Variable Annuity Reinsurance

White Mountains entered into agreements to reinsure death and living benefit guarantees associated with certain variable annuities in Japan. During the second quarter of 2015, the variable annuity contracts reinsured by WM Life Re began to mature and were fully runoff by June 30, 2016. At December 31, 2015, the total guarantee value was approximately ¥50.7 billion (approximately $0.4 billion at exchange rates on that date), respectively. The collective account values of the underlying variable annuities were approximately 109% of the guarantee value at December 31, 2015.

The following table summarizes the pre-tax operating results of WM Life Re for the three and six months ended June 30, 2016 and 2015.



	Three Months Ended						Six Months Ended
	June 30,						June 30,
Millions	2016			2015			2016			2015
Fees, included in other revenue	$	.3		$	2.6		$	1.2		$	5.6
Change in fair value of variable annuity liability, included in other revenue	.1			.7			(.3		)	1.1
Change in fair value of derivatives, included in other revenue	(.3		)	(2.3		)	(2.0		)	(7.8		)
Foreign exchange, included in other revenue	.4			—			1.3			(1.2		)
Other investment income and (losses) gains	—			(.1		)	—			(.2		)
Total revenue	.5			.9			.2			(2.5		)
Change in fair value of variable annuity death benefit liabilities, included in other general and administrative expenses	—			—			—			—
Death benefit claims paid, included in general and administrative expenses	(.2		)	(.1		)	(.3		)	—
General and administrative expenses	(1.2		)	(.9		)	(1.9		)	(2.3		)
Pre-tax income (loss)	$	(.9	)	$	(.1	)	$	(2.0	)	$	(4.8	)

The following summarizes realized and unrealized derivative gains (losses) recognized in other revenue for the three and six months ended June 30, 2016 and 2015 and the carrying values, included in other assets, at June 30, 2016 and December 31, 2015 by type of instrument:



	Gains (losses)												Carrying Value
	Three Months Ended						Six Months Ended						As of
	June 30,						June 30,						June 30, 2016		December 31, 2015
Millions	2016			2015			2016			2015			June 30, 2016		December 31, 2015
Fixed income/interest rate	$	—		$	(5.9	)	$	1.8		$	3.4		$	—	$	.5
Foreign exchange	(.6		)	9.2			(4.8		)	(2.9		)	—		14.8
Equity	.3			(5.6		)	1.0			(8.3		)	—		4.8
Total	$	(.3	)	$	(2.3	)	$	(2.0	)	$	(7.8	)	$	—	$	20.1

The following tables summarize the changes in White Mountains’s variable annuity reinsurance liabilities and derivative instruments for the three and six months ended June 30, 2016 and 2015:



	Three Months Ended June 30, 2016
	Variable Annuity Assets (Liabilities)			Derivative Instruments
Millions	Level 3			Level 3 ⁽¹⁾			Level 2 ⁽¹⁾⁽²⁾			Level 1 ⁽³⁾			Total
Beginning of period	$	(.1	)	$	2.6		$	10.3		$	.2		$	13.1
Purchases	—			—			—			—			—
Realized and unrealized gains (losses)	.1			1.7			(1.8		)	(.2		)	(.3		)
Transfers in	—			—			—			—			—
Sales/settlements	—			(4.3		)	(8.5		)	—			(12.8		)
End of period	$	—		$	—		$	—		$	—		$	—



	Six Months Ended June 30, 2016
	Variable Annuity Assets (Liabilities)			Derivative Instruments
Millions	Level 3			Level 3 ⁽¹⁾			Level 2 ⁽¹⁾⁽²⁾			Level 1 ⁽³⁾			Total
Beginning of period	$	.3		$	2.7		$	16.5		$	.9		$	20.1
Purchases	—			—			—			—			—
Realized and unrealized gains (losses)	(.3		)	2.9			(.7		)	(4.2		)	(2.0		)
Transfers in	—			—			—			—			—
Sales/settlements	—			(5.6		)	(15.8		)	3.3			(18.1		)
End of period	$	—		$	—		$	—		$	—		$	—



	Three Months Ended June 30, 2015
	Variable Annuity Assets		Derivative Instruments
Millions	Level 3		Level 3 ⁽¹⁾			Level 2 ⁽¹⁾⁽²⁾		Level 1 ⁽³⁾			Total
Beginning of period	$	1.1	$	17.0		$	31.2	$	(1.2	)	$	47.0
Purchases	—		—			—		—			—
Realized and unrealized gains (losses)	.7		(8.3		)	.6		5.4			(2.3		)
Transfers in	—		—			—		—			—
Sales/settlements	—		(.4		)	.7		(9.3		)	(9.0		)
End of period	$	1.8	$	8.3		$	32.5	$	(5.1	)	$	35.7



	Six Months Ended June 30, 2015
	Variable Annuity Assets		Derivative Instruments
Millions	Level 3		Level 3 ⁽¹⁾			Level 2 ⁽¹⁾⁽²⁾			Level 1 ⁽³⁾			Total
Beginning of period	$	.7	$	18.9		$	33.8		$	3.7		$	56.4
Purchases	—		—			—			—			—
Realized and unrealized gains (losses)	1.1		(9.0		)	(5.9		)	7.1			(7.8		)
Transfers in	—		—			—			—			—
Sales/settlements	—		(1.6		)	4.6			(15.9		)	(12.9		)
End of period	$	1.8	$	8.3		$	32.5		$	(5.1	)	$	35.7

⁽¹⁾Consists of over-the-counter instruments.

⁽²⁾Consists of interest rate swaps, total return swaps, foreign currency forward contracts, and bond forwards. Fair value measurement based upon bid/ask pricing quotes for similar instruments that are actively traded, where available. Swaps for which an active market does not exist have been priced using observable inputs including the swap curve and the underlying bond index.

⁽³⁾Consists of exchange traded equity index, foreign currency and interest rate futures. Fair value measurements based upon quoted prices for identical instruments that are actively traded.

In addition to derivative instruments, WM Life Re held cash and fixed maturity investments posted as collateral to its variable annuity reinsurance counterparties. The total collateral includes the following:



Millions	June 30, 2016		December 31, 2015		June 30, 2015
Cash	$	—	$	5.8	$	20.9
Fixed maturity investments	—		—		4.4
Total	$	—	$	5.8	$	25.3

Collateral in the form of fixed maturity securities consisted of Government of Japan Bonds, recorded at fair value. Collateral in the form of short-term investments consisted of money-market instruments, carried at amortized cost, which approximated fair value.

All of White Mountains’s variable annuity reinsurance liabilities were classified as Level 3 measurements. The fair value of White Mountains’s variable annuity reinsurance liabilities were estimated using actuarial and capital market assumptions related to the projected discounted cash flows over the term of the reinsurance agreement. Actuarial assumptions regarding future policyholder behavior, including surrender and lapse rates, were generally unobservable inputs and significantly impacted the fair value estimates. Generally, the liabilities associated with these guarantees increased with declines in the equity markets, interest rates and currencies against the Japanese yen, as well as with increases in market volatilities. White Mountains used derivative instruments to mitigate the risks associated with changes in the fair value of the reinsured variable annuity guarantees. The types of inputs used to estimate the fair value of these derivative instruments, with the exception of actuarial assumptions regarding policyholder behavior and risk margins, were generally the same as those used to estimate the fair value of variable annuity liabilities. There were no open derivatives instruments remaining as of June 30, 2016.

WM Life Re entered into both over-the-counter (“OTC”) and exchange traded derivative instruments to economically hedge the liability from the variable annuity benefit guarantee. In the case of OTC derivatives, WM Life Re had exposure to credit risk for amounts that were uncollateralized by counterparties. WM Life Re’s internal risk management guidelines established net counterparty exposure thresholds that took into account OTC counterparties’ credit ratings. The OTC derivative contracts were subject to restrictions on liquidation of the instruments and distribution of proceeds under collateral agreements.

In the case of exchange traded instruments, WM Life Re had exposure to credit risk for amounts uncollateralized by margin balances. WM Life Re had master netting agreements with certain of its counterparties whereby the collateral provided (held) was calculated on a net basis. The following summarizes amounts offset under master netting agreements:



	June 30, 2016						December 31, 2015
Millions	Gross asset amounts before offsets ⁽¹⁾		Gross liability amounts offset under master netting arrangements		Net amounts recognized in Other Assets		Gross asset amounts before offsets ⁽¹⁾		Gross liability amounts offset under master netting arrangements			Net amounts recognized in Other Assets
Interest rate contracts
OTC	$	—	$	—	$	—	$	2.4	$	(2.1	)	$	.3
Exchange traded	—		—		—		.1		(.1		)	—
Foreign exchange contracts
OTC	—		—		—		15.0		—			15.0
Exchange traded	—		—		—		.1		(.3		)	(.2		)
Equity contracts
OTC	—		—		—		4.4		(.6		)	3.8
Exchange traded	—		—		—		1.2		—			1.2
Total⁽²⁾	$	—	$	—	$	—	$	23.2	$	(3.1	)	$	20.1

⁽¹⁾Amount equal to fair value of instrument as recognized in other assets

⁽²⁾ All derivative instruments held by WM Life Re were subject to master netting arrangements.

There were no open derivative instruments as of June 30, 2016 and no exposure to credit losses on OTC and exchanged traded derivatives as of that date. The following summarizes the value, collateral held or provided by WM Life Re and net exposure to credit losses on OTC and exchange traded derivative instruments by counterparty recorded within other assets as of December 31, 2015:



	December 31, 2015
Millions	Net amount of assets reflected in Balance Sheet		Collateral provided to counter-party - Cash		Collateral provided to counter-party - Financial Instruments		Net amount of exposure after effect of collateral provided		Excess collateral provided to counter-party- Cash		Excess collateral provided - Financial Instruments		Counter-party collateral held by WM Life Re- Cash		Net amount of exposure to counter-party		Standard & Poor's Rating⁽¹⁾
JP Morgan	$	8.5	$	—	$	—	$	8.5	$	—	$	—	$	5.5	$	3.0	A	+
Bank of America	.7		—		—		.7		—		—		—		.7		A
Citigroup - OTC	9.9		—		—		9.9		—		—		1.4		8.5		A
Citigroup - Exchange Traded	1.0		—		—		1.0		5.8		—		—		6.8		A
Total	$	20.1	$	—	$	—	$	20.1	$	5.8	$	—	$	6.9	$	19.0

⁽¹⁾Standard & Poor’s ratings as detailed above are: “A+” (Strong, which is the fifth highest of twenty-three creditworthiness ratings), “A” (Strong, which is the sixth highest of twenty-three creditworthiness ratings), “A-” (Strong, which is the seventh highest of twenty-three creditworthiness ratings) and

“BBB+” (Adequate, which is the eighth highest of twenty-three creditworthiness ratings).