Derivative Financial Instruments

Derivative transactions are generally entered into pursuant to International Swaps and Derivatives Association (“ISDA”) Master Agreements or Master Securities Forward Transaction Agreements (“MSFTA”) with approved counterparties that provide for a single net payment to be made by one party to the other on a daily basis, periodic payment dates, or at the due date, expiration, or termination of the agreement.

The ISDA Master Agreements contain provisions that would allow the counterparties to require immediate settlement of all derivative instruments in a net liability position if the Company were to default on any debt obligations over a certain threshold. The MSFTA contain provisions which do not stipulate a threshold for default and only apply to debt obligations between the Company and the specific counterparty. The aggregate fair value, inclusive of accrued income and expense, of derivative instruments with credit-risk-related contingent features that were in a net liability position was $72,759 and $93,761 as of June 30, 2018, and December 31, 2017, respectively. The Company had pledged collateral related to these derivatives of $15,900 and $42,750 as of June 30, 2018, and December 31, 2017, respectively, in the normal course of business. If the credit-risk-related contingent features were triggered on June 30, 2018, the fair value of assets that could be required to settle the derivatives in a net liability position was $56,859.

At June 30, 2018, and December 31, 2017, the Company had pledged $27,169 and $52,330 of unrestricted cash collateral to counterparties in the normal course of business, while other counterparties had pledged $12,696 and $5,490 of unrestricted cash collateral to the Company to satisfy collateral netting agreements, respectively.

At June 30, 2018, the Company estimated $15,222 of net derivative gains related to cash flow hedges included in AOCI will be reclassified into net income within the next twelve months. Gains and losses included in AOCI are reclassified into net income when the hedged item affects earnings.

Types of derivative instruments and derivative strategies

Interest rate contracts

Cash flow hedges

Interest rate swap agreements are used to convert the interest rate on certain debt security investments and debt obligations from a floating rate to a fixed rate.

Not designated as hedging instruments

The Company enters into certain transactions in which derivatives are hedging an economic risk but hedge accounting is either not elected or the transactions are not eligible for hedge accounting. These derivative instruments include: exchange-traded interest rate swap futures, over-the-counter (“OTC”) interest rate swaptions, OTC interest rate swaps, exchange-traded Eurodollar interest rate futures, and treasury interest rate futures. Certain of the Company’s OTC derivatives are cleared and settled through the Chicago Mercantile Exchange ("CME") while others are bilateral contracts between the Company and a counterparty.

In 2017, the CME amended its rulebook to classify variation margin transfers as settlement payments instead of collateral. The Company adjusts the fair value by the variation margin payments on derivatives cleared through the CME.

The derivative instruments mentioned above are economic hedges and used to manage risk. These transactions are used to offset changes in liabilities including those in variable annuity products, hedge the economic effect of a large increase in interest rates, manage the potential variability in future interest payments due to a change in credited interest rates and the related change in cash flows due to increased surrenders, and manage interest rate risks of forecasted acquisitions of fixed rate maturity investments and forecasted liability pricing.

Foreign currency contracts

Cross-currency swaps and foreign currency forwards are used to manage the foreign currency exchange rate risk associated with investments denominated in other than U.S. dollars. The Company uses cross-currency swaps to convert interest and principal payments on foreign denominated debt instruments into U.S. dollars. Cross-currency swaps may be designated as cash flow hedges; however, some are not eligible for hedge accounting. The Company uses foreign currency forwards to reduce the risk of foreign currency exchange rate changes on proceeds received on sales of foreign denominated debt instruments; however, hedge accounting is not elected.

Equity contracts

The Company uses futures on equity indices to offset changes in guaranteed lifetime withdrawal benefit liabilities; however, they are not eligible for hedge accounting.

Other forward contracts

The Company uses forward settling to be announced (“TBA”) securities to gain exposure to the investment risk and return of agency mortgage-backed securities (pass-throughs). These transactions enhance the return on the Company’s investment portfolio and provide a more liquid and cost effective method of achieving these goals than purchasing or selling individual agency mortgage-backed pools. As the Company does not regularly accept delivery of such securities, they are accounted for as derivatives but are not eligible for hedge accounting.

The following tables summarize the notional amount and fair value of derivative financial instruments, excluding embedded derivatives:



	June 30, 2018
			Net derivatives			Asset derivatives		Liability derivatives
	Notional amount		Fair value			Fair value ⁽¹⁾		Fair value ⁽¹⁾
Hedge designation/derivative type:
Derivatives designated as hedges:
Cash flow hedges:
Interest rate swaps	$	22,300	$	5,917		$	5,917	$	—
Cross-currency swaps	864,154		(8,854		)	30,471		39,325
Total cash flow hedges	886,454		(2,937		)	36,388		39,325

Total derivatives designated as hedges	886,454		(2,937		)	36,388		39,325

Derivatives not designated as hedges:
Interest rate swaps	548,500		577			1,461		884
Futures on equity indices	56,521		—			—		—
Interest rate futures	34,300		—			—		—
Interest rate swaptions	190,400		163			163		—
Other forward contracts	2,460,000		3,294			4,565		1,271
Cross-currency swaps	573,703		(11,778		)	20,292		32,070
Total derivatives not designated as hedges	3,863,424		(7,744		)	26,481		34,225
Total derivative financial instruments	$	4,749,878	$	(10,681	)	$	62,869	$	73,550

⁽¹⁾ The estimated fair value includes accrued income and expense. The estimated fair value of all derivatives in an asset position is reported within other assets and the estimated fair value of all derivatives in a liability position is reported within other liabilities in the condensed consolidated balance sheets.



	December 31, 2017
			Net derivatives			Asset derivatives		Liability derivatives
	Notional amount		Fair value			Fair value ⁽¹⁾		Fair value ⁽¹⁾
Hedge designation/derivative type:
Derivatives designated as hedges:
Cash flow hedges:
Interest rate swaps	$	388,800	$	7,476		$	7,476	$	—
Cross-currency swaps	800,060		(31,358		)	19,958		51,316
Total cash flow hedges	1,188,860		(23,882		)	27,434		51,316

Total derivatives designated as hedges	1,188,860		(23,882		)	27,434		51,316

Derivatives not designated as hedges:
Interest rate swaps	519,100		1,902			3,530		1,628
Futures on equity indices	22,074		—			—		—
Interest rate futures	60,700		—			—		—
Interest rate swaptions	164,522		75			75		—
Cross-currency swaps	612,733		(21,279		)	20,320		41,599
Total derivatives not designated as hedges	1,379,129		(19,302		)	23,925		43,227
Total derivative financial instruments	$	2,567,989	$	(43,184	)	$	51,359	$	94,543

⁽¹⁾The estimated fair value excludes accrued income and expense. The estimated fair value of all derivatives in an asset position is reported within other assets and the estimated fair value of all derivatives in a liability position is reported within other liabilities in the condensed consolidated balance sheets.

Notional amounts are used to express the extent of the Company’s involvement in derivative transactions and represent a standard measurement of the volume of its derivative activity. Notional amounts represent those amounts used to calculate contractual flows to be exchanged and are not paid or received. The average notional outstanding during the six months ended June 30, 2018, was $672,886, $1,451,399, $90,541, $179,348, and $1,764,286 for interest rate swaps, cross-currency swaps, futures, swaptions, and other forward contracts, respectively. The average notional outstanding during the year ended December 31, 2017, was $905,977, $1,323,398, $108,438, $162,896, and $2,231,196 for interest rate swaps, cross-currency swaps, futures, swaptions, and other forward contracts, respectively.

The following tables present the effect of derivative instruments in the condensed consolidated statements of income and comprehensive income reported by cash flow hedges and derivatives not designated as hedges, excluding embedded derivatives:



	Gain (loss) recognized in OCI on derivatives (Effective portion)						Gain (loss) reclassified from OCI into net income (Effective portion)
	Three Months Ended June 30,						Three Months Ended June 30,
	2018			2017			2018		2017
Cash flow hedges:
Interest rate swaps	$	(319	)	$	644		$	705	$	1,186		(A)
Interest rate swaps	1			(8,193		)	887		(787		)	(B)
Cross-currency swaps	59,257			(10,696		)	7,467		(973		)	(A)
Total cash flow hedges	$	58,939		$	(18,245	)	$	9,059	$	(574	)

(A) Net investment income.

(B) Interest expense.



	Gain (loss) recognized in OCI on derivatives (Effective portion)						Gain (loss) reclassified from OCI into net income (Effective portion)
	Six Months Ended June 30,						Six Months Ended June 30,
	2018			2017			2018		2017
Cash flow hedges:
Interest rate swaps	$	(1,331	)	$	496		$	1,633	$	2,406		(A)
Interest rate swaps	29,030			(4,350		)	632		(1,667		)	(B)
Cross-currency swaps	24,744			(21,346		)	6,941		129			(A)
Total cash flow hedges	$	52,443		$	(25,200	)	$	9,206	$	868

(A) Net investment income.

(B) Interest expense.



	Gain (loss) on derivatives recognized in net income
	Three Months Ended June 30,
	2018				2017
Derivatives not designated as hedging instruments:
Futures on equity indices	$	—		(A)	$	350		(A)
Futures on equity indices	(1,504		)	(B)	(1,536		)	(B)
Interest rate swaps	—			(A)	4,976			(A)
Interest rate swaps	(3,336		)	(B)	—			(B)
Interest rate futures	—			(A)	116			(A)
Interest rate futures	67			(B)	(206		)	(B)
Interest rate swaptions	—			(A)	(4		)	(A)
Interest rate swaptions	(187		)	(B)	(77		)	(B)
Other forward contracts	—			(A)	(9,363		)	(A)
Other forward contracts	(1,575		)	(B)	18,716			(B)
Cross-currency swaps	—			(A)	(8,083		)	(A)
Cross-currency swaps	40,739			(B)	—			(B)
Total derivatives not designated as hedging instruments	$	34,204			$	4,889

(A) Net investment income.

(B) Represents investment (losses) gains, net.



	Gain (loss) on derivatives recognized in net income
	Six Months Ended June 30,
	2018				2017
Derivatives not designated as hedging instruments:
Futures on equity indices	$	—		(A)	$	(334	)	(A)
Futures on equity indices	(2,145		)	(B)	(2,820		)	(B)
Interest rate swaps	—			(A)	3,427			(A)
Interest rate swaps	(14,302		)	(B)	—			(B)
Interest rate futures	—			(A)	102			(A)
Interest rate futures	115			(B)	(201		)	(B)
Interest rate swaptions	—			(A)	(31		)	(A)
Interest rate swaptions	(151		)	(B)	(151		)	(B)
Other forward contracts	—			(A)	(2,580		)	(A)
Other forward contracts	(21,943		)	(B)	13,119			(B)
Cross-currency swaps	—			(A)	(22,251		)	(A)
Cross-currency swaps	12,595			(B)	—			(B)
Total derivatives not designated as hedging instruments	$	(25,831	)		$	(11,720	)

(A) Net investment income.

(B) Represents investment (losses) gains, net.

Embedded derivative - Guaranteed Lifetime Withdrawal Benefit

The Company offers a guaranteed lifetime withdrawal benefit (“GLWB”) through a variable annuity or a contingent deferred annuity. The GLWB is deemed to be an embedded derivative. The GLWB is recorded at fair value within future policy benefits on the condensed consolidated balance sheets. Changes in fair value of the GLWB are recorded in investment gains (losses), net in the condensed consolidated statements of income.

The estimated fair value of the GLWB was $513 and $11,095 at June 30, 2018, and December 31, 2017, respectively. The changes in fair value of the GLWB were $3,480 and $(5,553) for the three months ended June 30, 2018 and 2017, respectively, and $10,582 and $(3,883) for the six months ended June 30, 2018 and 2017, respectively.