XML 17 R10.htm IDEA: XBRL DOCUMENT v2.4.0.8
Derivative Financial Instruments
 9 Months Ended
Sep. 30, 2013
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Derivative Financial Instruments
Derivative Financial Instruments

The Company enters into the following types of derivatives:

Interest rate caps: The Company uses interest rate cap contracts to hedge the interest rate exposure arising from duration mismatches between assets and liabilities. Interest rate caps are also used to hedge interest rate exposure if rates rise above a specified level. Such increases in rates will require the Company to incur additional expenses. The future payout from the interest rate caps fund this increased exposure. The Company pays an upfront premium to purchase these caps. The Company utilizes these contracts in qualifying hedging relationships as well as non-qualifying hedging relationships.

Interest rate swaps: Interest rate swaps are used by the Company primarily to reduce market risks from changes in interest rates and to alter interest rate exposure arising from mismatches between assets and/or liabilities. Interest rate swaps are also used to hedge the interest rate risk associated with the value of assets it owns or in an anticipation of acquiring them. Using interest rate swaps, the Company agrees with another party to exchange, at specified intervals, the difference between fixed rate and floating rate interest payments, calculated by reference to an agreed upon notional principal amount. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made to/from the counterparty at each due date. The Company utilizes these contracts in qualifying hedging relationships as well as non-qualifying hedging relationships.

Foreign exchange swaps: The Company uses foreign exchange or currency swaps to reduce the risk of change in the value, yield or cash flows associated with certain foreign denominated invested assets. Foreign exchange swaps represent contracts that require the exchange of foreign currency cash flows against U.S. dollar cash flows at regular periods, typically quarterly or semi-annually. The Company utilizes these contracts in qualifying hedging relationships as well as non-qualifying hedging relationships.

Credit default swaps: Credit default swaps are used to reduce credit loss exposure with respect to certain assets that the Company owns, or to assume credit exposure on certain assets that the Company does not own. Payments are made to or received from the counterparty at specified intervals. In the event of a default on the underlying credit exposure, the Company will either receive a payment (purchased credit protection) or will be required to make a payment (sold credit protection) equal to the par minus recovery value of the swap contract. The Company utilizes these contracts in non-qualifying hedging relationships.

Forwards: The Company uses forward contracts to hedge certain invested assets against movement in interest rates, particularly mortgage rates. The Company uses To Be Announced mortgage-backed securities as an economic hedge against rate movements. The Company utilizes forward contracts in non-qualifying hedging relationships.

Futures: Futures contracts are used to hedge against a decrease in certain equity indices. Such decreases may result in a decrease in variable annuity account values which would increase the possibility of the Company incurring an expense for guaranteed benefits in excess of account values. The Company also uses futures contracts as a hedge against an increase in certain equity indices. Such increases may result in increased payments to the holders of the fixed index annuity ("FIA") contracts. The Company enters into exchange traded futures with regulated futures commissions that are members of the exchange. The Company also posts initial and variation margin with the exchange on a daily basis. The Company utilizes exchange-traded futures in non-qualifying hedging relationships.

Swaptions: A swaption is an option to enter into a swap with a forward starting effective date. The Company uses swaptions to hedge the interest rate exposure associated with the minimum crediting rate and book value guarantees embedded in the retirement products that the Company offers. Increases in interest rates will generate losses on assets that are backing such liabilities. In certain instances, the Company locks in the economic impact of existing purchased swaptions by entering into offsetting written swaptions. Swaptions are also used to hedge against an increase in the interest rate benchmarked crediting strategies within FIA contracts. Such increases may result in increased payments to contract holders of FIA contracts and the interest rate swaptions offset this increased exposure. The Company pays a premium when it purchases the swaption. The Company utilizes these contracts in non-qualifying hedging relationships.

Managed custody guarantees ("MCG"): The Company issues certain credited rate guarantees on externally managed variable bond funds that represent stand-alone derivatives. The market value is partially determined by, among other things, levels of or changes in interest rates, prepayment rates and credit ratings/spreads.

Embedded derivatives: The Company also invests in certain fixed maturity instruments and has issued certain annuity products that contain embedded derivatives whose market value is at least partially determined by, among other things, levels of or changes in domestic and/or foreign interest rates (short-term or long-term), exchange rates, prepayment rates, equity rates, or credit ratings/ spreads. In addition, the Company has entered into a coinsurance with a funds withheld arrangement which contains an embedded derivative whose fair value is based on the change in the fair value of the underlying assets held in trust. The embedded derivatives for certain fixed maturity instruments, certain annuity products and coinsurance with funds withheld arrangements are reported with the host contract in investments, in Future policy benefits or Other liabilities, respectively, on the Condensed Consolidated Balance Sheets. Changes in the fair value of embedded derivatives within fixed maturity investments and within annuity products are recorded in Other net realized capital gains (losses) in the Condensed Consolidated Statements of Operations. Changes in fair value of embedded derivatives with reinsurance agreements are reported in Interest credited and other benefits to contract owners/policyholders in the Condensed Consolidated Statements of Operations.

The Company's use of derivatives is limited mainly to economic hedging to reduce the Company's exposure to cash flow variability of assets and liabilities, interest rate risk, credit risk, exchange rate risk and market risk. It is the Company's policy not to offset amounts recognized for derivative instruments and amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral arising from derivative instruments executed with the same counterparty under a master netting arrangement, which provides the Company with the legal right of offset.

The notional amounts and fair values of derivatives were as follows as of the dates indicated:
 
September 30, 2013
 
December 31, 2012
 
Notional
Amount
 
Asset
Fair Value
 
Liability
Fair Value
 
Notional
Amount
 
Asset
Fair Value
 
Liability
Fair Value
Derivatives: Qualifying for hedge accounting(1)
 
 
 
 
 
 
 
 
 
 
 
Cash flow hedges:
 
 
 
 
 
 
 
 
 
 
 
Interest rate contracts
$
812.5

 
$
108.7

 
$
—

 
$
1,000.0

 
$
215.4

 
$
—

Foreign exchange contracts
42.0

 
0.6

 
0.1

 
—

 
—

 
—

Derivatives: Non-qualifying for hedge accounting(1)
 
 
 
 
 
 
 
 
 
 
 
Interest rate contracts(2)
16,630.4

 
291.5

 
185.3

 
18,131.1

 
292.9

 
328.5

Foreign exchange contracts
183.4

 
3.7

 
14.9

 
161.6

 
0.4

 
18.3

Equity contracts
11.5

 
—

 
0.1

 
14.5

 
0.4

 
—

Credit contracts
384.0

 
6.2

 
—

 
347.5

 
3.6

 
—

Managed custody guarantees
N/A

 
—

 
(1.0
)
 
N/A

 
—

 
—

Embedded derivatives:
 
 
 
 
 
 
 
 
 
 
 
Within fixed maturity investments
N/A

 
32.9

 
—

 
N/A

 
53.7

 
—

Within annuity products
N/A

 
—

 
33.7

 
N/A

 
—

 
122.4

Within reinsurance agreements
N/A

 
—

 
(51.1
)
 
N/A

 
—

 
—

Total
 
 
$
443.6

 
$
182.0

 
 
 
$
566.4

 
$
469.2


(1)
Open derivative contracts are reported as Derivatives assets or liabilities on the Condensed Consolidated Balance Sheets at fair value.
(2) 
As of September 30, 2013, includes a notional amount, asset fair value and liability fair value for interest rate caps of $6.5 billion, $66.0 and $8.6 respectively. As of December 31, 2012, includes a notional amount, asset fair value and liability fair value for interest rate caps of $4.5 billion, $17.7 and $0.6, respectively.
N/A - Not Applicable

The maximum length of time over which the Company is hedging its exposure to the variability in future cash flows for forecasted transactions is through the fourth quarter of 2016.

Although the Company has not elected to net its derivative exposures, the notional amounts and fair values of derivatives eligible for offset were as follows as of the dates indicated:
 
September 30, 2013
 
Notional Amount
 
Assets Fair Value
 
Liability Fair Value
Credit contracts
$
384.0

 
$
6.2

 
$
—

Equity contracts
—

 
—

 
—

Foreign exchange contracts
225.4

 
4.3

 
15.0

Interest rate contracts
17,006.4

 
386.6

 
185.3

 
 
 
$
397.1

 
$
200.3

 
 
 
 
 
 
Counterparty netting(1)
 
 
$
(187.9
)
 
$
(187.9
)
Cash collateral netting(2)
 
 
(131.4
)
 
—

Securities collateral netting(2)
 
 
(19.2
)
 
(7.4
)
Net receivables/payables
 
 
$
58.6

 
$
5.0

(1) Represents the netting of receivable balances with payable balances for the same counterparty under enforceable netting agreements.
(2) Represents the netting of collateral received and posted on a counterparty basis under credit support agreements.
 
December 31, 2012
 
Notional Amount
 
Assets Fair Value
 
Liability Fair Value
Credit contracts
$
347.5

 
$
3.6

 
$
—

Equity contracts
—

 
—

 
—

Foreign exchange contracts
161.6

 
0.4

 
18.3

Interest rate contracts
19,131.1

 
508.3

 
328.5

 
 
 
$
512.3

 
$
346.8

 
 
 
 
 
 
Counterparty netting(1)
 
 
$
(291.4
)
 
$
(291.4
)
Cash collateral netting(2)
 
 
(167.1
)
 
—

Securities collateral netting(2)
 
 
(3.1
)
 
(35.8
)
Net receivables/payables
 
 
$
50.7

 
$
19.6

(1) Represents the netting of receivable balances with payable balances for the same counterparty under enforceable netting agreements.
(2) Represents the netting of collateral received and posted on a counterparty basis under credit support agreements.

Collateral

Under the terms of the Company's Over-The-Counter ("OTC") Derivative International Swaps and Derivatives Association, Inc. ("ISDA") agreements, the Company may receive from, or deliver to, counterparties, collateral to assure that all terms of the ISDA agreements will be met with regard to the Credit Support Annex ("CSA"). The terms of the CSA call for the Company to pay interest on any cash received equal to the Federal Funds rate. To the extent cash collateral is received and delivered, it is included in Payables under securities loan agreements, including collateral held and Short term investments under securities loan agreements, including collateral delivered, respectively, on the Condensed Consolidated Balance Sheets and is reinvested in short-term investments. Collateral held is used in accordance with the CSA to satisfy any obligations. Investment grade bonds owned by the Company are the source of noncash collateral posted, which is reported in Securities pledged on the Condensed Consolidated Balance Sheets. As of September 30, 2013, the Company held $120.9 and pledged $13.9 of net cash collateral related to OTC derivative contracts and cleared derivative contracts, respectively. As of December 31, 2012, the Company held $167.0 of net cash collateral related to OTC derivative contracts. In addition, as of September 30, 2013 and December 31, 2012, the Company delivered securities as collateral of $20.5 and $39.5, respectively.

Net realized gains (losses) on derivatives were as follows for the periods indicated:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Derivatives: Qualifying for hedge accounting(1)
 
 
 
 
 
 
 
Cash flow hedges:
 
 
 
 
 
 
 
Interest rate contracts
$
—

 
$
—

 
$
0.1

 
$
—

Foreign exchange contracts
—

*
—

 
—

*
—

Derivatives: Non-qualifying for hedge accounting(2)
 
 
 
 
 
 
 
Interest rate contracts
(8.5
)
 
(5.3
)
 
(86.4
)
 
0.7

Foreign exchange contracts
(4.1
)
 
(11.7
)
 
7.9

 
1.2

Equity contracts
0.7

 
0.7

 
2.4

 
1.8

Credit contracts
1.8

 
3.6

 
4.1

 
9.8

Managed custody guarantees
1.0

 
—

 
1.1

 
1.1

Embedded derivatives:
 
 
 
 
 
 
 
Within fixed maturity investments(2)
(3.6
)
 
(4.1
)
 
(20.8
)
 
(4.3
)
Within annuity products(2)
16.9

 
21.3

 
93.3

 
109.7

Within reinsurance agreements(3)
5.3

 
—

 
51.1

 
—

Total
$
9.5

 
$
4.5

 
$
52.8

 
$
120.0

(1) Changes in value for effective fair value hedges are recorded in Other net realized capital gains (losses) in the Condensed Consolidated Statements of Operations. Changes in fair value upon disposal for effective cash flow hedges are amortized through Net investment income and the ineffective portion is recorded in the Other net realized capital gains (losses) in the Condensed Consolidated Statements of Operations. For the three and nine months ended September 30, 2013 and 2012, ineffective amounts were immaterial.
(2) Changes in value are included in Other net realized capital gains (losses) in the Condensed Consolidated Statements of Operations.
(3) Changes in value are included in Interest credited and other benefits to contract owners/policyholders in the Condensed Consolidated Statements of Operations.
* Amounts are less than $0.1.

Credit Default Swaps

As of September 30, 2013, the fair values of credit default swaps of $6.2 were included in Derivatives assets and there were no credit default swaps included in Derivatives liabilities, respectively, on the Condensed Consolidated Balance Sheets. As of December 31, 2012, the fair value of credit default swaps of $3.6 were included in Derivatives assets and there were no credit default swaps included in Derivatives liabilities, on the Condensed Consolidated Balance Sheets. As of September 30, 2013 and December 31, 2012, the maximum potential future exposure to the Company was $384.0 and $329.0 in credit default swaps. These instruments are typically written for a maturity period of five years and do not contain recourse provisions. If the Company's current debt and claims paying ratings were downgraded in the future, the terms in the Company's derivative agreements may be triggered, which could negatively impact overall liquidity.