Derivatives and Hedging Activities

3 Months Ended

Mar. 31, 2013

Derivatives and Hedging Activities

Derivatives and Hedging Activities

12. Derivatives and Hedging Activities

Derivative instruments enable the Company to manage its exposure to various market risks.  The value of such instruments is derived from an underlying variable or multiple variables, including equity and interest rate indices or prices.  The Company primarily enters into derivative agreements for risk management purposes related to the Company’s products and operations.

The Company’s freestanding derivatives are recorded at fair value and are reflected in other assets or other liabilities. The Company’s freestanding derivative instruments are all subject to master netting arrangements. The Company’s policy on the recognition of derivatives on the Consolidated Balance Sheets is to not offset fair value amounts recognized for derivatives and collateral arrangements executed with the same counterparty under the same master netting arrangement. See Note 11 for additional information regarding the estimated fair value of the Company’s freestanding derivatives after considering the effect of master netting arrangements and collateral.

In April 2012, the Financial Stability Oversight Council approved the final rule and interpretive guidance that provides the framework it will follow to determine if a nonbank financial company is a Systemically Important Financial Institution. The framework includes a three-stage process to help narrow down the pool of nonbank financial companies for review and possible designation. Stage 1 criteria include having at least $50 billion in assets and meeting one of five additional quantitative measures. One of the five thresholds is $3.5 billion of derivative liabilities after considering the effects of master netting arrangements and cash collateral held with the same counterparty. The following table presents the Company’s derivative liabilities as defined by the rule:

	March 31, 2013		December 31, 2012
	(in millions)
Fair value of OTC derivative liabilities after application of master netting agreements and cash collateral	$	634	$	536
Fair value of embedded derivative liabilities	330		880
Fair value of derivative liabilities after application of master netting agreements and cash collateral	$	964	$	1,416

The Company currently uses derivatives as economic hedges and accounting hedges.  The following table presents the balance sheet location and the gross fair value of derivative instruments, including embedded derivatives:

		Asset					Liability
Derivatives not designated as hedging instruments	Balance Sheet Location	March 31, 2013		December 31, 2012		Balance Sheet Location	March 31, 2013		December 31, 2012
		(in millions)					(in millions)
GMWB and GMAB
Interest rate contracts	Other assets	$	1,937	$	2,191	Other liabilities	$	1,421	$	1,486
Equity contracts	Other assets	1,192		1,215		Other liabilities	1,904		1,792
Foreign currency contracts	Other assets	7		6		Other liabilities	1		—
Embedded derivatives(1)	Not applicable	—		—		Future policy benefits	266		833
Total GMWB and GMAB		3,136		3,412			3,592		4,111
Other derivatives:
Equity
EIA embedded derivatives	Not applicable	—		—		Future policy benefits	3		2
IUL	Other assets	14		6		Other liabilities	5		1
IUL embedded derivatives	Not applicable	—		—		Future policy benefits	61		45
Total other		14		6			69		48
Total derivatives		$	3,150	$	3,418		$	3,661	$	4,159

(1) The fair values of GMWB and GMAB embedded derivatives fluctuate based on changes in equity, interest rate and credit markets.

See Note 10 for additional information regarding the Company’s fair value measurement of derivative instruments.

The following table presents a summary of the impact of derivatives not designated as hedging instruments on the Consolidated Statements of Income for the three months ended March 31:

		Amount of Gain (Loss) on Derivatives
Derivatives not designated	Location of Gain (Loss) on	Recognized in Income
as hedging instruments	Derivatives Recognized in Income	2013			2012
		(in millions)
GMWB and GMAB
Interest rate contracts	Benefits, claims, losses and settlement expenses	$	(132	)	$	(225	)
Equity contracts	Benefits, claims, losses and settlement expenses	(492		)	(695		)
Credit contracts	Benefits, claims, losses and settlement expenses	—			(3		)
Foreign currency contracts	Benefits, claims, losses and settlement expenses	5			4
Embedded derivatives(1)	Benefits, claims, losses and settlement expenses	567			745
Total GMWB and GMAB		(52		)	(174		)
Other derivatives:
Equity
EIA	Interest credited to fixed accounts	1			1
EIA embedded derivatives	Interest credited to fixed accounts	(1		)	—
IUL	Interest credited to fixed accounts	4			—
IUL embedded derivatives	Interest credited to fixed accounts	3			—
Total other		7			1
Total derivatives		$	(45	)	$	(173	)

(1) The fair values of GMWB and GMAB embedded derivatives fluctuate based on changes in equity, interest rate and credit markets.

The Company holds derivative instruments that either do not qualify or are not designated for hedge accounting treatment.  These derivative instruments are used as economic hedges of equity, interest rate and credit risk related to various products and transactions of the Company.

Certain annuity contracts contain GMWB or GMAB provisions, which guarantee the right to make limited partial withdrawals each contract year regardless of the volatility inherent in the underlying investments or guarantee a minimum accumulation value of consideration received at the beginning of the contract period, after a specified holding period, respectively.  The Company economically hedges the exposure related to non-life contingent GMWB and GMAB provisions primarily using various futures, options, interest rate swaptions, interest rate swaps, total return swaps, variance swaps and credit default swaps.  At March 31, 2013 and December 31, 2012, the gross notional amount of derivative contracts for the Company’s GMWB and GMAB provisions was $146.1 billion and $142.1 billion, respectively.

The deferred premium associated with certain of the above options is paid or received semi-annually over the life of the option contract.  The following is a summary of the payments the Company is scheduled to make and receive for these options:

	Premiums Payable		Premiums Receivable
	(in millions)
2013(1)	$	287	$	47
2014	344		54
2015	317		53
2016	287		46
2017	237		40
2018-2027	780		104

(1)   2013 amounts represent the amounts payable and receivable for the period from April 1, 2013 to December 31, 2013.

Actual timing and payment amounts may differ due to future contract settlements, modifications or exercises of options prior to the full premium being paid or received.

EIA and IUL products have returns tied to the performance of equity markets.  As a result of fluctuations in equity markets, the obligation incurred by the Company related to EIA and IUL products will positively or negatively impact earnings over the life of these products.  As a means of economically hedging its obligations under the provisions of these products, the Company enters into index options and futures contracts.  The gross notional amount of EIA derivative contracts was $12 million and $10 million at March 31, 2013 and December 31, 2012, respectively. The gross notional amount of IUL derivative contracts was $255 million and $200 million at March 31, 2013 and December 31, 2012, respectively.

Embedded Derivatives

Certain annuities contain GMAB and non-life contingent GMWB provisions, which are considered embedded derivatives.  In addition, the equity component of the EIA and IUL product obligations are also considered embedded derivatives.  These embedded derivatives are bifurcated from their host contracts and reported on the Consolidated Balance Sheets at fair value with changes in fair value reported in earnings.  As discussed above, the Company uses derivatives to mitigate the financial statement impact of these embedded derivatives.

Cash Flow Hedges

The Company has amounts classified in AOCI related to gains and losses associated with the effective portion of previously designated cash flow hedges.  The Company reclassifies these amounts into income as the forecasted transactions impact earnings.  During the three months ended March 31, 2013, the Company held no derivatives that were designated as cash flow hedges.

At March 31, 2013, the Company expects to reclassify $6 million of deferred loss on derivative instruments from AOCI to earnings during the next 12 months that will be recorded in net investment income.  These were originally losses on derivative instruments related to interest rate swaptions.  During the three months ended March 31, 2013 and 2012, no hedge relationships were discontinued due to forecasted transactions no longer being expected to occur according to the original hedge strategy.  For the three months ended March 31, 2013 and 2012, amounts recognized in earnings on derivative transactions that were ineffective were not material.

The following table presents a rollforward of unrealized derivative losses related to cash flow hedges included in accumulated other comprehensive income:

	2013			2012
	(in millions)
Net unrealized derivative losses at January 1	$	(21	)	$	(26	)
Reclassification of realized losses(1)	2			2
Income tax benefit	(1		)	(1		)
Net unrealized derivative losses at March 31	$	(20	)	$	(25	)

(1) Loss reclassified from AOCI to net investment income on the Consolidated Statements of Income.

Currently, the longest period of time over which the Company is hedging exposure to the variability in future cash flows is six years and relates to interest credited on forecasted fixed premium product sales.

Credit Risk

Credit risk associated with the Company’s derivatives is the risk that a derivative counterparty will not perform in accordance with the terms of the applicable derivative contract.  To mitigate such risk, the Company has established guidelines and oversight of credit risk through a comprehensive enterprise risk management program that includes members of senior management.  Key components of this program are to require preapproval of counterparties and the use of master netting arrangements and collateral arrangements whenever practical.  See Note 11 for additional information on the Company’s credit exposure related to derivative assets.

Certain of the Company’s derivative contracts contain provisions that adjust the level of collateral the Company is required to post based on the Company’s financial strength rating (or based on the debt rating of the Company’s parent, Ameriprise Financial).  Additionally, certain of the Company’s derivative contracts contain provisions that allow the counterparty to terminate the contract if the Company does not maintain a specific financial strength rating or Ameriprise Financial’s debt does not maintain a specific credit rating (generally an investment grade rating).  If these termination provisions were to be triggered, the Company’s counterparty could require immediate settlement of any net liability position.  At March 31, 2013 and December 31, 2012, the aggregate fair value of derivative contracts in a net liability position containing such credit contingent provisions was $448 million and $364 million, respectively.  The aggregate fair value of assets posted as collateral for such instruments as of March 31, 2013 and December 31, 2012 was $448 million and $360 million, respectively.  If the credit contingent provisions of derivative contracts in a net liability position at March 31, 2013 and December 31, 2012 were triggered, the aggregate fair value of additional assets that would be required to be posted as collateral or needed to settle the instruments immediately would have been nil and $4 million, respectively.