Depending on the ultimate rules theSEC adopts, the cost and other impacts of such a rule on us may be significant. TheSEC has proposed new rules related to trading plans under Rule 10b5-1. The rules would require a registrant 30-day "cooling off" period between plan adoption and the first transaction under the plan; limit registrants to a single plan for a class of securities, such as common stock, at any given time. TheSEC has also proposed new daily registrant disclosure of securities repurchases. Depending on the ultimate rules theSEC adopts, the cost and other impacts of such rules on us may be significant. 61
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Accounting for
See Note 1 - Significant Accounting Policies to our unaudited consolidated
financial statements in this Form 10-Q, which is incorporated here by reference.
FATHOM HOLDINGS INC. – 10-Q – Management's Discussion and Analysis of Financial Condition and Results of Operations.
EHEALTH, INC. – 10-Q – MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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