Edgar Filing: REINSURANCE GROUP OF AMERICA INC

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Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2011

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 1-11848

REINSURANCE GROUP OF AMERICA, INCORPORATED

(Exact name of Registrant as specified in its charter)

MISSOURI

43-1627032

(State or other jurisdiction

of incorporation or organization)

(IRS employer

identification number)

1370 Timberlake Manor Parkway

Chesterfield, Missouri 63017

(Address of principal executive offices)

(636) 736-7000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of October 31, 2011, 73,267,641 shares of the registrant’s common stock were outstanding.

REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES

TABLE OF CONTENTS


Item		Page
	PART I — FINANCIAL INFORMATION
1	Financial Statements

	Condensed Consolidated Balance Sheets (Unaudited) September 30, 2011 and December 31, 2010		3

	Condensed Consolidated Statements of Income (Unaudited) Three and nine months ended September 30, 2011 and 2010		4

	Condensed Consolidated Statements of Cash Flows (Unaudited) Nine months ended September 30, 2011 and 2010		5

	Notes to Condensed Consolidated Financial Statements (Unaudited)		6

2	Management’s Discussion and Analysis of Financial Condition and Results of Operations		40

3	Quantitative and Qualitative Disclosure About Market Risk		72

4	Controls and Procedures		72

	PART II — OTHER INFORMATION


1	Legal Proceedings		72

1A	Risk Factors		72

2	Unregistered Sales of Equity Securities and Use of Proceeds		73

6	Exhibits		73

	Signatures		74

	Index to Exhibits		75

REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)


	September 30, 2011			December 31, 2010
	(Dollars in thousands, except share data)
Assets
Fixed maturity securities:
Available-for-sale at fair value (amortized cost of $13,926,899 and $13,345,022 at September 30, 2011 and December 31, 2010, respectively)	$	15,557,032		$	14,304,597
Mortgage loans on real estate (net of allowances of $10,062 and $6,239 at September 30, 2011 and December 31, 2010, respectively)		934,694			885,811
Policy loans		1,228,890			1,228,418
Funds withheld at interest		5,445,886			5,421,952
Short-term investments		81,747			118,387
Other invested assets		1,020,043			707,403

Total investments		24,268,292			22,666,568
Cash and cash equivalents		802,651			463,661
Accrued investment income		190,298			127,874
Premiums receivable and other reinsurance balances		1,060,631			1,037,679
Reinsurance ceded receivables		727,290			769,699
Deferred policy acquisition costs		3,787,257			3,726,443
Other assets		347,035			289,984

Total assets	$	31,183,454		$	29,081,908


Liabilities and Stockholders’ Equity
Future policy benefits	$	9,445,222		$	9,274,789
Interest-sensitive contract liabilities		8,378,159			7,774,481
Other policy claims and benefits		2,826,297			2,597,941
Other reinsurance balances		136,298			133,590
Deferred income taxes		1,662,806			1,396,747
Other liabilities		776,239			637,923
Short-term debt		199,997			199,985
Long-term debt		1,414,546			1,016,425
Collateral finance facility		681,004			850,039
Company-obligated mandatorily redeemable preferred securities of subsidiary trust holding solely junior subordinated debentures of the Company		—			159,421

Total liabilities		25,520,568			24,041,341

Commitments and contingent liabilities (See Note 8)

Stockholders’ Equity:
Preferred stock (par value $.01 per share; 10,000,000 shares authorized; no shares issued or outstanding)		—			—
Common stock (par value $.01 per share; 140,000,000 shares authorized; shares issued: 79,137,758 and 73,363,523 at September 30, 2011 and December 31, 2010, respectively)		791			734
Warrants		—			66,912
Additional paid-in-capital		1,719,683			1,478,398
Retained earnings		2,989,231			2,587,403
Treasury stock, at cost; 5,870,872 and 328 shares at September 30, 2011 and December 31, 2010, respectively		(352,106	)		(295	)
Accumulated other comprehensive income		1,305,287			907,415

Total stockholders’ equity		5,662,886			5,040,567

Total liabilities and stockholders’ equity	$	31,183,454		$	29,081,908

See accompanying notes to condensed consolidated financial statements (unaudited).

REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)


	Three months ended September 30,						Nine months ended September 30,
	2011			2010			2011			2010
	(Dollars in thousands, except per share data)
Revenues:
Net premiums	$	1,776,165		$	1,647,300		$	5,300,971		$	4,857,781
Investment income, net of related expenses		268,210			287,504			976,686			883,433
Investment related gains (losses), net:
Other-than-temporary impairments on fixed maturity securities		(11,911	)		(4,904	)		(19,049	)		(15,823	)
Other-than-temporary impairments on fixed maturity securities transferred to (from) accumulated other comprehensive income		3,089			26			3,381			2,231
Other investment related gains (losses), net		(130,778	)		(11,902	)		27,076			150,989

Total investment related gains (losses), net		(139,600	)		(16,780	)		11,408			137,397
Other revenues		90,132			37,515			192,254			108,990

Total revenues		1,994,907			1,955,539			6,481,319			5,987,601


Benefits and Expenses:
Claims and other policy benefits		1,514,765			1,393,891			4,504,227			4,076,310
Interest credited		35,251			94,776			237,510			230,879
Policy acquisition costs and other insurance expenses		149,228			157,058			741,663			760,509
Other operating expenses		94,029			85,409			297,340			259,755
Interest expense		27,025			25,191			77,412			65,781
Collateral finance facility expense		3,069			2,041			9,372			5,807

Total benefits and expenses		1,823,367			1,758,366			5,867,524			5,399,041


Income before income taxes		171,540			197,173			613,795			588,560
Provision for income taxes		24,155			68,941			172,706			210,870


Net income	$	147,385		$	128,232		$	441,089		$	377,690


Earnings per share:
Basic earnings per share	$	2.00		$	1.75		$	5.99		$	5.17
Diluted earnings per share	$	1.98		$	1.72		$	5.94		$	5.06

Dividends declared per share	$	0.18		$	0.12		$	0.42		$	0.36

See accompanying notes to condensed consolidated financial statements (unaudited).

REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)


	Nine months ended September 30,
	2011			2010
	(Dollars in thousands)
Cash Flows from Operating Activities:
Net income	$	441,089		$	377,690
Adjustments to reconcile net income to net cash provided by operating activities:
Change in operating assets and liabilities:
Accrued investment income		(64,464	)		(68,755	)
Premiums receivable and other reinsurance balances		(86,339	)		(98,274	)
Deferred policy acquisition costs		(104,267	)		(45,525	)
Reinsurance ceded receivable balances		42,409			(74,410	)
Future policy benefits, other policy claims and benefits, and other reinsurance balances		669,174			1,385,629
Deferred income taxes		68,059			14,579
Other assets and other liabilities, net		(46,320	)		38,453
Amortization of net investment premiums, discounts and other		(100,328	)		(104,878	)
Investment related gains, net		(11,408	)		(137,397	)
Gain on repurchase of collateral finance facility securities		(55,840	)		—
Excess tax benefits from share-based payment arrangement		(4,418	)		(1,379	)
Other, net		86,630			44,546

Net cash provided by operating activities		833,977			1,330,279

Cash Flows from Investing Activities:
Sales of fixed maturity securities available-for-sale		2,338,405			2,533,344
Maturities of fixed maturity securities available-for-sale		195,582			107,648
Purchases of fixed maturity securities available-for-sale		(3,104,714	)		(3,664,819	)
Cash invested in mortgage loans		(117,697	)		(97,947	)
Cash invested in policy loans		(8,928	)		(38,996	)
Cash invested in funds withheld at interest		(23,784	)		(90,282	)
Principal payments on mortgage loans on real estate		60,764			18,923
Principal payments on policy loans		8,456			2,412
Change in short-term investments and other invested assets		(86,895	)		20,334

Net cash used in investing activities		(738,811	)		(1,209,383	)

Cash Flows from Financing Activities:
Dividends to stockholders		(31,039	)		(26,340	)
Repurchase of collateral finance facility securities		(111,831	)		—
Net proceeds from long-term debt issuance		394,388			—
Proceeds from redemption and remarketing of trust preferred securities		154,588			—
Maturity of trust preferred securities		(159,473	)		—
Purchases of treasury stock		(380,345	)		(718	)
Excess tax benefits from share-based payment arrangement		4,418			1,379
Exercise of stock options, net		8,680			8,804
Change in cash collateral for derivative positions		163,250			121,054
Deposits on universal life and other investment type policies and contracts		328,903			130,510
Withdrawals on universal life and other investment type policies and contracts		(119,180	)		(247,856	)

Net cash provided by (used in) financing activities		252,359			(13,167	)
Effect of exchange rate changes on cash		(8,535	)		14,319

Change in cash and cash equivalents		338,990			122,048
Cash and cash equivalents, beginning of period		463,661			512,027

Cash and cash equivalents, end of period	$	802,651		$	634,075


Supplementary information:
Cash paid for interest	$	57,821		$	61,327
Cash paid for income taxes, net of refunds	$	110,075		$	41,368

See accompanying notes to condensed consolidated financial statements (unaudited).

REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

1. Organization and Basis of Presentation

Reinsurance Group of America, Incorporated (“RGA”) is an insurance holding company that was formed on December 31, 1992. The accompanying unaudited condensed consolidated financial statements of RGA and its subsidiaries (collectively, the “Company”) have been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments, consisting of normal recurring accruals, considered necessary for a fair presentation have been included. Results for the three and nine months ended September 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. There were no subsequent events that would require disclosure or adjustments to the accompanying condensed consolidated financial statements through the date the financial statements were issued. These unaudited condensed consolidated financial statements include the accounts of RGA and its subsidiaries and should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s 2010 Annual Report on Form 10-K (“2010 Annual Report”) filed with the Securities and Exchange Commission on February 28, 2011.

The Company has reclassified the presentation of certain prior-period information to conform to the current presentation. Such reclassifications include separately disclosing the deposits and the withdrawals on universal life and other investment type policies and contracts in the condensed consolidated statements of cash flows. All intercompany accounts and transactions have been eliminated.

2. Earnings Per Share

The following table sets forth the computation of basic and diluted earnings per share on net income (in thousands, except per share information):


	Three months ended September 30,				Nine months ended September 30,
	2011		2010		2011		2010
Earnings:
Net income (numerator for basic and diluted calculations)	$	147,385	$	128,232	$	441,089	$	377,690
Shares:
Weighted average outstanding shares (denominator for basic calculation)		73,856		73,162		73,680		73,117
Equivalent shares from outstanding stock options⁽¹⁾		398		1,258		527		1,457

Denominator for diluted calculation		74,254		74,420		74,207		74,574

Earnings per share:
Basic	$	2.00	$	1.75	$	5.99	$	5.17
Diluted	$	1.98	$	1.72	$	5.94	$	5.06

(1)	Year-to-date amounts are the weighted average of the individual quarterly amounts.

The calculation of common equivalent shares does not include the impact of options having a strike or conversion price that exceeds the average stock price for the earnings period, as the result would be antidilutive. The calculation of common equivalent shares also excludes the impact of outstanding performance contingent shares, as the conditions necessary for their issuance have not been satisfied as of the end of the reporting period. For the three months ended September 30, 2011, approximately 1.1 million stock options and approximately 0.8 million performance contingent shares were excluded from the calculation. For the three months ended September 30, 2010, approximately 1.7 million stock options and approximately 0.7 million performance contingent shares were excluded from the calculation.

3. Comprehensive Income

The following table presents the components of the Company’s comprehensive income (dollars in thousands):


	Three months ended						Nine months ended
	September 30, 2011			September 30, 2010			September 30, 2011			September 30, 2010
Net income	$	147,385		$	128,232		$	441,089		$	377,690
Other comprehensive income (loss), net of income tax:
Unrealized investment gains, net of reclassification adjustment for gains included in net income		354,709			362,408			470,473			729,749
Reclassification adjustment for other-than-temporary impairments		(2,008	)		(17	)		(2,198	)		(1,450	)
Currency translation adjustments		(112,810	)		68,701			(71,683	)		31,808
Unrealized pension and postretirement benefit adjustment		708			325			1,280			443

Comprehensive income	$	387,984		$	559,649		$	838,961		$	1,138,240

The balance of and changes in each component of accumulated other comprehensive income (loss) for the nine months ended September 30, 2011 are as follows (dollars in thousands):


	Accumulated Other Comprehensive Income (Loss), Net of Income Tax
	Accumulated Currency Translation Adjustments			Unrealized Appreciation of Securities		Pension and Postretirement Benefits			Total
Balance, December 31, 2010	$	270,526		$	651,449	$	(14,560	)	$	907,415
Change in component during the period		(71,683	)		468,275		1,280			397,872

Balance, September 30, 2011	$	198,843		$	1,119,724	$	(13,280	)	$	1,305,287

4. Investments

The Company had total cash and invested assets of $25.1 billion and $23.1 billion at September 30, 2011 and December 31, 2010, respectively, as illustrated below (dollars in thousands):


	September 30, 2011		December 31, 2010
Fixed maturity securities, available-for-sale	$	15,557,032	$	14,304,597
Mortgage loans on real estate		934,694		885,811
Policy loans		1,228,890		1,228,418
Funds withheld at interest		5,445,886		5,421,952
Short-term investments		81,747		118,387
Other invested assets		1,020,043		707,403
Cash and cash equivalents		802,651		463,661

Total cash and invested assets	$	25,070,943	$	23,130,229

All investments held by the Company are monitored for conformance to the qualitative and quantitative limits prescribed by the applicable jurisdiction’s insurance laws and regulations. In addition, the operating companies’ boards of directors periodically review their respective investment portfolios. The Company’s investment strategy is to maintain a predominantly investment-grade, fixed maturity securities portfolio, which will provide adequate liquidity for expected reinsurance obligations and maximize total return through prudent asset management. The Company’s asset/liability duration matching differs between operating segments. Based on Canadian reserve requirements, the Canadian liabilities are matched with long-duration Canadian assets. The duration of the Canadian portfolio exceeds twenty years. The average duration for all portfolios, when consolidated, ranges between eight and ten years.

The Company participates in a securities borrowing program whereby securities, which are not reflected on the Company’s condensed consolidated balance sheets, are borrowed from a third party. The Company is required to maintain a minimum of 100% of the market value of the borrowed securities as collateral. The Company had borrowed securities with an amortized cost of $150.0 million and a market value of $149.1 million as of September 30, 2011. The borrowed securities are used to provide collateral under an affiliated reinsurance transaction. There were no securities borrowed as of December 31, 2010.

Investment Income, Net of Related Expenses

Major categories of investment income, net of related expenses consist of the following (dollars in thousands):


	Three months ended September 30,						Nine months ended September 30,
	2011			2010			2011			2010
Fixed maturity securities available-for-sale	$	190,990		$	179,130		$	566,581		$	532,259
Mortgage loans on real estate		14,474			13,406			41,801			37,567
Policy loans		16,454			18,271			49,549			56,150
Funds withheld at interest		41,267			69,677			306,028			245,249
Short-term investments		393			1,142			2,201			3,520
Other invested assets		11,470			11,926			31,680			26,694

Investment revenue		275,048			293,552			997,840			901,439
Investment expense		(6,838	)		(6,048	)		(21,154	)		(18,006	)

Investment income, net of related expenses	$	268,210		$	287,504		$	976,686		$	883,433

Investment Related Gains (Losses), Net

Investment related gains (losses), net consist of the following (dollars in thousands):


	Three months ended September 30,						Nine months ended September 30,
	2011			2010			2011			2010
Fixed maturity and equity securities available for sale:
Other-than-temporary impairment losses on fixed maturities	$	(11,911	)	$	(4,904	)	$	(19,049	)	$	(15,823	)
Portion of loss recognized in accumulated other comprehensive income (before taxes)		3,089			26			3,381			2,231

Net other-than-temporary impairment losses on fixed maturities recognized in earnings		(8,822	)		(4,878	)		(15,668	)		(13,592	)
Impairment losses on equity securities		—			—			(3,680	)		(32	)
Gain on investment activity		34,840			39,371			92,423			74,833
Loss on investment activity		(7,182	)		(7,773	)		(20,749	)		(21,967	)
Other impairment losses and change in mortgage loan provision		(2,370	)		(5,087	)		(4,980	)		(7,482	)
Derivatives and other, net		(156,066	)		(38,413	)		(35,938	)		105,637

Net gains (losses)	$	(139,600	)	$	(16,780	)	$	11,408		$	137,397

The net other-than-temporary impairment losses on fixed maturity securities recognized in earnings of $8.8 million and $15.7 million in the third quarter and first nine months of 2011, respectively, are primarily due to a decline in value of structured securities with exposure to mortgages and corporate bankruptcies. The impairment losses on equity securities of $3.7 million in the first nine months of 2011 are primarily due to the financial condition of European financial institutions. The impaired equity securities are hybrid securities that contain equity-like features. The derivative losses for the first three and nine months ended September 30, 2011 are primarily due to an increase in the fair value of embedded derivative liabilities associated with modified coinsurance and funds withheld treaties and guaranteed minimum benefit riders.

During the three months ended September 30, 2011 and 2010, the Company sold fixed maturity securities and equity securities with fair values of $57.2 million and $97.6 million at gross losses of $7.2 million and $7.8 million, respectively, or at 88.9% and 92.6% of amortized cost, respectively. During the nine months ended September 30, 2011 and 2010, the Company sold fixed maturity securities and equity securities with fair values of $388.9 million and $497.0 million at gross losses of $20.7 million and $22.0 million, respectively, or at 94.9% and 95.8% of amortized cost, respectively. The Company generally does not engage in short-term buying and selling of securities.

Other-Than-Temporary Impairments

The Company identifies fixed maturity and equity securities that could potentially have credit impairments that are other-than-temporary by monitoring market events that could impact issuers’ credit ratings, business climates, management changes, litigation, government actions and other similar factors. The Company also monitors late payments, pricing levels, rating agency actions, key financial ratios, financial statements, revenue forecasts and cash flow projections as indicators of credit issues.

The Company reviews all securities to determine whether an other-than-temporary decline in value exists and whether losses should be recognized. The Company considers relevant facts and circumstances in evaluating whether a credit or interest

rate-related impairment of a security is other-than-temporary. Relevant facts and circumstances considered include: (1) the extent and length of time the fair value has been below cost; (2) the reasons for the decline in fair value; (3) the issuer’s financial position and access to capital and (4) for fixed maturity securities, the Company’s intent to sell a security or whether it is more likely than not it will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity and for equity securities, the Company’s ability and intent to hold the security for a period of time that allows for the recovery in value. To the extent the Company determines that a security is deemed to be other-than-temporarily impaired, an impairment loss is recognized.

Impairment losses on equity securities are recognized in net income. Recognition of impairment losses on fixed maturity securities is dependent on the facts and circumstances related to a specific security. If the Company intends to sell a security or it is more likely than not that it would be required to sell a security before the recovery of its amortized cost, it recognizes an other-than-temporary impairment in net income for the difference between amortized cost and fair value. If the Company does not expect to recover the amortized cost basis, it does not plan to sell the security and if it is not more likely than not that it would be required to sell a security before the recovery of its amortized cost, the recognition of the other-than-temporary impairment is bifurcated. The Company recognizes the credit loss portion in net income and the non-credit loss portion in accumulated other comprehensive income (“AOCI”).

The Company estimates the amount of the credit loss component of a fixed maturity security impairment as the difference between amortized cost and the present value of the expected cash flows of the security. The present value is determined using the best estimate cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset-backed or floating-rate security. The techniques and assumptions for establishing the best estimate cash flows vary depending on the type of security. The asset-backed securities’ cash flow estimates are based on security-specific facts and circumstances that may include collateral characteristics, expectations of delinquency and default rates, loss severity and prepayment speeds and structural support, including subordination and guarantees. The corporate fixed maturity security cash flow estimates are derived from scenario-based outcomes of expected corporate restructurings or the disposition of assets using security specific facts and circumstances including timing, security interests and loss severity.

In periods after an other-than-temporary impairment loss is recognized on a fixed maturity security, the Company will report the impaired security as if it had been purchased on the date it was impaired and will continue to estimate the present value of the estimated cash flows of the security. Accordingly, the discount (or reduced premium) based on the new cost basis is accreted into net investment income over the remaining term of the fixed maturity security in a prospective manner based on the amount and timing of estimated future cash flows.

The following tables set forth the amount of credit loss impairments on fixed maturity securities held by the Company as of the dates indicated, for which a portion of the other-than-temporary impairment (“OTTI”) loss was recognized in AOCI, and the corresponding changes in such amounts (dollars in thousands):


	Three months ended September 30,
	2011			2010
Balance, beginning of period	$	52,484		$	53,348
Initial impairments - credit loss OTTI recognized on securities not previously impaired		5,259			2,296
Additional impairments - credit loss OTTI recognized on securities previously impaired		2,432			2,571
Credit loss impairments previously recognized on securities which were sold during the period		(752	)		(10,360	)


Balance, end of period	$	59,423		$	47,855


	Nine months ended September 30,
	2011			2010
Balance, beginning of period	$	47,291		$	47,905
Initial impairments - credit loss OTTI recognized on securities not previously impaired		6,731			5,020
Additional impairments - credit loss OTTI recognized on securities previously impaired		6,871			7,975
Credit loss impairments previously recognized on securities which were sold during the period		(1,470	)		(13,045	)


Balance, end of period	$	59,423		$	47,855

Fixed Maturity and Equity Securities Available-for-Sale

The following tables provide information relating to investments in fixed maturity securities and equity securities by sector as of September 30, 2011 and December 31, 2010 (dollars in thousands):


September 30, 2011:	Amortized Cost		Unrealized Gains		Unrealized Losses		Estimated Fair Value		% of Total			Other-than- temporary impairments in AOC
September 30, 2011:	Amortized Cost		Unrealized Gains		Unrealized Losses		Estimated Fair Value		% of Total			Other-than- temporary impairments in AOC
Available-for-sale:
Corporate securities	$	7,277,255	$	642,734	$	139,062	$	7,780,927		50.0	%	$	—
Canadian and Canadian provincial governments		2,371,738		1,021,793		17		3,393,514		21.8			—
Residential mortgage-backed securities		1,238,863		84,856		15,945		1,307,774		8.4			(740	)
Asset-backed securities		412,468		12,638		52,149		372,957		2.4			(5,602	)
Commercial mortgage-backed securities		1,330,302		79,539		82,847		1,326,994		8.5			(11,638	)
U.S. government and agencies		224,704		33,444		65		258,083		1.7			—
State and political subdivisions		182,570		23,061		2,297		203,334		1.3			—
Other foreign government securities		888,999		25,943		1,493		913,449		5.9			—

Total fixed maturity securities	$	13,926,899	$	1,924,008	$	293,875	$	15,557,032		100.0	%	$	(17,980	)


Non-redeemable preferred stock	$	97,391	$	3,599	$	7,399	$	93,591		73.9	%
Other equity securities		33,604		963		1,566		33,001		26.1

Total equity securities	$	130,995	$	4,562	$	8,965	$	126,592		100.0	%


December 31, 2010:	Amortized Cost		Unrealized Gains		Unrealized Losses		Estimated Fair Value		% of Total			Other-than- temporary impairments in AOCI
Available-for-sale:
Corporate securities	$	6,826,937	$	436,384	$	107,816	$	7,155,505		50.0	%	$	—
Canadian and Canadian provincial governments		2,354,418		672,951		3,886		3,023,483		21.1			—
Residential mortgage-backed securities		1,443,892		55,765		26,580		1,473,077		10.3			(1,650	)
Asset-backed securities		440,752		12,001		61,544		391,209		2.7			(4,963	)
Commercial mortgage-backed securities		1,353,279		81,839		97,265		1,337,853		9.4			(10,010	)
U.S. government and agencies		199,129		7,795		708		206,216		1.4			—
State and political subdivisions		170,479		2,098		8,117		164,460		1.2			—
Other foreign government securities		556,136		4,304		7,646		552,794		3.9			—

Total fixed maturity securities	$	13,345,022	$	1,273,137	$	313,562	$	14,304,597		100.0	%	$	(16,623	)


Non-redeemable preferred stock	$	100,718	$	4,130	$	5,298	$	99,550		71.0	%
Other equity securities		34,832		6,100		271		40,661		29.0

Total equity securities	$	135,550	$	10,230	$	5,569	$	140,211		100.0	%

The tables above exclude fixed maturity securities posted by the Company as collateral to counterparties with an amortized cost of $19.1 million and $46.9 million, and an estimated fair value of $21.3 million and $48.2 million, as of September 30, 2011 and December 31, 2010 respectively, which are included in other invested assets in the condensed consolidated balance sheets.

As of September 30, 2011, the Company held securities with a fair value of $1,053.2 million that were issued by the Canadian province of Ontario and $957.8 million in one entity that were guaranteed by the Canadian province of Quebec, both of which exceeded 10% of condensed consolidated stockholders’ equity. As of December 31, 2010, the Company held securities with a fair value of $959.5 million that were issued by the Canadian province of Ontario and $871.6 million in one entity that were guaranteed by the Canadian province of Quebec, both of which exceeded 10% of condensed consolidated stockholders’ equity.

The amortized cost and estimated fair value of fixed maturity securities available-for-sale at September 30, 2011 are shown by contractual maturity in the table below. Actual maturities can differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. At September 30, 2011, the contractual maturities of investments in fixed maturity securities were as follows (dollars in thousands):


	Amortized Cost		Fair Value
Available-for-sale:
Due in one year or less	$	179,995	$	184,762
Due after one year through five years		2,388,699		2,464,651
Due after five year through ten years		3,649,747		3,946,992
Due after ten years		4,726,825		5,952,902
Asset and mortgage-backed securities		2,981,633		3,007,725

Total	$	13,926,899	$	15,557,032

The table below includes industry types and weighted average credit ratings of the Company’s corporate fixed maturity holdings as of September 30, 2011 and December 31, 2010 (dollars in thousands):


September 30, 2011:			Estimated					Average Credit
	Amortized Cost		Fair Value		% of Total			Ratings
Finance	$	2,730,488	$	2,766,683		35.6	%		A
Industrial		3,410,481		3,745,251		48.1			BBB+
Utility		1,128,226		1,260,178		16.2			BBB+
Other		8,060		8,815		0.1			AA

Total	$	7,277,255	$	7,780,927		100.0	%		A–


December 31, 2010:			Estimated					Average Credit
	Amortized Cost		Fair Value		% of Total			Ratings
Finance	$	2,782,936	$	2,833,022		39.6	%		A
Industrial		3,121,326		3,341,104		46.7			BBB+
Utility		908,737		967,017		13.5			BBB+
Other		13,938		14,362		0.2			AA+

Total	$	6,826,937	$	7,155,505		100.0	%		A–

The following table presents the total gross unrealized losses for fixed maturity and equity securities as of September 30, 2011 and December 31, 2010, respectively, where the estimated fair value had declined and remained below amortized cost by the indicated amount (dollars in thousands):


	September 30, 2011							December 31, 2010
	Number of Securities		Gross Unrealized Losses		% of Total			Number of Securities		Gross Unrealized Losses		% of Total
Less than 20%		908	$	144,445		47.7	%		908	$	146,404		45.9	%
20% or more for less than six months		49		53,176		17.6			14		18,114		5.7
20% or more for six months or greater		54		105,219		34.7			106		154,613		48.4

Total		1,011	$	302,840		100.0	%		1,028	$	319,131		100.0	%

As of September 30, 2011 and December 31, 2010, respectively, 67.6% and 66.1% of these gross unrealized losses were associated with investment grade securities. The unrealized losses on these securities decreased as credit spreads have widened and interest rates have declined since December 31, 2010.

The Company’s determination of whether a decline in value is other-than-temporary includes analysis of the underlying credit and the extent and duration of a decline in value. The Company’s credit analysis of an investment includes determining whether the issuer is current on its contractual payments, evaluating whether it is probable that the Company will be able to collect all amounts due according to the contractual terms of the security and analyzing the overall ability of the Company to recover the amortized cost of the investment. The Company continues to consider valuation declines as a potential indicator of credit deterioration. The Company believes that due to fluctuating market conditions and an extended period of economic uncertainty, the extent and duration of a decline in value have become less indicative of when there has been credit deterioration with respect to an issuer.

The following tables present the estimated fair values and gross unrealized losses, including other-than-temporary impairment losses reported in AOCI, for fixed maturity securities and equity securities that have estimated fair values below amortized cost as of September 30, 2011 and December 31, 2010, respectively (dollars in thousands). These investments are presented by class and grade of security, as well as the length of time the related market value has remained below amortized cost.


	Less than 12 months				12 months or greater				Total
September 30, 2011:	Estimated		Gross Unrealized		Estimated		Gross Unrealized		Estimated		Gross Unrealized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
Investment grade securities:
Corporate securities	$	928,293	$	43,765	$	304,544	$	70,847	$	1,232,837	$	114,612
Canadian and Canadian provincial governments		1,982		17		—		—		1,982		17
Residential mortgage-backed securities		117,719		3,135		57,179		10,396		174,898		13,531
Asset-backed securities		63,953		1,558		80,006		30,065		143,959		31,623
Commercial mortgage-backed securities		156,938		10,681		68,236		23,134		225,174		33,815
U.S. government and agencies		1,164		62		—		3		1,164		65
State and political subdivisions		13,811		967		12,476		1,067		26,287		2,034
Other foreign government securities		85,992		657		30,493		836		116,485		1,493

Total investment grade securities		1,369,852		60,842		552,934		136,348		1,922,786		197,190


Non-investment grade securities:
Corporate securities		271,597		15,453		72,395		8,997		343,992		24,450
Residential mortgage-backed securities		13,809		1,149		10,824		1,265		24,633		2,414
Asset-backed securities		2,542		719		21,943		19,807		24,485		20,526
Commercial mortgage-backed securities		32,657		6,571		69,674		42,461		102,331		49,032
State and political subdivisions		3,965		263		—		—		3,965		263

Total non-investment grade securities		324,570		24,155		174,836		72,530		499,406		96,685

Total fixed maturity securities	$	1,694,422	$	84,997	$	727,770	$	208,878	$	2,422,192	$	293,875


Non-redeemable preferred stock	$	20,705	$	2,565	$	18,453	$	4,834	$	39,158	$	7,399
Other equity securities		2,184		806		6,081		760		8,265		1,566

Total equity securities	$	22,889	$	3,371	$	24,534	$	5,594	$	47,423	$	8,965

Total number of securities in an unrealized loss position		606				405				1,011


	Less than 12 months				12 months or greater				Total
December 31, 2010:	Estimated		Gross Unrealized		Estimated		Gross Unrealized		Estimated		Gross Unrealized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
Investment grade securities:
Corporate securities	$	1,170,016	$	34,097	$	368,128	$	61,945	$	1,538,144	$	96,042
Canadian and Canadian provincial governments		118,585		3,886		—		—		118,585		3,886
Residential mortgage-backed securities		195,406		4,986		105,601		13,607		301,007		18,593
Asset-backed securities		23,065		570		131,172		38,451		154,237		39,021
Commercial mortgage-backed securities		132,526		4,143		109,158		29,059		241,684		33,202
U.S. government and agencies		11,839		708		—		—		11,839		708
State and political subdivisions		68,229		2,890		31,426		5,227		99,655		8,117
Other foreign government securities		322,363		3,142		43,796		4,504		366,159		7,646

Total investment grade securities		2,042,029		54,422		789,281		152,793		2,831,310		207,215


Non-investment grade securities:
Corporate securities		58,420		1,832		91,205		9,942		149,625		11,774
Residential mortgage-backed securities		1,162		605		38,206		7,382		39,368		7,987
Asset-backed securities		—		—		23,356		22,523		23,356		22,523
Commercial mortgage-backed securities		—		—		89,170		64,063		89,170		64,063

Total non-investment grade securities		59,582		2,437		241,937		103,910		301,519		106,347

Total fixed maturity securities	$	2,101,611	$	56,859	$	1,031,218	$	256,703	$	3,132,829	$	313,562


Non-redeemable preferred stock	$	15,987	$	834	$	28,549	$	4,464	$	44,536	$	5,298
Other equity securities		6,877		271		318		—		7,195		271

Total equity securities	$	22,864	$	1,105	$	28,867	$	4,464	$	51,731	$	5,569

Total number of securities in an unrealized loss position		520				508				1,028

As of September 30, 2011, the Company does not intend to sell these fixed maturity securities and does not believe it is more likely than not that it will be required to sell these fixed maturity securities before the recovery of the fair value up to the current amortized cost of the investment, which may be maturity. However, unforeseen facts and circumstances may cause

the Company to sell fixed maturity securities in the ordinary course of managing its portfolio to meet certain diversification, credit quality, asset-liability management and liquidity guidelines.

As of September 30, 2011, the Company has the ability and intent to hold the equity securities until the recovery of the fair value up to the current cost of the investment. However, unforeseen facts and circumstances may cause the Company to sell equity securities in the ordinary course of managing its portfolio to meet certain diversification, credit quality and liquidity guidelines.

Mortgage Loans

Mortgage loans represented approximately 3.7% and 3.8% of the Company’s cash and invested assets as of September 30, 2011 and December 31, 2010, respectively. The Company makes mortgage loans on income producing properties, such as apartments, retail and office buildings, light warehouses and light industrial facilities. Loan-to-value ratios at the time of loan approval are 75% or less. The Company acquired $95.3 million of mortgage loans during the nine months ended September 30, 2011.

The Company has an internal credit risk grading process for the commercial mortgage loans it holds. The internal risk rating model is used to estimate the probability of default and the likelihood of loss upon default. The rating scale ranges from “high investment grade” to “in or near default” with high investment grade being the highest quality and least likely to default and lose principal. Likewise, a rating of in or near default indicates the lowest quality and the most likely to default or lose principal. All loans are assigned a rating at origination and ratings are updated at least annually. Lower rated loans appear on the Company’s watch list and are re-evaluated more frequently. The debt service coverage ratio and the loan to value ratio are the most heavily weighted factors in determining the loan rating. Other factors involved in determining the final rating are loan amortization, tenant rollover, location and market stability, and borrower’s financial condition and experience. Information regarding the Company’s credit quality indicators for its recorded investment in mortgage loans gross of valuation allowances as of September 30, 2011 and December 31, 2010 are as follows (dollars in thousands):


Internal credit risk grade:	September 30, 2011		December 31, 2010
High investment grade	$	231,537	$	205,127
Investment grade		531,689		585,818
Average		96,193		38,152
Watch list		61,042		44,208
In or near default		24,295		18,745

Total	$	944,756	$	892,050

The age analysis of the Company’s past due recorded investment in mortgage loans gross of valuation allowances as of September 30, 2011 and December 31, 2010 are as follows (dollars in thousands):


	September 30, 2011		December 31, 2010
31-60 days past due	$	18,943	$	—
61-90 days past due		—		—
Greater than 90 days		17,419		15,555

Total past due		36,362		15,555
Current		908,394		876,495

Total	$	944,756	$	892,050

The following table presents the recorded investment in mortgage loans, by method of evaluation of credit loss, and the related valuation allowances, by type of credit loss, at (dollars in thousands):


	September 30, 2011		December 31, 2010
Mortgage loans:
Evaluated individually for credit losses	$	36,195	$	35,646
Evaluated collectively for credit losses		908,561		856,404

Mortgage loans, gross of valuation allowances		944,756		892,050

Valuation allowances:
Specific for credit losses		6,623		6,239
Non-specifically identified credit losses		3,439		—

Total valuation allowances		10,062		6,239


Mortgage loans, net of valuation allowances	$	934,694	$	885,811

Non-specific valuation allowances are established for mortgage loans based on an internal credit quality rating where a property-specific or market-specific risk has not been identified, but for which the Company expects to incur a credit loss. These evaluations are based upon several loan portfolio segment-specific factors, including the Company’s experience for loan losses, defaults and loss severity, loss expectations for loans with similar risk characteristics and industry statistics. These evaluations are revised as conditions change and new information becomes available.

Information regarding the Company’s loan valuation allowances for mortgage loans as of September 30, 2011 and 2010 are as follows (dollars in thousands):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2011		2010		2011			2010
Balance, beginning of period	$	7,692	$	8,179	$	6,239		$	5,784
Charge-offs		—		—		(1,157	)		—
Provision		2,370		5,089		4,980			7,484

Balance, end of period	$	10,062	$	13,268	$	10,062		$	13,268

Information regarding the portion of the Company’s mortgage loans that were impaired as of September 30, 2011 and December 31, 2010 are as follows (dollars in thousands):


	Unpaid Principal Balance		Recorded Investment		Related Allowance		Carrying Value
September 30, 2011:
Impaired mortgage loans with no valuation allowance recorded	$	2,572	$	2,572	$	—	$	2,572
Impaired mortgage loans with valuation allowance recorded		33,623		33,623		6,623		27,000

Total impaired mortgage loans	$	36,195	$	36,195	$	6,623	$	29,572


December 31, 2010:
Impaired mortgage loans with no valuation allowance recorded	$	16,901	$	16,901	$	—	$	16,901
Impaired mortgage loans with valuation allowance recorded		18,745		18,745		6,239		12,506

Total impaired mortgage loans	$	35,646	$	35,646	$	6,239	$	29,407

The Company’s average investment in impaired mortgage loans and the related interest income are reflected in the table below for the periods indicated (dollars in thousands):


	Three Months Ended
	September 30, 2011				September 30, 2010
	Average Investment⁽¹⁾		Interest Income		Average Investment⁽¹⁾		Interest Income
Impaired mortgage loans with no valuation allowance recorded	$	4,706	$	32	$	19,253	$	159
Impaired mortgage loans with valuation allowance recorded		31,351		202		26,994		253

Total	$	36,057	$	234	$	46,247	$	412


	Nine Months Ended
	September 30, 2011				September 30, 2010
	Average Investment⁽¹⁾		Interest Income		Average Investment⁽¹⁾		Interest Income
Impaired mortgage loans with no valuation allowance recorded	$	11,228	$	102	$	18,607	$	418
Impaired mortgage loans with valuation allowance recorded		25,046		678		20,980		253

Total	$	36,274	$	780	$	39,587	$	671

(1)	Average recorded investment represents the average loan balances as of the beginning of period and all subsequent quarterly end of period balances.

The Company did not acquire any impaired mortgage loans during the nine months ended September 30, 2011. The Company had $17.4 million and $15.6 million of mortgage loans, gross of valuation allowances, that were on nonaccrual status at September 30, 2011 and December 31, 2010, respectively.

5. Derivative Instruments

The following table presents the notional amounts and fair value of derivative instruments as of September 30, 2011 and December 31, 2010 (dollars in thousands):


	September 30, 2011						December 31, 2010
	Notional		Carrying Value/Fair Value				Notional		Carrying Value/Fair Value
	Amount		Assets		Liabilities		Amount		Assets		Liabilities
Derivatives not designated as hedging instruments:
Interest rate swaps⁽¹⁾	$	3,067,039	$	172,848	$	27,201	$	2,302,853	$	20,042	$	17,132
Financial futures⁽¹⁾		185,462		—		—		210,295		—		—
Foreign currency forwards⁽¹⁾		24,400		3,983		—		39,700		5,924		—
Consumer Price index (“CPI”) swaps⁽¹⁾		113,625		794		—		120,340		1,491		—
Credit default swaps⁽¹⁾		675,500		1,406		17,397		392,500		2,429		131
Equity options⁽¹⁾		439,312		99,633		—		33,041		5,043		—
Embedded derivatives in:
Modified coinsurance or funds withheld arrangements⁽²⁾		—		—		275,734		—		—		274,220
Indexed annuity products⁽³⁾		—		81,544		735,634		—		75,431		668,951
Variable annuity products⁽³⁾		—		—		305,979		—		—		52,534

Total non-hedging derivatives		4,505,338		360,208		1,361,945		3,098,729		110,360		1,012,968


Derivatives designated as hedging instruments:
Interest rate swaps⁽¹⁾		21,783		—		2,639		21,783		—		1,718
Foreign currency swaps⁽¹⁾		621,578		5,292		9,552		615,323		—		45,749

Total hedging derivatives		643,361		5,292		12,191		637,106		—		47,467

Total derivatives	$	5,148,699	$	365,500	$	1,374,136	$	3,735,835	$	110,360	$	1,060,435

(1)	Carried on the Company’s condensed consolidated balance sheets in other invested assets or other liabilities, at fair value.

(2)	Embedded liability is included on the condensed consolidated balance sheets with the host contract in funds withheld at interest, at fair value.

(3)	Embedded liability is included on the condensed consolidated balance sheets with the host contract in interest-sensitive contract liabilities, at fair value. Embedded asset is included on the condensed consolidated balance sheets in reinsurance ceded receivables.

Accounting for Derivative Instruments and Hedging Activities

The Company does not enter into derivative instruments for speculative purposes. As discussed below under “Non-qualifying Derivatives and Derivatives for Purposes Other Than Hedging,” the Company uses various derivative instruments for risk management purposes that either do not qualify or have not been qualified for hedge accounting treatment, including derivatives used to economically hedge changes in the fair value of liabilities associated with the reinsurance of variable annuities with guaranteed living benefits. As of September 30, 2011 and December 31, 2010, the Company held interest rate swaps that were designated and qualified as fair value hedges of interest rate risk. As of September 30, 2011 and December 31, 2010, the Company held foreign currency swaps that were designated and qualified as fair value hedges of a portion of its net investment in its foreign operations. As of September 30, 2011 and December 31, 2010, the Company also had derivative instruments that were not designated as hedging instruments. See Note 2 – “Summary of Significant Accounting Policies” of the Company’s 2010 annual report on Form 10-K for a detailed discussion of the accounting treatment for derivative instruments, including embedded derivatives. Derivative instruments are carried at fair value and generally require an insignificant amount of cash at inception of the contracts.

Fair Value Hedges

The Company designates and accounts for certain interest rate swaps that convert fixed rate investments to floating rate investments as fair value hedges when they meet the requirements of the general accounting principles for Derivatives and Hedging. The gain or loss on the hedged item attributable to the hedged benchmark interest rate and the offsetting gain or loss on the related interest rate swaps, both recognized in investment related gains/losses, for the three and nine months ended September 30, 2011 and 2010 were (dollars in thousands):


Type of Fair Value Hedge	Hedged Item	Gains (Losses) Recognized for Derivatives			Gains (Losses) Recognized for Hedged Items		Ineffectiveness Recognized in Investment Related Gains (Losses)
For the three months ended September 30, 2011:
Interest rate swaps	Fixed rate fixed maturities	$	(655	)	$	913	$	258

For the three months ended September 30, 2010:
Interest rate swaps	Fixed rate fixed maturities	$	(683	)	$	922	$	239

For the nine months ended September 30, 2011:
Interest rate swaps	Fixed rate fixed maturities	$	(921	)	$	1,509	$	588

For the nine months ended September 30, 2010:
Interest rate swaps	Fixed rate fixed maturities	$	(1,883	)	$	2,422	$	539

A regression analysis is used, both at the inception of the hedge and on an ongoing basis, to determine whether each derivative used in a hedge transaction is highly effective in offsetting changes in the hedged item. All components of each derivative’s gain or loss were included in the assessment of hedge effectiveness.

Hedges of Net Investments in Foreign Operations

The Company uses foreign currency swaps to hedge a portion of its net investment in certain foreign operations against adverse movements in exchange rates. Ineffectiveness on the foreign currency swap is based upon the change in forward rates. The following table illustrates the Company’s net investments in foreign operations (“NIFO”) hedges for the three and nine months ended September 30, 2011 and 2010 (dollars in thousands):


	Derivative Gains (Losses) Deferred in AOCI
	For the three months ended					For the nine months ended
Type of NIFO Hedge ^(1) (2)	2011		2010			2011		2010
Foreign currency swaps	$	50,974	$	(21,957	)	$	25,954	$	(13,191	)

(1)	There were no sales or substantial liquidations of net investments in foreign operations that would have required the reclassification of gains or losses from accumulated other comprehensive income (loss) into investment income during the periods presented.

(2)	There was no ineffectiveness recognized for the Company’s hedges of net investments in foreign operations.

The cumulative foreign currency translation gain (loss) recorded in AOCI related to the Company’s NIFO hedges was $25.2 million and $(0.8) million at September 30, 2011 and December 31, 2010, respectively.

Non-qualifying Derivatives and Derivatives for Purposes Other Than Hedging

The Company uses various other derivative instruments for risk management purposes that either do not qualify or have not been qualified for hedge accounting treatment, including derivatives used to economically hedge changes in the fair value of liabilities associated with the reinsurance of variable annuities with guaranteed living benefits. The gain or loss related to the change in fair value for these derivative instruments is recognized in investment related gains (losses), in the consolidated statements of income, except where otherwise noted. For the three months ended September 30, 2011 and 2010, the Company recognized investment related gains of $200.8 million and $11.6 million, respectively, and $203.4 million and $129.6 million for the nine months ended September 30, 2011 and 2010, respectively, related to derivatives (not including embedded derivatives) that do not qualify or have not been qualified for hedge accounting.

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 liabilities (duration mismatches). With an interest rate swap, the Company agrees with another party to exchange, at specified intervals, the difference between fixed-rate and floating-rate interest amounts tied to an agreed-upon notional principal amount. These transactions are executed pursuant to master agreements that provide for a single net payment or individual gross payments at each due date.

Financial Futures

Exchange-traded equity futures are used primarily to economically hedge liabilities embedded in certain variable annuity products. With exchange-traded equity futures transactions, the Company agrees to purchase or sell a specified number of contracts, the value of which is determined by the relevant stock indices, and to post variation margin on a daily basis in an amount equal to the difference between the daily estimated fair values of those contracts. The Company enters into exchange-traded equity futures with regulated futures commission merchants that are members of the exchange.

Foreign Currency Swaps

Foreign currency swaps are used by the Company to reduce the risk from fluctuations in foreign currency exchange rates associated with its assets and liabilities denominated in foreign currencies. With a foreign currency swap transaction, the Company agrees with another party to exchange, at specified intervals, the difference between one currency and another at a forward exchange rate calculated by reference to an agreed upon principal amount. The principal amount of each currency is exchanged at the inception and termination of the currency swap by each party. The Company may also use foreign currency swaps to economically hedge the foreign currency risk associated with certain of its net investments in foreign operations.

Foreign Currency Forwards

Foreign currency forwards are used by the Company to reduce the risk from fluctuations in foreign currency exchange rates associated with its assets and liabilities denominated in foreign currencies. With a foreign currency forward transaction, the Company agrees with another party to deliver a specified amount of an identified currency at a specified future date. The price is agreed upon at the time of the contract and payment for such a contract is made in a different currency at the specified future date.

CPI Swaps

CPI swaps are used by the Company primarily to economically hedge liabilities embedded in certain insurance products where value is directly affected by changes in a designated benchmark consumer price index. With a CPI swap transaction, the Company agrees with another party to exchange the actual amount of inflation realized over a specified period of time for a fixed amount of inflation determined at inception. These transactions are executed pursuant to master agreements that provide for a single net payment or individual gross payments to be made by the counterparty at each due date. Most of these swaps will require a single payment to be made by one counterparty at the maturity date of the swap.

Credit Default Swaps

The Company invests in credit default swaps to diversify its credit risk exposure in certain portfolios. These credit default swaps are over-the-counter instruments in which the Company receives payments at specified intervals to insure credit risk on a portfolio of U.S. investment-grade securities. Generally, if a credit event, as defined by the contract, occurs, the contract will require the swap to be settled gross by the delivery of par quantities or value of the referenced investment securities equal to the specified swap notional amount in exchange for the payment of cash amounts by the Company equal to the par value of the investment security surrendered. The Company’s maximum amount at risk, assuming the value of the underlying referenced securities is zero, was $640.0 million and $375.0 million at September 30, 2011 and December 31, 2010, respectively.

The Company also purchases credit default swaps to reduce its risk against a drop in bond prices due to credit concerns of certain bond issuers. If a credit event, as defined by the contract, occurs, the Company is able to put the bond back to the counterparty at par.

Credit default swaps are also used by the Company to synthetically replicate investment risks and returns which are not readily available in the investments markets. These transactions are a combination of a derivative and an investment instrument such as a U.S. corporate security.

Equity Options

Equity index options are used by the Company primarily to hedge minimum guarantees embedded in certain variable annuity products. To hedge against adverse changes in equity indices volatility, the Company enters into contracts to sell the equity index options within a limited time at a contracted price. The contracts are net settled in cash based on differentials in the indices at the time of exercise and the strike price.

Embedded Derivatives

The Company has certain embedded derivatives which are required to be separated from their host contracts and reported as derivatives. Host contracts include reinsurance treaties structured on a modified coinsurance or funds withheld basis. Additionally, the Company reinsures equity-indexed annuity and variable annuity contracts with benefits that are considered embedded derivatives, including guaranteed minimum withdrawal benefits, guaranteed minimum accumulation benefits, and guaranteed minimum income benefits. The related gains (losses) for the three and nine months ended September 30, 2011 and 2010 are reflected in the following table (dollars in thousands):


	Three months ended						Nine months ended
	September 30,						September 30,
	2011			2010			2011			2010
Embedded derivatives in modified coinsurance or funds withheld arrangements and variable annuity contracts included in investment related gains (losses)	$	(362,813	)	$	(54,885	)	$	(254,960	)	$	(33,501	)
After the associated amortization of DAC and taxes, the related amounts included in net income		(47,666	)		(17,604	)		(23,308	)		(4,197	)
Amounts related to embedded derivatives in equity-indexed annuities included in benefits and expenses		14,360			(24,105	)		(58,987	)		(27,326	)
After the associated amortization of DAC and taxes, the related amounts included in net income		23,002			864			(26,840	)		(4,320	)

Non-hedging Derivatives

A summary of the effect of non-hedging derivatives, including embedded derivatives, on the Company’s income statement for the three and nine months ended September 30, 2011 and 2010 is as follows (dollars in thousands):


		Gain (Loss) for the Three Months Ended September 30,
Type of Non-hedging Derivative	Income Statement Location of Gain (Loss)	2011			2010
Interest rate swaps	Investment related gains (losses), net	$	142,907		$	49,825
Financial futures	Investment related gains (losses), net		36,217			(42,270	)
Foreign currency forwards	Investment related gains (losses), net		1,374			1,543
CPI swaps	Investment related gains (losses), net		(219	)		(508	)
Credit default swaps	Investment related gains (losses), net		(10,018	)		3,730
Equity options	Investment related gains (losses), net		30,530			(731	)
Embedded derivatives in:
Modified coinsurance or funds withheld arrangements	Investment related gains (losses), net		(102,574	)		(38,653	)
Indexed annuity products	Policy acquisition costs and other insurance expenses		(3,172	)		1,806
Indexed annuity products	Interest credited		17,531			(25,911	)
Variable annuity products	Investment related gains (losses), net		(260,239	)		(16,232	)

Total non-hedging derivatives		$	(147,663	)	$	(67,401	)


		Gain (Loss) for the Nine Months Ended September 30,
Type of Non-hedging Derivative	Income Statement Location of Gain (Loss)	2011			2010
Interest rate swaps	Investment related gains (losses), net	$	157,520		$	148,280
Financial futures	Investment related gains (losses), net		21,920			(21,192	)
Foreign currency forwards	Investment related gains (losses), net		1,114			2,161
CPI swaps	Investment related gains (losses), net		1,096			524
Credit default swaps	Investment related gains (losses), net		(8,138	)		446
Equity options	Investment related gains (losses), net		29,880			(604	)
Embedded derivatives in:
Modified coinsurance or funds withheld arrangements	Investment related gains (losses), net		(1,514	)		116,494
Indexed annuity products	Policy acquisition costs and other insurance expenses		8,947			2,968
Indexed annuity products	Interest credited		(67,935	)		(30,293	)
Variable annuity products	Investment related gains (losses), net		(253,445	)		(149,995	)

Total non-hedging derivatives		$	(110,555	)	$	68,789

Credit Risk

The Company manages its credit risk related to over-the-counter derivatives by entering into transactions with creditworthy counterparties, maintaining collateral arrangements and through the use of master agreements that provide for a single net payment to be made by one counterparty to another at each due date and upon termination. As exchange-traded futures are affected through regulated exchanges, and positions are marked to market on a daily basis, the Company has minimal exposure to credit-related losses in the event of nonperformance by counterparties.

The Company enters into various collateral arrangements, which require both the posting and accepting of collateral in connection with its derivative instruments. Collateral agreements contain attachment thresholds that may vary depending on the posting party’s ratings. Additionally, a decline in the Company’s or the counterparty’s credit ratings to specified levels could result in potential settlement of the derivative positions under the Company’s agreements with its counterparties. The Company also has exchange-traded futures, which require the maintenance of a margin account.

The Company’s credit exposure related to derivative contracts is generally limited to the fair value at the reporting date plus or minus any collateral posted or held by the Company. Information regarding the Company’s credit exposure related to its

over-the-counter derivative contracts and margin account for exchange-traded futures at September 30, 2011 and December 31, 2010 are reflected in the following table (dollars in thousands):


	September 30, 2011			December 31, 2010
Estimated fair value of derivatives in net asset (liability) position	$	227,167		$	(29,801	)
Securities pledged to counterparties as collateral⁽¹⁾		16,833			48,223
Cash pledged from counterparties as collateral⁽²⁾		(173,550	)		(10,300	)
Securities pledged from counterparties as collateral⁽³⁾		(54,608	)		(1,781	)

Net credit exposure	$	15,842		$	6,341


Margin account related to exchange-traded futures⁽²⁾	$	17,840		$	16,285

(1)	Consists of U.S. Treasury securities, included in other invested assets.

(2)	Included in cash and cash equivalents.

(3)	Consists of U.S. Treasury securities.

6. Fair Value of Financial Instruments

Fair values of financial instruments have been determined by using available market information and the valuation techniques described below. Considerable judgment is often required in interpreting market data to develop estimates of fair value. Accordingly, the estimates presented herein may not necessarily be indicative of amounts that could be realized in a current market exchange. The use of different assumptions or valuation techniques may have a material effect on the estimated fair value amounts. The following table presents the carrying amounts and estimated fair values of the Company’s financial instruments at September 30, 2011 and December 31, 2010 (dollars in thousands):


	September 30, 2011				December 31, 2010
	Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value
Assets:
Fixed maturity securities	$	15,557,032	$	15,557,032	$	14,304,597	$	14,304,597
Mortgage loans on real estate		934,694		1,020,796		885,811		933,513
Policy loans		1,228,890		1,228,890		1,228,418		1,228,418
Funds withheld at interest		5,445,886		5,988,389		5,421,952		5,838,064
Short-term investments		81,747		81,747		118,387		118,387
Other invested assets		976,369		968,539		683,307		681,242
Cash and cash equivalents		802,651		802,651		463,661		463,661
Accrued investment income		190,298		190,298		127,874		127,874
Reinsurance ceded receivables		87,340		43,309		95,557		91,893
Liabilities:
Interest-sensitive contract liabilities	$	6,169,761	$	5,961,690	$	5,856,945	$	5,866,088
Long-term and short-term debt		1,614,543		1,665,456		1,216,410		1,226,517
Collateral finance facility		681,004		408,300		850,039		514,250
Company-obligated mandatorily redeemable preferred securities		—		—		159,421		221,341

Publicly traded fixed maturity securities are valued based upon quoted market prices or estimates from independent pricing services, independent broker quotes and pricing matrices. Private placement fixed maturity securities are valued based on the credit quality and duration of marketable securities deemed comparable by the Company’s investment advisor, which may be of another issuer. The Company utilizes information from third parties, such as pricing services and brokers, to assist in determining fair values for certain assets and liabilities; however, management is ultimately responsible for all fair values presented in the Company’s financial statements. The fair value of mortgage loans on real estate is estimated using discounted cash flows. Policy loans typically carry an interest rate that is adjusted annually based on a market index and therefore carrying value approximates fair value. The carrying value of funds withheld at interest approximates fair value except where the funds withheld are specifically identified in the agreement. When funds withheld are specifically identified in the agreement, the fair value is based on the fair value of the underlying assets which are held by the ceding company. The carrying values of cash and cash equivalents and short-term investments approximate fair values due to the short-term maturities of these instruments. Common and preferred equity investments and derivative financial instruments included in other invested assets are reflected at fair value on the condensed consolidated balance sheets based primarily on quoted market prices. Limited partnership interests included in other invested assets consist of those investments accounted for

using the cost method. The remaining carrying value recognized in the condensed consolidated balance sheets represents investments in limited partnership interests accounted for using the equity method, which do not meet the definition of financial instruments for which fair value is required to be disclosed. The fair value of limited partnerships is based on net asset values. The carrying value for accrued investment income approximates fair value.

The carrying and fair values of interest-sensitive contract liabilities reflected in the table above exclude contracts with significant mortality risk. The fair value of the Company’s interest-sensitive contract liabilities and related reinsurance ceded receivables is based on the cash surrender value of the liabilities, adjusted for recapture fees. The fair value of the Company’s long-term debt is estimated based on either quoted market prices or quoted market prices for the debt of corporations with similar credit quality. The fair values of the Company’s collateral finance facility and company-obligated mandatorily redeemable preferred securities are estimated using discounted cash flows. See Note 14 – “Financing Activities and Stock Transactions,” for information regarding the Company’s company-obligated mandatorily redeemable preferred securities.

General accounting principles for Fair Value Measurements and Disclosures define fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. In accordance with these principles, valuation techniques utilized by management for invested assets and embedded derivatives reported at fair value are generally categorized into three types:

Market Approach. Market approach valuation techniques use prices and other relevant information from market transactions involving identical or comparable assets or liabilities. Valuation techniques consistent with the market approach include comparables and matrix pricing. Comparables use market multiples, which might lie in ranges with a different multiple for each comparable. The selection of where within the range the appropriate multiple falls requires judgment, considering both quantitative and qualitative factors specific to the measurement. Matrix pricing is a mathematical technique used principally to value certain securities without relying exclusively on quoted prices for the specific securities but comparing the securities to benchmark or comparable securities.

Income Approach. Income approach valuation techniques convert future amounts, such as cash flows or earnings, to a single discounted amount. These techniques rely on current expectations of future amounts. Examples of income approach valuation techniques include present value techniques, option-pricing models and binomial or lattice models that incorporate present value techniques.

Cost Approach. Cost approach valuation techniques are based upon the amount that, at present, would be required to replace the service capacity of an asset, or the current replacement cost. That is, from the perspective of a market participant (seller), the price that would be received for the asset is determined based on the cost to a market participant (buyer) to acquire or construct a substitute asset of comparable utility.

The three approaches described above are consistent with generally accepted valuation techniques. While all three approaches are not applicable to all assets or liabilities reported at fair value, where appropriate and possible, one or more valuation techniques may be used. The selection of the valuation technique(s) to apply considers the definition of an exit price and the nature of the asset or liability being valued and significant expertise and judgment is required. The Company performs regular analysis and review of the various techniques utilized in determining fair value to ensure that the valuation approaches utilized are appropriate and consistently applied, and that the various assumptions are reasonable. As indicated above, the Company also utilizes information from third parties, such as pricing services and brokers, to assist in determining fair values for certain assets and liabilities; however, management is ultimately responsible for all fair values presented in the Company’s financial statements. The Company performs analysis and review of the information and prices received from third parties to ensure that the prices represent a reasonable estimate of the fair value. This process involves quantitative and qualitative analysis and is overseen by the Company’s investment and accounting personnel. Examples of procedures performed include, but are not limited to, initial and ongoing review of third party pricing services and techniques, review of pricing trends and monitoring of recent trade information. In addition, the Company utilizes both internal and external cash flow models to analyze the reasonableness of fair values utilizing credit spread and other market assumptions, where appropriate. As a result of the analysis, if the Company determines there is a more appropriate fair value based upon the available market data, the price received from the third party is adjusted accordingly.

For invested assets reported at fair value, the Company utilizes when available, fair values based on quoted prices in active markets that are regularly and readily obtainable. Generally, these are very liquid investments and the valuation does not require management judgment. When quoted prices in active markets are not available, fair value is based on the market valuation techniques described above, primarily a combination of the market approach, including matrix pricing and the income approach. For corporate and government securities, the assumptions and inputs used by management in applying these techniques include, but are not limited to: using standard market observable inputs which are derived from, or corroborated by, market observable data including market yield curve, duration, call provisions, observable prices and spreads for similar publicly traded or privately traded issues that incorporate the credit quality and industry sector of the

issuer. For structured securities that include residential mortgage-backed securities, commercial mortgage-backed securities and asset-backed securities, valuation is based primarily on matrix pricing or other similar techniques using standard market inputs including spreads for actively traded securities, spreads off benchmark yields, expected prepayment speeds and volumes, current and forecasted loss severity, rating, weighted average coupon, weighted average maturity, average delinquency rates, geographic region, debt-service coverage ratios and issuance-specific information including, but not limited to: collateral type, payment terms of the underlying assets, payment priority within the tranche, structure of the security, deal performance and vintage of loans.

When observable inputs are not available, the market standard valuation techniques for determining the estimated fair value of certain types of securities that trade infrequently, and therefore have little or no price transparency, rely on inputs that are significant to the estimated fair value that are not observable in the market or cannot be derived principally from or corroborated by observable market data. These unobservable inputs can be based in large part on management judgment or estimation, and cannot be supported by reference to market activity. Even though unobservable, these inputs are based on assumptions deemed appropriate given the circumstances and are believed to be consistent with what other market participants would use when pricing such securities.

The use of different techniques, assumptions and inputs may have a material effect on the estimated fair values of the Company’s securities holdings.

For the quarters ended September 30, 2011 and 2010, the application of market standard valuation techniques applied to similar assets and liabilities has been consistent.

General accounting principles for Fair Value Measurements and Disclosures also establish a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1

Quoted prices in active markets for identical assets or liabilities. The Company’s Level 1 assets and liabilities include investment securities and derivative contracts that are traded in exchange markets.

Level 2

Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or market standard valuation techniques and assumptions with significant inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Such observable inputs include benchmarking prices for similar assets in active, liquid markets, quoted prices in markets that are not active and observable yields and spreads in the market. The Company’s Level 2 assets and liabilities include investment securities with quoted prices that are traded less frequently than exchange-traded instruments and derivative contracts whose values are determined using market standard valuation techniques. This category primarily includes corporate securities, Canadian and Canadian provincial government securities, and residential and commercial mortgage-backed securities, among others. Level 2 valuations are generally obtained from third party pricing services for identical or comparable assets or liabilities or through the use of valuation methodologies using observable market inputs. Prices from services are validated through analytical reviews and assessment of current market activity.

Level 3

Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the related assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using market standard valuation techniques described above. When observable inputs are not available, the market standard techniques for determining the estimated fair value of certain securities that trade infrequently, and therefore have little transparency, rely on inputs that are significant to the estimated fair value and that are not observable in the market or cannot be derived principally from or corroborated by observable market data. These unobservable inputs can be based in large part on management judgment or estimation and cannot be supported by reference to market activity. Even though unobservable, management believes these inputs are based on assumptions deemed appropriate given the circumstances and consistent with what other market participants would use when pricing similar assets and liabilities. For the Company’s invested assets, this category generally includes corporate securities (primarily private placements), asset-backed securities (including those with exposure to subprime mortgages), and to a lesser extent, certain residential and commercial mortgage-backed securities, among others. Prices are determined using valuation methodologies such as discounted cash flow models and other similar techniques. Non-binding broker quotes, which are utilized when pricing service information is not available, are reviewed for reasonableness based on the Company’s understanding of the market, and are generally considered Level 3. Under certain circumstances, based on its observations of transactions in active markets, the Company may conclude the prices received from independent third party pricing services or brokers are not reasonable or reflective of market activity. In those instances, the Company would apply internally developed valuation techniques to the related assets or liabilities. Additionally, the Company’s embedded derivatives, all of which are associated with

reinsurance treaties, are classified in Level 3 since their values include significant unobservable inputs associated with actuarial assumptions regarding policyholder behavior.

When inputs used to measure fair value fall within different levels of the hierarchy, the level within which the fair value measurement is categorized is based on the lowest priority level input that is significant to the fair value measurement in its entirety. For example, a Level 3 fair value measurement may include inputs that are observable (Levels 1 and 2) and unobservable (Level 3). Therefore, gains and losses for such assets and liabilities categorized within Level 3 may include changes in fair value that are attributable to both observable inputs (Levels 1 and 2) and unobservable inputs (Level 3). Assets and liabilities measured at fair value on a recurring basis as of September 30, 2011 and December 31, 2010 are summarized below (dollars in thousands):


September 30, 2011:	Total			Fair Value Measurements Using:
	Total			Level 1		Level 2			Level 3
Assets:
Fixed maturity securities – available-for-sale:
Corporate securities	$	7,780,927		$	11,335	$	6,811,773		$	957,819
Canadian and Canadian provincial governments		3,393,514			—		3,393,514			—
Residential mortgage-backed securities		1,307,774			—		1,240,864			66,910
Asset-backed securities		372,957			—		210,414			162,543
Commercial mortgage-backed securities		1,326,994			—		1,214,015			112,979
U.S. government and agencies securities		258,083			237,844		20,239			—
State and political subdivision securities		203,334			12,760		181,184			9,390
Other foreign government securities		913,449			221,851		691,598			—

Total fixed maturity securities – available-for-sale		15,557,032			483,790		13,763,601			1,309,641
Funds withheld at interest – embedded derivatives		(275,734	)		—		—			(275,734	)
Cash equivalents		548,744			548,744		—			—
Short-term investments		32,920			27,276		5,644			—
Other invested assets:
Non-redeemable preferred stock		93,591			74,844		18,747			—
Other equity securities		33,001			3,518		18,920			10,563
Derivatives:
Interest rate swaps		145,647			—		145,647			—
Foreign currency forwards		3,983			—		3,983			—
CPI swaps		794			—		794			—
Credit default swaps		(5,725	)		—		(5,725	)		—
Equity options		99,633			—		99,633			—
Foreign currency swaps		3,988			—		3,988			—
Collateral		21,288			16,833		4,455			—

Total other invested assets		396,200			95,195		290,442			10,563
Reinsurance ceded receivable – embedded derivatives		81,544			—		—			81,544

Total	$	16,340,706		$	1,155,005	$	14,059,687		$	1,126,014


Liabilities:
Interest sensitive contract liabilities – embedded derivatives	$	1,041,613		$	—	$	—		$	1,041,613
Other liabilities:
Derivatives:
Interest rate swaps		2,639			—		2,639			—
Credit default swaps		10,266			—		10,266			—
Foreign currency swaps		8,248			—		8,248			—

Total other liabilities		21,153			—		21,153			—

Total	$	1,062,766		$	—	$	21,153		$	1,041,613


December 31, 2010:				Fair Value Measurements Using:
	Total			Level 1		Level 2		Level 3
Assets:
Fixed maturity securities – available-for-sale:
Corporate securities	$	7,155,505		$	16,182	$	6,266,987	$	872,336
Canadian and Canadian provincial governments		3,023,483			—		3,023,483		—
Residential mortgage-backed securities		1,473,077			—		1,289,786		183,291
Asset-backed securities		391,209			—		162,651		228,558
Commercial mortgage-backed securities		1,337,853			—		1,190,297		147,556
U.S. government and agencies securities		206,216			166,861		39,355		—
State and political subdivision securities		164,460			6,865		150,612		6,983
Other foreign government securities		552,794			4,037		542,178		6,579

Total fixed maturity securities – available-for-sale		14,304,597			193,945		12,665,349		1,445,303
Funds withheld at interest – embedded derivatives		(274,220	)		—		—		(274,220	)
Cash equivalents⁽¹⁾		253,746			253,746		—		—
Short-term investments		7,310			5,257		2,053		—
Other invested assets:
Non-redeemable preferred stock		99,550			72,393		26,737		420
Other equity securities		40,661			5,126		19,119		16,416
Derivatives:
Interest rate swaps		20,042			—		20,042		—
Foreign currency forwards		5,924			—		5,924		—
CPI swaps		1,491			—		1,491		—
Credit default swaps		2,429			—		2,429		—
Equity options		5,043			—		5,043		—
Collateral		48,223			48,223		—		—

Total other invested assets		223,363			125,742		80,785		16,836
Reinsurance ceded receivable – embedded derivatives		75,431			—		—		75,431

Total	$	14,590,227		$	578,690	$	12,748,187	$	1,263,350


Liabilities:
Interest sensitive contract liabilities – embedded derivatives	$	721,485		$	—	$	—	$	721,485
Other liabilities:
Derivatives:⁽²⁾
Interest rate swaps		18,850			—		18,850		—
Credit default swaps		131			—		131		—
Foreign currency swaps		45,749			—		45,749		—

Total other liabilities		64,730			—		64,730		—

Total	$	786,215		$	—	$	64,730	$	721,485

(1) Information as of December 31, 2010 was recast to reflect the disclosure of fair value information for certain cash equivalents during 2011.

(2) Balances have been adjusted due to typographical errors in the 2010 Annual Report.

Fixed Maturity Securities – The fair values of the Company’s public fixed maturity securities, which include corporate and structured securities, are generally based on prices obtained from independent pricing services. Prices from pricing services are sourced from multiple vendors, and a vendor hierarchy is maintained by asset type based on historical pricing experience and vendor expertise. The Company generally receives prices from multiple pricing services for each security, but ultimately uses the price from the pricing service highest in the vendor hierarchy based on the respective asset type. To validate reasonability, prices are periodically reviewed by internal asset managers through comparison with directly observed recent market trades and internal estimates of current fair value, developed using market observable inputs and economic indicators. Consistent with the fair value hierarchy described above, securities with validated quotes from pricing services are generally reflected within Level 2, as they are primarily based on observable pricing for similar assets and/or other market observable inputs. If the pricing information received from third party pricing services is not reflective of market activity or other inputs observable in the market, the Company may challenge the price through a formal process with the pricing service.

If the Company ultimately concludes that pricing information received from the independent pricing service is not reflective of market activity, non-binding broker quotes are used, if available. If the Company concludes the values from both pricing services and brokers are not reflective of market activity, it may override the information from the pricing service or broker with an internally developed valuation; however, this occurs infrequently. Internally developed valuations or non-binding broker quotes are also used to determine fair value in circumstances where vendor pricing is not available. These estimates may use significant unobservable inputs, which reflect the Company’s assumptions about the inputs market participants would use in pricing the asset. Circumstances where observable market data are not available may include events such as market illiquidity and credit events related to the security. Pricing service overrides, internally developed valuations and non-

binding broker quotes are generally based on significant unobservable inputs and are often reflected as Level 3 in the valuation hierarchy.

The fair values of private placement securities are primarily determined using a discounted cash flow model. In certain cases these models primarily use observable inputs with a discount rate based upon the average of spread surveys collected from private market intermediaries who are active in both primary and secondary transactions, taking into account, among other factors, the credit quality and industry sector of the issuer and the reduced liquidity associated with private placements. Generally, these securities have been reflected within Level 2. For certain private fixed maturities, the discounted cash flow model may also incorporate significant unobservable inputs, which reflect the Company’s own assumptions about the inputs market participants would use in pricing the security. To the extent management determines that such unobservable inputs are not significant to the price of a security, a Level 2 classification is made. Otherwise, a Level 3 classification is used.

Embedded Derivatives – For embedded derivative liabilities associated with the underlying products in reinsurance treaties, primarily equity-indexed and variable annuity treaties, the Company utilizes a market standard technique, which includes an estimate of future equity option purchases and an adjustment for the Company’s own credit risk that takes into consideration the Company’s financial strength rating, also commonly referred to as a claims paying rating. The capital market inputs to the model, such as equity indexes, equity volatility, interest rates and the Company’s credit adjustment, are generally observable. However, the valuation models also use inputs requiring certain actuarial assumptions such as future interest margins, policyholder behavior, including future equity participation rates, and explicit risk margins related to non-capital market inputs, that are generally not observable and may require use of significant management judgment. Changes in interest rates, equity indices, equity volatility, the Company’s own credit risk, and actuarial assumptions regarding policyholder behavior may result in significant fluctuations in the value of embedded derivatives liabilities associated with equity-indexed annuity reinsurance treaties.

The fair value of embedded derivatives associated with funds withheld reinsurance treaties is determined based upon a total return swap technique with reference to the fair value of the investments held by the ceding company that support the Company’s funds withheld at interest asset. The fair value of the underlying assets is generally based on market observable inputs using industry standard valuation techniques. However, the valuation also requires certain significant inputs based on actuarial assumptions, which are generally not observable and accordingly, the valuation is considered Level 3 in the fair value hierarchy.

Cash Equivalents and Short-Term Investments – Cash equivalents and short-term investments include money market instruments, commercial paper and other highly liquid debt instruments. Money market instruments are generally valued using unadjusted quoted prices in active markets that are accessible for identical assets and are primarily classified as Level 1. The fair value of certain other short-term investments, such as floating rate notes and bonds with original maturities less then twelve months, are based upon other market observable data and are typically classified as Level 2. Various time deposits carried as cash equivalents or short-term investments are not measured at estimated fair value and therefore are excluded from the tables presented.

Equity Securities – Equity securities consist principally of preferred stock of publicly and privately traded companies. The fair values of most publicly traded equity securities are based on quoted market prices in active markets for identical assets and are classified within Level 1 in the fair value hierarchy. Estimated fair values for most privately traded equity securities are determined using valuation models that require a substantial level of judgment. In determining the fair value of certain privately traded equity securities the models may also use unobservable inputs, which reflect the Company’s assumptions about the inputs market participants would use in pricing. Most privately traded equity securities are classified within Level 3. The fair values of preferred equity securities are based on prices obtained from independent pricing services and these securities are generally classified within Level 2 in the fair value hierarchy. The fair value of other equity securities, included in Level 2, represent the Company’s common stock investment in the Federal Home Loan Bank of Des Moines.

Derivative Assets and Derivative Liabilities – Level 1 measurement includes assets and liabilities comprised of exchange-traded derivatives. Valuation is based on unadjusted quoted prices in active markets that are readily and regularly available. Level 2 measurement includes all types of derivative instruments utilized by the Company with the exception of exchange-traded derivatives. These derivatives are principally valued using an income approach. Valuations of interest rate contracts, non-option-based, are based on present value techniques, which utilize significant inputs that may include the swap yield curve, LIBOR basis curves, and repurchase rates. Valuations of foreign currency contracts, non-option-based, are based on present value techniques, which utilize significant inputs that may include the swap yield curve, LIBOR basis curves, currency spot rates, and cross currency basis curves. Valuations of credit contracts, non-option-based, are based on present value techniques, which utilize significant inputs that may include the swap yield curve, credit curves, and recovery rates. Valuations of equity market contracts, non-option-based, are based on present value techniques, which utilize significant inputs that may include the swap yield curve, spot equity index levels, and dividend yield curves. Valuations of equity market contracts, option-based, are based on option pricing models, which utilize significant inputs that may include the swap

yield curve, spot equity index levels, dividend yield curves, and equity volatility. The Company does not currently have derivatives included in Level 3 measurement.

As of September 30, 2011 and December 31, 2010, respectively, the Company classified approximately 8.4% and 10.1% of its fixed maturity securities in the Level 3 category. These securities primarily consist of private placement corporate securities with inactive trading markets. Additionally, the Company has included asset-backed securities with sub-prime exposure and mortgage-backed securities with below investment grade ratings in the Level 3 category due to market uncertainty associated with these securities and the Company’s utilization of information.

The tables below provide a summary of the changes in fair value of Level 3 assets and liabilities for the three and nine months ended September 30, 2011, as well as the portion of gains or losses included in income for the three and nine months ended September 30, 2011 attributable to unrealized gains or losses related to those assets and liabilities still held at September 30, 2011 (dollars in thousands):


For the three months ended September 30, 2011:	Fixed maturity securities - available-for-sale
	Corporate securities			Residential mortgage- backed securities			Asset-backed securities			Commercial mortgage- backed securities
Fair value, beginning of period	$	977,560		$	103,430		$	188,773		$	150,765
Total gains/losses (realized/unrealized)
Included in earnings, net:
Investment income, net of related expenses		38			181			271			505
Investment related gains (losses), net		591			(1,059	)		(6,760	)		(6,548	)
Claims & other policy benefits		—			—			—			—
Interest credited		—			—			—			—
Policy acquisition costs and other insurance expenses		—			—			—			—
Included in other comprehensive income		7,725			44			(1,827	)		(14,717	)
Purchases⁽¹⁾		59,905			454			7,449			—
Sales⁽¹⁾		(14,415	)		—			(5,547	)		—
Settlements⁽¹⁾		(23,677	)		(1,447	)		(3,172	)		—
Transfers into Level 3⁽²⁾		15,947			2,248			10,773			—
Transfers out of Level 3⁽²⁾		(65,855	)		(36,941	)		(27,417	)		(17,026	)

Fair value, end of period	$	957,819		$	66,910		$	162,543		$	112,979


Unrealized gains and losses recorded in earnings for the period relating to those Level 3 assets and liabilities that were still held at the end of the period
Included in earnings, net:
Investment income, net of related expenses	$	32		$	181		$	246		$	504
Investment related gains (losses), net		(708	)		(131	)		(1,052	)		(6,548	)
Claims & other policy benefits		—			—			—			—
Interest credited		—			—			—			—
Policy acquisition costs and other insurance expenses		—			—			—			—


For the three months ended September 30, 2011 (continued):	Fixed maturity securities - available-for-sale
	State and political subdivision securities			Other foreign government securities			Funds withheld at interest- embedded derivative
Fair value, beginning of period	$	22,932		$	4,074		$	(173,160	)
Total gains/losses (realized/unrealized)
Included in earnings, net:
Investment income, net of related expenses		(5	)		—			—
Investment related gains (losses), net		(4	)		—			(102,574	)
Claims & other policy benefits		—			—			—
Interest credited		—			—			—
Policy acquisition costs and other insurance expenses		—			—			—
Included in other comprehensive income		225			—			—
Purchases⁽¹⁾		—			—			—
Sales⁽¹⁾		—			—			—
Settlements⁽¹⁾		(22	)		—			—
Transfers into Level 3⁽²⁾		—			—			—
Transfers out of Level 3⁽²⁾		(13,736	)		(4,074	)		—

Fair value, end of period	$	9,390		$	—		$	(275,734	)


For the three months ended September 30, 2011 (continued):	Fixed maturity securities - available-for-sale
	State and political subdivision securities			Other foreign government securities		Funds withheld at interest- embedded derivative
Unrealized gains and losses recorded in earnings for the period relating to those Level 3 assets and liabilities that were still held at the end of the period
Included in earnings, net:
Investment income, net of related expenses	$	(5	)	$	—	$	—
Investment related gains (losses), net		—			—		(102,575	)
Claims & other policy benefits		—			—		—
Interest credited		—			—		—
Policy acquisition costs and other insurance expenses		—			—		—


For the three months ended September 30, 2011 (continued):	Other invested assets- other equity securities			Reinsurance ceded receivable- embedded derivative			Interest sensitive contract liabilities embedded derivative
Fair value, beginning of period	$	11,001		$	86,029		$	(804,171	)
Total gains/losses (realized/unrealized)
Included in earnings, net:
Investment income, net of related expenses		—			—			—
Investment related gains (losses), net		—			—			(260,239	)
Claims & other policy benefits		—			—			(1,600	)
Interest credited		—			—			19,598
Policy acquisition costs and other insurance expenses		—			(3,443	)		—
Included in other comprehensive income		195			—			—
Purchases⁽¹⁾		—			2,081			(16,063	)
Sales⁽¹⁾		(633	)		—			—
Settlements⁽¹⁾		—			(3,123	)		20,862
Transfers into Level 3⁽²⁾		—			—			—
Transfers out of Level 3⁽²⁾		—			—			—

Fair value, end of period	$	10,563		$	81,544		$	(1,041,613	)


Unrealized gains and losses recorded in earnings for the period relating to those Level 3 assets and liabilities that were still held at the end of the period
Included in earnings, net:
Investment income, net of related expenses	$	—		$	—		$	—
Investment related gains (losses), net		—			—			(262,552	)
Claims & other policy benefits		—			—			(1,135	)
Interest credited		—			—			(1,265	)
Policy acquisition costs and other insurance expenses		—			(592	)		—

(1)

The amount reported within purchases, sales and settlements is the purchase price (for purchases) and the sales/settlement proceeds (for sales and settlements) based upon the actual date purchased or sold/settled. Items purchased and sold/settled in the same period are excluded from the rollforward. The Company had no issuances during the period.

(2)

The Company’s policy is to recognize transfers into and out of levels within the fair value hierarchy at the beginning of the quarter in which the actual event or change in circumstances that caused the transfer occurs. Transfers into Level 3 are due to a lack of observable market data for these securities or, in accordance with company policy, when the ratings of certain asset classes fall below investment grade. Transfers out of Level 3 are due to an increase in observable market data or when the underlying inputs are evaluated and determined to be market observable. Transfers between Level 1 and Level 2 were not significant.


For the nine months ended September 30, 2011:	Fixed maturity securities - available-for-sale
	Corporate securities			Residential mortgage- backed securities			Asset-backed securities			Commercial mortgage- backed securities
Fair value, beginning of period	$	872,336		$	183,291		$	228,558		$	147,556
Total gains/losses (realized/unrealized)
Included in earnings, net:
Investment income, net of related expenses		200			674			1,175			1,673
Investment related gains (losses), net		1,332			(1,460	)		(9,588	)		(9,280	)
Claims & other policy benefits		—			—			—			—
Interest credited		—			—			—			—
Policy acquisition costs and other insurance expenses		—			—			—			—
Included in other comprehensive income		17,178			4,528			5,586			12,599
Purchases⁽¹⁾		257,713			6,236			37,328			7,684
Sales⁽¹⁾		(35,648	)		(20,701	)		(27,844	)		—
Settlements⁽¹⁾		(99,407	)		(13,812	)		(20,013	)		(3,410	)
Transfers into Level 3⁽²⁾		76,627			7,250			32,274			66,854
Transfers out of Level 3⁽²⁾		(132,512	)		(99,096	)		(84,933	)		(110,697	)

Fair value, end of period	$	957,819		$	66,910		$	162,543		$	112,979


Unrealized gains and losses recorded in earnings for the period relating to those Level 3 assets and liabilities that were still held at the end of the period
Included in earnings, net:
Investment income, net of related expenses	$	162		$	655		$	1,084		$	1,660
Investment related gains (losses), net		(1,223	)		(175	)		(4,603	)		(9,292	)
Claims & other policy benefits		—			—

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