Fair Value Measurement

3 Months Ended

Mar. 31, 2011

Fair Value Measurement

Fair Value Measurement

6. Fair Value Measurement

The Company carries a portion of its assets and liabilities at fair value. Fair value is defined as 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 (i.e., exit price). The price represents the price available in the principal market for the asset or liability. If there is no principal market, then the price is based on the market that maximizes the value received for an asset or minimizes the amount paid for a liability (i.e., the most advantageous market).

Fair value is based on quoted market prices, where available. If listed prices or quotes are not available, fair value is based on either internally developed models that primarily use, as inputs, market-based or independently sourced market parameters, including but not limited to yield curves, interest rates and debt prices or with the assistance of an independent third-party using a discounted cash flow approach and the third party’s proprietary pricing models. In addition to market information, models also incorporate transaction details, such as maturity of the instrument and contractual features designed to reduce the Company’s credit exposure such as collateral rights.

Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments include amounts to reflect counterparty credit quality, the Company’s creditworthiness, constraints on liquidity and unobservable parameters. Valuation adjustments have been applied consistently over time. As markets and products develop and the pricing for certain products becomes more or less transparent, the Company continues to refine its methodologies. During First Quarter 2011, no changes were made to the Company’s valuation models that had or are expected to have, a material impact on the Company’s consolidated balance sheets or statements of operations and comprehensive income.

The Company’s methods for calculating fair value may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. The use of different methodologies or assumptions to determine fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

The fair value hierarchy is determined based on whether the inputs to valuation techniques used to measure fair value are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect Company estimates of market assumptions. The fair value hierarchy prioritizes model inputs into three broad levels as follows, with level 1 being the highest and level 3 the lowest. An asset or liability’s categorization within the fair value hierarchy is based on the lowest level of significant input to its valuation.

Level 1—Quoted prices for identical instruments in active markets.

Level 2—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and observable inputs other than quoted prices, such as interest rates or yield curves and other inputs derived from or corroborated by observable market inputs.

Level 3—Model derived valuations in which one or more significant inputs or significant value drivers are unobservable. This hierarchy requires the use of observable market data when available. Financial instruments are considered Level 3 when their values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable. Level 3 financial instruments also include those for which the determination of fair value requires significant management judgment or estimation.

Transfers between levels 1, 2 and 3 are recognized at the beginning of the period when the transfer occurs. The Company reviews quarterly the classification between levels 1, 2 and 3 to determine, based on the definitions provided, whether a transfer is necessary. There we no transfers between levels during the periods presented.

Financial Instruments Carried at Fair Value

Amounts recorded at fair value in the Company’s financial statements are included in the tables below.

Fair Value Hierarchy of Financial Instruments

As of March 31, 2011

			Fair Value Hierarchy
	Fair Value		Level 1		Level 2		Level 3
	(in millions)
	(restated)		(restated)				(restated)
Assets:
Investment portfolio, available-for-sale:
Fixed maturity securities
U.S. government and agencies	$	1,007.8	$	—	$	1,007.8	$	—
Obligations of state and political subdivisions	4,931.6		—		4,931.6		—
Corporate securities	953.1		—		953.1		—
Mortgage-backed securities:
RMBS	1,293.5		—		1,083.4		210.1
Commercial Mortgage-Backed Securities (“CMBS”)	409.0		—		409.0		—
Asset-backed securities	516.0		—		283.9		232.1
Foreign government securities	348.8		—		348.8		—
Total fixed maturity securities	9,459.8		—		9,017.6		442.2
Short-term investments	813.4		200.2		613.2		—
Other invested assets(1)	33.2		0.4		21.4		11.4
Credit derivative assets	619.3		—		—		619.3
Financial guaranty VIEs’ assets, at fair value	3,679.0		—		—		3,679.0
Other assets	48.5		29.2		19.3		—
Total assets carried at fair value	$	14,653.2	$	229.8	$	9,671.5	$	4,751.9
Liabilities:
Credit derivative liabilities	$	2,759.3	$	—	$	—	$	2,759.3
Financial guaranty VIEs’ liabilities with recourse, at fair value	2,874.2		—		—		2,874.2
Financial guaranty VIEs’ liabilities without recourse, at fair value	1,373.0		—		—		1,373.0
Total liabilities carried at fair value	$	7,006.5	$	—	$	—	$	7,006.5

Fair Value Hierarchy of Financial Instruments

As of December 31, 2010

			Fair Value Hierarchy
	Fair Value		Level 1		Level 2		Level 3
	(in millions)
	(restated)		(restated)				(restated)
Assets:
Investment portfolio, available-for-sale:
Fixed maturity securities
U.S. government and agencies	$	1,048.2	$	—	$	1,048.2	$	—
Obligations of state and political subdivisions	4,959.9		—		4,959.9		—
Corporate securities	992.5		—		992.5		—
Mortgage-backed securities:
RMBS	1,171.1		—		1,071.7		99.4
CMBS	379.1		—		379.1		—
Asset-backed securities	502.9		—		292.7		210.2
Foreign government securities	348.6		—		348.6		—
Total fixed maturity securities	9,402.3		—		9,092.7		309.6
Short-term investments	1,055.6		277.4		778.2		—
Other invested assets(1)	33.3		0.2		21.4		11.7
Credit derivative assets	592.9		—		—		592.9
Financial guaranty VIEs’ assets, at fair value	3,657.5		—		—		3,657.5
Other assets	44.4		25.7		18.7		—
Total assets carried at fair value	$	14,786.0	$	303.3	$	9,911.0	$	4,571.7
Liabilities:
Credit derivative liabilities	$	2,462.8	$	—	$	—	$	2,462.8
Financial guaranty VIEs’ liabilities with recourse, at fair value	3,030.9		—		—		3,030.9
Financial guaranty VIEs’ liabilities without recourse, at fair value	1,337.2		—		—		1,337.2
Other liabilities	0.1		—		0.1		—
Total liabilities carried at fair value	$	6,831.0	$	—	$	0.1	$	6,830.9

(1) Includes mortgage loans that are recorded at fair value on a non-recurring basis. At March 31, 2011 and December 31, 2010, such investments were carried at their market value of $9.2 million and $9.4 million, respectively. The mortgage loans are classified as Level 3 of the fair value hierarchy as there are significant unobservable inputs used in the valuation of such loans. An indicative dealer quote is used to price the non-performing portion of these mortgage loans. The performing loans are valued using management’s determination of future cash flows arising from these loans, discounted at the rate of return that would be required by a market participant. This rate of return is based on indicative dealer quotes.

Changes in Level 3 Fair Value Measurements

The table below presents a roll forward of the Company’s financial instruments whose fair value included significant unobservable inputs (Level 3) during First Quarter 2011 and 2010.

Fair Value Level 3 Roll Forward

	Fixed Maturity									Financial			Credit			Financial			Financial Guaranty VIEs’
	Securities									Guaranty			Derivative			Guaranty VIEs’			Liabilities
				Asset-			Other			VIEs’			Asset			Liabilities with			without
	RMBS			Backed Securities			Invested Assets			Assets. at Fair Value			(Liability), net(5)			Recourse, at Fair Value			Recourse, at Fair Value
	(in millions)
	(restated)												(restated)			(restated)
Fair value at December 31, 2010	$	99.4		$	210.2		$	2.3		$	3,657.5		$	(1,869.9	)	$	(3,030.9	)	$	(1,337.2	)
Total pre-tax realized and unrealized gains/(losses)(1) recorded in:
Net income (loss)	3.9		(2)	1.6		(2)	—			234.4		(3)	(236.2		)(6)	(11.1		)(3)	(135.5		)(3)
Other comprehensive income (loss)	(30.8		)	20.3			(0.1		)	—			—			—			—
Purchases	150.6			—			—			—			—			—			—
Sales	(13.0		)	—			—			—			—			—			—
Settlements	—			—			—			(212.9		)	(33.9		)	167.8			99.7
VIE consolidation	—			—			—			—			—			—			—
Fair value at March 31, 2011	$	210.1		$	232.1		$	2.2		$	3,679.0		$	(2,140.0	)	$	(2,874.2	)	$	(1,373.0	)
Change in unrealized gains/(losses) related to financial instruments held at March 31, 2011	$	(30.8	)	$	20.3		$	(0.1	)	$	348.3		$	(282.8	)	$	(35.9	)	$	(172.0	)

	Fixed Maturity Securities									Financial			Credit Derivative			Financial Guaranty VIEs’			Financial Guaranty VIEs’
				Asset-			Other			Guaranty VIEs’			Asset			Liabilities with			Liabilities without
	RMBS			Backed Securities			Invested Assets			Assets. at Fair Value			(Liability), net(5)			Recourse, at Fair Value			Recourse, at Fair Value
	(in millions)
																(restated)
Fair value at December 31, 2009	$	—		$	203.9		$	0.2		$	—		$	(1,542.1	)	$	—		$	—
Adoption of new accounting standard	—			—			—			1,925.3			—			(2,110.9		)	(226.0		)
Fair value at January 1, 2010	—			203.9			0.2			1,925.3			(1,542.1		)	(2,110.9		)	(226.0		)
Total pre-tax realized and unrealized gains/(losses)(1) recorded in:
Net income (loss)	0.4		(2)	(0.6		)(2)	0.1		(4)	4.2		(3)	278.8		(6)	(9.6		)(3)	(5.1		)(3)
Other comprehensive income (loss)	(18.2		)	0.6			—			—			—			—			—
Purchases, issuances, sales, settlements, net	42.0			—			4.1			(60.9		)	(21.6		)	35.3			25.4
Transfers in and/or out of Level 3	55.1			18.8			—			—			—			—			—
Fair value at March 31, 2010	$	79.3		$	222.7		$	4.4		$	1,868.6		$	(1,284.9	)	$	(2,085.2	)	$	(205.7	)
Change in unrealized gains/(losses) related to financial instruments held at March 31, 2010	$	(18.2	)	$	0.6		$	0.1		$	64.0		$	257.8		$	(58.5	)	$	(3.4	)

(1) Realized and unrealized gains (losses) from changes in values of Level 3 financial instruments represent gains (losses) from changes in values of those financial instruments only for the periods in which the instruments were classified as Level 3.

(2) Included in net realized investment gains (losses) and net investment income.

(3) Included in net change in financial guaranty variable interest entities.

(4) Recorded in other income.

(5) Represents net position of credit derivatives. The consolidated balance sheet presents gross assets and liabilities based on net counterparty exposure.

(6) Reported in net change in fair value of credit derivatives.

The carrying amount and estimated fair value of the Company’s financial instruments are presented in the following table:

Fair Value of Financial Instruments

	As of March 31, 2011				As of December 31, 2010
	Carrying Amount		Estimated Fair Value		Carrying Amount		Estimated Fair Value
	(in millions)
	(restated)		(restated)		(restated)		(restated)
Assets:
Fixed maturity securities	$	9,459.8	$	9,459.8	$	9,402.3	$	9,402.3
Short-term investments	813.4		813.4		1,055.6		1,055.6
Other invested assets	255.3		265.5		259.8		269.7
Credit derivative assets	619.3		619.3		592.9		592.9
Financial guaranty VIEs’ assets, at fair value	3,679.0		3,679.0		3,657.5		3,657.5
Other assets	48.5		48.5		44.4		44.4
Liabilities:
Financial guaranty insurance contracts(1)	4,337.1		4,494.2		4,777.6		5,582.8
Long-term debt	1,049.7		1,107.8		1,052.9		1,074.5
Credit derivative liabilities	2,759.3		2,759.3		2,462.8		2,462.8
Financial guaranty VIEs’ liabilities with recourse, at fair value	2,874.2		2,874.2		3,030.9		3,030.9
Financial guaranty VIEs’ liabilities without recourse, at fair value	1,373.0		1,373.0		1,337.2		1,337.2

(1) Includes the balance sheet amounts related to financial guaranty insurance contract premiums and losses, net of reinsurance.