December 31, 2014 and 2013
2014 2013
(in thousands of U.S. dollars, except share and per share data)
Assets Investments
Fixed maturities available for sale, at fair value (amortized cost - $3,926,076and
$4,300,875) $ 4,026,268 $ 4,455,898
Fixed maturities held to maturity, at amortized cost (fair value - $10,335and $28,348) 10,286 27,684
Equity securities, at fair value (cost - $2,238 and $5,752) 2,422 5,683
Short-term investments, at fair value (cost - $120,399 and $63,452) 120,399 63,452
Other investments (cost - $552,620 and $480,043) 666,706 579,780
Total investments 4,826,081 5,132,497
Cash 201,324 102,608
Securities lending collateral 160,090 244,850
Accrued investment income 49,635 54,190
Insurance and reinsurance balances receivable 75,526 75,358
Reinsurance recoverable on losses and loss expenses 489,722 543,655
Deferred policy acquisition costs 5,100 5,142
Value of reinsurance business assumed 20,857 23,763
Prepaid reinsurance premiums 64,985 65,661
Amounts due from parent and affiliates 145,654 15,289
Investments in partially-owned insurance companies 9,216 8,679
Other assets 111,172 110,646
Total assets $ 6,159,362 $ 6,382,338
Liabilities
Unpaid losses and loss expenses $ 1,918,831 $ 2,144,945
Unearned premiums 242,879 244,204
Sundry liabilities 31,660 35,548
Insurance and reinsurance balances payable 78,254 79,169
Deposit liabilities 244,369 217,992
Securities lending payable 160,107 244,888
Payable for securities purchased 36,825 7,516
Accounts payable, accrued expenses, and other liabilities 17,606 16,393
Amounts due to parent and affiliates 20,094 20,981
Total liabilities 2,750,625 3,011,636
Shareholder’s equity
Common shares ($1.00 par value, 1,250,000 shares authorized, issued and outstanding) 1,250 1,250
Additional paid-in capital 1,881,217 1,881,217
Retained earnings 1,313,811 1,235,213
Accumulated other comprehensive income 212,459 253,022
Total shareholder’s equity 3,408,737 3,370,702
The accompanying notes are an integral part of these consolidated financial statements. For the years ended December 31, 2014 and 2013
2014 2013
(in thousands of U.S. dollars) Revenues
Gross premiums written $ 479,697 $ 482,851
Reinsurance premiums ceded (141,328) (142,509)
Net premiums written 338,369 340,342
Change in unearned premiums 649 (11,378)
Net premiums earned 339,018 328,964
Net investment income 221,743 215,087
Net realized (losses) gains (22,234) 26,940
Other income 74,938 39,326
Total revenues 613,465 610,317
Expenses
Losses and loss expenses 71,960 146,596
Policy acquisition costs 8,727 8,330
Administrative expenses 53,907 51,557
Total expenses 134,594 206,483
Income before income tax 478,871 403,834
Income tax expense (273) (3,075)
Net income $ 478,598 $ 400,759
Other comprehensive loss
Unrealized (depreciation) and other arising during the year $ (37,540) $ (112,449)
Reclassification adjustment for net realized (gains) included in net income (1,757) (11,613) Amortization of net realized appreciation (depreciation) related to securities
transferred to held to maturity 112 (171)
Other comprehensive (loss), before income tax (39,185) (124,233)
Income tax (expense) benefit related to other comprehensive income items (1,378) 2,087
Other comprehensive (loss) (40,563) (122,146)
For the years ended December 31, 2014 and 2013
2014 2013
(in thousands of U.S. dollars) Common shares
Balance – beginning of year and end of year $ 1,250 $ 1,250
Additional paid-in capital
Balance – beginning of year and end of year 1,881,217 1,881,217
Retained earnings
Balance – beginning of year 1,235,213 1,084,454
Dividends (400,000) (250,000)
Net income 478,598 400,759
Balance – end of year 1,313,811 1,235,213
Accumulated other comprehensive income
Net unrealized appreciation on investments and other
Balance – beginning of year 253,022 375,168
Other comprehensive (loss) (40,563) (122,146)
Balance – end of year 212,459 253,022
The accompanying notes are an integral part of these consolidated financial statements. For the years ended December 31, 2014 and 2013
2014 2013
(in thousands of U.S. dollars) Cash flows from operating activities
Net income $ 478,598 $ 400,759
Adjustments to reconcile net income to net cash flows from operating activities:
Net realized losses (gains) 22,234 (26,940)
Amortization of premium/discount on fixed maturities (9,023) 2,622
Equity earnings (73,138) (39,338)
Accrued investment income 4,479 (2,518)
Insurance and reinsurance balances receivable (942) (11,652)
Deferred policy acquisition costs 42 (733)
Value of reinsurance business assumed 2,906 2,972
Unpaid losses and loss expenses (183,908) (24,170)
Unearned premiums (649) 11,378
Insurance and reinsurance balances payable 2,249 9,970
Accounts payable, accrued expenses, and other liabilities (5,493) (10,988)
Other (2,643) (974)
Net cash flows from operating activities $ 234,712 $ 310,388
Cash flows from investing activities
Purchases of fixed maturities available for sale (1,375,854) (1,565,693)
Purchases of to be announced mortgage-backed securities - (8,301)
Purchases of equity securities (3,261) (4,260)
Sales of fixed maturities available for sale 973,409 666,909
Sales of to be announced mortgage-backed securities - 8,301
Sales of equity securities 7,449 1,708
Maturities and redemptions of fixed maturities available for sale 790,448 754,673
Maturities and redemptions of fixed maturities held to maturity 17,467 21,960
Net settlements of investment derivatives (15,250) 11,752
Other - (46,465)
Net cash flows from (used for) investing activities $ 394,408 $ (159,416)
Cash flows from financing activities
Amount (paid to) received from parent company and affiliates, net (129,857) 44,579
Dividends paid (400,000) (250,000)
Net cash flows (used for) financing activities $ (529,857) $ (205,421)
Effect of foreign currency rate changes on cash and cash equivalents (547) 703
Net increase (decrease) in cash $ 98,716 $ (53,746)
Cash – beginning of year 102,608 156,354
1. General
ACE Bermuda Insurance Ltd. (collectively the Company, we, or our) is an indirect wholly owned subsidiary of ACE Limited (ACE). ACE was incorporated with limited liability under the Cayman Islands Companies Law until July 18, 2008 at which time ACE moved its jurisdiction of incorporation from the Cayman Islands to Zurich, Switzerland.
The Company wholly owns the following insurance subsidiaries: Corporate Officers & Directors Assurance Limited (CODA), ACE Bermuda International Insurance (Ireland) Limited (ABII), ACE Capital Title Reinsurance Company, and Paget Reinsurance Limited. Effective May 1, 2013, Paget Reinsurance International Limited was dissolved through liquidation. In addition, the company wholly owns Sovereign Risk Insurance Limited, a general managing agency who wholly owns Sovereign Risk Insurance (Dubai) Limited, an insurance intermediary. The Company is also an investor in certain partially-owned insurance companies with insurance operations.
2. Principal Business
The Company and its subsidiaries provide property and casualty insurance and reinsurance coverage for a diverse group of international clients across a broad range of businesses including: excess liability, professional lines, excess property and political risk. The nature of the coverage provided is generally expected to result in low frequency but high severity individual losses. The reinsurance market is an integral part of the risk management strategy of the Company and coverage has been secured on most major lines of business.
During the years ended December 31, 2014 and 2013, the Company entered into certain related party transactions as described in note 10.
3. Significant accounting policies a) Basis of presentation
The accompanying consolidated financial statements, which include the accounts of the Company and its subsidiaries, have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) and, in the opinion of management, reflect all adjustments (consisting of normally recurring accruals) necessary for a fair statement of the results and financial position for such periods. All significant intercompany accounts and transactions have been eliminated.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Amounts included in the consolidated financial statements reflect our best estimates and assumptions; actual amounts could differ materially from these estimates. Principal estimates include:
unpaid losses and loss expense reserves;
reinsurance recoverable, including a provision for uncollectible reinsurance; and
the valuation of the investment portfolio and assessment of other than temporary impairments (OTTI).
Certain prior year figures have been reclassified to conform to current year presentation. b) Premiums
Premiums written are primarily earned on a pro rata basis over the terms of the policies to which they relate. Unearned premiums represent the portion of premiums written applicable to the unexpired portion of the policies in force.
Mandatory reinstatement premiums assessed on reinsurance policies are earned in the period of the loss event that gave rise to the reinstatement premiums. All remaining unearned premiums are recognized over the remaining coverage period.
c) Policy acquisition costs
Policy acquisition costs consist of commissions (direct and ceded) and premium taxes. Acquisition costs are deferred and amortized over the period in which the related premiums are earned. This amortization is recorded in policy acquisition costs in the consolidated statements of operations. The costs are reviewed to determine if they are recoverable from future income, including investment income. Unrecoverable policy acquisition costs are expensed in the period identified.
d) Value of reinsurance business assumed
The value of reinsurance business assumed represents the excess of estimated ultimate value of the liabilities assumed under retroactive reinsurance contracts over consideration received. The value of reinsurance business assumed is amortized and recorded to losses and loss expenses based on the payment pattern of the losses assumed and ranges between 9-40 years. The unamortized value is reviewed regularly to determine if it is recoverable based upon the terms of the contract, estimated losses and loss expenses, and anticipated investment income. Unrecoverable amounts are expensed in the period identified.
e) Reinsurance
The Company assumes and cedes reinsurance with other insurance companies to provide greater diversification of business and minimize the net loss potential arising from large risks. Ceded reinsurance contracts do not relieve the Company of its primary obligation to its policyholders.
For both ceded and assumed reinsurance, risk transfer requirements must be met in order to account for a contract as reinsurance, principally resulting in the recognition of cash flows under the contract as premiums and losses. To meet risk transfer requirements, a reinsurance contract must include insurance risk, consisting of both underwriting and timing risk, and a reasonable possibility of a significant loss for the assuming entity. To assess risk transfer for certain contracts, the Company generally develops expected discounted cash flow analyses at contract inception. Deposit accounting is used for contracts that do not meet risk transfer requirements. Deposit accounting requires that consideration received or paid be recorded in the balance sheet as opposed to recording premiums written or losses incurred in the statement of operations. Non-refundable fees on deposit contracts are earned based on the terms of the contract. Refer to Note 3 (i).
Reinsurance recoverable includes the balances due from reinsurance companies for paid and unpaid losses and loss expenses that will be recovered from reinsurers, based on contracts in force. The method for determining the reinsurance recoverable on unpaid losses and loss expenses incurred but not reported (IBNR) involves actuarial estimates consistent with those used to establish the associated liability for unpaid loss and loss expenses as well as a determination of the Company’s ability to cede unpaid losses and loss expenses under the terms of the reinsurance agreement.
same legal entity for which we believe there is a contractual right of offset. The determination of the default factor is principally based on the financial strength rating of the reinsurer. Default factors require considerable judgment and are determined using the current financial strength rating, or rating equivalent, of each reinsurer as well as other key considerations and assumptions.
The methods used to determine the reinsurance recoverable balance and related provision for uncollectible reinsurance are regularly reviewed and updated and any resulting adjustments are reflected in earnings in the period identified.
Prepaid reinsurance premiums represent the portion of premiums ceded to reinsurers applicable to the unexpired coverage terms of the reinsurance contracts in force.
f) Investments
Fixed maturities are classified as either available for sale or held to maturity. The available for sale portfolio is reported at fair value. The held to maturity portfolio includes securities for which the Company has the ability and intent to hold to maturity or redemption and is reported at amortized cost. Equity securities are classified as available for sale and are recorded at fair value. Short-term investments comprise securities due to mature within one year of the date of purchase and are recorded at fair value which typically approximates cost. Short-term investments include certain cash and cash equivalents, which are part of investment portfolios under the management of external investment managers.
Other investments (primarily representing direct investments in certain limited investment partnerships) over which the Company has significant influence meets the requirements for the equity method of accounting and the Company’s share of net income is included in Other income and changes in the fair value of underlying investments is reflected in Other comprehensive income.
Investments in partially-owned insurance companies primarily represent direct investments in which the Company has significant influence and, as such, meet the requirements for equity accounting. The Company reports its share of the net income or loss of the partially-owned insurance companies in Other income.
Realized gains or losses on sales of investments are determined on a first-in, first-out basis. Unrealized appreciation (depreciation) on investments is included as a separate component of Accumulated other comprehensive income (AOCI) in Shareholder’s equity. We regularly review our investments for OTTI. Refer to Note 4(d).
With respect to securities where the decline in value is determined to be temporary and the security’s value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are the result of changing or unforeseen facts and circumstances (i.e., arising from a large insured loss such as a catastrophe), deterioration of the creditworthiness of the issuer or its industry, or changes in regulatory requirements. We believe that subsequent decisions to sell such securities are consistent with the classification of the majority of the portfolio as available for sale.
We use derivative instruments including futures, options, and foreign currency forward contracts for the purpose of managing certain investment portfolio risks and exposures. Refer to Note 8 for additional information. Derivatives are reported at fair value and recorded in the accompanying consolidated balance sheets in either Accounts payable, accrued expenses, and other liabilities or Other assets with changes in fair value included in Net realized (losses) gains in the consolidated statements of operations. Collateral held by brokers equal to a percentage of the total value of open futures contracts is included in the investment portfolio.
The Company participates in a securities lending program operated by a third party banking institution whereby certain assets are loaned to qualified borrowers and from which we earn an incremental return. Borrowers provide collateral, in the form of either cash or approved securities, of 102 percent of the fair value of the loaned securities. Each security loan is deemed to be an overnight transaction. Cash collateral is invested in a collateral pool which is managed by the banking institution. The collateral pool is subject to written investment guidelines with key objectives which include the safeguard of principal and adequate liquidity to meet anticipated redemptions. The fair value of the loaned securities is monitored on a daily basis, with additional collateral obtained or refunded as the fair value of the loaned securities changes. The collateral is held by the third party banking institution, and the collateral can only be accessed in the event that the institution borrowing the securities is in default under the lending agreement. As a result of these restrictions, we consider our securities lending activities to be non-cash investing and financing activities. An indemnification agreement with the lending agent protects us in the event a borrower becomes insolvent or fails to return any of the securities on loan. The fair value of the securities on loan is included in fixed maturities and equity securities. The securities lending collateral is reported as a separate line in total assets with a related liability reflecting our obligation to return the collateral plus interest.
Refer to Note 9 for a discussion on the determination of fair value for the Company’s various investment securities. g) Cash
Cash includes cash on hand and deposits with an original maturity of three months or less at time of purchase. Cash held by external money managers is included in Short-term investments.
ACE has agreements with a third-party bank provider which implemented two international multi-currency notional cash pooling programs. In each program, participating ACE entities establish deposit accounts in different currencies with the bank provider and each day the credit or debit balances in every account are notionally translated into a single currency (U.S. dollars) and then notionally pooled. The bank extends overdraft credit to any participating ACE entity as needed, provided that the overall notionally-pooled balance of all accounts in each pool at the end of each day is at least zero. Actual cash balances are not physically converted and are not commingled between legal entities. Any overdraft balances incurred under this program by an ACE entity would be guaranteed by ACE Limited (up to $300 million in the aggregate). ACE’s syndicated letter of credit facility allows for same day drawings to fund a net pool overdraft should participating ACE entities withdraw contributed funds from the pool. The Company is a participating ACE entity. Overdrawn accounts totaled $0 at December 31, 2014 and 2013.
h) Unpaid losses and loss expenses
A liability is established for the estimated unpaid losses and loss expenses under the terms of, and with respect to, the Company’s policies and agreements. This liability includes a provision for both reported claims (case reserves) and IBNR claims (IBNR Reserves). The methods of determining such estimates and establishing the resulting liability are reviewed regularly and any adjustments are reflected in operations in the period in which they become known. Future developments may result in losses and loss expenses materially greater or less than recorded amounts.
i) Deposit liabilities
Deposit liabilities primarily include a deposit liability associated with a variable interest entity (see Note 5). Other deposit liabilities arise from contracts sold by the Company for which there is not a significant transfer of risk. j) Translation of foreign currencies
Revenues and expenses and the related unearned premiums and deferred acquisition costs denominated in non U.S. dollar currencies are translated into U.S. dollars at the rates of exchange at the transaction date. Monetary assets and liabilities are translated at the rates of exchange in effect at the end of the period. Transaction gains and losses resulting from foreign currency transactions are recorded in Net realized gains.
k) Income taxes
Income taxes have been recorded related to those operations subject to income taxes. Deferred tax assets and liabilities result from temporary differences between the amounts recorded in the consolidated financial statements and the tax basis of our assets and liabilities. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance against deferred tax assets is recorded if it is more likely than not that all, or some portion, of the benefits related to deferred tax assets will not be realized. The valuation allowance assessment considers tax planning strategies, where applicable. We recognize uncertain tax positions deemed more likely than not of being sustained upon examination. Recognized income tax positions are measured at the largest amount that is greater than 50 percent likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs.
l) Cash flow information
Purchases, sales, and maturities of short-term investments are recorded net for purposes of the consolidated statements of cash flows and are classified with cash flows related to fixed maturities. Cash flows, such as settlements and collateral requirements, associated with all other derivative instruments are included on a net basis within cash flows from investing activities in the consolidated statements of cash flows.
m) Derivatives
The Company recognizes all derivatives at fair value in the consolidated balance sheets and participates in derivative instruments to mitigate financial risks, principally arising from investment holdings, products sold, or assets and liabilities held in foreign currencies. For these instruments, changes in assets or liabilities measured at fair value are recorded as realized gains or losses in the consolidated statements of operations.
4. Investments a) Fixed maturities
The following tables present the fair values and amortized costs of and the gross unrealized appreciation (depreciation) related to fixed maturities as well as related OTTI recognized in AOCI:
2014 Amortized Cost Gross Unrealized Appreciation Gross Unrealized
Depreciation Fair Value
OTTI Recognized in
AOCI (in thousands of U.S. dollars)
Available for sale
U.S. Treasury and agency $ 266,873 $ 22,749 $ (69) $ 289,553 $
-Foreign 508,045 18,176 (17,114) 509,107
-Corporate securities 2,382,106 93,849 (41,682) 2,434,273 (1,500)
Mortgage-backed securities 645,036 21,923 (1,812) 665,147 (70)
States, municipalities, and
political subdivisions 124,016 4,189 (17) 128,188 -$ 3,926,076 $ 160,886 $ (60,694) $ 4,026,268 $ (1,570) Held to maturity Foreign $ 1,284 $ 8 $ (4) $ 1,288 -Corporate securities 5,497 24 - 5,521 -Mortgage-backed securities 3,505 25 (4) 3,526 -$ 10,286 $ 57 $ (8) $ 10,335 $ -2013 Amortized Cost Gross Unrealized Appreciation Gross Unrealized
Depreciation Fair Value
OTTI Recognized in
AOCI (in thousands of U.S. dollars)
Available for sale
U.S. Treasury and agency $ 308,168 $ 16,409 $ (5,278) $ 319,299 $
-Foreign 438,612 23,856 (2,774) 459,694
-Corporate securities 2,632,900 137,791 (17,518) 2,753,173 (276)
Mortgage-backed securities 782,006 17,523 (17,234) 782,295 (3,842)
States, municipalities, and
political subdivisions 139,189 3,292 (1,044) 141,437 -$ 4,300,875 $ 198,871 $ (43,848) $ 4,455,898 $ (4,118) Held to maturity Foreign $ 2,239 $ 39 $ (48) $ 2,230 -Corporate securities 11,395 432 - 11,827 -Mortgage-backed securities 14,050 247 (6) 14,291 -$ 27,684 $ 718 $ (54) $ 28,348 $
-As discussed in Note 4d, if a credit loss is incurred on an impaired fixed maturity, an OTTI is considered to have occurred and the portion of the impairment not related to credit losses (non-credit OTTI) is recognized in OCI. Included in the “OTTI Recognized in AOCI” columns above are the cumulative amounts of non-credit OTTI recognized in OCI adjusted for subsequent sales, maturities, and redemptions. OTTI Recognized in AOCI does not include the impact of subsequent changes in fair value of the related securities. In periods subsequent to a recognition of OTTI in OCI, changes in the fair value of the related fixed maturities are reflected in Unrealized appreciation (depreciation) in the consolidated statement of shareholder’s equity. For the years ended December 31, 2014 and 2013, ($0.256) million and $0.035 million of net unrealized (depreciation) appreciation, respectively, related to such securities is included in OCI. At December 31, 2014 and 2013, AOCI includes cumulative net unrealized depreciation of ($1.3) million and ($0.9) million, respectively, related to securities remaining in the investment portfolio at those dates for which the Company has recognized a non-credit OTTI.
and 2013, respectively, are represented by investments in U.S. government agency bonds. The remainder of the mortgage exposure consists of collateralized mortgage obligations and non-government mortgage-backed securities, the majority of which provide a planned structure for principal and interest payments and carry a rating of AAA by the major credit rating agencies.
The following table presents fixed maturities at December 31, 2014, by contractual maturity. Expected maturities could differ from contractual maturities because borrowers may have the right to call or prepay obligations, with or without call or prepayment penalties.
2014
Fair Value Amortized Cost (in thousands of U.S. dollars) Available for sale; maturity period
Due in 1 year or less $ 99,062 $ 98,031
Due after 1 year through 5 years 1,108,211 1,080,795
Due after 5 years through 10 years 1,706,149 1,681,808
Due after 10 years 447,699 420,406
3,361,121 3,281,040
Mortgage-backed securities 665,147 645,036
$ 4,026,268 3,926,076
Held to maturity; maturity period
Due in 1 year or less $ 6,154 $ 6,122
Due after 1 year through 5 years 655 659
6,809 6,781
Mortgage-backed securities 3,526 3,505
$ 10,335 $ 10,286
b) Other investments
Other investments primarily include investments in two highly diversified investment partnerships that invest in a variety of investment styles such as long/short equity, global macro, and credit arbitrage partially through a highly diversified portfolio of investment funds. Included in the highly diversified investment companies are multiple individual limited partnerships covering a broad range of investment strategies including large cap buyouts, specialist buyouts, growth capital, distressed, mezzanine, real estate, and co-investments. The underlying portfolios consist of various public and private debt and equity securities of publicly traded and privately held companies and real estate assets. These investments are also diversified between geographies, industries, asset types, and investment strategies which provide risk diversification within the investment class and across the overall investment portfolio.
c) Gross unrealized loss
The following tables present, for all securities in an unrealized loss position (including securities on loan) at December 31, 2014, and December 31, 2013, the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position:
December 31, 2014 0 - 12 Months Over 12 Months Total
Fair Value
Gross Unrealized
Loss Fair Value
Gross Unrealized
Loss Fair Value
Gross Unrealized
Loss (in thousands of U.S. dollars)
U.S. Treasury and agency $ 4,999 $ (10) $ 2,814 $ (59) $ 7,813 $ (69)
Foreign 168,589 (16,074) 9,205 (1,044) 177,794 (17,118)
Corporate securities 578,271 (37,563) 53,853 (4,119) 632,124 (41,682)
Mortgage-backed securities 1,306 (5) 116,782 (1,811) 118,088 (1,816)
States, municipalities, and political
subdivisions 1,073 (5) 3,300 (12) 4,373 (17)
Total fixed maturities 754,238 (53,657) 185,954 (7,045) 940,192 (60,702)
Equity securities 202 (41) - - 202 (41)
Other invested assets 5,200 (74) - - 5,200 (74)
Total $ 759,640 $ (53,772) $ 185,954 $ (7,045) $ 945,594 $ (60,817)
December 31, 2013 0 - 12 Months Over 12 Months Total
Fair Value
Gross Unrealized
Loss Fair Value
Gross Unrealized
Loss Fair Value
Gross Unrealized
Loss (in thousands of U.S. dollars)
U.S. Treasury and agency $ 43,945 $ (3,030) $ 9,778 $ (2,248) $ 53,723 $ (5,278)
Foreign 54,808 (2,774) 941 (48) 55,749 (2,822)
Corporate securities 505,971 (16,500) 12,942 (1,018) 518,913 (17,518)
Mortgage-backed securities 290,091 (12,781) 50,554 (4,459) 340,645 (17,240)
States, municipalities, and political
subdivisions 26,062 (1,044) 25 - 26,087 (1,044)
Total fixed maturities 920,877 (36,129) 74,240 (7,773) 995,117 (43,902)
Equity securities 3,144 (206) - - 3,144 (206)
Other invested assets 22,251 (3,130) - - 22,251 (3,130)
Total $ 946,272 $ (39,465) $ 74,240 $ (7,773) $ 1,020,512 $ (47,238)
d) Net realized gains (losses) and change in net unrealized appreciation (depreciation) on investments
In accordance with guidance related to the recognition and presentation of OTTI, when an impairment related to a fixed maturity has occurred, OTTI is required to be recorded in Net income if management has the intent to sell the security or it is more likely than not that we will be required to sell the security before the recovery of its amortized cost. Further, in cases where we do not intend to sell the security and it is more likely than not that we will not be required to sell the security, the Company must evaluate the security to determine the portion of the impairment, if any, related to credit losses. If a credit loss is incurred, an OTTI is considered to have occurred and any portion of the OTTI related to credit losses must be reflected in Net income while the portion of OTTI related to all other factors is recognized in OCI. For fixed maturities held to maturity, OTTI recognized in OCI is accreted from AOCI to the amortized cost of the fixed maturity prospectively over the remaining term of the securities.
Each quarter, securities in an unrealized loss position (impaired securities), including fixed maturities, securities lending collateral, equity securities, and other investments, are reviewed to identify impaired securities to be specifically evaluated for a potential OTTI.
For all non-fixed maturities, OTTI is evaluated based on the following:
the amount of time a security has been in a loss position and the magnitude of the loss position;
the period in which cost is expected to be recovered, if at all, based on various criteria including economic conditions and other issuer-specific developments; and
As a general rule, we also consider that equity securities in an unrealized loss position for twelve consecutive months are other than temporarily impaired.
Evaluation of potential credit losses related to fixed maturities
We review each fixed maturity in an unrealized loss position to assess whether the security is a candidate for credit loss. Specifically, we consider credit rating, market price, and issuer specific financial information, among other factors, to assess the likelihood of collection of all principal and interest as contractually due. Securities for which we determine that credit loss is likely are subjected to further analysis to estimate the credit loss recognized in Net income, if any. In general, credit loss recognized in Net income equals the difference between the security’s amortized cost and the net present value of its projected future cash flows discounted at the effective interest rate implicit in the debt security. All significant assumptions used in determining credit losses are subject to change as market conditions evolve.
U.S. Treasury and agency obligations (including agency mortgage-backed securities), foreign government obligations, and states, municipalities, and political subdivisions obligations
U.S. Treasury and agency obligations (including agency mortgage-backed securities), foreign government obligations, and states, municipalities, and political subdivisions obligations represent less than $1.9 million of gross unrealized loss at December 31, 2014. These securities were evaluated for credit loss primarily using qualitative assessments of the likelihood of credit loss considering credit rating of the issuers and level of credit enhancement, if any. The Company concluded that the high level of creditworthiness of the issuers coupled with credit enhancement, where applicable, supports recognizing no credit loss in net income.
Corporate securities
Projected cash flows for corporate securities (principally senior unsecured bonds) are driven primarily by assumptions regarding probability of default and also the timing and amount of recoveries associated with defaults. The Company developed projected cash flows for corporate securities using market observable data, issuer-specific information, and credit ratings. We use historical default data by Moody’s Investors Service (Moody’s) rating category to calculate a 1-in-100 year probability of default, which results in a default assumption in excess of the historical mean default rate. Consistent with management’s approach, the Company assumed a 32 percent recovery rate (the par value of a defaulted security that will be recovered) across all rating categories rather than using Moody’s historical mean recovery rate of 42 percent. We believe that use of a default assumption in excess of the historical mean is conservative in light of current market conditions.
The following table presents default assumptions by Moody’s rating category (historical mean default rate provided for comparison):
1-in-100 Year Historical Mean Moody’s Rating Category Default Rate Default Rate Investment Grade:
Aaa-Baa 0.0% – 1.3% 0.0% – 0.3%
Below Investment Grade:
Ba 4.9% 1.1%
B 12.7% 3.4%
Caa-C 50.5% 13.1%
Mortgage-backed securities
For mortgage-backed securities, credit impairment is assessed using a cash flow model that estimates the cash flows on the underlying mortgages, using the security-specific collateral and transaction structure. The model estimates cash flows from the underlying mortgage loans and distributes those cash flows to various tranches of securities, considering the transaction structure and any subordination and credit enhancements that exist in that structure. The cash flow model incorporates actual cash flows on the mortgage-backed securities through the current period and then projects the remaining cash flows using a number of assumptions, including default rates, prepayment rates, and loss severity rates (the par value of a defaulted security that will not be recovered) on foreclosed properties. The Company develops specific assumptions using market data, where available, and includes internal estimates as well as estimates published by rating agencies and other third-party sources. The Company projects default rates by mortgage sector considering current underlying mortgage loan performance, generally assuming lower loss severity for Prime sector bonds versus ALT-A and Sub-prime bonds.
These estimates are extrapolated along a default timing curve to estimate the total lifetime pool default rate. Other assumptions used contemplate the actual collateral attributes, including geographic concentrations, rating agency loss projections, rating actions, and current market prices. If cash flow projections indicate that losses will exceed the credit enhancement for a given tranche, then we do not expect to recover our amortized cost basis and we recognize an estimated credit loss in Net income.
Application of the methodology and assumptions described above resulted in credit losses recognized in Net income for mortgage-backed securities of $0.077 million and $0.119 million for the years ended December 2014 and December 2013, respectively.
The following table presents the Net realized gains (losses) and the losses included in Net realized gains (losses) and OCI as a result of conditions which caused the Company to conclude the decline in fair value of certain investments was “other-than-temporary”, and the change in net unrealized appreciation (depreciation) on investments.
2014 2013
(in thousands of U.S. dollars) Fixed maturities:
OTTI on fixed maturities, gross $ (18,482) $ (1,769)
OTTI on fixed maturities recognized in Other comprehensive income (pre-tax) 2,801 90
OTTI on fixed maturities, net (15,681) (1,679)
Gross realized gains excluding OTTI 28,649 20,804
Gross realized losses excluding OTTI (11,885) (7,959)
Total fixed maturities 1,083 11,166
Equity securities:
OTTI on equity securities - (2)
Gross realized gains excluding OTTI 732 448
Gross realized losses excluding OTTI (58)
-Total equity securities 674 446
Investment and embedded derivative instruments (26,795) 11,638
Foreign exchange gains 1,942 3,690
Other investments – realized gains 862
Change in net unrealized (depreciation) and other on investments:
Fixed maturities available for sale $ (53,626) $ (141,756)
Fixed maturities held to maturity 112 (171)
Equity securities (40) 1
Short-term investments - (9)
Other investments 14,369 17,702
Income tax (expense) benefit (1,378) 2,087
Change in net unrealized (depreciation) and other on investments (40,563) (122,146)
Total net realized gains and change in net unrealized (depreciation) and other on
investments $ (62,797) $ (95,206)
The following table presents a roll-forward of pre-tax credit losses related to fixed maturities for which a portion of OTTI was recognized in OCI for the years ended December 31, 2014 and 2013.
2014 2013
(in thousands of U.S. dollars) Balance of credit losses related to securities still held-beginning of period $ 3,056 $ 2,882
Additions where no OTTI was previously recorded 10,822 1,075
Additions where an OTTI was previously recorded 124 429
Reductions for securities sold during the period (5,188) (1,330)
Balance of credit losses related to securities still held-end of period $ 8,814 $ 3,056 e) Net investment income
Investment income is mainly comprised of fixed maturities of $232.9 million (2013 – $220 million) offset by investment expense of ($13.1) million (2013 – ($10.8) million).
f) Other income
Other income is mainly comprised of equity in net income of owned insurance companies and partially-owned investment companies over which the Company exercises significant influence.
5. Variable interest entity
The Company entered into an excess of loss reinsurance agreement in 2003 on a block of long-term disability reinsurance. In accordance with the terms of the reinsurance agreement a separate trust has been established for the benefit of the ceding company. Upon the expiration of the reinsured liabilities, the Company is entitled to the remainder of the assets, less a $2 million margin. The Company absorbs the majority of the expected losses and receives a majority of the expected residual returns on investment results of the trust assets. These consolidated financial statements include the trust assets and a corresponding deposit liability with an aggregate value of $240 million (2013 – $213 million). The assets are primarily included in Fixed maturities available for sale. The Company’s estimate of its direct liability under the excess of loss reinsurance agreement is reflected in Unpaid losses and loss expenses.
6. Unpaid losses and loss expenses
The reserves for unpaid losses and loss expenses represents estimated ultimate losses and loss expenses less paid losses and loss expenses and is comprised of the following at December 31, 2014 and 2013:
2014 2013
(in thousands of U.S. dollars)
Case and loss expense reserve $ 156,684 $ 132,001
IBNR loss reserve 1,762,147 2,012,944
The Company establishes reserves for the estimated unpaid ultimate liability for losses and loss expenses under the terms of its policies and agreements. Reserves include estimates for both claims that have been reported and for IBNR, and include estimates of expenses associated with processing and settling these claims. Reserves are recorded in Unpaid losses and loss expenses in the consolidated balance sheets. The process of establishing loss and loss expense reserves for property and casualty claims can be complex and is subject to considerable uncertainty as it requires the use of informed estimates and judgments. The Company’s estimates and judgments may be revised as additional experience and other data become available and are reviewed, as new or improved methodologies are developed, or as current laws change.
The Company continually evaluates its estimates of reserves in light of developing information and in light of discussions and negotiations with its insureds. While the Company believes that its reserves for unpaid losses and loss expenses at December 31, 2014 are adequate, new information or trends may lead to future developments in ultimate losses and loss expenses significantly greater or less than the reserves provided. Any such revisions could result in future changes in estimates of losses or reinsurance recoverable, and would be reflected in the Company’s results of operations in the period in which the estimates are changed.
The following table presents a reconciliation of unpaid losses and loss expenses for the years ended December 31, 2014 and 2013:
2014 2013
(in thousands of U.S. dollars)
Gross unpaid losses and loss expenses, beginning of year $ 2,144,945 $ 2,227,261
Reinsurance recoverable on unpaid losses (528,915) (600,807)
Net unpaid losses and loss expenses, beginning of year 1,616,030 1,626,454
Net losses and loss expenses incurred in respect of losses occurring in:
Current year 218,582 191,769
Prior years (146,622) (45,173)
Total 71,960 146,596
Net losses and loss expenses paid in respect of losses occurring in:
Current year (15,500) (9,543)
Prior years (203,418) (144,445)
Total (218,918) (153,988)
Other movements:
Value of reinsurance business assumed (2,906) (2,972)
Foreign exchange revaluation 1,455 35
Other (134) (95)
Total (1,585) (3,032)
Net unpaid losses and loss expenses, end of year $ 1,467,487 $ 1,616,030
Represented by:
Gross unpaid losses and loss expenses, end of year $ 1,918,831 $ 2,144,945
Reinsurance recoverable on unpaid losses (451,344) (528,915)
$ 1,467,487 $ 1,616,030
As indicated in the table above, the prior period development for loss and loss expenses was net favorable of $146.6 million in 2014. Significant developments underlying this result are favorable development of $11.9 million in short-tailed lines and favorable development of $134.7 million in long-tailed lines. Favorable developments arise primarily from lack of emergence of newly reported claims and favorable development on known claims.
development in long-tailed lines is mainly due to favorable development on known claims and a lack of emergence of newly reported claims offset by unfavorable development on a specific contract.
7. Reinsurance
The Company purchases reinsurance to manage various exposures including catastrophe risks. Although reinsurance agreements contractually obligate the Company’s reinsurers to reimburse it for the agreed-upon portion of its gross paid losses, they do not discharge the primary liability of the Company. The following table presents direct, assumed, and ceded premiums for the years ended December 31, 2014 and 2013:
2014 2013
Premiums written (in thousands of U.S. dollars)
Direct $ 350,398 $ 363,254 Assumed 129,299 119,597 Ceded (141,328) (142,509) Net $ 338,369 $ 340,342 Premiums earned Direct $ 353,543 $ 359,753 Assumed 127,478 109,432 Ceded (142,003) (140,221) Net $ 339,018 $ 328,964
The Company evaluates the financial condition of its reinsurers and potential reinsurers on a regular basis and also monitors concentrations of credit risk with reinsurers. The composition of the Company’s reinsurance recoverable at December 31, 2014 and 2013 is as follows:
2014 2013
(in thousands of U.S. dollars)
Reinsurance recoverable on paid losses and loss expenses $ 38,378 $ 14,740
Reinsurance recoverable on unpaid losses and loss expenses 451,344 528,915
Total reinsurance recoverable $ 489,722 $ 543,655
The following table presents a listing, at December 31, 2014, of the categories of the Company’s reinsurers. The first category, largest reinsurers, represents all reinsurers where the gross recoverable exceeds one percent of the Company’s total shareholder’s equity. The provision for uncollectible reinsurance for the largest reinsurers, other reinsurers rated A- or better, and other reinsurers with ratings lower than A- is principally based on an analysis of the credit quality of the reinsurer and collateral balances. The Company establishes its provision for uncollectible reinsurance in this category based on a case by case analysis of individual situations including the merits of the underlying matter, credit and collateral analysis, and consideration of the Company’s collection experience in similar situations. Reinsurance recoverables include $4.2 million supported by funds held in trust accounts.
2014 Provision % of Gross Categories (in thousands of U.S. dollars, except percentages)
Largest reinsurers $ 314,083 $ 3,876 1.2%
Other reinsurers balances rated A- or better 143,673 2,653 1.8%
Other reinsurers balances with ratings lower than A- or not rated 1,757 1,640 93.3%
Total $ 459,513 $ 8,169 1.8%
Largest reinsurers
ACE Group Munich Reinsurance Group
8. Commitments, contingencies, and guarantees a) Derivative instruments
The Company maintains positions in derivative instruments such as futures, options, and foreign currency forward contracts for which the primary purposes are to manage duration and foreign currency exposure, yield enhancement, or to obtain an exposure to a particular financial market. The Company also maintains positions in convertible securities that contain embedded derivatives. Investment derivative instruments are recorded in either Other assets (OA) or Accounts payable, accrued expenses, and other liabilities (AP), convertible bonds are recorded in Fixed maturities available for sale (FM AFS) and convertible equity securities are recorded in Equity securities (ES) in the consolidated balance sheets. These are the most numerous and frequent derivative transactions.
In addition, the Company from time to time purchases to be announced mortgage-backed securities (TBAs) as part of its investing activities.
The following table presents the balance sheet locations, fair values of derivative instruments in an asset or (liability) position, and notional values/payment provisions of our derivative instruments:
2014 2013
Consolidated Balance
Sheet Location
Fair Value Notional Value/ Payment Provision Consolidated Balance Sheet Location
Fair Value Notional Value/ Payment Provision Derivative Asset Derivative (Liability) Derivative Asset Derivative (Liability) (in thousands of U.S. dollars) (in thousands of U.S. dollars) Investment and embedded derivative
instruments
Foreign currency forward contracts OA / (AP) $ 810 $ (6) $ 31,879 OA / (AP) $ 3 $ (63) $ 8,835 Futures contracts on money market
instruments OA / (AP) 79 (101) 1,044,000 OA / (AP) 418 - 341,000
Options/Futures contracts on notes
and bonds OA / (AP) 699 (5,038) 272,300 OA / (AP) 2,377 - 134,600
Convertible securities FM AFS/ES 60,063 - 64,256 FM AFS/ES 62,425 - 57,250
$ 61,651 $ (5,145) $ 1,412,435 $ 65,223 $ (63) $ 541,685
At December 31, 2014 net derivative liabilities of $3.6 million and at December 31, 2013 net derivative assets of $2.7 million included in the table above were subject to a master netting agreement. The remaining derivatives included in the table above were not subject to a master netting agreement.
The following table presents net realized (losses) gains related to derivative instrument activity in the consolidated statement of operations for the years ended December 31, 2014 and 2013:
2014 2013
(in thousands of U.S. dollars) Investment and embedded derivative instruments
Foreign currency forward contracts $ 3,393 $ (297)
Futures contracts and options (24,842) 11,400
Convertible securities (5,346) 535
$ (26,795) $ 11,638
Derivative instrument objectives
(i) Foreign currency exposure management
(ii) Duration management and market exposure Futures
Futures contracts give the holder the right and obligation to participate in market movements, determined by the index or underlying security on which the futures contract is based. Settlement is made daily in cash by an amount equal to the change in value of the futures contract times a multiplier that scales the size of the contract. Exchange-traded futures contracts on money market instruments, notes and bonds are used in fixed maturity portfolios to more efficiently manage duration, as substitutes for ownership of the money market instruments, bonds and notes without significantly increasing the risk in the portfolio. Investments in futures contracts may be made only to the extent that there are assets under management not otherwise committed.
Options
An option contract conveys to the holder the right, but not the obligation, to purchase or sell a specified amount or value of an underlying security at a fixed price. Option contracts are used in the investment portfolio as protection against unexpected shifts in interest rates, which would affect the duration of the fixed maturity portfolio. By using options in the portfolio, the overall interest rate sensitivity of the portfolio can be reduced. Option contracts may also be used as an alternative to futures contracts in the Company’s synthetic strategy as described above. The price of an option is influenced by the underlying security, expected volatility, time to expiration, and supply and demand. The credit risk associated with the above derivative financial instruments relates to the potential for non-performance by counterparties. Although non-non-performance is not anticipated, in order to minimize the risk of loss, management monitors the creditworthiness of its counterparties and obtains collateral. The performance of exchange-traded instruments is guaranteed by the exchange on which they trade. For non-exchange-traded instruments, the counterparties are principally banks which must meet certain criteria according to the Company’s investment guidelines.
(iii) Convertible security investments
A convertible security is a debt instrument or preferred stock that can be converted into a predetermined amount of the issuer’s equity. The convertible option is an embedded derivative within the host instruments which are classified in the investment portfolio as either available for sale or as an equity security. The Company purchases convertible securities for their total return and not specifically for the conversion feature.
(iv) TBA
By acquiring TBAs, we make a commitment to purchase a future issuance of mortgage-backed securities. For the period between purchase of the TBAs and issuance of the underlying security, we account for our position as a derivative in the consolidated financial statements. The Company purchases TBAs both for their total return and for the flexibility they provide related to our mortgage-backed security strategy.
b) Concentrations of credit risk
The investment portfolio is managed following prudent standards of diversification. Specific provisions limit the allowable holdings of a single issuer and issuers. The Company believes that there are no significant concentrations of credit risk associated with its investments.
c) Letter of credit
This facility requires that ACE and/ or certain of its subsidiaries continue to maintain certain covenants, all of which have been met at December 31, 2014.
d) Restricted assets
Included in available for sale fixed maturity securities are assets which have been used as collateral for certain undertakings of the Company. At December 31, 2014, there was $372.7 million in restricted assets held in trust accounts.
e) Legal proceedings Claims and other litigation
The Company is subject to claims litigation (more specifically arbitrations) involving disputed interpretations of policy coverages and, in some jurisdictions, direct actions by third parties seeking damages from policyholders. Such contentious matters involving claims on policies issued by the Company, which are typical to the insurance industry in general and in the normal course of business, are considered in the Company’s loss and loss expense reserves. In addition to contentious claims, the Company is at times subject to lawsuits and regulatory actions in the normal course of business that do not arise from or directly relate to claims on insurance policies. This category of business litigation typically involves, among other things, allegations of underwriting errors or misconduct, employment claims, regulatory activity or disputes arising from business ventures. Although the outcomes of any such business litigation involving the Company cannot be predicted with certainty, the Company disputes and will continue to dispute allegations against it that are without merit and believes that the ultimate outcomes of any existing or potential matters in this category of business litigation will not have a material adverse effect on the financial condition, future operating results or liquidity of the Company.
9. Fair value measurements Fair value hierarchy
Fair value of financial assets and financial liabilities is estimated based on the framework established in the fair value accounting guidance. The guidance defines fair value as the price to sell an asset or transfer a liability (an exit price) in an orderly transaction between market participants and establishes a three-level valuation hierarchy based on the reliability of the inputs. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data.
The three levels of the hierarchy are as follows:
Level 1 Unadjusted quoted prices for identical assets or liabilities in active markets;
Level 2 Includes, among other items, inputs other than quoted prices that are observable for the asset or liability such as interest rates and yield curves, quoted prices for similar assets and liabilities in active markets, and quoted prices for identical or similar assets and liabilities in markets that are not active; and
Level 3 Inputs that are unobservable and reflect management’s judgments about assumptions that market participants would use in pricing an asset or liability.
We categorize financial instruments within the valuation hierarchy at the balance sheet date based upon the lowest level of inputs that are significant to the fair value measurement. Accordingly, transfers between levels within the valuation hierarchy occur when there are significant changes to the inputs, such as increases or decreases in market activity, changes to the availability of current prices, changes to the transparency to underlying inputs, and whether there are significant variances in quoted prices. Transfers in and/or out of any level are assumed to occur at the end of the period.
the valuation techniques and inputs used to determine fair values for financial instruments carried at fair value, as well as the general classification of such financial instruments pursuant to the valuation hierarchy.
Fixed maturities
We use pricing services to estimate fair value measurements for the majority of our fixed maturities. The pricing services use market quotations for fixed maturities that have quoted prices in active markets; such securities are classified within Level 1. For fixed maturities other than U.S. Treasury securities that generally do not trade on a daily basis, the pricing services prepare estimates of fair value measurements using their pricing applications, which include available relevant market information, benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. Additional valuation factors that can be taken into account are nominal spreads, dollar basis, and liquidity adjustments. The pricing services evaluate each asset class based on relevant market and credit information, perceived market movements, and sector news. The market inputs used in the pricing evaluation, listed in the approximate order of priority include: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and industry and economic events. The extent of the use of each input is dependent on the asset class and the market conditions. Given the asset class, the priority of the use of inputs may change or some market inputs may not be relevant. Additionally, fixed maturities valuation is more subjective when markets are less liquid due to the lack of market based inputs (i.e., stale pricing), which may increase the potential that an investment’s estimated fair value is not reflective of the price at which an actual transaction would occur. The overwhelming majority of fixed maturities are classified within Level 2 because the most significant inputs used in the pricing techniques are observable. For a small number of fixed maturities, we obtain a single broker quote (typically a market maker). Due to the disclaimers on the quotes that indicate that the price is indicative only, we include these fair value estimates in Level 3.
Equity securities
Equity securities with active markets are classified within Level 1 as fair values are based on quoted market prices. For equity securities in markets which are less active, fair values are based on market valuations and are classified within Level 2.
Short-term investments
Short-term investments, which comprise securities due to mature within one year of the date of purchase that are traded in active markets, are classified within Level 1 as fair values are based on quoted market prices. Securities such as commercial paper and discount notes are classified within Level 2 because these securities are typically not actively traded due to their approaching maturity and, as such, their cost approximates fair value.
Securities lending collateral
The underlying assets included in Securities lending collateral in the consolidated balance sheets are fixed maturities which are classified in the valuation hierarchy on the same basis as other fixed maturities. Excluded from the valuation hierarchy is the corresponding liability related to the Company’s obligation to return the collateral plus interest as it is reported at contract value and not fair value in the consolidated balance sheets.
Other investments
Fair values for the majority of Other investments including investments in partially-owned investment companies, investment funds, and limited partnerships are based on their respective net asset values or equivalent (NAV). The majority of these investments, for which NAV was used as a practical expedient to measure fair value, are classified within Level 3 because either the Company will never have the contractual option to redeem the investments or will not have the contractual option to redeem the investments in the near term. The remainder of such investments is classified within Level 2.
Investment derivative instruments
The following table presents, by valuation hierarchy, the financial instruments measured at fair value on a recurring basis, as of December 31, 2014, and December 31, 2013:
Quoted Prices in Active Markets for Identical Assets or Liabilities Level 1 Significant Other Observable Inputs Level 2 Significant Unobservable Inputs Level 3 Total
December 31, 2014 (in thousands of U.S. dollars)
Assets:
Fixed maturities available for sale
U.S. Treasury and agency $ 207,983 $ 81,570 $ - $ 289,553
Foreign - 508,552 555 509,107
Corporate securities - 2,406,277 27,996 2,434,273
Mortgage-backed securities - 664,696 451 665,147
States, municipalities, and political
subdivisions - 128,188 - 128,188
207,983 3,789,283 29,002 4,026,268
Equity securities - 2,422 - 2,422
Short-term investments 120,399 - - 120,399
Investment derivative instruments 1,588 - - 1,588
Other investments - 14,842 651,864 666,706
Securities lending collateral - 160,090 - 160,090
Total assets measured at fair value $ 329,970 $ 3,966,637 $ 680,866 $ 4,977,473
There was $5.1 million in Investment derivative liability instruments classified as Level 1 as of the year ended December 31, 2014. There were no significant transfers between Level 1 and Level 2 during the year ended December 31, 2014.
Quoted Prices in Active Markets for Identical Assets or Liabilities Level 1 Significant Other Observable Inputs Level 2 Significant Unobservable Inputs Level 3 Total
December 31, 2013 (in thousands of U.S. dollars)
Assets:
Fixed maturities available for sale
U.S. Treasury and agency $ 206,784 $ 112,515 $ - $ 319,299
Foreign - 457,784 1,910 459,694
Corporate securities - 2,708,676 44,497 2,753,173
Mortgage-backed securities - 781,705 590 782,295
States, municipalities, and political
subdivisions - 141,437 - 141,437
206,784 4,202,117 46,997 4,455,898
Equity securities - 5,683 - 5,683
Short-term investments 63,452 - - 63,452
Investment derivative instruments 2,798 - - 2,798
Other investments - 14,458 565,322 579,780
Securities lending collateral - 244,850 - 244,850
Total assets measured at fair value $ 273,034 $ 4,467,108 $ 612,319 $ 5,352,461
There was $0.06 million in Investment derivative liability instruments classified as Level 1 as of the year ended December 31, 2013. There were no significant transfers between Level 1 and Level 2 during the year ended December 31, 2013.
Fair value of alternative investments
expedient. At December 31, 2014 and 2013, there were no probable or pending sales related to any of the investments measured at fair value using NAV.
The following table presents, by investment category, the expected liquidation period, fair value, and maximum future funding commitments of alternative investments:
December 31, 2014 December 31, 2013 Expected
Liquidation Period
of Underlying Assets Fair Value
Maximum Future Funding Commitments Fair Value Maximum Future Funding Commitments (in thousands of U.S. dollars)
Financial 5 to 9 Years $ 91,578 $ 47,485 $ 83,893 $ 40,949
Distressed 5 to 9 Years 65,344 47,521 31,610 49,000
Mezzanine 3 to 7 Years 76,389 60,353 63,220 80,636
Traditional 3 to 9 Years 295,890 127,276 246,083 126,527
Vintage 1 to 2 Years 2,493 - 2,854
-Investment funds Not Applicable 125,993 - 142,655
-$ 657,687 $ 282,635 $ 570,315 $ 297,112
Included in all categories in the above table except for Investment funds are investments for which the Company will never have the contractual option to redeem but receives distributions based on the liquidation of the underlying assets. Further, for all categories except for Investment funds, the Company does not have the ability to sell or transfer the investments without the consent from the general partner of individual funds.
Investment funds
The Company’s investment funds employ various investment strategies such as long/short equity and arbitrage/distressed. Included in this category are investments for which the Company has the option to redeem at agreed upon value as described in each investment fund’s subscription agreement. Depending on the terms of the various subscription agreements, investment fund investments may be redeemed monthly, quarterly, semi-annually, or annually. If the Company wishes to redeem an investment fund investment, it must first determine if the investment fund is still in a lock-up period (a time when the Company cannot redeem its investment so that the investment fund manager has time to build the portfolio). If the investment fund is no longer in its lock-up period, the Company must then notify the investment fund manager of its intention to redeem by the notification date prescribed by the subscription agreement. Subsequent to notification, the investment fund can redeem the Company’s investment within several months of the notification. Notice periods for redemption of the investment funds range between 5 and 120 days. The Company can redeem its investment funds without consent from the investment fund managers.
Level 3 financial instruments
The fair values of assets measured at fair value using significant unobservable inputs (Level 3) consist of various inputs and assumptions that management makes when determining fair value. Management analyzes changes in fair value measurements classified within Level 3 by comparing pricing and returns of our investments to benchmarks, including month-over-month movements, investment credit spreads, interest rate movements, and credit quality of securities.
Investment Category Consists of investments in private equity funds:
Financial targeting financial services companies such as financial institutions and insurance services worldwide
Distressed targeting distressed debt/credit and equity opportunities in the U.S.
Mezzanine targeting private mezzanine debt of large-cap and mid-cap companies in the U.S. and worldwide
Traditional employing traditional private equity investment strategies such as buyout and growth equity globally
The following table presents a reconciliation of the beginning and ending balances of financial instruments carried or disclosed at fair value using significant unobservable inputs (Level 3) for the year ended December 31, 2014 and 2013:
Year Ended December 2014 Available-for-Sale Debt Securities
Foreign Corporate securities MBS Short term investments Other investments Balance-Beginning of year $ 1,910 $ 44,497 $ 590 $ - $ 565,322
Transfers into (out of) Level 3 (825) (763) - -
-Change in Net Unrealized Gains (Losses)
included in OCI 26 (1,426) (9) - 15,063
Net Realized Gains/Losses (85) (2,440) - - (1,122)
Purchases 565 11,110 - - 74,401
Sales (336) (20,601) - -
-Settlements (700) (2,381) (130) - (1,800)
Balance-End of year $ 555 $ 27,996 $ 451 $ - $ 651,864
There was ($3.7) million recorded in Net realized gains (losses) attributable to changes in fair value at the balance sheet date.
Year Ended December 2013 Available-for-Sale Debt Securities
Foreign Corporate securities MBS Short term investments Other investments Balance-Beginning of year $ 2,094 $ 19,047 $ 731 $ - $ 462,275
Transfers into (out of) Level 3 - 907 - 593
-Change in Net Unrealized Gains (Losses)
included in OCI (61) (11) (15) 3 16,585
Net Realized Gains/Losses - (745) - (1)
-Purchases - 29,027 - 30 87,262
Sales - (2,455) - (625)
-Settlements (123) (1,273) (126) - (800)
Balance-End of year $ 1,910 $ 44,497 $ 590 $ - $ 565,322
There were no Net realized gains (losses) attributable to changes in fair value at the balance sheet date. Financial instruments disclosed, but not measured, at fair value
The Company uses various financial instruments in the normal course of its business. Our insurance contracts are excluded from fair value of financial instruments accounting guidance. The carrying values of cash, other assets, other liabilities, and other financial instruments approximated their fair values. Fair values for investments in partially-owned insurance companies are based on the Company’s share of the net assets based on the financial statements provided by those companies.
