Fair Values

The carrying and estimated fair values of our financial instruments are as follows:



Fair Values and Carrying Values

	December 31,
	2016				2015
	Carrying Value		Fair Value		Carrying Value		Fair Value
	(Dollars in thousands)
Assets
Fixed maturities - available for sale	$	7,008,790	$	7,008,790	$	6,637,776	$	6,637,776
Equity securities - available for sale	132,968		132,968		121,667		121,667
Mortgage loans	816,471		840,337		744,303		780,624
Policy loans	188,254		230,656		185,784		230,153
Other investments	9,809		11,272		2,331		2,331
Cash, cash equivalents and short-term investments	49,931		49,931		57,741		57,741
Reinsurance recoverable	3,411		3,411		2,636		2,636
Assets held in separate accounts	597,072		597,072		625,257		625,257



Liabilities
Future policy benefits	$	4,044,148	$	3,903,177	$	3,750,186	$	3,618,145
Supplementary contracts without life contingencies	330,232		330,633		339,929		339,717
Advance premiums and other deposits	257,171		257,171		245,269		245,269
Short-term debt	—		—		15,000		15,000
Long-term debt	97,000		67,599		97,000		68,133
Other liabilities	114		114		56		56
Liabilities related to separate accounts	597,072		593,760		625,257		620,676

Fair value is based on an exit price, which is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. As not all financial instruments are actively traded, various valuation methods may be used to estimate fair value. These methods rely on observable market data and where observable market data is not available, the best information available. Significant judgment may be required to interpret the data and select the assumptions used in the valuation estimates, particularly when observable market data is not available.

In the discussion that follows, we have ranked our financial instruments by the level of judgment used in the determination of the fair values presented above. The levels are defined as follows:


•	Level 1 - Fair values are based on unadjusted quoted prices in active markets for identical assets or liabilities.


•	Level 2 - Fair values are based on inputs, other than quoted prices from active markets, that are observable for the asset or liability, either directly or indirectly.


•	Level 3 - Fair values are based on significant unobservable inputs for the asset or liability.

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, a financial instrument's level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the financial instrument. From time to time there may be movements between levels as inputs become more or less observable, which may depend on several factors including the activity of the market for the specific security, the activity of the market for similar securities, the level of risk spreads and the source from which we obtain the information. Transfers in or out of any level are measured as of the beginning of the period.

The following methods and assumptions were used in estimating the fair value of our financial instruments:

Fixed maturities:

Level 1 fixed maturities consist of U.S. Treasury issues that are actively traded, allowing us to use current market prices as an estimate of their fair value.

Level 2 fixed maturities consist of corporate, mortgage- and asset-backed, United States Government agencies, state and municipal and private placement corporate securities with observable market data, and in some circumstances recent trade activity. When quoted prices of identical assets in active markets are not available, our first priority is to obtain prices from third party pricing vendors. We have regular interaction with these vendors to ensure we understand their pricing methodologies and to confirm they are utilizing observable market information. Their methodologies vary by asset class and include inputs such as estimated cash flows, benchmark yields, reported trades, credit quality, industry events and economic events. Fixed maturities with validated prices from pricing services, which includes the majority of our public fixed maturities in all asset classes, are generally reflected in Level 2.

Also included in Level 2 are private placement corporate bonds for which quoted market prices are not available, for which an internal model using substantially all observable inputs or a matrix pricing valuation approach is used. In the matrix approach, securities are grouped into pricing categories that vary by sector, rating and average life. Each pricing category is assigned a risk spread based on studies of observable public market data. The expected cash flows of the security are then discounted back at the current Treasury curve plus the appropriate risk spread.

Level 3 fixed maturities include corporate, mortgage- and asset-backed, United States Governments sponsored agencies and private placement corporate securities for which there is little or no current market data available. We use external pricing sources, or if prices are not available we will estimate fair value internally. Fair values of private corporate investments in Level 3 are determined by reference to the public market, private transactions or valuations for comparable companies or assets in the relevant asset class when such amounts are available. For other securities where an exit price based on relevant observable inputs is not obtained, the fair value is determined using a matrix calculation. Fair values estimated through the use of matrix pricing methods rely on an estimate of credit spreads to a risk-free U.S. Treasury yield. Selecting the credit spread requires judgment based on an understanding of the security and may include a market liquidity premium. Our selection of comparable companies as well as the level of spread requires significant judgment. Increases in spreads used in our matrix models, or those used to value comparable companies, will result in a decrease in discounted cash flows used, and accordingly in the estimated fair value of the security.

We obtain fixed maturity fair values from a variety of external independent pricing services, including brokers, with access to observable data including recent trade information, if available. In certain circumstances in which an external price is not available for a Level 3 security, we will internally estimate its fair value. Our process for evaluation and selection of the fair values includes:

•

We follow a “pricing waterfall” policy, which establishes the pricing source preference for a particular security or security type. The order of preference is based on our evaluation of the valuation methods used, the source's knowledge of the instrument and the reliability of the prices we have received from the source in the past. Our valuation policy dictates that fair values are initially sought from third party pricing services. If our review of the prices received from our preferred source indicates an inaccurate price, we will use an alternative source within the waterfall and document the decision. In the event that fair values are not available from one of our external pricing services or upon review of the fair values provided it is determined that they may not be reflective of market conditions, those securities are submitted to brokers familiar with the security to obtain non-binding price quotes. Broker quotes tend to be used in limited circumstances such as for newly issued, private placement corporate bonds and other instruments that are not widely traded. For those securities for which an externally provided fair value is not available we use cash flow modeling techniques to estimate fair value.


•	We evaluate third party pricing source estimation methodologies to assess whether they will provide a fair value that approximates a market exit price.


•	We perform an overall analysis of portfolio fair value movement against general movements in interest rates and spreads.


•	We compare period to period price trends to detect unexpected price fluctuation based on our knowledge of the market and the particular instrument. As fluctuations are noted, we will perform further research, which may include discussions with the original pricing source or other external sources to ensure we are in agreement with the valuation.


•	We compare prices between different pricing sources for unusual disparity.


•	We meet at least quarterly with our Investment Committee, the group that oversees our valuation process, to discuss valuation practices and observations during the pricing process.

Equity securities:

Level 1 equity securities consist of listed common stocks and mutual funds that are actively traded, allowing us to use current market prices as an estimate of their fair value.

Level 2 equity securities consist of common stock issued by the Federal Home Loan Bank of Des Moines (FHLB), with estimated fair value based on the current redemption value of the shares and non-redeemable preferred stock. Estimated fair value for the non-redeemable preferred stock is obtained from external pricing sources using a matrix pricing approach.

Level 3 equity securities consist of non-redeemable preferred stock for which no active market exists, and fair value estimates for these securities is based on the values of comparable securities that are actively traded. Increases in spreads used in our matrix models, or those used to value comparable companies, will result in a decrease in discounted cash flows used, and accordingly in the estimated fair value of the security.

In the case where external pricing services are used for certain Level 1 and Level 2 equity securities, our review process is consistent with the process used to determine the fair value of fixed maturities discussed above.

Mortgage loans:

Mortgage loans are not measured at fair value on a recurring basis. Mortgage loans are a Level 3 measurement as there is no current market for the loans. The fair value of our mortgage loans is estimated internally using a matrix pricing approach. Along with specific loan terms, two key management assumptions are required including the risk rating of the loan (our current rating system is A-highest quality, B-moderate quality, C-low quality, W-watch or F-foreclosure) and estimated spreads for new loans over the U.S. Treasury yield curve. Spreads are updated quarterly and loans are reviewed and rated annually with quarterly adjustments should significant changes occur. Our determination of each loan's risk rating as well as selection of the credit spread requires significant judgment. A higher risk rating, as well as an increase in spreads, would result in a decrease in discounted cash flows used, and accordingly the fair value of the loan.

Policy loans:

Policy loans are not measured at fair value on a recurring basis. Policy loans are a Level 3 measurement as there is no current market since they are specifically tied to the underlying insurance policy. The loans are relatively risk free as they cannot exceed the cash surrender value of the insurance policy. Fair values are estimated by discounting expected cash flows using a risk-free interest rate based on the U.S. Treasury curve. An increase in the risk-free interest rate would result in a decrease in discounted cash flows used, and accordingly the fair value of the loan.

Other investments:

Level 2 other investments measured at fair value on a recurring basis include call options with fair values based on counterparty market prices adjusted for a credit component of the counterparty, net of collateral received. Level 3 other investments, which are not measured at fair value on a recurring basis, include a promissory note that is priced internally using a discounted cash flow based on our assessment of the credit risk of the borrower.

Cash, cash equivalents and short-term investments:

Level 1 cash, cash equivalents and short-term investments are highly liquid instruments for which historical cost approximates fair value.

Reinsurance recoverable:

Level 2 reinsurance recoverable includes embedded derivatives in our modified coinsurance contracts under which we cede or assume business. Fair values of these embedded derivatives are based on the difference between the fair value and the cost basis of the underlying fixed maturities, which are valued consistent with the discussion of fixed maturities above.

Assets held in separate accounts:

Level 1 assets held in separate accounts consist of mutual funds that are actively traded, allowing us to use current market prices as an estimate of their fair value.

Future policy benefits, supplementary contracts without life contingencies and advance premiums and other deposits:

Level 3 policy-related financial instruments of investment-type contracts are those not involving significant mortality or morbidity risks. No active market exists for these contracts and they are not measured at fair value on a recurring basis. Fair values for our insurance contracts, other than investment-type contracts, are not required to be disclosed. Fair values for our investment-type contracts with expected maturities, including deferred annuities, funding agreements and supplementary contracts, are determined using discounted cash flow valuation techniques based on current interest rates adjusted to reflect our credit risk and an additional provision for adverse deviation. For certain deposit liabilities with no defined maturities and no surrender charges, including pension-related deposit administration funds, advance premiums and other deposits, fair value is the account value or amount payable on demand. Significant judgment is required in selecting the assumptions used to estimate the fair values of these financial instruments. For contracts with known maturities, increases in current rates will result in a decrease in discounted cash flows and a decrease in the estimated fair value of the policy obligation.

Certain annuity contracts include embedded derivatives that are measured at fair value on a recurring basis. These embedded derivatives are a Level 3 measurement. The fair value of the embedded derivatives is based on the discounted excess of projected account values (including a risk margin) over projected guaranteed account values. The key unobservable inputs required in the projection of future values that require management judgment include the risk margin as well as the credit risk of our company. Should the risk margin increase or the credit risk decrease the discounted cash flows and the estimated fair value of the obligation will increase.

Short-term debt:

Short-term debt is not measured at fair value on a recurring basis and is a Level 3 measurement. Short-term debt at December 31, 2015 consisted of advances with interest set at the debt issuer’s then-current lending rate. Since this short-term debt was repayable less than one month from the valuation date, its carrying value approximated fair value.

Long-term debt:

Long-term debt is not measured at fair value on a recurring basis. Long-term debt is a Level 3 measurement. The fair value of our outstanding debt is estimated using a discounted cash flow method based on the market's assessment or our current incremental borrowing rate for similar types of borrowing arrangements adjusted, as needed, to reflect our credit risk. Our selection of the credit spread requires significant judgment. A decrease in the spread will increase the estimated fair value of the outstanding debt.

Other liabilities:

Level 2 other liabilities include the embedded derivatives in our modified coinsurance contracts under which we cede business. Fair values for the embedded derivatives are based on the difference between the fair value and the cost basis of the underlying fixed maturities.

Liabilities related to separate accounts:

Separate account liabilities are not measured at fair value on a recurring basis. Level 3 separate account liabilities' fair value is based on the cash surrender value of the underlying contract, which is the cost we would incur to extinguish the liability.



Valuation of our Financial Instruments Measured on a Recurring Basis by Hierarchy Levels

	December 31, 2016
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
	(Dollars in thousands)
Assets
Fixed maturities:
Corporate securities	$	—	$	3,649,536	$	59,119	$	3,708,655
Residential mortgage-backed securities	—		422,300		—		422,300
Commercial mortgage-backed securities	—		494,520		81,434		575,954
Other asset-backed securities	—		716,282		54,368		770,650
United States Government and agencies	11,943		20,129		—		32,072
State, municipal and other governments	—		1,499,159		—		1,499,159
Non-redeemable preferred stocks	—		95,006		7,411		102,417
Common stocks	3,056		27,495		—		30,551
Other investments	—		9,360		—		9,360
Cash, cash equivalents and short-term investments	49,931		—		—		49,931
Reinsurance recoverable	—		3,411		—		3,411
Assets held in separate accounts	597,072		—		—		597,072
Total assets	$	662,002	$	6,937,198	$	202,332	$	7,801,532

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	—	$	—	$	15,778	$	15,778
Other liabilities	—		114		—		114
Total liabilities	$	—	$	114	$	15,778	$	15,892



Valuation of our Financial Instruments Measured on a Recurring Basis by Hierarchy Levels

	December 31, 2015
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
	(Dollars in thousands)
Assets
Fixed maturities:
Corporate securities	$	—	$	3,469,631	$	49,076	$	3,518,707
Residential mortgage-backed securities	—		461,777		3,729		465,506
Commercial mortgage-backed securities	—		465,812		88,180		553,992
Other asset-backed securities	—		527,565		55,557		583,122
United States Government and agencies	14,760		20,612		8,726		44,098
State, municipal and other governments	—		1,472,351		—		1,472,351
Non-redeemable preferred stocks	—		84,480		7,471		91,951
Common stocks	4,728		24,988		—		29,716
Other investments	—		2,331		—		2,331
Cash, cash equivalents and short-term investments	57,741		—		—		57,741
Reinsurance recoverable	—		2,636		—		2,636
Assets held in separate accounts	625,257		—		—		625,257
Total assets	$	702,486	$	6,532,183	$	212,739	$	7,447,408

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	—	$	—	$	9,374	$	9,374
Other liabilities	—		56		—		56
Total liabilities	$	—	$	56	$	9,374	$	9,430



Level 3 Fixed Maturities by Valuation Source - Recurring Basis

	December 31, 2016
	Third-party vendors			Priced internally			Total
	(Dollars in thousands)
Corporate securities	$	17,684		$	41,435		$	59,119
Commercial mortgage-backed securities	81,434			—			81,434
Other asset-backed securities	39,308			15,060			54,368
Total	$	138,426		$	56,495		$	194,921
Percent of total	71.0		%	29.0		%	100.0		%



	December 31, 2015
	Third-party vendors			Priced internally			Total
	(Dollars in thousands)
Corporate securities	$	17,208		$	31,868		$	49,076
Residential mortgage-backed securities	—			3,729			3,729
Commercial mortgage-backed securities	88,180			—			88,180
Other asset-backed securities	35,420			20,137			55,557
United States Government and agencies	—			8,726			8,726
Total	$	140,808		$	64,460		$	205,268
Percent of total	68.6		%	31.4		%	100.0		%



Quantitative Information about Level 3 Fair Value Measurements - Recurring Basis

	December 31, 2016
	Fair Value		Valuation Technique	Unobservable Input	Range (Weighted Average)
	(Dollars in thousands)
Assets
Corporate securities	$	47,398	Discounted cash flow	Credit spread	0.58% - 4.25% (2.81%)
Commercial mortgage-backed	81,434		Discounted cash flow	Credit spread	1.10% - 4.15% (2.95%)
Other asset-backed securities	6,461		Discounted cash flow	Credit spread	1.08% - 4.87% (3.45%)
Non-redeemable preferred stocks	7,411		Discounted cash flow	Credit spread	4.05% (4.05%)
Total assets	$	142,704

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	15,778	Discounted cash flow	Credit risk Risk margin	0.80% - 2.00% (1.25%) 0.15% - 0.40% (0.25%)



	December 31, 2015
	Fair Value		Valuation Technique	Unobservable Input	Range (Weighted Average)
	(Dollars in thousands)
Assets
Corporate securities	$	33,508	Discounted cash flow	Credit spread	1.16% - 17.50% (11.26%)
Commercial mortgage-backed	71,100		Discounted cash flow	Credit spread	1.10% - 4.15% (3.12%)
Other asset-backed securities	13,737		Discounted cash flow	Credit spread	1.25% - 7.90% (5.61%)
United States Government and agencies	8,726		Discounted cash flow	Credit spread	2.59% (2.59%)
Non-redeemable preferred stocks	7,471		Discounted cash flow	Credit spread	4.55% (4.55%)
Total assets	$	134,542

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	9,374	Discounted cash flow	Credit risk Risk margin	0.80% - 2.25% (1.45%) 0.15% - 0.40% (0.25%)

The tables above exclude certain securities for which the fair value was based on non-binding broker quotes where we could not reasonably obtain the quantitative unobservable inputs.



Level 3 Financial Instruments Changes in Fair Value - Recurring Basis

	December 31, 2016
								Realized and unrealized gains (losses), net
	Balance, December 31, 2015		Purchases		Disposals			Included in net income			Included in other compre-hensive income			Transfers into Level 3 (1)		Transfers out of Level 3 (1)			Amort-ization included in net income			Balance, December 31, 2016
	(Dollars in thousands)
Assets
Corporate securities	$	49,076	$	2,000	$	(13,751	)	$	(27	)	$	(490	)	$	35,956	$	(13,572	)	$	(73	)	$	59,119
Residential mortgage-backed securities	3,729		—		(3,722		)	—			(137		)	—		—			130			—
Commercial mortgage-backed securities	88,180		18,826		(1,656		)	—			(141		)	—		(23,852		)	77			81,434
Other asset-backed securities	55,557		64,146		(11,621		)	—			212			30,098		(84,045		)	21			54,368
United States Government and agencies	8,726		—		—			—			486			—		(9,218		)	6			—
State, municipal and other governments	—		—		—			—			108			2,393		(2,501		)	—			—
Non-redeemable preferred stocks	7,471		—		—			—			(60		)	—		—			—			7,411
Total assets	$	212,739	$	84,972	$	(30,750	)	$	(27	)	$	(22	)	$	68,447	$	(133,188	)	$	161		$	202,332

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	9,374	$	5,913	$	(115	)	$	606		$	—		$	—	$	—		$	—		$	15,778



	December 31, 2015
								Realized and unrealized gains (losses), net
	Balance, December 31, 2014		Purchases		Disposals			Included in net income			Included in other compre-hensive income			Transfers into Level 3 (1)		Transfers out of Level 3 (1)			Amort-ization included in net income		Balance, December 31, 2015
	(Dollars in thousands)
Assets
Corporate securities	$	64,239	$	15,993	$	(20,499	)	$	—		$	55		$	21,363	$	(32,649	)	$	574	$	49,076
Residential mortgage-backed securities	—		19,353		(2,340		)	—			284			5,984		(19,631		)	79		3,729
Commercial mortgage-backed securities	77,891		17,287		(885		)	—			(3,905		)	—		(2,334		)	126		88,180
Other asset-backed securities	116,141		53,215		(10,085		)	—			(662		)	30,287		(133,351		)	12		55,557
United States Government and agencies	9,065		—		—			—			(346		)	—		—			7		8,726
Non-redeemable preferred stocks	8,054		—		—			—			(583		)	—		—			—		7,471
Total Assets	$	275,390	$	105,848	$	(33,809	)	$	—		$	(5,157	)	$	57,634	$	(187,965	)	$	798	$	212,739

Liabilities
Future policy benefits - indexed annuity embedded derivatives	$	8,681	$	4,567	$	(1,064	)	$	(2,810	)	$	—		$	—	$	—		$	—	$	9,374

(1)

Transfers into Level 3 represent assets previously priced using an external pricing service with access to observable inputs no longer available and therefore, were priced using non-binding broker quotes. Transfers out of Level 3 include those assets that we are now able to obtain pricing from a third party pricing vendor that uses observable inputs. The fair values of newly issued securities often require additional estimation until a market is created, which is generally within a few months after issuance. Once a market is created, as was the case for the majority of the security transfers out of the Level 3 category above, Level 2 valuation sources become available. There were no transfers between Level 1 and Level 2 during the periods presented above.



Valuation of our Financial Instruments Not Reported at Fair Value by Hierarchy Levels

	December 31, 2016
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
	(Dollars in thousands)
Assets
Mortgage loans	$	—	$	—	$	840,337	$	840,337
Policy loans	—		—		230,656		230,656
Other investments					1,912		1,912
Total assets	$	—	$	—	$	1,072,905	$	1,072,905

Liabilities
Future policy benefits	$	—	$	—	$	3,887,399	$	3,887,399
Supplementary contracts without life contingencies	—		—		330,633		330,633
Advance premiums and other deposits	—		—		257,171		257,171
Long-term debt	—		—		67,599		67,599
Liabilities related to separate accounts	—		—		593,760		593,760
Total liabilities	$	—	$	—	$	5,136,562	$	5,136,562



	December 31, 2015
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
	(Dollars in thousands)
Assets
Mortgage loans	$	—	$	—	$	780,624	$	780,624
Policy loans	—		—		230,153		230,153
Total assets	$	—	$	—	$	1,010,777	$	1,010,777

Liabilities
Future policy benefits	$	—	$	—	$	3,608,771	$	3,608,771
Supplementary contracts without life contingencies	—		—		339,717		339,717
Advance premiums and other deposits	—		—		245,269		245,269
Short-term debt	—		—		15,000		15,000
Long-term debt	—		—		68,133		68,133
Liabilities related to separate accounts	—		—		620,676		620,676
Total liabilities	$	—	$	—	$	4,897,566	$	4,897,566

Level 3 Financial Instruments Measured at Fair Value on a Nonrecurring Basis

Certain assets are measured at fair value on a nonrecurring basis, generally mortgage loans or real estate that have been deemed to be impaired during the reporting period. There were no mortgage loans or real estate impaired to fair value during 2016. On May 22, 2015, one real estate property was impaired to a fair value totaling $1.0 million, which resulted in an impairment charge of $0.2 million.