• | | Retail U.S. individual variable annuity account values have declined over the past year due to declines in the equity markets and due to negative net flows as a result of increased competition. Offsetting these declines were:
• | | Positive net sales in Retail Mutual funds as a result of diversified sales growth. | | • | | PositiveRetail Mutual funds has seen positive net flows in Retirement Plans driven by strong sales. | | • | | An increasesales as a result of $18.7 billion in Retirement Plans mutual funds from the acquired rights of Sun Life Retirement Services, Inc., and Princeton Retirement Group, both of which closed in the first quarter of 2008.diversified sales growth. | | • | | Individual Life in-force growth has occurred across multiple product lines, including variable universal life, guaranteed universal life and other. | | • | | PositiveVariable universal life account values have declined due to declining equity markets. | | • | | Retirement Plans group annuities has seen positive net flows driven by strong sales. | | • | | Retirement Plans mutual funds reflects an increase of $18.7 billion in Retirement Plans mutual funds from the acquisition of servicing rights of Sun Life Retirement Services, Inc., and Princeton Retirement Group, both of which closed in the first quarter of 2008. Net sales for the three and six months ended June 30, 2008 reflect expected outflows on the acquired business. | | • | | International — Japan Annuities has seen positive net flows offset by fluctuations in equity markets and a strengthening of the yen versus the dollar.currency exchange rates. |
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Net Investment Spread Management evaluates performance of certain products based on net investment spread. These products include those that have insignificant mortality risk, such as fixed annuities, certain general account universal life contracts and certain institutional contracts. Net investment spread is determined by taking the difference between the earned rate and the related crediting rates on average general account assets under management. The net investment spreads shown below are for the total portfolio of relevant contracts in each segment and reflect business written at different times. When pricing products, the Company considers current investment yields and not the portfolio average. Net investment spread can be volatile period over period, which can have a significant positive or negative effect on the operating results of each segment. The volatile nature of net investment spread is driven primarily by prepayment premiums on securities and earnings on partnership investments. Net investment spread is calculated as a percentage of general account assets and expressed in basis points (“bps”): | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | Retail — Individual Annuity | | | 128.1 | bps | | | 179.2 | bps | | 138.5 bps | | 184.1 bps | | 133.3 bps | | 181.9 bps | Individual Life | | | 137.4 bps | | 137.0 bps | | 131.5 bps | | 128.4 bps | Retirement Plans | | | 134.6 | bps | | | 166.2 | bps | | 141.6 bps | | 170.1 bps | | 138.4 bps | | 168.4 bps | Institutional (GIC’s, Funding Agreements, Funding Agreement Backed Notes and Consumer Notes) | | | 83.9 | bps | | | 108.6 | bps | | 85.1 bps | | 91.9 bps | | 84.5 bps | | 95.7 bps | Individual Life | | | 125.5 | bps | | | 119.9 | bps | |
• | | Retail individual annuity, Retirement Plans and Institutional net investment spreads decreased primarily due to lower yields on invested assets, in particular limited partnerships and alternative investments. Retail individual annuity and Retirement Plans declines also are impacted by decreases in interest rates. | | • | | Individual Life net investment spread increased due to lower credited rates on the liability in 2008 partially offset by lower earned rates on invested assets primarily due to declines in partnership income. |
Premiums Traditional insurance type products, such as those sold by Group Benefits, collect premiums from policyholders in exchange for financial protection for the policyholder from a specified insurable loss, such as death or disability. These premiums together with net investment income earned from the overall investment strategy are used to pay the contractual obligations under these insurance contracts. Two major factors, new sales and persistency, impact premium growth. Sales can increase or decrease in a given year based on a number of factors, including but not limited to, customer demand for the Company’s product offerings, pricing competition, distribution channels and the Company’s reputation and ratings. A majority of sales correspond with the open enrollment periods of employers’ benefits, typically January 1 or July 1. Persistency is the percentage of insurance policies remaining in-force from year-to-yearyear-to-year. | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | Group Benefits | | 2008 | | | 2007 | | | 2008 | | | 2007 | | Total premiums and other considerations | | $ | 1,100 | | | $ | 1,091 | | | $ | 2,174 | | | $ | 2,176 | | Fully insured ongoing sales (excluding buyouts) | | $ | 135 | | | $ | 119 | | | $ | 516 | | | $ | 505 | |
Total premiums and other considerations include $15 and $26, in buyout premiums for the three and six months ended June 30, 2007, respectively. Total premiums and other considerations, excluding buyouts, were up slightly for the three and six months ended June 30, 2008 as measuredincreases in sales and persistency were offset by premiums.lower premiums in the medical stop loss business as a result of the renewal rights transaction that closed during the second quarter of 2007. | | | | | | | | | | | Three Months Ended | | | | March 31, | | Group Benefits | | 2008 | | | 2007 | | Total premiums and other considerations | | $ | 1,074 | | | $ | 1,085 | | Fully insured ongoing sales (excluding buyouts) | | $ | 381 | | | $ | 386 | |
• | | Total premiums and other considerations include $0 and $11, in buyout premiums for the three months ended March 31, 2008 and 2007, respectively. Total premiums and other considerations, excluding buyouts, were flat for the three months ended March 31, 2008 as increases in sales and persistency were offset by lower premiums in the medical stop loss business as a result of the renewal rights transaction that closed during the second quarter of 2007. | | • | | Fully insured ongoing sales, excluding buyouts, were down slightly for the three months ended March 31, 2008, primarily due to the decline in sales related to the 2007 medical stop loss business renewal rights transaction. |
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Expenses There are three major categories for expenses. The first major category of expenses is benefits and losses. These include the costs of mortality and morbidity, particularly in the group benefits business, and mortality in the individual life businesses, as well as other contractholder benefits to policyholders. In addition, traditional insurance type products generally use a loss ratio which is expressed as the amount of benefits incurred during a particular period divided by total premiums and other considerations, as a key indicator of underwriting performance. Since Group Benefits occasionally buys a block of claims for a stated premium amount, the Company excludes this buyout from the loss ratio used for evaluating the underwriting results of the business as buyouts may distort the loss ratio. The second major category is insurance operating costs and expenses, which is commonly expressed in a ratio of a revenue measure depending on the type of business. The third major category is the amortization of deferred policy acquisition costs and the present value of future profits, which is typically expressed as a percentage of pre-tax income before the cost of this amortization (an approximation of actual gross profits). Retail individual annuity business accounts for the majority of the amortization of deferred policy acquisition costs and present value of future profits for Life. | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | | | | Retail | | | General insurance expense ratio (individual annuity) | | | 16.8 | bps | | | 16.4 | bps | | 21.2 | bps | | 18.7 | bps | | 18.6 | bps | | 17.4 | bps | DAC amortization ratio (individual annuity) | | | 47.5 | % | | | 45.6 | % | | DAC amortization ratio (individual annuity) [1] | | | | 42.7 | % | | | 45.5 | % | | | 43.3 | % | | | 46.1 | % | Insurance expenses, net of deferrals | | $ | 312 | | $ | 273 | | | $ | 327 | | $ | 311 | | $ | 639 | | $ | 584 | | | | | | | | | | | | | | | | | | | | Individual Life | | | Death benefits | | $ | 91 | | $ | 70 | | | $ | 88 | | $ | 74 | | $ | 179 | | $ | 144 | | Insurance expenses, net of deferrals | | 47 | | 48 | | | 51 | | 49 | | 98 | | 97 | | | | | | | | | | | | | | | | | | | | Group Benefits | | | Total benefits, losses and loss adjustment expenses | | $ | 788 | | $ | 806 | | | $ | 811 | | $ | 793 | | $ | 1,599 | | $ | 1,599 | | Loss ratio (excluding buyout premiums) | | | 73.4 | % | | | 74.0 | % | | | 73.7 | % | | | 72.3 | % | | | 73.6 | % | | | 73.2 | % | Insurance expenses, net of deferrals | | $ | 285 | | $ | 289 | | | $ | 270 | | $ | 274 | | $ | 555 | | $ | 563 | | Expense ratio (excluding buyout premiums) | | | 27.7 | % | | | 28.5 | % | | | 25.8 | % | | | 27.1 | % | | | 26.8 | % | | | 27.8 | % | | | | | | | | | | | | | | | | | | | International — Japan | | | General insurance expense ratio | | | 41.8 | bps | | | 41.1 | bps | | 47.7 | bps | | 45.7 | bps | | 45.4 | bps | | 43.7 | bps | DAC amortization ratio | | | 38.3 | % | | | 37.2 | % | | DAC amortization ratio [2] | | | | 39.3 | % | | | 37.5 | % | | | 39.2 | % | | | 37.3 | % | Insurance expenses, net of deferrals | | $ | 53 | | $ | 42 | | | $ | 58 | | $ | 44 | | $ | 111 | | $ | 86 | | | | | | | | |
| | | [1] | | Excludes the effects of realized gains and losses. | | [2] | | Excludes the effects of realized gains and losses except for net periodic settlements. Included in the net realized capital gains (losses) are amounts that represent the net periodic accruals on currency rate swaps used in the risk management of Japan fixed annuity products. |
• | | The Retail DAC amortization ratio (individual annuity) increased for the three months ended March 31, 2008,decreased, primarily due to higher amortization rates on realized capital losses, associated with the adoption of SFAS 157. For further discussioneffects of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements.2007 unlock. | | • | | Retail insurance expenses, net of deferrals, increased due to increasing trail commissions on growing variable annuity assets as well as increasing non-deferrable commissions on strong mutual fund deposits. | | • | | Retail — individual annuity’s general insurance expense ratio has increased as general insurance expenses increased while individual annuity assets declined due to declining equity markets. | | • | | Individual Life death benefits increased, for the three months ended March 31, 2008, primarily due to a larger life insurance in-force and unfavorable mortality compared to the prior year period. | | • | | Group Benefits loss ratio (excluding buyout premiums) declined due toincreased as unfavorable group life mortality more than offset favorable morbidity and medical stop loss experience, partially offset by higher mortality losses. The favorable medical stop loss experience was primarily due to a strengthening of these reserves by $8, after-tax, during the first quarter of 2007.in group disability. | | • | | Group Benefits expense ratio, excluding buyouts decreased for the three months ended March 31, 2008 as compared to the prior year period primarily due to lower commission expenses driven by the decline in the medical stop loss business following the 2007 renewal rights transaction.financial institution business. | | • | | International — Japan DAC amortization ratio increased due to actual gross profits being less than expected resulting in negative true-ups and a higher DAC amortization rate. | | • | | International — Japan insurance expenses, net of deferrals, increased forand the three months ended March 31, 2008general insurance expense ratio increased due to growth and strategic investment in the Japan operation. |
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Profitability Management evaluates the rates of return various businesses can provide as an input in determining where additional capital should be invested to increase net income and shareholder returns. The Company uses the return on assets for the individual annuity business for evaluating profitability. In Group Benefits and Individual Life, after-tax margin is a key indicator of overall profitability. | | | | | | | | | | | Three Months Ended | | | | March 31, | | Ratios | | 2008 | | | 2007 | | Retail | | | | | | | | | Individual annuity return on assets (“ROA”) | | | (29.1 | ) bps | | | 59.3 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | | (85.0 | ) bps | | | 2.7 | bps | | | | | | | | ROA excluding realized gains (losses) | | | 55.9 | bps | | | 56.6 | bps | | | | | | | | Retirement Plans | | | | | | | | | Retirement Plans ROA | | | (5.3 | ) bps | | | 34.7 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | | (24.2 | ) bps | | | (1.6 | ) bps | | | | | | | | ROA excluding realized gains (losses) | | | 18.9 | bps | | | 36.3 | bps | | | | | | | | Institutional | | | | | | | | | Institutional ROA | | | (78.0 | ) bps | | | 25.2 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | | (92.3 | ) bps | | | (1.5 | ) bps | | | | | | | | ROA excluding realized gains (losses) | | | 14.3 | bps | | | 26.7 | bps | | | | | | | | Individual Life | | | | | | | | | After-tax margin | | | 7.8 | % | | | 17.6 | % | Effect of net realized gains (losses), net of tax and DAC on after-tax margin [1] | | | (6.3 | %) | | | 1.6 | % | | | | | | | | After-tax margin excluding realized gains (losses) | | | 14.1 | % | | | 16.0 | % | | | | | | | | Group Benefits | | | | | | | | | After-tax margin (excluding buyouts) | | | 4.0 | % | | | 5.8 | % | Effect of net realized gains (losses), net of tax on after-tax margin [1] | | | (1.9 | %) | | | 0.1 | % | | | | | | | | After-tax margin excluding realized gains (losses) | | | 5.9 | % | | | 5.7 | % | | | | | | | | International — Japan | | | | | | | | | International — Japan ROA | | | 14.6 | bps | | | 74.8 | bps | Effect of net realized gains (losses) excluding net periodic settlements, net of tax and DAC on ROA [1] [2] | | | (58.5 | ) bps | | | (2.5 | ) bps | | | | | | | | ROA excluding realized gains (losses) | | | 73.1 | bps | | | 77.3 | bps | | | | | | | |
Ratios | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | 2008 | | | 2007 | | | | | | | | | | | | | | | | | | | Retail | | | | | | | | | | | | | | | | | Individual annuity return on assets (“ROA”) | | 53.4 | bps | | 33.0 | bps | | 10.8 | bps | | 45.5 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | (10.8 | )bps | | (24.3 | )bps | | (47.9 | )bps | | (10.8 | )bps | | | | | | | | | | | | | | ROA excluding realized gains (losses) | | 64.2 | bps | | 57.3 | bps | | 58.7 | bps | | 56.3 | bps | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Individual Life | | | | | | | | | | | | | | | | | After-tax margin | | | 10.5 | % | | | 15.2 | % | | | 9.2 | % | | | 16.4 | % | Effect of net realized gains (losses), net of tax and DAC on after-tax margin [1] | | | (3.4 | )% | | | (0.5 | )% | | | (4.8 | )% | | | 0.5 | % | | | | | | | | | | | | | | After-tax margin excluding realized gains (losses) | | | 13.9 | % | | | 15.7 | % | | | 14.0 | % | | | 15.9 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Retirement Plans | | | | | | | | | | | | | | | | | Retirement Plans ROA | | 26.6 | bps | | 41.9 | bps | | 13.8 | bps | | 38.2 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | (2.4 | )bps | | 3.0 | bps | | (13.2 | )bps | | 0.7 | bps | | | | | | | | | | | | | | ROA excluding realized gains (losses) | | 29.0 | bps | | 38.9 | bps | | 27.0 | bps | | 37.5 | bps | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Group Benefits | | | | | | | | | | | | | | | | | After-tax margin (excluding buyouts) | | | 5.3 | % | | | 7.0 | % | | | 4.7 | % | | | 6.4 | % | Effect of net realized gains (losses), net of tax on after-tax margin [1] | | | (1.7 | )% | | | (0.2 | )% | | | (1.8 | )% | | | (0.1 | )% | | | | | | | | | | | | | | After-tax margin excluding realized gains (losses) | | | 7.0 | % | | | 7.2 | % | | | 6.5 | % | | | 6.5 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | International — Japan | | | | | | | | | | | | | | | | | International — Japan ROA | | 71.6 | bps | | 56.5 | bps | | 43.8 | bps | | 65.8 | bps | Effect of net realized gains (losses) excluding net periodic settlements, net of tax and DAC on ROA [1] [2] | | 5.2 | bps | | (19.2 | )bps | | (27.0 | )bps | | (11.1 | )bps | | | | | | | | | | | | | | ROA excluding realized gains (losses) | | 66.4 | bps | | 75.7 | bps | | 70.8 | bps | | 76.9 | bps | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Institutional | | | | | | | | | | | | | | | | | Institutional ROA | | (19.4 | )bps | | 13.8 | bps | | (48.5 | )bps | | 19.4 | bps | Effect of net realized gains (losses), net of tax and DAC on ROA [1] | | (36.8 | )bps | | (9.5 | )bps | | (64.3 | )bps | | (5.6 | )bps | | | | | | | | | | | | | | ROA excluding realized gains (losses) | | 17.4 | bps | | 23.3 | bps | | 15.8 | bps | | 25.0 | bps | | | | | | | | | | | | | |
| | | [1] | | See “Realized Capital Gains and Losses by Segment” table within the Life Section of the MD&A. | | [2] | | Included in the net realized capital gain (losses) are amounts that represent the net periodic accruals on currency rate swaps used in the risk management of Japan fixed annuity products. |
• | | The increase in Retail — individual annuity ROA, excluding realized gains (losses), was primarily due to benefits associated with provision to filed return adjustments and changes in estimates associated with DRD and FTC. | | • | | The decrease in Individual Life’s after-tax margin, excluding realized gains (losses), was primarily due to unfavorable mortality and the implementation of a more efficient capital approach for our secondary guarantee universal life business, described further in Individual Life’s “Outlook” section of the MD&A. | | • | | The decrease in Retirement Plans ROA, excluding realized gains (losses), was primarily driven by an increase in assets under management due to the acquired rights to service $18.7 billion in mutual funds, comprised of $15.8 billion in mutual funds from Sun Life Retirement Services, Inc., and $2.9 billion in mutual funds from Princeton Retirement Group, both of which closed in the first quarter of 2008. These acquired businesses sell mutual fund products, which generate a lower ROA than Retirement Plans’ group annuity products. Also contributing to the decrease was a decline in partnership income and additional expenses associated with the acquisitions. Offsetting the decrease, were benefits associated with DRD provision to filed return adjustments and changes in estimates. | | • | | International-Japan ROA, excluding realized gains (losses), primarily declined due to lower market returns, which was a main driver for lower fees on lower surrenders and an increased DAC amortization rate. | | • | | The decrease in Institutional’s ROA, excluding realized gains (losses), is primarily due to a decrease in partnership income as well as increased mortality losses. | | • | | The decrease in Individual Life’s after-tax margin, excluding realized gains (losses), was primarily due to unfavorable mortality. | | • | | The increase in the Group Benefits after-tax margin, excluding buyouts, excluding realized gains (losses), was due primarily to lower commission expenses driven by the decline in the medical stop loss business following the 2007 renewal rights transaction associated with this business. | | • | | International-Japan ROA, excluding realized gains (losses), declined due to lower fees on lower surrenders and an increased DAC amortization rate.income. |
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| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Earned premiums | | $ | 1,229 | | | $ | 1,208 | | | | 2 | % | Fee income | | | 1,332 | | | | 1,278 | | | | 4 | % | Net investment income (loss) | | | | | | | | | | | | | Securities available-for-sale and other | | | 819 | | | | 852 | | | | (4 | %) | Equity securities, held for trading [1] | | | (3,578 | ) | | | 210 | | | NM | | | | | | | | | | | | Total net investment income (loss) | | | (2,759 | ) | | | 1,062 | | | NM | | Net realized capital gains (losses) | | | (1,220 | ) | | | 23 | | | NM | | | | | | | | | | | | Total revenues [2] | | | (1,418 | ) | | | 3,571 | | | NM | Benefits, losses and loss adjustment expenses | | | 1,718 | | | | 1,658 | | | | 4 | % | Benefits, losses and loss adjustment expenses — returns credited on International variable annuities [1] | | | (3,578 | ) | | | 210 | | | NM | | Amortization of deferred policy acquisition costs and present value of future profits | | | (55 | ) | | | 344 | | | NM | | Insurance operating costs and other expenses | | | 817 | | | | 767 | | | | 7 | % | | | | | | | | | | | Total benefits, losses and expenses | | | (1,098 | ) | | | 2,979 | | | NM | | Income (loss) before income taxes | | | (320 | ) | | | 592 | | | NM | | Income tax expense (benefit) | | | (165 | ) | | | 154 | | | NM | | | | | | | | | | | | Net income (loss) [3] | | $ | (155 | ) | | $ | 438 | | | NM | | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Earned premiums | | $ | 1,305 | | | $ | 1,245 | | | | 5 | % | | $ | 2,534 | | | $ | 2,453 | | | | 3 | % | Fee income | | | 1,381 | | | | 1,341 | | | | 3 | % | | | 2,713 | | | | 2,619 | | | | 4 | % | Net investment income (loss) | | | | | | | | | | | | | | | | | | | | | | | | | Securities, available-for-sale and other | | | 829 | | | | 884 | | | | (6 | %) | | | 1,648 | | | | 1,736 | | | | (5 | %) | Equity securities, held for trading [1] | | | 1,153 | | | | 1,234 | | | | (7 | %) | | | (2,425 | ) | | | 1,444 | | | NM | | | | | | | | | | | | | | | | | | | | | Total net investment income (loss) | | | 1,982 | | | | 2,118 | | | | (6 | %) | | | (777 | ) | | | 3,180 | | | NM | | Net realized capital losses | | | (228 | ) | | | (221 | ) | | | (3 | %) | | | (1,448 | ) | | | (198 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues [2] | | | 4,440 | | | | 4,483 | | | | (1 | %) | | | 3,022 | | | | 8,054 | | | | (62 | %) | Benefits, losses and loss adjustment expenses | | | 1,760 | | | | 1,724 | | | | 2 | % | | | 3,478 | | | | 3,382 | | | | 3 | % | Benefits, losses and loss adjustment expenses — returns credited on International variable annuities [1] | | | 1,153 | | | | 1,234 | | | | (7 | %) | | | (2,425 | ) | | | 1,444 | | | NM | | Amortization of deferred policy acquisition costs and present value of future profits | | | 285 | | | | 309 | | | | (8 | %) | | | 230 | | | | 653 | | | | (65 | %) | Insurance operating costs and other expenses | | | 863 | | | | 801 | | | | 8 | % | | | 1,680 | | | | 1,568 | | | | 7 | % | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 4,061 | | | | 4,068 | | | | — | | | | 2,963 | | | | 7,047 | | | | (58 | %) | Income before income taxes | | | 379 | | | | 415 | | | | (9 | %) | | | 59 | | | | 1,007 | | | | (94 | %) | Income tax expense (benefit) | | | 45 | | | | 97 | | | | (54 | %) | | | (120 | ) | | | 251 | | | NM | | | | | | | | | | | | | | | | | | | | | Net income [3] | | $ | 334 | | | $ | 318 | | | | 5 | % | | $ | 179 | | | $ | 756 | | | | (76 | %) | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Net investment income includes investment income and mark-to-market effects of equity securities, held for trading, supporting the international variable annuity business, which are classified in net investment income with corresponding amounts credited to policyholders. | | [2] | | The transition impact related to the SFAS 157 adoption was a reduction in revenues of $650.$650 for the six months ended June 30, 2008. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial StatementsStatements. | | [3] | | The transition impact related to the SFAS 157 adoption was a reduction in net income of $220.$220 for the six months ended June 30, 2008. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements. |
Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 The decreaseincrease in Life’s net income was due to the following: • | | Increased income on asset growth in Retirement Plans and International businesses. | | • | | Benefits related to the provision to filed return adjustments and revisions to estimates of the separate account dividends received deduction and foreign tax credit. | | • | | A charge of $21 recorded in the second quarter of 2007 for regulatory matters. |
Partially offsetting the increase in Life’s net income were the following: • | | Realized losses increased as compared to the comparable prior year periodsperiod primarily due to increased credit related impairments and realized losses on credit default swaps in 2008. Partially offsetting this increase were net losses from the adoption of SFAS 157, impairments and decreasesGMWB model assumption updates that were recorded in the value of credit derivatives due to credit spreads widening.second quarter. For further discussion, refer to the Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. | | • | | Declines in net investment income due to a decrease in investment yield for fixed maturities and declines in partnership income and other alternative investments. | | • | | Unfavorable mortality.mortality, primarily in Individual Life, as compared to 2007. |
Six months ended June 30, 2008 compared to the six months ended June 30, 2007 The decrease in Life’s net income was due to the following: • | | Declines in net investment income due to declines in partnership income and other alternative investments. | | • | | Realized losses increased as compared to the comparable prior year period primarily due to net losses from the adoption of SFAS 157 and credit impairments. For further discussion, refer to the Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. | | • | | Unfavorable mortality, primarily in Individual Life, as compared to 2007. |
Partially offsetting the decrease in Life’s net income were the following: • | | Increased income on asset growth in mutual funds, Retirement Plans and Institutional businesses and increased income on life insurance in-force growth in Individual Life.International businesses. | | • | | Lower DAC amortization as a resultBenefits from provision to filed return adjustments and revisions to estimates of the increaseseparate account dividends received deduction and foreign tax credit. | | • | | A charge of $21 recorded in net realized losses, as well as lower amortization from lower actual gross profits.the second quarter of 2007 for regulatory matters. |
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Realized Capital Gains and Losses by Segment Life includes net realized capital gains and losses in each reporting segment. Following is a summary of the types of realized gains and losses by segment: Net realized gains (losses) for the three months ended March 31,June 30, 2008 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Japanese | | | | | | | Japanese | | | | | | | | fixed | | Periodic net | | Total | | | fixed | | Periodic net | | Total | | | | annuity | | coupon | | gains/ | | | annuity | | coupon | | gains/ | | | | contract | | settlements on | | GMWB | | SFAS 157 | | losses, net | | | contract | | settlements on | | GMWB | | losses, net | | | | Gains/losses | | hedges, | | credit | | derivatives, | | Transition | | Other, | | of tax and | | | Gains/losses | | hedges, | | credit | | derivatives, | | Other, | | of tax and | | | | on sales, net | | Impairments | | net | | derivatives/Japan | | net | | Impact | | net | | Total | | DAC | | | on sales, net | | Impairments | | net | | derivatives/Japan | | net | | net | | Total | | DAC | | Retail | | $ | (4 | ) | | $ | (33 | ) | | $ | — | | $ | (1 | ) | | $ | (111 | ) | | $ | (616 | ) | | $ | 9 | | $ | (756 | ) | | $ | (262 | ) | | $ | (4 | ) | | $ | (31 | ) | | $ | — | | $ | (1 | ) | | $ | (15 | ) | | $ | (21 | ) | | $ | (72 | ) | | $ | (32 | ) | Individual Life | | | | (4 | ) | | | (5 | ) | | — | | | (1 | ) | | — | | | (13 | ) | | | (23 | ) | | | (13 | ) | Retirement Plans | | | (12 | ) | | | (27 | ) | | — | | | (1 | ) | | — | | — | | 4 | | | (36 | ) | | | (23 | ) | | | (2 | ) | | | (9 | ) | | — | | — | | — | | | (8 | ) | | | (19 | ) | | | (3 | ) | Institutional | | | (14 | ) | | | (106 | ) | | — | | — | | — | | — | | | (99 | ) | | | (219 | ) | | | (142 | ) | | Individual Life | | | (9 | ) | | | (27 | ) | | — | | — | | — | | — | | 2 | | | (34 | ) | | | (21 | ) | | Group Benefits | | | (6 | ) | | | (7 | ) | | — | | — | | — | | — | | | (23 | ) | | | (36 | ) | | | (24 | ) | | 4 | | | (33 | ) | | — | | — | | — | | | (8 | ) | | | (37 | ) | | | (23 | ) | International | | | (10 | ) | | | (21 | ) | | | (14 | ) | | | (7 | ) | | 1 | | | (34 | ) | | | (28 | ) | | | (113 | ) | | | (64 | ) | | | (1 | ) | | | (1 | ) | | | (9 | ) | | | (11 | ) | | 2 | | 22 | | 2 | | 3 | | Institutional | | | | (20 | ) | | | (45 | ) | | — | | 1 | | — | | | (23 | ) | | | (87 | ) | | | (56 | ) | Other | | | (12 | ) | | | (10 | ) | | — | | 2 | | — | | — | | | (6 | ) | | | (26 | ) | | | (14 | ) | | 23 | | — | | — | | 1 | | — | | | (16 | ) | | 8 | | 4 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | (67 | ) | | $ | (231 | ) | | $ | (14 | ) | | $ | (7 | ) | | $ | (110 | ) | | $ | (650 | ) | | $ | (141 | ) | | $ | (1,220 | ) | | $ | (550 | ) | | $ | (4 | ) | | $ | (124 | ) | | $ | (9 | ) | | $ | (11 | ) | | $ | (13 | ) | | $ | (67 | ) | | $ | (228 | ) | | $ | (120 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net realized gains (losses) for the three months ended March 31,June 30, 2007 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Japanese | | | | | | | Japanese | | | | | | | | fixed | | Periodic net | | Total | | | fixed | | Periodic net | | Total | | | | annuity | | coupon | | gains/ | | | annuity | | coupon | | gains/ | | | | contract | | settlements on | | GMWB | | SFAS 157 | | losses, net | | | contract | | settlements on | | GMWB | | losses, net | | | | Gains/losses | | hedges, | | credit | | derivatives, | | Transition | | Other, | | of tax and | | | Gains/losses | | hedges, | | credit | | derivatives, | | Other, | | of tax and | | | | on sales, net | | Impairments | | net | | derivatives/Japan | | net | | Impact | | net | | Total | | DAC | | | on sales, net | | Impairments | | net | | derivatives/Japan | | net | | net | | Total | | DAC | | Retail | | $ | 6 | | $ | (6 | ) | | $ | — | | $ | — | | $ | 22 | | $ | — | | $ | (5 | ) | | $ | 17 | | $ | 9 | | | $ | (6 | ) | | $ | — | | $ | — | | $ | — | | $ | (133 | ) | | $ | (7 | ) | | $ | (146 | ) | | $ | (78 | ) | Individual Life | | | | (1 | ) | | | (4 | ) | | — | | — | | — | | 2 | | | (3 | ) | | | (2 | ) | Retirement Plans | | | (1 | ) | | — | | — | | — | | — | | — | | | (2 | ) | | | (3 | ) | | | (1 | ) | | | (4 | ) | | | (1 | ) | | — | | — | | — | | 10 | | 5 | | 3 | | Institutional | | 10 | | | (7 | ) | | — | | — | | — | | — | | | (6 | ) | | | (3 | ) | | | (2 | ) | | Individual Life | | 12 | | | (1 | ) | | — | | — | | — | | — | | | (2 | ) | | 9 | | 6 | | | Group Benefits | | 2 | | — | | — | | — | | — | | — | | — | | 2 | | 1 | | | | (3 | ) | | | (2 | ) | | — | | — | | — | | | (1 | ) | | | (6 | ) | | | (4 | ) | International | | — | | — | | 5 | | | (17 | ) | | — | | — | | | (7 | ) | | | (19 | ) | | | (12 | ) | | — | | — | | | (17 | ) | | | (19 | ) | | — | | | (8 | ) | | | (44 | ) | | | (29 | ) | Institutional | | | | (5 | ) | | | (13 | ) | | — | | — | | — | | | (2 | ) | | | (20 | ) | | | (13 | ) | Other | | 3 | | — | | — | | 5 | | — | | — | | 12 | | 20 | | 14 | | | 3 | | — | | — | | 6 | | — | | | (16 | ) | | | (7 | ) | | | (7 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 32 | | $ | (14 | ) | | $ | 5 | | $ | (12 | ) | | $ | 22 | | $ | — | | $ | (10 | ) | | $ | 23 | | $ | 15 | | | $ | (16 | ) | | $ | (20 | ) | | $ | (17 | ) | | $ | (13 | ) | | $ | (133 | ) | | $ | (22 | ) | | $ | (221 | ) | | $ | (130 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net realized gains (losses) for the six months ended June 30, 2008 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Japanese | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | fixed | | | Periodic net | | | | | | | | | | | | | | | | | | | Total | | | | | | | | | | | | annuity | | | coupon | | | | | | | | | | | | | | | | | | | gains/ | | | | | | | | | | | | contract | | | settlements on | | | GMWB | | | SFAS 157 | | | | | | | | | | | losses, net | | | | Gains/losses | | | | | | | hedges, | | | credit | | | derivatives, | | | Transition | | | Other, | | | | | | | of tax and | | | | on sales, net | | | Impairments | | | net | | | derivatives/Japan | | | net | | | Impact | | | net | | | Total | | | DAC | | Retail | | $ | (8 | ) | | $ | (64 | ) | | $ | — | | | $ | (2 | ) | | $ | (126 | ) | | $ | (616 | ) | | $ | (12 | ) | | $ | (828 | ) | | $ | (294 | ) | Individual Life | | | (13 | ) | | | (32 | ) | | | — | | | | (1 | ) | | | — | | | | — | | | | (11 | ) | | | (57 | ) | | | (34 | ) | Retirement Plans | | | (14 | ) | | | (36 | ) | | | — | | | | (1 | ) | | | — | | | | — | | | | (4 | ) | | | (55 | ) | | | (26 | ) | Group Benefits | | | (2 | ) | | | (40 | ) | | | — | | | | — | | | | — | | | | — | | | | (31 | ) | | | (73 | ) | | | (47 | ) | International | | | (11 | ) | | | (22 | ) | | | (23 | ) | | | (18 | ) | | | 3 | | | | (34 | ) | | | (6 | ) | | | (111 | ) | | | (61 | ) | Institutional | | | (34 | ) | | | (151 | ) | | | — | | | | 1 | | | | — | | | | — | | | | (122 | ) | | | (306 | ) | | | (198 | ) | Other | | | 11 | | | | (10 | ) | | | — | | | | 3 | | | | — | | | | — | | | | (22 | ) | | | (18 | ) | | | (10 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | (71 | ) | | $ | (355 | ) | | $ | (23 | ) | | $ | (18 | ) | | $ | (123 | ) | | $ | (650 | ) | | $ | (208 | ) | | $ | (1,448 | ) | | $ | (670 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
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Net realized gains (losses) for the six months ended June 30, 2007 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Japanese | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | fixed | | | Periodic net | | | | | | | | | | | | | | | Total | | | | | | | | | | | | annuity | | | coupon | | | | | | | | | | | | | | | gains/ | | | | | | | | | | | | contract | | | settlements on | | | GMWB | | | | | | | | | | | losses, net | | | | Gains/losses | | | | | | | hedges, | | | credit | | | derivatives, | | | Other, | | | | | | | of tax and | | | | on sales, net | | | Impairments | | | net | | | derivatives/Japan | | | net | | | net | | | Total | | | DAC | | Retail | | $ | — | | | $ | (6 | ) | | $ | — | | | $ | — | | | $ | (111 | ) | | $ | (12 | ) | | $ | (129 | ) | | $ | (69 | ) | Individual Life | | | 11 | | | | (5 | ) | | | — | | | | — | | | | — | | | | — | | | | 6 | | | | 4 | | Retirement Plans | | | (5 | ) | | | (1 | ) | | | — | | | | — | | | | — | | | | 8 | | | | 2 | | | | 2 | | Group Benefits | | | (1 | ) | | | (2 | ) | | | — | | | | — | | | | — | | | | (1 | ) | | | (4 | ) | | | (3 | ) | International | | | — | | | | — | | | | (12 | ) | | | (36 | ) | | | — | | | | (15 | ) | | | (63 | ) | | | (41 | ) | Institutional | | | 5 | | | | (20 | ) | | | — | | | | — | | | | — | | | | (8 | ) | | | (23 | ) | | | (15 | ) | Other | | | 6 | | | | — | | | | — | | | | 11 | | | | — | | | | (4 | ) | | | 13 | | | | 7 | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 16 | | | $ | (34 | ) | | $ | (12 | ) | | $ | (25 | ) | | $ | (111 | ) | | $ | (32 | ) | | $ | (198 | ) | | $ | (115 | ) | | | | | | | | | | | | | | | | | | | | | | | | | |
Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 NetFor the three months ended June 30, 2008, net realized capital losses increased as a result of impairments, partially offset by lower net losses on GMWB derivatives due to 2007 model and assumption updates. For the six months ended June 30, 2008, net realized capital losses increased primarily due to the SFAS 157 transition impact in the first quarter of 2008 and higher net losses on both impairments and other net losses, net losses on GMWB derivatives in 2008 and higher net realized capital losses from sales of investments.losses. A more expanded discussion of these components is as follows:
| | | Gross Gains (losses)and Losses on sales, netSale | | • Gross lossesgains on sales for the three and six months ended March 31,June 30, 2008 were predominantly within fixed maturities and were primarily comprised of corporate securities. Gross losses on sales for the three and six months ended June 30, 2008 were primarily comprised of corporate securities, municipal securities, and CMBS as well as $17 of collateralized loan obligations (“CLOs”)CLOs in the first quarter for which Hartford Investment Management Company (“HIMCO”)HIMCO is the collateral manager. Gross gains and losses on sale, excluding the loss on CLOs, primarily resulted from the decision to reallocate the portfolio to securities with more favorable risk/return profiles. For more information regarding losses onDuring the sale of HIMCO managed CLOs, refer to the “Variable Interest Entities” section of the Investment MD&A. Securities that werethree and six months ended June 30, 2008 and March 31, 2008, securities sold at a loss duringwere depressed, on average, approximately 1% at the three months ended March 31, 2008 had an average unrealized loss position as a percentage of the securities, amortized cost of 2% as of December 31, 2007, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. | | | | | | • Gross gains and losses on sales for the three and six months ended March 31,June 30, 2007 were primarily comprised of corporate securities. Securities that wereDuring the three and six months ended June 30, 2007, securities sold at a loss had anwere depressed, on average, unrealized loss position as a percentage ofapproximately 1% at the securities, amortized cost of 2% as of December 31, 2006, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. |
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| | | Impairments | | • For the three months ended March 31, 2008, credit related other-than-temporary impairments primarily consisted of CMBS, ABS and corporate securities. Impairments were primarily related to CMBS collateralized debt obligations (“CDOs”) that contained below investment grade 2006 and 2007 vintage year collateral. ABS impairments were primarily taken on residential mortgage backed securities (“RMBS”) backed by second lien residential mortgages. Corporate credit impairments were primarily due to a financial services company that has recently experienced a lack of liquidity. The other-than-temporary impairments reported in Other, net were recorded on securities that had declined in value for which the Company was uncertain of its intent to retain the investments for a period of time sufficient to allow for recovery to cost or amortized cost. During the three months ended March 31, 2007, the credit related other-than-temporary impairment was recorded on one ABS security backed by aircraft lease receivables due to a continued decline in value, attributed to higher than expected aircraft maintenance costs and a rating agency downgrade. For a further discussion see “Other-Than-Temporary Impairments” section of the Investment MD&A.
| | | | GMWB derivatives, net
| | • Losses in 2008See the Other-Than-Temporary Impairments section that follows for information on GMWB rider embedded derivatives were primarily due to mortality assumption updates of $76.impairment losses. | | | | SFAS 157 Transition Impact | | • TheFor the six months ended June 30, 2008, the loss of $650 from the SFAS 157 transition impact to the GMWB and GMAB rider embedded derivatives liability was a one-time loss recognition resulting from the transition to this accounting standard. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. | | | | GMWB | | • Losses in 2008 on GMWB rider embedded derivatives were primarily due to mortality assumptions updates of $76. | | | | | | • Losses for the three and six months ended June 30, 2007 were primarily the result of liability model assumption updates and model refinements. Liability model assumption updates were primarily made to reflect newly reliable market inputs for volatility. | | | | Other net | | • Other, net losses for the three and six months ended June 30, 2008 were primarily related to net losses on credit derivatives of $50 and $207, respectively. The net losses on credit derivatives were comprised of losses in both the 2008first quarter on credit derivatives that assume credit exposure as a result of credit spreads widening and losses in the second quarter on credit derivatives that reduce credit exposure as a result of credit spreads tightening significantly on certain referenced corporate entities. Included in these losses were losses on HIMCO managed CLOs. | | | | | | • Other, net losses for the three and six months ended June 30, 2007 periodswere primarily resulted fromdriven by the change in value of non-qualifying derivatives due to credit spreads widening and fluctuations in credit spreads, interest rates and equity markets. The increase in net losses in the 2008 period compared to the prior year period was primarily due to changes in value associated with credit derivatives due to credit spreads widening. Credit spreads widened primarily due to the deterioration in the U.S. housing market, tightened lending conditions, the market’s flight to quality securities as well as increased likelihood of a U.S. recession. For further discussion, see the “Capital Market Risk Management” section of the MD&A. Also included in 2008 were losses on total return swaps from HIMCO managed bank loans CLOs of $33.foreign currency exchange rates. |
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RETAIL | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 747 | | | $ | 730 | | | | 2 | % | Earned premiums | | | (6 | ) | | | (21 | ) | | | 71 | % | Net investment income | | | 191 | | | | 197 | | | | (3 | %) | Net realized capital gains (losses) | | | (756 | ) | | | 17 | | | NM | | | | | | | | | | | | Total revenues [1] | | | 176 | | | | 923 | | | | (81 | %) | Benefits, losses and loss adjustment expenses | | | 197 | | | | 196 | | | | 1 | % | Insurance operating costs and other expenses | | | 312 | | | | 273 | | | | 14 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | (157 | ) | | | 209 | | | NM | | | | | | | | | | | | Total benefits, losses and expenses | | | 352 | | | | 678 | | | | (48 | %) | Income (loss) before income taxes | | | (176 | ) | | | 245 | | | NM | | Income tax expense (benefit) | | | (99 | ) | | | 45 | | | NM | | | | | | | | | | | | Net income (loss) [2] | | $ | (77 | ) | | $ | 200 | | | NM | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | Individual variable annuity account values | | $ | 107,920 | | | $ | 115,330 | | | | (6 | %) | Individual fixed annuity and other account values | | | 10,130 | | | | 9,895 | | | | 2 | % | Other retail products account values | | | 604 | | | | 569 | | | | 6 | % | | | | | | | | | | | Total account values [3] | | | 118,654 | | | | 125,794 | | | | (6 | %) | Retail mutual fund assets under management | | | 44,617 | | | | 40,921 | | | | 9 | % | Other mutual fund assets under management | | | 2,143 | | | | 1,629 | | | | 32 | % | | | | | | | | | | | Total mutual fund assets under management | | | 46,760 | | | | 42,550 | | | | 10 | % | Total assets under management | | $ | 165,414 | | | $ | 168,344 | | | | (2 | %) | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 759 | | | $ | 781 | | | | (3 | %) | | $ | 1,506 | | | $ | 1,511 | | | | — | | Earned premiums | | | (7 | ) | | | (14 | ) | | | 50 | % | | | (13 | ) | | | (35 | ) | | | 63 | % | Net investment income | | | 192 | | | | 200 | | | | (4 | %) | | | 383 | | | | 397 | | | | (4 | %) | Net realized capital losses | | | (72 | ) | | | (146 | ) | | | 51 | % | | | (828 | ) | | | (129 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues [1] | | | 872 | | | | 821 | | | | 6 | % | | | 1,048 | | | | 1,744 | | | | (40 | %) | Benefits, losses and loss adjustment expenses | | | 193 | | | | 203 | | | | (5 | %) | | | 390 | | | | 399 | | | | (2 | %) | Insurance operating costs and other expenses | | | 327 | | | | 311 | | | | 5 | % | | | 639 | | | | 584 | | | | 9 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | 168 | | | | 180 | | | | (7 | %) | | | 12 | | | | 388 | | | | (97 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 688 | | | | 694 | | | | (1 | %) | | | 1,041 | | | | 1,371 | | | | (24 | %) | Income before income taxes | | | 184 | | | | 127 | | | | 45 | % | | | 7 | | | | 373 | | | | (98 | %) | Income tax expense (benefit) | | | 14 | | | | 5 | | | | 180 | % | | | (86 | ) | | | 51 | | | NM | | | | | | | | | | | | | | | | | | | | | Net income [2] | | $ | 170 | | | $ | 122 | | | | 39 | % | | $ | 93 | | | $ | 322 | | | | (71 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | | | | | | | | | | | | | Individual variable annuity account values | | | | | | | | | | | | | | $ | 105,345 | | | $ | 121,529 | | | | (13 | %) | Individual fixed annuity and other account values | | | | | | | | | | | | | | | 10,366 | | | | 9,891 | | | | 5 | % | Other retail products account values | | | | | | | | | | | | | | | 578 | | | | 639 | | | | (10 | %) | | | | | | | | | | | | | | | | | | | | Total account values [3] | | | | | | | | | | | | | | | 116,289 | | | | 132,059 | | | | (12 | %) | Retail mutual fund assets under management | | | | | | | | | | | | | | | 47,239 | | | | 45,644 | | | | 3 | % | Other mutual fund assets under management | | | | | | | | | | | | | | | 2,276 | | | | 1,883 | | | | 21 | % | | | | | | | | | | | | | | | | | | | | Total mutual fund assets under management | | | | | | | | | | | | | | | 49,515 | | | | 47,527 | | | | 4 | % | | | | | | | | | | | | | | | | | | | | Total assets under management | | | | | | | | | | | | | | $ | 165,804 | | | $ | 179,586 | | | | (8 | %) | | | | | | | | | | | | | | | | | | | |
| | | [1] | | TheFor the six months ended June 30, 2008, the transition impact related to the SFAS 157 adoption was a reduction in revenues of $616. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements.
| | [2] | | TheFor the six months ended June 30, 2008, the transition impact related to the SFAS 157 adoption was a reduction in net income of $209. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements.
| | [3] | | IncludesFor the six months ended June 30, 2008, includes policyholders’ balances for investment contracts and reserve for future policy benefits for insurance contracts.
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Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Net income decreased for the threesix months ended March 31,June 30, 2008, primarily due to increased realized capital losses from the adoption of SFAS 157 during the first quarter of 2008, which resulted in a net realized capital loss of $616. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. Net income increased for the three months ended June 30, 2008 primarily due to realized capital losses associated with GMWB model assumption updates recorded in the second quarter of 2007 and DRD and FTC benefits recorded of $16 in the second quarter of 2008. For further discussion of realized capital losses, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. The following other factors contributed to the changes in net income: | | | Fee income and other | | • Fee income and other increased for the three months ended March 31, 2008 primarily as a result of higher mutual fund fee income. Mutual fund fee income increased due to a 10% increase in mutual fund assets under management driven by net sales of $4.8 billion over the past four quarters. These net sales were primarily attributable to focused wholesaling efforts. | | | | | | • Excluding mutual funds, fee income and other decreased for the three and six months ended March 31,June 30, 2008 primarily as a result of lower variable annuity fee income, partially offset by an increase in retail mutual fund fee income. Variable annuity fee income decreased for the three and six months ended June 30, 2008 due to a decline in average variable annuity account values. The decrease in average variable annuity account values can be attributed to market depreciation of $4.0$11.7 billion and net outflows of $3.4$4.5 billion over the past four quarters. Net outflows were driven by surrender activity due to the aging of the variable annuity in-force block of business and increased sales competition, particularly competition related to guaranteed living benefits. Offsetting this decrease, retail mutual fund fee income increased for the three and six months ended June 30, 2008 due to a 3% increase in mutual fund assets under management driven by net sales of $4.9 billion over the past four quarters.
| | | | Net investment income | | • Net investment income has declined for the three and six months ended March 31,June 30, 2008 due to a decrease in variable annuity fixed option account values. The decrease in these account values can be attributed to a combination of transfers into separate accounts and surrender activity. In addition, net investment income was lower due to decreased partnership income.income and a decline in interest rates. |
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| | | Insurance operating costs and other expenses | | • Insurance operating costs and other expenses increased for the three and six months ended March 31, 2008. These increases wereJune 30, 2008, principally driven by trail commissions on the aging portfolio of annuity businesses and commissions on growth in mutual fund commission increases due to growth in deposits of 9%7%. In addition, non-deferrable variable annuity asset based commissions increased due to an increase in the number of contracts reaching anniversaries when trail commission payments begin. |
46
| | | Amortization of deferred policy acquisition costs and present value of future profits (“DAC”) | | • Amortization of DAC decreased for the six months ended June 30, 2008, primarily due to the impact of the adoption of SFAS 157 at the beginning of the first quarter of 2008, as well as impairment losses, other realized capital losses and other investment losses.the effects of the 2007 DAC unlock. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. Amortization ofFor the three months ended June 30, 2008, DAC alsoamortization declined due to lower actual gross profits asand a result oflower DAC amortization rate after the factors described above.2007 unlock. | | | | Income tax expense (benefit) | | • TheFor the six months ended June 30, 2008, the income tax benefit as compared to the prior year period income tax expense was due to a loss before income taxes primarily from the adoption of SFAS 157 whileat the dividends received deduction remained constant.beginning of the first quarter of 2008. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. For the three months ended June 30, 2008, income tax expense increased as the tax benefit on decreased realized losses declined. Partially, offsetting this increase in income tax expense were benefits associated with DRD and FTC provision to filed return adjustments and changes in estimates. |
57
Outlook Management believes the market for retirement products continues to expand as individuals increasingly save and plan for retirement. Demographic trends suggest that as the “baby boom” generation matures, a significant portion of the United States population will allocate a greater percentage of their disposable incomes to saving for their retirement years due to uncertainty surrounding the Social Security system and increases in average life expectancy. Competition continues to be strong in the variable annuities market as the focus on guaranteed lifetime income has caused most major variable annuity writers to upgrade their suite of living benefits. The Company is committed to maintaining a competitive variable annuity product line and intends to refreshintroduce enhancements to its suite of living benefits in MayAugust 2008. The retail mutual fund business has seen a substantial increase in net sales and assets over the past year as a result of focused wholesaling efforts as well as strong investment performance. Net sales can vary significantly depending on market conditions. As this business continues to evolve, success will be driven by diversifying net sales across the mutual fund platform, delivering superior investment performance and creating new investment solutions for current and future mutual fund shareholders. Management’sBased on results to date, management’s current full year projections for 2008 are as follows:
• | | Variable annuity sales of $11.0$9.25 billion to $12.0$10.25 billion | | • | | Fixed annuity sales of $500$750 to $1.0$1.25 billion | | • | | Retail mutual fund sales of $14.0$14.5 billion to $15.5 billion | | • | | Variable annuity outflows of $4.2$5.0 billion to $5.2$6.0 billion | | • | | Fixed annuity outflowsflows of $250$(250) to $500$250 | | • | | Retail mutual fund net sales of $4.0$4.7 billion to $5.5$5.7 billion |
4758
INDIVIDUAL LIFE Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 235 | | | $ | 217 | | | | 8 | % | | $ | 455 | | | $ | 432 | | | | 5 | % | Earned premiums | | | (19 | ) | | | (13 | ) | | | (46 | %) | | | (37 | ) | | | (28 | ) | | | (32 | %) | Net investment income | | | 92 | | | | 89 | | | | 3 | % | | | 180 | | | | 176 | | | | 2 | % | Net realized capital gains (losses) | | | (23 | ) | | | (3 | ) | | NM | | | | (57 | ) | | | 6 | | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 285 | | | | 290 | | | | (2 | %) | | | 541 | | | | 586 | | | | (8 | %) | Benefits, losses and loss adjustment expenses | | | 153 | | | | 136 | | | | 13 | % | | | 307 | | | | 272 | | | | 13 | % | Insurance operating costs and other expenses | | | 51 | | | | 49 | | | | 4 | % | | | 98 | | | | 97 | | | | 1 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | 40 | | | | 43 | | | | (7 | %) | | | 69 | | | | 79 | | | | (13 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 244 | | | | 228 | | | | 7 | % | | | 474 | | | | 448 | | | | 6 | % | Income before income taxes | | | 41 | | | | 62 | | | | (34 | %) | | | 67 | | | | 138 | | | | (51 | %) | Income tax expense | | | 11 | | | | 18 | | | | (39 | %) | | | 17 | | | | 42 | | | | (60 | %) | | | | | | | | | | | | | | | | | | | | Net income | | $ | 30 | | | $ | 44 | | | | (32 | %) | | $ | 50 | | | $ | 96 | | | | (48 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Account Values | | | | | | | | | | | | | | | | | | | | | | | | | Variable universal life insurance | | | | | | | | | | | | | | $ | 6,625 | | | $ | 7,206 | | | | (8 | %) | Universal life/interest sensitive whole life | | | | | | | | | | | | | | | 4,569 | | | | 4,208 | | | | 9 | % | Modified guaranteed life and other | | | | | | | | | | | | | | | 664 | | | | 691 | | | | (4 | %) | | | | | | | | | | | | | | | | | | | | Total account values | | | | | | | | | | | | | | $ | 11,858 | | | $ | 12,105 | | | | (2 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Life Insurance In-force | | | | | | | | | | | | | | | | | | | | | | | | | Variable universal life insurance | | | | | | | | | | | | | | $ | 78,557 | | | $ | 75,496 | | | | 4 | % | Universal life/interest sensitive whole life | | | | | | | | | | | | | | | 50,298 | | | | 46,750 | | | | 8 | % | Modified guaranteed life and other | | | | | | | | | | | | | | | 58,318 | | | | 49,557 | | | | 18 | % | | | | | | | | | | | | | | | | | | | | Total life insurance in-force | | | | | | | | | | | | | | $ | 187,173 | | | $ | 171,803 | | | | 9 | % | | | | | | | | | | | | | | | | | | | |
Three and six months ended June 30, 2008 compared to the three and six months ended June 30, 2007 Net income decreased for the three and six months ended June 30, 2008, driven primarily by net realized capital losses, unfavorable mortality in 2008 and the implementation of a more efficient capital approach for our secondary guarantee universal life business, described further in the “Outlook” section below, partially offset by life insurance in-force growth. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. The following other factors contributed to the changes in net income: | | | Fee income and other | | • Fee income and other increased for the three and six months ended June 30, 2008 primarily due to growth in variable universal and universal life insurance in-force and fees on higher surrenders, partially offset by declines in equity markets. | | | | Earned premiums | | • Earned premiums, which include premiums for ceded reinsurance, decreased primarily due to increased ceded reinsurance premiums due to life insurance in-force growth. | | | | Net investment income | | • Net investment income increased slightly due to growth in general account values, partially offset by decreased investment yields and reduced net investment income associated with the capital approach for our secondary guarantee universal life business. | | | | Benefits, losses and loss adjustment expenses | | • Benefits, losses and loss adjustment expenses increased due to life insurance in-force growth and unfavorable mortality for the three and six months ended June 30, 2008 compared to the corresponding 2007 period. | | | | Amortization of deferred policy acquisition costs and present value of future profits (“DAC”) | | • Amortization of DAC decreased due to lower gross profits primarily attributed to net realized capital losses and mortality partially offset by higher surrender fees. This decrease had a corresponding offset in amortization of deferred revenues, included in fee income. |
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Outlook Individual Life operates in a mature and competitive marketplace with customers desiring products with guarantees and distribution requiring highly trained insurance professionals. Individual Life continues to expand its core distribution model of sales through financial advisors and banks, while also pursuing growth opportunities through other distribution sources such as independent life brokerage. In its core channels, the Company is looking to broaden its sales system and internal wholesaling, take advantage of cross selling opportunities and extend its penetration in the private wealth management services areas. The Company is committed to maintaining a competitive product portfolio and refreshed its variable universal life insurance products in the second quarter of 2008 and intends to continue to make product enhancements to its variable universal and universal life insurance products through the remainder of 2008. Sales results for the three and six months ended June 30, 2008 increased 3% and 5%, respectively. Year to date sales increases were driven by increased sales in the wirehouse and independent channels of 4% and 13%, respectively, as a result of the Company’s improved penetration in these channels. Sales within the bank channel have been impacted in the first six months of 2008 by restructurings and acquisitions within certain of Individual Life’s banking distribution relationships. The variable universal life mix was 33% and 38% of total sales for the three and six months ended June 30, 2008, respectively. Future sales will be driven by the Company’s management of current distribution relationships and development of new sources of distribution while offering competitive and innovative new products and product features. Individual Life accepts and maintains, for risk management purposes, up to $10 in risk on any one life. Individual Life uses reinsurance where appropriate to mitigate earnings volatility; however, death claim experience may lead to periodic short-term earnings volatility. Effective November 1, 2007, Individual Life reinsured the policy liability related to statutory reserves in universal life with secondary guarantees to a captive reinsurance subsidiary. These reserves are calculated under prevailing statutory reserving requirements as promulgated under Actuarial Guideline 38, “The Application of the Valuation of Life Insurance Policies Model Regulation”. An unaffiliated standby third party letter of credit supports a portion of the statutory reserves that have been ceded to this subsidiary. As of June 30, 2008, the transaction provided approximately $365 of statutory capital relief associated with the Company’s universal life products with secondary guarantees. The Company expects this transaction to accommodate future statutory capital needs for in-force business and new business written through approximately December 31, 2008. The use of the letter of credit will result in a decline in net investment income and increased expenses in future periods for Individual Life. The additional statutory capital provided by the use of the letter of credit is available to the Company for general corporate purposes. As its business grows, Individual Life will evaluate the need for an additional capital transaction. Individual Life continues to face uncertainty surrounding estate tax legislation, aggressive competition from other life insurance providers, reduced availability and higher price of reinsurance, and the current regulatory environment related to reserving for term insurance and universal life products with no-lapse guarantees. These risks may have a negative impact on Individual Life’s future earnings. Based on results to date, management’s current full year life insurance in-force projection for 2008 is an increase of 8% to 9%. 60
RETIREMENT PLANS | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 68 | | | $ | 54 | | | | 26 | % | Earned premiums | | | 1 | | | | 2 | | | | (50 | %) | Net investment income | | | 89 | | | | 88 | | | | 1 | % | Net realized capital losses | | | (36 | ) | | | (3 | ) | | NM | | | | | | | | | | | | Total revenues | | | 122 | | | | 141 | | | | (13 | %) | Benefits, losses and loss adjustment expenses | | | 65 | | | | 62 | | | | 5 | % | Insurance operating costs and other expenses | | | 61 | | | | 40 | | | | 53 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | 7 | | | | 10 | | | | (30 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | 133 | | | | 112 | | | | 19 | % | Income (loss) before income taxes | | | (11 | ) | | | 29 | | | NM | | Income tax expense (benefit) | | | (6 | ) | | | 7 | | | NM | | | | | | | | | | | | Net income (loss) | | $ | (5 | ) | | $ | 22 | | | NM | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | 403(b)/457 account values | | $ | 11,926 | | | $ | 11,753 | | | | 1 | % | 401(k) account values | | | 14,413 | | | | 12,979 | | | | 11 | % | | | | | | | | | | | Total account values [1] | | | 26,339 | | | | 24,732 | | | | 6 | % | 403(b)/457 mutual fund assets under management [2] | | | 66 | | | | — | | | | — | | 401(k) mutual fund assets under management [3] | | | 20,005 | | | | 1,209 | | | NM | | | | | | | | | | | | Total mutual fund assets under management | | | 20,071 | | | | 1,209 | | | NM | | | | | | | | | | | | Total assets under management | | $ | 46,410 | | | $ | 25,941 | | | | 79 | % | | | | | | | | | | | Total assets under administration - 401(k) [4] | | $ | 5,666 | | | $ | — | | | | — | | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 97 | | | $ | 59 | | | | 64 | % | | $ | 165 | | | $ | 113 | | | | 46 | % | Earned premiums | | | 1 | | | | 1 | | | | — | | | | 2 | | | | 3 | | | | (33 | %) | Net investment income | | | 91 | | | | 90 | | | | 1 | % | | | 180 | | | | 178 | | | | 1 | % | Net realized capital gains (losses) | | | (19 | ) | | | 5 | | | NM | | | | (55 | ) | | | 2 | | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 170 | | | | 155 | | | | 10 | % | | | 292 | | | | 296 | | | | (1 | %) | Benefits, losses and loss adjustment expenses | | | 66 | | | | 62 | | | | 6 | % | | | 131 | | | | 124 | | | | 6 | % | Insurance operating costs and other expenses | | | 92 | | | | 45 | | | | 104 | % | | | 153 | | | | 85 | | | | 80 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | (8 | ) | | | 8 | | | NM | | | | (1 | ) | | | 18 | | | NM | | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 150 | | | | 115 | | | | 30 | % | | | 283 | | | | 227 | | | | 25 | % | Income before income taxes | | | 20 | | | | 40 | | | | (50 | %) | | | 9 | | | | 69 | | | | (87 | %) | Income tax expense (benefit) | | | (11 | ) | | | 12 | | | NM | | | | (17 | ) | | | 19 | | | NM | | | | | | | | | | | | | | | | | | | | | Net income | | $ | 31 | | | $ | 28 | | | | 11 | % | | $ | 26 | | | $ | 50 | | | | (48 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | | | | | | | | | | | | | 403(b)/457 account values | | | | | | | | | | | | | | $ | 12,197 | | | $ | 12,197 | | | | — | | 401(k) account values | | | | | | | | | | | | | | | 14,832 | | | | 14,058 | | | | 6 | % | | | | | | | | | | | | | | | | | | | | | | | Total account values [1] | | | | | | | | | | | | | | | 27,029 | | | | 26,255 | | | | 3 | % | 403(b)/457 mutual fund assets under management [2] | | | | | | | | | | | | | | | 106 | | | | 9 | | | NM | | 401(k) mutual fund assets under management [3] | | | | | | | | | | | | | | | 19,748 | | | | 1,320 | | | NM | | | | | | | | | | | | | | | | | | | | | | | | Total mutual fund assets under management | | | | | | | | | | | | | | | 19,854 | | | | 1,329 | | | NM | | | | | | | | | | | | | | | | | | | | | | | | Total assets under management | | | | | | | | | | | | | | $ | 46,883 | | | $ | 27,584 | | | | 70 | % | | | | | | | | | | | | | | | | | | | | | | | | Total assets under administration — 401(k) [4] | | | | | | | | | | | | | | $ | 6,282 | | | $ | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Includes policyholder balances for investment contracts and reserves for future policy benefits for insurance contracts. | | [2] | | In 2007, Life began selling mutual fund based products in the 403(b) market. | | [3] | | InDuring the six months ended June 30, 2008, Life acquired the rights to service $18.7 billion in mutual funds from Sun Life Retirement Services, Inc., and Princeton Retirement Group. As of March 31, 2008, the purchase price allocation had not been finalized.
| | [4] | | InDuring the six months ended June 30, 2008, Life acquired the rights to service $5.7 billion of assets under administration (“AUA”) from Princeton Retirement Group. Servicing revenues from AUA are based on the number of plan participants and do not vary directly with asset levels. As such, they are not included in AUM upon which asset based returns are calculated.
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Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Net income in Retirement Plans decreased for the six months ended June 30, 2008 due to higher net realized capital losses and increased operating expenses partially offset by growth in fee income. Net income for the three months ended June 30, 2008 increased as DRD benefits associated with provision to filed return adjustments and changes in estimates of $15 were partially offset by increased realized losses. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under Life’s Operating section of the MD&A. The following other factors contributed to the changes in net income: | | | | | Fee income and other | | • Fee | | For the three and six months ended June 30, 2008, fee income and other increased primarily due to an increase$35 and $43, respectively, of mutual fund fees earned from assets relating to the acquisitions in the first quarter of 2008. Also contributing to increased fee income and other was a growth in 401(k) average account values. This growth is primarilyvalues, driven by positive net flows of $1.8$1.9 billion over the past four quarters resulting from strong sales and increased ongoing deposits.quarters. | | | | | | Net investment income | | • | | Net investment income remained consistent, for the three and six months ended June 30, 2008, with growth in general account assets offset by a decrease in partnership investment income. |
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| | | | | Insurance operating costs and other expenses | | • | | Insurance operating costs and other expenses increased for the three and six months ended June 30, 2008, primarily attributable to greater assets under management aging beyond their first year resulting in higher trail commissions.operating expenses associated with the acquired businesses. Also contributing to higher insurance operating costs for the quarter ended March 31, 2008 were higher trail commissions resulting from an aging portfolio and higher service and technology costs. | | | | | | Amortization of deferred policy acquisition costs and expenses associated withpresent value of future profits | | • | | Amortization of deferred policy acquisition costs and present value of future profits declined for the acquisitions.three and six months ended June 30, 2008 due to decreases in actual gross profits as a result of increased realized losses. | | | | | | Income tax expense (benefit) | | • The | | For the three and six months ended June 30, 2008 the income tax benefit as compared to the prior year periodperiods income tax expense was due to a losslower income before income taxes primarily due to increased realized capital losses, while the dividends received deduction remained constant. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under the Operating section of the MD&A.benefits associated with provision to filed return adjustments and changes in estimates associated with DRD. |
4862
Outlook The future profitability of this segment will depend on Life’s ability to increase assets under management across all businesses, achieve scale in areas with a high degree of fixed costs and maintain its investment spread earnings on the general account products sold largely in the 403(b)/457 business. As the “baby boom” generation approaches retirement, management believes these individuals, as well as younger individuals, will contribute more of their income to retirement plans due to the uncertainty of the Social Security system and the increase in average life expectancy. In 2007, Life began selling mutual fund based products in the 401(k) market that will increase Life’s ability to grow assets under management in the medium size 401(k) market. Life has also begun selling mutual fund based products in the 403(b) market as Life looks to grow assets in a highly competitive environment primarily targeted at health and education workers. Disciplined expense management will continue to be a focus; however, as Life expands its reach in these markets, additional investments in service and technology will occur. During 2008, the Company completed three acquisitions. The acquisition of part of the defined contribution record keeping business of Princeton Retirement Group gives Life a foothold in the business of providing recordkeeping services to large financial firms which offer defined contribution plans to their clients and added $2.9 billion in mutual funds to Retirement Plans assets under management.management and $5.7 billion of assets under administration. The acquisition of Sun Life Retirement Services, Inc., added $15.8 billion in Retirement Plans assets under management across 6,000 plans and provides new service locations in Boston, Massachusetts and Phoenix, Arizona. The acquisition of TopNoggin LLC., provides web-based technology to address data management, administration and benefit calculations. These three acquisitions illustrate Life’s commitment to increase scale in the Retirement Plans segment and grow its offering to serve additional markets, customers and types of retirement plans across the defined contribution and defined benefit spectrum. These three acquisitions will not be accretive to 2008 net income. Further net income as a percentage of assets, is expected to be lower in 2008 reflecting the new business mix represented by the acquisitions, which includes larger more institutionally priced plans, predominatelypredominantly executed on a mutual fund platform, and the cost of maintaining multiple technology platforms during the integration period. Management’sBased on results to date, management’s current full-year projections for 2008 (including the impacts of the acquisitions) are as follows:
• | | Deposits of $8.0 billion to $9.5 billion | | • | | Net flows of $1.5 billion to $2.5 billion |
Deposits of $8.5 billion to $9.5 billion Net flows of $1.6 billion to $2.4 billion 4963
INSTITUTIONAL
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 41 | | | $ | 61 | | | | (33 | %) | Earned premiums | | | 188 | | | | 168 | | | | 12 | % | Net investment income | | | 294 | | | | 291 | | | | 1 | % | Net realized capital losses | | | (219 | ) | | | (3 | ) | | NM | | | | | | | | | | | | Total revenues | | | 304 | | | | 517 | | | | (41 | %) | Benefits, losses and loss adjustment expenses | | | 458 | | | | 417 | | | | 10 | % | Insurance operating costs and other expenses | | | 28 | | | | 38 | | | | (26 | %) | Amortization of deferred policy acquisition costs and present value of future profits | | | 6 | | | | 15 | | | | (60 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | 492 | | | | 470 | | | | 5 | % | Income (loss) before income taxes | | | (188 | ) | | | 47 | | | NM | | Income tax expense (benefit) | | | (68 | ) | | | 14 | | | NM | | | | | | | | | | | | Net income (loss) | | $ | (120 | ) | | $ | 33 | | | NM | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | Institutional account values [1] | | $ | 25,284 | | | $ | 23,159 | | | | 9 | % | Private Placement Life Insurance account values [1] | | | 32,784 | | | | 27,839 | | | | 18 | % | Mutual fund assets under management | | | 3,489 | | | | 2,669 | | | | 31 | % | | | | | | | | | | | Total assets under management | | $ | 61,557 | | | $ | 53,667 | | | | 15 | % | | | | | | | | | | |
| | | [1] | | Includes policyholder balances for investment contracts and reserves for future policy benefits for insurance contracts.
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Three months ended March 31, 2008 compared to the three months ended March 31, 2007
Net income in Institutional decreased for the three months ended March 31, 2008 primarily due to increased realized capital losses. For further discussion, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. Additionally, partnership income results have also declined, partially offset by net investment income earned on higher assets under management. The following other factors contributed to the changes in income:
| | | Fee income and other
| | • Fee income and other decreased primarily due to a large Private Placement Life Insurance (“PPLI”) case sold during the three months ended March 31, 2007. PPLI collects front-end loads, recorded in fee income, to subsidize premium tax payments. Premium taxes are recorded as an expense in insurance operating costs and other expenses. For the three months ended March 31, 2008 and 2007, PPLI had deposits of $70 and $1.4 billion, respectively, which resulted in a decline in fee income due to front-end loads to $1 from $30, respectively, offset by a corresponding decrease in premium taxes reported in insurance operating costs and other expenses.
| | | | Earned premiums
| | • For the three months ended March 31, 2008, earned premiums increased as a result of strong terminal funding life contingent sales. The increase in earned premiums was offset by a corresponding increase in benefits, losses and loss adjustment expenses.
| | | | Net investment income
| | • General account spread is the main driver of net income for Institutional Investment Products (“IIP”). Net investment income increased due to higher assets under management in IIP, driven by positive net flows of $1.0 billion during the past four quarters offset by lower partnership returns. Net flows for IIP were strong primarily due to structured settlements and funding agreement backed Investor Notes. For the four quarters ended March 31, 2008, structured settlement deposits were $1.0 billion and Investor Note deposits were $833. Decreased returns on partnership investments offset the impact of increased dollar-based general account spread income from higher assets under management. For the three months ended March 31, 2008 and 2007, income related to partnership income was $2 and $12, respectively.
| | | | Insurance operating costs and other expenses
| | • PPLI’s insurance operating costs and other expenses increased for the three months ended March 31, 2008 over the prior year period, due to a $6 premium tax accrual true up benefit in the first quarter of 2007.
| | | | Income tax expense (benefit)
| | • The income tax benefit as compared to the prior year period income tax expense was due to a loss before income taxes primarily due to increased realized capital losses. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under the Operating section of the MD&A.
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50
Outlook
As the “baby boom” generation approaches retirement, management believes these individuals will seek investment and insurance vehicles that will give them steady streams of income throughout retirement. IIP has launched new products in 2006 and 2007 to provide solutions that deal specifically with longevity risk. Longevity risk is defined as the likelihood of an individual outliving their assets. IIP is also designing innovative solutions to corporations’ defined benefit liabilities.
Institutional’s products are highly competitive from a pricing perspective, and a small number of cases often account for a significant portion of deposits. Therefore, the Company may not be able to sustain the level of assets under management growth attained in 2007.
Hartford Income Notes and other stable value products (collectively “stable value products”) provide the Company with continued opportunity for future growth. These markets are highly competitive and the Company’s success depends in part on the level of credited interest rates and the Company’s credit rating. Stable value products net flows can be impacted by contractual rights and maturities and certain fixed rate contracts for which the Company has the option to accelerate the repayment of principal. Considering these factors as well as the interest rate and credit spread environment as of March 31, 2008, the Company expects increased outflows, and has reflected that expectation by reducing its projection for net flows for full year 2008.
The future net income of this segment will depend on Institutional’s ability to increase assets under management, mix of business and net investment spread. The net investment spread, as previously discussed in the Performance Measures section of this MD&A, has declined relative to the prior year and we expect the remainder of 2008 to continue to be lower than prior year levels, due to lower income amounts from partnerships and alternative investments as well as the aforementioned factors impacting net flows.
Management’s current full year projections for 2008 are as follows:
• | | Deposits (including mutual funds) of $7.0 billion to $8.5 billion | | • | | Net flows (including mutual funds) of $1.8 billion to $2.5 billion |
51
INDIVIDUAL LIFE
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 220 | | | $ | 215 | | | | 2 | % | Earned premiums | | | (18 | ) | | | (15 | ) | | | (20 | %) | Net investment income | | | 88 | | | | 87 | | | | 1 | % | Net realized capital gains (losses) | | | (34 | ) | | | 9 | | | NM | | | | | | | | | | | | Total revenues | | | 256 | | | | 296 | | | | (14 | %) | Benefits, losses and loss adjustment expenses | | | 154 | | | | 136 | | | | 13 | % | Insurance operating costs and other expenses | | | 47 | | | | 48 | | | | (2 | %) | Amortization of deferred policy acquisition costs and present value of future profits | | | 29 | | | | 36 | | | | (19 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | 230 | | | | 220 | | | | 5 | % | Income before income taxes | | | 26 | | | | 76 | | | | (66 | %) | Income tax expense | | | 6 | | | | 24 | | | | (75 | %) | | | | | | | | | | | Net income | | $ | 20 | | | $ | 52 | | | | (62 | %) | | | | | | | | | | | | | | | | | | | | | | | | Account Values | | | | | | | | | | | | | Variable universal life insurance | | $ | 6,620 | | | $ | 6,754 | | | | (2 | %) | Universal life/interest sensitive whole life | | | 4,485 | | | | 4,126 | | | | 9 | % | Modified guaranteed life and other | | | 674 | | | | 698 | | | | (3 | %) | | | | | | | | | | | Total account values | | $ | 11,779 | | | $ | 11,578 | | | | 2 | % | | | | | | | | | | | | | | | | | | | | | | | | Life Insurance In-Force | | | | | | | | | | | | | Variable universal life insurance | | $ | 78,145 | | | $ | 74,439 | | | | 5 | % | Universal life/interest sensitive whole life | | | 49,415 | | | | 46,013 | | | | 7 | % | Modified guaranteed life and other | | | 55,338 | | | | 47,094 | | | | 18 | % | | | | | | | | | | | Total life insurance in-force | | $ | 182,898 | | | $ | 167,546 | | | | 9 | % | | | | | | | | | | |
Three months ended March 31, 2008 compared to the three months ended March 31, 2007
Net income decreased for the three months ended March 31, 2008, driven primarily by net realized capital losses and unfavorable mortality in 2008. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. The following other factors contributed to the changes in net income:
| | | Fee income and other
| | • Fee income and other increased for the three months ended March 31, 2008 primarily due to growth in variable universal and universal life insurance in-force. Partially offsetting these increases is a decrease in the amortization of deferred revenues resulting from lower gross profits primarily attributed to increased mortality. This decrease has a corresponding offset in amortization of deferred policy acquisition costs.
| | | | Benefits, losses and loss adjustment expenses
| | • Benefits, losses and loss adjustment expenses increased due to life insurance in-force growth and unfavorable mortality for the three months ended March 31, 2008 compared to the corresponding 2007 period.
| | | | Amortization of deferred policy acquisition costs and present value of future profits (“DAC”)
| | • Amortization of DAC decreased due to lower gross profits primarily attributed to increased mortality. This decrease had a corresponding offset in amortization of deferred revenues, included in fee income.
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52
Outlook
Individual Life operates in a mature and competitive marketplace with customers desiring products with guarantees and distribution requiring highly trained insurance professionals. Individual Life continues to expand its core distribution model of sales through financial advisors and banks, while also pursuing growth opportunities through other distribution sources such as life brokerage. In its core channels, the Company is looking to broaden its sales system and internal wholesaling, take advantage of cross selling opportunities and extend its penetration in the private wealth management services areas. The Company is committed to maintaining a competitive product portfolio and intends to refresh its variable universal and universal life insurance products in 2008.
Sales results for the quarter ended March 31, 2008 were strong across many of the core distribution channels, including wirehouses and regional broker dealers. Sales within the bank channel have been impacted in the first quarter of 2008 by restructurings and acquisitions within certain of Individual Life’s banking distribution relationships. The variable universal life mix remains strong at 43% of total sales for the quarter ended March 31, 2008. Future sales will be driven by the Company’s management of current distribution relationships and development of new sources of distribution while offering competitive and innovative new products and product features.
Individual Life accepts and maintains, for risk management purposes, up to $10 in risk on any one life. Individual Life uses reinsurance where appropriate to mitigate earnings volatility; however, death claim experience may lead to periodic short-term earnings volatility.
Effective November 1, 2007, Individual Life reinsured the policy liability related to statutory reserves in universal life with secondary guarantees to a captive reinsurance subsidiary. These reserves are calculated under prevailing statutory reserving requirements as promulgated under Actuarial Guideline 38, “The Application of the Valuation of Life Insurance Policies Model Regulation”. An unaffiliated standby third party letter of credit supports a portion of the statutory reserves that have been ceded to this subsidiary. As of March 31, 2008, the transaction provided approximately $335 of statutory capital relief associated with the Company’s universal life products with secondary guarantees. The Company expects this transaction to accommodate future statutory capital needs for in-force business and new business written through approximately December 31, 2008. The use of the letter of credit will result in a decline in net investment income and increased expenses in future periods for Individual Life. The additional statutory capital provided by the use of the letter of credit is available to the Company for general corporate purposes. As its business grows, Individual Life will evaluate the need for an additional capital transaction.
Individual Life continues to face uncertainty surrounding estate tax legislation, aggressive competition from other life insurance providers, reduced availability and higher price of reinsurance, and the current regulatory environment related to reserving for term insurance and universal life products with no-lapse guarantees. These risks may have a negative impact on Individual Life’s future earnings.
Management’s current full year life insurance in-force projection for 2008 is an increase of 8% to 9%.
53
GROUP BENEFITS | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Premiums and other considerations | | $ | 1,074 | | | $ | 1,085 | | | | (1 | %) | Net investment income | | | 106 | | | | 118 | | | | (10 | %) | Net realized capital gains (losses) | | | (36 | ) | | | 2 | | | NM | | | | | | | | | | | | Total revenues | | | 1,144 | | | | 1,205 | | | | (5 | %) | Benefits, losses and loss adjustment expenses | | | 788 | | | | 806 | | | | (2 | %) | Insurance operating costs and other expenses | | | 285 | | | | 289 | | | | (1 | %) | Amortization of deferred policy acquisition costs | | | 13 | | | | 17 | | | | (24 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | 1,086 | | | | 1,112 | | | | (2 | %) | Income before income taxes | | | 58 | | | | 93 | | | | (38 | %) | Income tax expense | | | 12 | | | | 24 | | | | (50 | %) | | | | | | | | | | | Net income | | $ | 46 | | | $ | 69 | | | | (33 | %) | | | | | | | | | | | | | | | | | | | | | | | | Earned Premiums and Other | | | | | | | | | | | | | Fully insured — ongoing premiums | | $ | 1,066 | | | $ | 1,065 | | | | — | | Buyout premiums | | | — | | | | 11 | | | | (100 | %) | Other | | | 8 | | | | 9 | | | | (11 | %) | | | | | | | | | | | Total earned premiums and other | | $ | 1,074 | | | $ | 1,085 | | | | (1 | %) | | | | | | | | | | | | | | | | | | | | | | | | Ratios, excluding buyouts | | | | | | | | | | | | | Loss ratio | | | 73.4 | % | | | 74.0 | % | | | | | Loss ratio, excluding financial institutions | | | 78.8 | % | | | 80.2 | % | | | | | Expense ratio | | | 27.7 | % | | | 28.5 | % | | | | | Expense ratio, excluding financial institutions | | | 22.5 | % | | | 22.8 | % | | | | | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Premiums and other considerations | | $ | 1,100 | | | $ | 1,091 | | | | 1 | % | | $ | 2,174 | | | $ | 2,176 | | | | — | | Net investment income | | | 113 | | | | 117 | | | | (3 | %) | | | 219 | | | | 235 | | | | (7 | %) | Net realized capital losses | | | (37 | ) | | | (6 | ) | | NM | | | | (73 | ) | | | (4 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 1,176 | | | | 1,202 | | | | (2 | %) | | | 2,320 | | | | 2,407 | | | | (4 | %) | Benefits, losses and loss adjustment expenses | | | 811 | | | | 793 | | | | 2 | % | | | 1,599 | | | | 1,599 | | | | — | | Insurance operating costs and other expenses | | | 270 | | | | 274 | | | | (1 | %) | | | 555 | | | | 563 | | | | (1 | %) | Amortization of deferred policy acquisition costs | | | 14 | | | | 18 | | | | (22 | %) | | | 27 | | | | 35 | | | | (23 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 1,095 | | | | 1,085 | | | | 1 | % | | | 2,181 | | | | 2,197 | | | | (1 | %) | Income before income taxes | | | 81 | | | | 117 | | | | (31 | %) | | | 139 | | | | 210 | | | | (34 | %) | Income tax expense | | | 19 | | | | 34 | | | | (44 | %) | | | 31 | | | | 58 | | | | (47 | %) | | | | | | | | | | | | | | | | | | | | Net income | | $ | 62 | | | $ | 83 | | | | (25 | %) | | $ | 108 | | | $ | 152 | | | | (29 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Earned Premiums and Other | | | | | | | | | | | | | | | | | | | | | | | | | Fully insured — ongoing premiums | | $ | 1,090 | | | $ | 1,068 | | | | 2 | % | | $ | 2,156 | | | $ | 2,133 | | | | 1 | % | Buyout premiums | | | — | | | | 15 | | | | (100 | %) | | | — | | | | 26 | | | | (100 | %) | Other | | | 10 | | | | 8 | | | | 25 | % | | | 18 | | | | 17 | | | | 6 | % | | | | | | | | | | | | | | | | | | | | Total earned premiums and other | | $ | 1,100 | | | $ | 1,091 | | | | 1 | % | | $ | 2,174 | | | $ | 2,176 | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Ratios, excluding buyouts | | | | | | | | | | | | | | | | | | | | | | | | | Loss ratio | | | 73.7 | % | | | 72.3 | % | | | | | | | 73.6 | % | | | 73.2 | % | | | | | Loss ratio, excluding financial institutions | | | 77.8 | % | | | 77.4 | % | | | | | | | 78.3 | % | | | 78.8 | % | | | | | Expense ratio | | | 25.8 | % | | | 27.1 | % | | | | | | | 26.8 | % | | | 27.7 | % | | | | | Expense ratio, excluding financial institutions | | | 22.3 | % | | | 22.3 | % | | | | | | | 22.4 | % | | | 22.5 | % | | | | |
Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 NetThe decrease in net income decreased for the three and six months ended March 31,June 30, 2008, was primarily due to increased realized capital losses.losses and lower net investment income. For further discussion, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. Additionally, net investment income has declined as compared toHowever, the prior year period.Company recognized gains of $7 and $6, after tax, in the three months ended June 30, 2008 and 2007, respectively, from the renewal rights transaction associated with the Company’s medical stop loss business. The following other factors contributed to the changes in net income:
| | | Premiums and other considerations
| | • Total premiums and other considerations, excluding buyouts were flat for the three months ended March 31, 2008 as increases for sales and persistency were offset by lower premiums in the medical stop loss business as a result of the sale of renewal rights associated with this business that closed during the second quarter of 2007.
| | | | Net investment income | | • | | Net investment income decreased for the three and six months ended June 30, 2008, primarily as a result of lower partnership investment returns and lower yields on certain other investments. | | | | | | Loss ratio | | • | | The segment’s loss ratio (defined as benefits, losses and loss adjustment expenses as a percentage of premiums and other considerations excluding buyouts) for the three and six months ended March 31,June 30, 2008, decreasedincreased due to higher mortality losses, partially offset by favorable morbidity and medical stop loss experience, partially offset by higher mortality losses. The favorable medical stop loss experience was primarily due to a strengthening of these reserves by $8, after-tax, during the first quarter of 2007.experience. | | | | | | Expense ratio | | • | | The segment’s expense ratio, excluding buyouts, for the three and six months ended March 31,June 30, 2008, decreased as compared to the prior year period primarily due to lower commission expenses driven by the decline in the medical stop loss business following the 2007 renewal rights transaction.expenses. |
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Outlook Management is committed to selling competitively priced products that meet the Company’s internal rate of return guidelines and as a result, sales may fluctuate based on the competitive pricing environment in the marketplace. In 2007, the Company generated premium growth due to the increased scale of the group life and disability operations. Also in 2007, the Company completed a renewal rights transaction associated with its medical stop loss business, which will cause lower earned premium and sales growth in 2008. The Company anticipates relatively stable loss ratios and expense ratios based on underlying trends in the in-force business and disciplined new business and renewal underwriting. The Company has not seen a meaningful impact in disability loss ratios as a result of the recent economic downturn. While claims incidence may increase during a recession, the Company would expect the impact to the disability loss ratio to be within the normal range of volatility. Despite the current market conditions, including rising medical costs, the changing regulatory environment and cost containment pressure on employers, the Company continues to leverage its strength in claim practices risk management, service and distribution, enabling the Company to capitalize on market opportunities. Additionally, employees continue to look to the workplace for a broader and ever expanding array of insurance products. As employers design benefit strategies to attract and retain employees, while attempting to control their benefit costs, management believes that the need for the Company’s products will continue to expand. This, combined with the significant number of employees who currently do not have coverage or adequate levels of coverage, creates opportunities for our products and services. Management’sBased on results to date, management’s current full year projections for 2008 are as follows:
• | | Fully insured ongoing premiums (excluding buyout premiums and premium equivalents) of $4.25 billion to $4.35 billion | | • | | Loss ratio (excluding buyout premiums) between 71% and 74% | | • | | Expense ratio (excluding buyout premiums) between 27% and 29% |
Fully insured ongoing premiums (excluding buyout premiums and premium equivalents) of $4.25 billion to $4.35 billion Loss ratio (excluding buyout premiums) between 71% and 74% Expense ratio (excluding buyout premiums) between 27% and 29% 5565
INTERNATIONAL | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income | | $ | 230 | | | $ | 194 | | | | 19 | % | Earned premiums | | | (2 | ) | | | (3 | ) | | | (33 | %) | Net investment income | | | 32 | | | | 33 | | | | (3 | %) | Net realized capital losses | | | (113 | ) | | | (19 | ) | | NM | | | | | | | | | | | | Total revenues [1] | | | 147 | | | | 205 | | | | (28 | %) | Benefits, losses and loss adjustment expenses | | | 16 | | | | 8 | | | | 100 | % | Insurance operating costs and other expenses | | | 69 | | | | 55 | | | | 25 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | 47 | | | | 57 | | | | (18 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | 132 | | | | 120 | | | | 10 | % | Income before income taxes | | | 15 | | | | 85 | | | | (82 | %) | Income tax expense | | | 7 | | | | 31 | | | | (77 | %) | | | | | | | | | | | Net income [2] | | $ | 8 | | | $ | 54 | | | | (85 | %) | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management — Japan | | | | | | | | | | | | | Japan variable annuity account values | | $ | 36,777 | | | $ | 31,148 | | | | 18 | % | Japan MVA fixed annuity account values | | | 2,198 | | | | 1,723 | | | | 28 | % | | | | | | | | | | | Total assets under management — Japan | | $ | 38,975 | | | $ | 32,871 | | | | 19 | % | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income | | $ | 229 | | | $ | 202 | | | | 13 | % | | $ | 459 | | | $ | 396 | | | | 16 | % | Earned premiums | | | (3 | ) | | | (2 | ) | | | (50 | %) | | | (5 | ) | | | (5 | ) | | | — | | Net investment income | | | 38 | | | | 35 | | | | 9 | % | | | 70 | | | | 68 | | | | 3 | % | Net realized capital gains (losses) | | | 2 | | | | (44 | ) | | NM | | | | (111 | ) | | | (63 | ) | | | (76 | %) | | | | | | | | | | | | | | | | | | | | Total revenues [1] | | | 266 | | | | 191 | | | | 39 | % | | | 413 | | | | 396 | | | | 4 | % | Benefits, losses and loss adjustment expenses | | | 15 | | | | 9 | | | | 67 | % | | | 31 | | | | 17 | | | | 82 | % | Insurance operating costs and other expenses | | | 80 | | | | 55 | | | | 45 | % | | | 150 | | | | 110 | | | | 36 | % | Amortization of deferred policy acquisition costs and present value of future profits | | | 66 | | | | 60 | | | | 10 | % | | | 112 | | | | 117 | | | | (4 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 161 | | | | 124 | | | | 30 | % | | | 293 | | | | 244 | | | | 20 | % | Income before income taxes | | | 105 | | | | 67 | | | | 57 | % | | | 120 | | | | 152 | | | | (21 | %) | Income tax expense | | | 33 | | | | 26 | | | | 27 | % | | | 40 | | | | 57 | | | | (30 | %) | | | | | | | | | | | | | | | | | | | | Net income [2] | | $ | 72 | | | $ | 41 | | | | 76 | % | | $ | 80 | | | $ | 95 | | | | (16 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management — Japan | | | | | | | | | | | | | | | | | | | | | | | | | Japan variable annuity account values | | | | | | | | | | | | | | $ | 35,910 | | | $ | 32,050 | | | | 12 | % | Japan MVA fixed annuity account values | | | | | | | | | | | | | | | 2,212 | | | | 1,658 | | | | 33 | % | | | | | | | | | | | | | | | | | | | | | | | Total assets under management — Japan | | | | | | | | | | | | | | $ | 38,122 | | | $ | 33,708 | | | | 13 | % | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | The transition impact related to the SFAS 157 adoption was a reduction in revenues of $34.$34 during the six months ended June 30, 2008. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements. | | [2] | | The transition impact related to the SFAS 157 adoption was a reduction in net income of $11.$11 during the six months ended June 30, 2008. For further discussion of the SFAS 157 transition impact, refer to Note 4 in the Notes to the Condensed Consolidated Financial Statements. |
Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Net income decreasedincreased for the three months ended March 31,June 30, 2008 due to higher fee income in Japan derived from an increase in assets under management, and an increase in realized gains, partially offset by an increase in insurance operating costs and other expenses. Net income decreased for the six months ended June 30, 2008 primarily due to increased realized capital losses from the adoption of SFAS 157, which resulted in a net realized capital loss of $34.$34 during the first quarter of 2008, increases in insurance operating costs and other expenses, partially offset by an increase in fee income. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. For further discussion of realized capital losses, see Realized Capital Gains and losses by Segment table under Life’s Operating Section of the MD&A. The following other factors contributed to the changes in net income: | | | | | Fee income | | • | | Fee income increased for the three and six months ended March 31,June 30, 2008, primarily due to growth in Japan’s variable annuity assets under management.management offset by lower fees on lower surrenders. The increase in assets under management over the past four quarters was driven by positive net flows of $3.8$3.0 billion and a $6.2$5.3 billion increase due to foreign currency exchange translation as the yen strengthened compared to the U.S. dollar,dollar. Positive net flows and favorable foreign currency exchange were partially offset by unfavorable market performance of $4.4 billion and fees on lower surrenders.billion. | | | | | | Benefits, losses and loss adjustment expenses | | • | | Benefits, losses and loss adjustment expense increased for the three and six months ended June 30, 2008, due to a higher GMDB net amount at risk as well as increased claims costs resulting from declining markets between customers’ date of death and date of payment. | | | | | | Insurance operating costs and other expenses | | • | | Insurance operating costs and other expenses increased for the three and six months ended March 31,June 30, 2008 due to the growth and strategic investment in the Japan operation. | | | | Amortization of deferred policy acquisition costs and present value of future profits (“DAC”)
| | • Amortization of DAC decreased primarily due to the adoption of SFAS 157 at the beginning of the first quarter of 2008. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements.
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Outlook Management continues to be optimistic about the long-term growth potential of the retirement savings market in Japan. Several trends, such as an aging population, longer life expectancies and declining birth rates leading to a smaller number of younger workers to support each retiree, have resulted in greater need for an individual to plan and adequately fund retirement savings. Profitability depends on the account values of our customers, which are affected by equity, bond and currency markets. Periods of favorable market performance will increase assets under management and thus increase fee income earned on those assets. In addition, higher account value levels will generally reduce certain costs for individual annuities to the Company, such as guaranteed minimum death benefits (“GMDB”), guaranteed minimum income benefits (“GMIB”) and, guaranteed minimum accumulation benefits (“GMAB”) and guaranteed minimum withdrawal benefits (“GMWB”). Prudent expense management is also an important component of product profitability. On September 30, 2007, the Financial Services Agency in Japan implemented a new law, the Financial Instruments Exchange Law (“FIEL”). FIEL was designed to strengthen the protection of Japanese consumers who buy financial products such as stocks, bonds, mutual funds, variable annuities, fixed annuities with market value adjustments and some types of bank deposits. As a result, financial institutions in Japan implemented extensive customer assessments which were required prior to recommending securities and other financial products, including annuities. These assessments lengthened the sales cycle as the marketplace adapted to the new sales practices. At the end of the first quarter of 2008, management believes the impact of FIEL has fully materialized and does not anticipate any additional negative impact on future sales.
Competition has increased dramatically in the Japanese market from both domestic and foreign insurers. This increase in competition has impacted current deposits and is expected to negatively impact future deposit levels for the remainder of the year. The Company continues to expand key distribution relationships and improve our wholesaling and servicing efforts. In addition, the Company continues to evaluate product designs that meet customers’ needs, while maintainingseeks to expand to new distributors and continues to maintain prudent risk management. Specifically, the Company will launchhas announced a new relationship with the second largest variable annuity distributor in Japan for an existing product, and will continue to launch new products in the second half of 2008.line with market demands. The success of the Company’s product offerings will ultimately be based on customer acceptance in an increasingly competitive environment. During the first quarterand second quarters of 2008, the Company alsohas experienced lower than expected surrenders and related surrender fees. As a result ofIn addition, the lower than expected surrender fees as well asCompany expects lower net flows and market returns. Lower surrender fees, net flows and market returns the Company expectsare consequently expected to result in a lower returnsreturn on assets from these items, than in prior years. Based on the results to date and the items discussed above, management has loweredadjusted its full year projections for Japan in 2008 as follows (using ¥100/¥106/$1 exchange rate for the remainder of 2008): Variable annuity deposits of ¥325 billion to ¥425 billion ($3.1 billion to $4.0 billion) Variable annuity net flows of ¥165 billion to ¥275 billion ($1.5 billion to $2.4 billion) 67
INSTITUTIONAL Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 38 | | | $ | 53 | | | | (28 | %) | | $ | 79 | | | $ | 114 | | | | (31 | %) | Earned premiums | | | 242 | | | | 191 | | | | 27 | % | | | 430 | | | | 359 | | | | 20 | % | Net investment income | | | 279 | | | | 308 | | | | (9 | %) | | | 573 | | | | 599 | | | | (4 | %) | Net realized capital losses | | | (87 | ) | | | (20 | ) | | NM | | | | (306 | ) | | | (23 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 472 | | | | 532 | | | | (11 | %) | | | 776 | | | | 1,049 | | | | (26 | %) | Benefits, losses and loss adjustment expenses | | | 488 | | | | 474 | | | | 3 | % | | | 946 | | | | 891 | | | | 6 | % | Insurance operating costs and other expenses | | | 30 | | | | 30 | | | | — | | | | 58 | | | | 68 | | | | (15 | %) | Amortization of deferred policy acquisition costs and present value of future profits | | | 5 | | | | 2 | | | | 150 | % | | | 11 | | | | 17 | | | | (35 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 523 | | | | 506 | | | | 3 | % | | | 1,015 | | | | 976 | | | | 4 | % | Income (loss) before income taxes | | | (51 | ) | | | 26 | | | NM | | | | (239 | ) | | | 73 | | | NM | | Income tax expense (benefit) | | | (21 | ) | | | 7 | | | NM | | | | (89 | ) | | | 21 | | | NM | | | | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | (30 | ) | | $ | 19 | | | NM | | | $ | (150 | ) | | $ | 52 | | | NM | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Assets Under Management | | | | | | | | | | | | | | | | | | | | | | | | | Institutional account values [1] | | | | | | | | | | | | | | $ | 25,546 | | | $ | 24,127 | | | | 6 | % | Private Placement Life Insurance account values [1] | | | | | | | | | | | | | | | 32,944 | | | | 29,053 | | | | 13 | % | Mutual fund assets under management | | | | | | | | | | | | | | | 3,844 | | | | 2,956 | | | | 30 | % | | | | | | | | | | | | | | | | | | | | | | | Total assets under management | | | | | | | | | | | | | | $ | 62,334 | | | $ | 56,136 | | | | 11 | % | | | | | | | | | | | | | | | | | | | | | | |
• | | Variable annuity | [1] | | Includes policyholder balances for investment contracts and reserves for future policy benefits for insurance contracts. |
Three and six months ended June 30, 2008 compared to the three and six months ended June 30, 2007 Net income in Institutional decreased for the three and six months ended June 30, 2008 primarily due to increased realized capital losses. For further discussion, see Realized Capital Gains and Losses by Segment table under Life’s Operating Section of the MD&A. Further discussion of income is presented below: | | | | | Fee income and other | | • | | Fee income and other decreased for the three and six months ended June 30, 2008, primarily due to large Private Placement Life Insurance (“PPLI”) cases sold during the three and six months ended June 30, 2007. PPLI collects front-end loads, recorded in fee income, to subsidize premium tax payments. Premium taxes are recorded as an expense in insurance operating costs and other expenses. For the six months ended June 30, 2008 and 2007, PPLI had deposits of ¥300$156 and $2.2 billion, respectively, which resulted in fee income due to ¥450 billion ($3.0 billion to $4.5 billion)front-end loads of $1 and $45, respectively, offset by a corresponding decrease in premium taxes reported in insurance operating costs and other expenses. | | • | | Variable | | Earned premiums | | • | | For the three and six months ended June 30, 2008, earned premiums increased as a result of strong single premium annuity life contingent sales. The increase in earned premiums was offset by a corresponding increase in benefits, losses and loss adjustment expenses. | | | | | | Net investment income | | • | | Net investment income decreased for the three and six months ended June 30, 2008, due to lower income on variable rate securities indexed to LIBOR as well as decreases in returns on partnership investments compared with prior periods, partially offset by income earned on higher assets under management. For the three and six months ended June 30, 2008, partnership income was $7 and $9, respectively. For the comparable three and six month periods in 2007, partnership income was $16 and $28, respectively. The decline in yield on floating rate LIBOR based investments was offset by a corresponding decrease in interest credited on liabilities in benefits, losses, and loss adjustment expense. Institutional Investment Products assets under management increased due to positive net flows of ¥120 billion$539 during the past four quarters. | | | | | | Income tax expense (benefit) | | • | | The income tax benefit for the three and six months ended June 30, 2008, as compared to ¥270 billion ($1.2 billionthe prior year periods income tax expense was due to $2.7 billion)a loss before income taxes primarily due to increased realized capital losses. For further discussion of net realized capital losses, see Realized Capital Gains and Losses by Segment table under the Operating section of the MD&A. |
5768
Outlook As the “baby boom” generation approaches retirement, management believes these individuals will seek investment and insurance vehicles that will give them steady streams of income throughout retirement. IIP has launched new products in 2006 and 2007 to provide solutions that deal specifically with longevity risk. Longevity risk is defined as the likelihood of an individual outliving their assets. IIP is also designing innovative solutions to corporations’ defined benefit liabilities. Institutional’s products are highly competitive from a pricing perspective, and a small number of cases often account for a significant portion of deposits. Therefore, the Company may not be able to sustain the level of assets under management growth attained in 2007. The variable PPLI market includes life insurance policies purchased by a company or a trust on the lives of employees, with Life or a trust sponsored by Life named as the beneficiary under the policy. Variable PPLI products continue to be used by employers to fund non-qualified benefits or other post-employment benefit liabilities. A key advantage to plan sponsors is the opportunity to select from a range of tax deferred investment allocations. During 2008, sale and net flow activity has declined relative to the prior year and the Company expects that trend to continue for the remainder of 2008 or until the general economic climate improves. Hartford Income Notes and other stable value products (collectively “stable value products”) provide the Company with continued opportunity for future growth. These markets are highly competitive and the Company’s success depends in part on the level of credited interest rates and the Company’s credit rating. Stable value products net flows can be impacted by contractual maturities and rights which can include an investor’s option to accelerate principal repayments after a defined notice period as well as certain fixed rate contracts for which the Company has the option to accelerate the repayment of principal and has exercised this option in certain cases. Considering these factors as well as the interest rate and credit spread environment as of June 30, 2008, the Company expects increased outflows, and has reflected that expectation in its projection for net flows for full year 2008. The future net income of this segment will depend on Institutional’s ability to increase assets under management, mix of business and net investment spread. The net investment spread, as previously discussed in the Performance Measures section of this MD&A, has declined relative to the prior year and we expect the remainder of 2008 to continue to be lower than prior year levels, primarily due to lower income amounts from partnerships and alternative investments as well as the aforementioned factors impacting net flows. Based on results to date, management’s current full year projections for 2008 are as follows: Deposits (including mutual funds) of $7.0 billion to $8.5 billion Net flows (including mutual funds) of $1.8 billion to $2.5 billion 69
OTHER | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 18 | | | $ | 16 | | | | 13 | % | Net investment income (loss) | | | | | | | | | | | | | Securities available-for-sale and other | | | 19 | | | | 38 | | | | (50 | %) | Equity securities, held for trading [1] | | | (3,578 | ) | | | 210 | | | NM | | | | | | | | | | | | Total net investment income (loss) | | | (3,559 | ) | | | 248 | | | NM | | Net realized capital gains (losses) | | | (26 | ) | | | 20 | | | NM | | | | | | | | | | | | Total revenues | | | (3,567 | ) | | | 284 | | | NM | | Benefits, losses and loss adjustment expenses | | | 40 | | | | 33 | | | | 21 | % | Benefits, losses and loss adjustment expenses — returns credited on International variable annuities [1] | | | (3,578 | ) | | | 210 | | | NM | | Insurance operating costs and other expenses | | | 15 | | | | 24 | | | | (38 | %) | | | | | | | | | | | Total benefits, losses and expenses | | | (3,523 | ) | | | 267 | | | NM | | Income (loss) before income taxes | | | (44 | ) | | | 17 | | | NM | | Income tax expense (benefit) | | | (17 | ) | | | 9 | | | NM | | | | | | | | | | | | Net income (loss) | | $ | (27 | ) | | $ | 8 | | | NM | | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Fee income and other | | $ | 14 | | | $ | 20 | | | | (30 | %) | | $ | 32 | | | $ | 36 | | | | (11 | %) | Net investment income (loss) | | | | | | | | | | | | | | | | | | | | | | | | | Securities available-for sale and other | | | 24 | | | | 45 | | | | (47 | %) | | | 43 | | | | 83 | | | | (48 | %) | Equity securities, held for trading [1] | | | 1,153 | | | | 1,234 | | | | (7 | %) | | | (2,425 | ) | | | 1,444 | | | NM | | | | | | | | | | | | | | | | | | | | | Total net investment income (loss) | | | 1,177 | | | | 1,279 | | | | (8 | %) | | | (2,382 | ) | | | 1,527 | | | NM | | Net realized capital gains (losses) | | | 8 | | | | (7 | ) | | NM | | | | (18 | ) | | | 13 | | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 1,199 | | | | 1,292 | | | | (7 | %) | | | (2,368 | ) | | | 1,576 | | | NM | | Benefits, losses and loss adjustment expenses | | | 34 | | | | 47 | | | | (28 | %) | | | 74 | | | | 80 | | | | (8 | %) | Benefits, losses and loss adjustment expenses — returns credited on International variable annuities [1] | | | 1,153 | | | | 1,234 | | | | (7 | %) | | | (2,425 | ) | | | 1,444 | | | NM | | Insurance operating costs and other expenses | | | 13 | | | | 35 | | | | (63 | %) | | | 27 | | | | 60 | | | | (55 | %) | | | | | | | | | | | | | | | | | | | | Total benefits, losses and expenses | | | 1,200 | | | | 1,316 | | | | (9 | %) | | | (2,324 | ) | | | 1,584 | | | NM | | Loss before income taxes | | | (1 | ) | | | (24 | ) | | | 96 | % | | | (44 | ) | | | (8 | ) | | NM | | Income tax expense (benefit) | | | — | | | | (5 | ) | | | 100 | % | | | (16 | ) | | | 3 | | | NM | | | | | | | | | | | | | | | | | | | | | Net loss | | $ | (1 | ) | | $ | (19 | ) | | | 95 | % | | $ | (28 | ) | | $ | (11 | ) | | | (155 | %) | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Includes investment income and mark-to-market effects of equity securities held for trading supporting the international variable annuity business, which are classified in net investment income with corresponding amounts credited to policyholders. |
Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 | | | | | Net investment income | | • | | Net investment income on securities available-for-sale declined due to decreases in partnership income. | | | | | | Realized capital gains (losses) | | • | | See Realized Capital Gains and Losses by Segment table under Life’s Operating section of the MD&A. | | | | | | Insurance operating costs and other expenses | | • | | Insurance operating costs and other expenses decreased for the three and six months ended March 31,June 30, 2008 as compared to the prior year period,periods, primarily due to a charge of $21 for regulatory matters in the second quarter of 2007 and due to a reallocation of expenses to the applicable lines of business.business in 2008. |
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PROPERTY & CASUALTY Executive Overview Property & Casualty is organized into five reporting segments: the underwriting segments of Personal Lines, Small Commercial, Middle Market and Specialty Commercial (collectively, “Ongoing Operations”); and the Other Operations segment. Property & Casualty provides a number of coverages, as well as insurance related services, to businesses throughout the United States, including workers’ compensation, property, automobile, liability, umbrella, specialty casualty, marine, livestock, fidelity, surety, professional liability and directors and officers’ liability coverages. Property & Casualty also provides automobile, homeowners and home-based business coverage to individuals throughout the United States as well as insurance-related services to businesses. Property & Casualty derives its revenues principally from premiums earned for insurance coverages provided to insureds, investment income, and, to a lesser extent, from fees earned for services provided to third parties and net realized capital gains and losses. Premiums charged for insurance coverages are earned principally on a pro rata basis over the terms of the related policies in-force. Service fees principally include revenues from third party claims administration services provided by Specialty Risk Services and revenues from member contact center services provided through the AARP Health program. Total Property & Casualty Financial Highlights The following discusses Property & Casualty financial highlights for the three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007. Premium revenue | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | Written Premiums [1] | | | Personal Lines | | $ | 936 | | $ | 939 | | | $ | 1,029 | | $ | 1,039 | | $ | 1,965 | | $ | 1,978 | | Small Commercial | | 743 | | 740 | | | 679 | | 694 | | 1,422 | | 1,434 | | Middle Market | | 548 | | 557 | | | 513 | | 536 | | 1,061 | | 1,093 | | Specialty Commercial | | 357 | | 386 | | | 362 | | 405 | | 719 | | 791 | | Other Operations | | 2 | | — | | | 2 | | 1 | | 4 | | 1 | | | | | | | | | | | | | | | | | Total | | $ | 2,586 | | $ | 2,622 | | | $ | 2,585 | | $ | 2,675 | | $ | 5,171 | | $ | 5,297 | | | | | | | | | | | | | | | | | | | | Earned Premiums [1] | | | Personal Lines | | $ | 983 | | $ | 953 | | | $ | 980 | | $ | 967 | | $ | 1,963 | | $ | 1,920 | | Small Commercial | | 687 | | 681 | | | 683 | | 684 | | 1,370 | | 1,365 | | Middle Market | | 576 | | 605 | | | 559 | | 592 | | 1,135 | | 1,197 | | Specialty Commercial | | 367 | | 384 | | | 362 | | 378 | | 729 | | 762 | | Other Operations | | 1 | | — | | | 2 | | 1 | | 3 | | 1 | | | | | | | | | | | | | | | | | Total | | $ | 2,614 | | $ | 2,623 | | | $ | 2,586 | | $ | 2,622 | | $ | 5,200 | | $ | 5,245 | | | | | | | | | | | | | | | | |
| | | [1] | | The difference between written premiums and earned premiums is attributable to the change in unearned premium reserve. |
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Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Earned Premiums Total Property & Casualty earned premiums decreased slightly$36, or 1%, primarily due to lower earned premiums in Middle Market and Specialty Commercial, almost entirelypartially offset by increased earned premiums in Personal Lines and Small Commercial.Lines. | | | | | Personal Lines | | • | | Earned premium grew by $30,$13, or 3%1%, primarily due to a $28, or 4%, increase in AARP earned premiums, partially offset by a $9, or 3%, decrease in Agency earned premiums. AARP earned premiums grew primarily due to an increase in the size of the AARP target market, the effect of direct marketing programs and the effect of cross selling homeowners insurance to insureds who have auto policies. Agency earned premium decreased largely due to a decline in new business premium and premium renewal retention since the second quarter of 2007, partially offset by the effect of modest earned pricing increases. | | | | | | Small Commercial | | • | | Earned premiums were relatively flat at $683, primarily due to new business outpacing non-renewals over the last nine months of 2007 and first three months of 2008, entirely offset by the effect of modest earned pricing decreases. | | | | | | Middle Market | | • | | Earned premium decreased by $33, or 6%, driven by decreases in commercial auto, general liability and workers’ compensation. Earned premium decreases were driven primarily by a decline in earned pricing in 2008 and the effect of non-renewals outpacing new business over the last nine months of 2007. | | | | | | Specialty Commercial | | • | | Earned premium decreased by $16, or 4%, driven by decreases in casualty and property due, in part, to a decrease in earning pricing and new business written premium. |
Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Earned Premiums Total Property & Casualty earned premiums decreased $45, or 1%, primarily due to lower earned premiums in Middle Market and Specialty Commercial, partially offset by increased earned premiums in Personal Lines. | | | | | Personal Lines | | • | | Earned premium grew by $43, or 2%, primarily due to a $62, or 5%, increase in AARP earned premiums. AARP earned premiums grew primarily due to an increase in the size of the AARP target market, the effect of direct marketing programs and the effect of cross selling homeowners insurance to insureds who have auto policies. | | | | | | Small Commercial | | • | | Earned premiumspremium increased $6, or 1%,slightly, to $1,370, primarily due to new business outpacing non-renewals over the last nine months of 2007 partiallyand first three months of 2008, largely offset by the effect of modest earned pricing decreases. Despite a decline in new business in 2007, new business outpaced non-renewals during the last nine months of 2007 for workers’ compensation business, including business written through payroll service providers. | | | | | | Middle Market | | • | | Earned premium decreased by $29,$62, or 5%, driven by decreases in commercial auto, workers’ compensation and commercial autogeneral liability. Earned premium decreases were driven primarily by a decline in earned pricing in 2008 and by a decline inthe effect of non-renewals outpacing new business and premium renewal retention over the firstlast nine months of 2007. | | | | | | Specialty Commercial | | • | | Earned premium decreased by $17,$33, or 4%, driven by a decreasedecreases in casualty and property due, in part, to a decrease in earned pricing and new business written premium. |
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Net income | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | Underwriting results before catastrophes and prior accident year development | | $ | 313 | | $ | 319 | | | $ | 237 | | $ | 253 | | $ | 550 | | $ | 572 | | Current accident year catastrophes | | | (50 | ) | | | (28 | ) | | | (171 | ) | | | (52 | ) | | | (221 | ) | | | (80 | ) | Prior accident year reserve development | | 36 | | | (22 | ) | | | (16 | ) | | | (104 | ) | | 20 | | | (126 | ) | | | | | | | | | | | | | | | | Underwriting results | | 299 | | 269 | | | 50 | | 97 | | 349 | | 366 | | Net servicing and other income [1] | | | (1 | ) | | 11 | | | 8 | | 14 | | 7 | | 25 | | Net investment income | | 365 | | 413 | | | 391 | | 446 | | 756 | | 859 | | Net realized capital gains (losses) | | | (152 | ) | | 23 | | | Net realized capital losses | | | | (51 | ) | | | (24 | ) | | | (203 | ) | | | (1 | ) | Other expenses | | | (59 | ) | | | (60 | ) | | | (65 | ) | | | (58 | ) | | | (124 | ) | | | (118 | ) | | | | | | | | | | | | | | | | Income before income taxes | | 452 | | 656 | �� | | 333 | | 475 | | 785 | | 1,131 | | Income tax expense | | | (126 | ) | | | (195 | ) | | | (84 | ) | | | (131 | ) | | | (210 | ) | | | (326 | ) | | | | | | | | | | | | | | | | Net income | | $ | 326 | | $ | 461 | | | $ | 249 | | $ | 344 | | $ | 575 | | $ | 805 | | | | | | | | | | | | | | | | |
| | | [1] | | Net of expenses related to service business. |
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Net realized capital gains (losses) | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | Gross gains on sales | | $ | 52 | | $ | 52 | | | $ | 31 | | $ | 38 | | $ | 83 | | $ | 90 | | Gross losses on sales | | | (100 | ) | | | (26 | ) | | | (13 | ) | | | (36 | ) | | | (113 | ) | | | (62 | ) | Impairments | | | (73 | ) | | | (1 | ) | | | (40 | ) | | | (20 | ) | | | (113 | ) | | | (21 | ) | Periodic net coupon settlements on credit derivatives | | 2 | | 3 | | | 1 | | 3 | | 3 | | 6 | | Other, net | | | (33 | ) | | | (5 | ) | | | (30 | ) | | | (9 | ) | | | (63 | ) | | | (14 | ) | | | | | | | | | | | | | | | | Net realized capital gains (losses), before tax | | $ | (152 | ) | | $ | 23 | | | Net realized capital losses, before-tax | | | $ | (51 | ) | | $ | (24 | ) | | $ | (203 | ) | | $ | (1 | ) | | | | | | | | | | | | | | | |
Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Net income decreased by $135,$95, or 29%28%, primarily driven by a change fromdecrease in net investment income and underwriting results and, to a lesser extent, an increase in net realized capital gains in the 2007 period to net realized capital losses in the 2008 period and a decrease in investment income.losses. | | | | | Net investment income | | • | | Primarily driving the $55 decrease in net investment income was a decrease in investment yield for limited partnerships and other alternative investments and, to a lesser extent, a decrease in investment yield for fixed maturities. | | | | | | Underwriting results | | • | | The $16 decrease in underwriting results before catastrophes and prior accident year reserve development was primarily driven by higher non-catastrophe losses on Middle Market property and Personal Lines homeowners’ business and a $15 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits, largely offset by a lower loss and loss adjustment expense ratio for Small Commercial workers’ compensation claims. | | | | | | | | • | | The $119 increase in current accident year catastrophe losses was primarily due to more severe catastrophes in 2008, including tornadoes and thunderstorms in the South and Midwest. | | | | | | | | • | | The $88 decrease in net unfavorable prior accident year reserve was largely due to reserve strengthening in 2007 of $99 principally as a result of an adverse arbitration decision involving business in runoff. Net unfavorable reserve development in 2008 was primarily due to strengthening of net asbestos reserves in Other Operations, largely offset by net reserve releases in Ongoing Operations. Refer to the “Reserves” section of the MD&A for further discussion. |
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| | | | | Realized capital gains (losses) | | Gross gains (losses) on sales, net | | | • | | Gross gains on sales in both 2008 were predominantly within fixed maturities and were comprised of sales of corporate and municipal securities. Gross gains in 2007 were primarily from sales of corporate securities, resulting from a decision to reallocate the portfolio to securities with more favorable risk/return profiles.securities. | | | | | | | | • | | Gross losses on sales in 2008 were predominantly from sales of fixed maturities, including corporate securities and CMBS. Gross losses on sales in 2007 were primarily from sales of corporate securities. | | | | | | | | • | | Gross gains and losses on sales primarily resulted from the decision to reallocate the portfolio to securities with more favorable risk/return profiles. | | | | | | | | Impairments | | | | | | | | • | | Impairments of $73$40 in 2008 primarily consisted of credit-relatedcredit related impairments of one subordinated fixed maturity in the financial services sector and of previously impaired RMBS and CMBS ABS, and corporate securities.as well as impairments of securities where the Company is uncertain of its intent to retain the investments for a period of time sufficient to allow recovery. (See the Other-Than-Temporary Impairments discussion within “Investment Results” in the “Investments” section of the MD&A for more information on the impairments recorded in 2008). | | | | | | | | Other, net | | | | | | | | • | | Other, net realized losses in 2008 were primarily resulted fromrelated to $24 of net losses on credit derivatives. The net losses on credit derivatives are comprised of losses in the first quarter on credit derivatives that assume credit exposure as a result of credit spreads widening and losses in the second quarter on credit derivatives that reduce credit exposure as a result of credit spreads tightening. Included in these were losses on HIMCO managed CLOs. For more information regarding these losses, refer to the Variable Interest Entities section within “Investment Results” in the “Investments” section of the MD&A. | | | | | | | | • | | Other, net realized losses in 2007 were primarily driven by the change in value associated with creditof non-qualifying derivatives due to credit spreads widening. For further discussion, see the “Capital Market Risk Management” section of the MD&A. | | | | | | Other expenses | | • | | Other expenses increased by $7, primarily due to a reduction in the estimated cost of legal settlements in 2007. | | | | | | Net servicing income and other | | • | | The $6 decrease in net servicing income was primarily driven by a decrease in servicing income from the AARP Health program. | | | | | | Income tax expense | | • | �� | Income tax expense decreased by $47 commensurate with the decrease in income before income taxes. |
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Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Net income decreased by $230, or 29%, primarily driven by net realized capital losses in 2008 and a decrease in net investment income. | | | | | Realized capital gains (losses) | | Gross gains (losses) on sales, net | | | | | | | | • | | Gross gains on sales in 2008 were predominantly within fixed maturities and were comprised of sales of corporate and municipal securities. Gross gains in 2007 were primarily from sales of corporate securities. | | | | | | | | • | | Gross losses on sales in 2008 were predominantly from sales of corporate securities and CMBS, as well as $19 of CLOs in the first quarter for which HIMCO is the collateral manager. For more information regarding losses on the sale of HIMCO managed CLOs, refer to the Variable Interest Entities section within “Investment Results” in the “Investments” section of the MD&A. Gross losses on sales in 2007 were primarily from sales of corporate securities. | | | | | | | | • | | Gross gains and losses on sales, excluding the loss on CLOs, primarily resulted from the decision to reallocate the portfolio to securities with more favorable risk/return profiles. | | | | | | | | Impairments | | | | | | | | • | | Impairments of $113 in 2008 primarily consisted of credit related impairments of CMBS, ABS, corporate securities and one subordinated fixed maturity in the financial services sector as well as other impairments of securities where the Company is uncertain of its intent to retain the investments for a period of time sufficient to allow recovery. (See the Other-Than-Temporary Impairments discussion within “Investment Results” in the “Investments” section of the MD&A for more information on the impairments recorded in 2008). | | | | | | | | Other, net | | | | | | | | • | | Other, net realized losses in 2008 were primarily related to $76 of net losses on credit derivatives. The net losses on credit derivatives are comprised of losses in the first quarter on credit derivatives that assume credit exposure as a result of credit spreads widening and losses in the second quarter on credit derivatives that reduce credit exposure as a result of credit spreads tightening. Included in these were losses on HIMCO managed CLOs. For more information regarding these losses, refer to the Variable Interest Entities section within “Investment Results” in the “Investments” section of the MD&A. | | | | | | | | • | | Other, net realized losses in 2007 were primarily driven by the change in value of non-qualifying derivatives due to credit spreads widening. | | | | | | Net investment income | | • | | Primarily driving the $48$103 decrease in net investment income were losseswas a decrease in 2008 on limitedinvestment yield for partnerships and other alternative investments largely driven by lower returns on hedge funds and, real estate partnerships asto a result of the lack of liquiditylesser extent, a decrease in the financial markets.investment yield for fixed maturities. |
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| | | | | Underwriting results | | • | | The $6$22 decrease in underwriting results before catastrophes and prior accident year reserve development was primarily driven by higher loss costs on Personal Lines auto claims and higher non-catastrophe losses on Middle Market property and marine business and higher loss costs on Personal Lines auto and homeowners’ claims, largely offset by a lower loss and loss adjustment expense ratio for Small Commercial workers’ compensation claims and lower non-catastrophe property claims under Small Commercial package business. Also contributing to the decrease in underwriting results was a $15 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits. | | | | | | | | • | | The $141 increase in current accident year catastrophe losses was primarily due to more severe catastrophes in 2008, including tornadoes and thunderstorms in the South and Midwest and winter storms along the Pacific coast. | | | | | | | | • | | The change from net unfavorable prior accident year reserve development in 2007 to net favorable prior accident yearreserve development in 2008 was largely due to a $99 reserve strengthening in 2007 principally as a result of an adverse arbitration decision involving business in runoff and the effect of net favorable reserves development in 2008. Net favorable reserve development in 2008 was primarily due to net reserve releases in 2008, including releasesOngoing Operations, partially offset by strengthening of workers’ compensationasbestos reserves in both Small Commercial and Middle Market.Other Operations. Refer to the “Reserves” section of the MD&A for further discussion. | | | | | | Net servicing income and other | | • | | The $12$18 decrease in net servicing income was primarily driven by a decrease in servicing income from the AARP Health program and the write-off of software used in administering policies for third parties. | | | | | | Income tax expense | | • | | Income tax expense decreased by $69$116 commensurate with the decrease in income before income taxes. |
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Key Performance Ratios and Measures The Company considers several measures and ratios to be the key performance indicators for the property and casualty underwriting businesses. For a detailed discussion of the Company’s key performance and profitability ratios and measures, see the Property & Casualty Executive Overview section of the MD&A included in The Hartford’s 2007 Form 10-K Annual Report. The following table and the segment discussions include the more significant ratios and measures of profitability for the three and six months ended March 31,June 30, 2008 and 2007. Management believes that these ratios and measures are useful in understanding the underlying trends in The Hartford’s property and casualty insurance underwriting business. However, these key performance indicators should only be used in conjunction with, and not in lieu of, underwriting income for the underwriting segments of Personal Lines, Small Commercial, Middle Market and Specialty Commercial and net income for the Property & Casualty business as a whole, Ongoing Operations and Other Operations. These ratios and measures may not be comparable to other performance measures used by the Company’s competitors. | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | Ongoing Operations earned premium growth | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | Personal Lines | | | 3 | % | | | 4 | % | | | 1 | % | | | 3 | % | | | 2 | % | | | 3 | % | Small Commercial | | | 1 | % | | | 6 | % | | — | | | 4 | % | | — | | | 5 | % | Middle Market | | | (5 | %) | | | (2 | %) | | | (6 | %) | | | (3 | %) | | | (5 | %) | | | (2 | %) | Specialty Commercial | | | (4 | %) | | — | | | | (4 | %) | | | (6 | %) | | | (4 | %) | | | (3 | %) | | | | | | | | | | | | | | | | Total Ongoing Operations | | — | | | 2 | % | | | (1 | %) | | | 1 | % | | | (1 | %) | | | 1 | % | | | | | | | | | | | | | | | | | | | Ongoing Operations combined ratio | | | Combined ratio before catastrophes and prior year development | | 87.9 | | 87.6 | | | 90.7 | | 90.2 | | 89.3 | | 88.9 | | Catastrophe ratio | | | Current year | | 1.9 | | 1.1 | | | 6.6 | | 2.0 | | 4.2 | | 1.5 | | Prior years | | | (0.4 | ) | | | (0.2 | ) | | — | | 0.1 | | | (0.2 | ) | | — | | | | | | | | | | | | | | | | | Total catastrophe ratio | | 1.5 | | 0.9 | | | 6.6 | | 2.1 | | 4.0 | | 1.5 | | Non-catastrophe prior year development | | | (1.5 | ) | | 0.4 | | | | (1.5 | ) | | | (0.6 | ) | | | (1.5 | ) | | | (0.1 | ) | | | | | | | | | | | | | | | | Combined ratio | | 87.8 | | 88.8 | | | 95.8 | | 91.7 | | 91.8 | | 90.3 | | | | | | | | | | | | | | | | | | | | Other Operations net income | | $ | 14 | | $ | 32 | | | Other Operations net income (loss) | | | $ | 3 | | $ | (40 | ) | | $ | 17 | | $ | (8 | ) | | | | | | | | | | | | | | | | | | | Total Property & Casualty measures of net investment income | | | Investment yield, after-tax | | | 3.7 | % | | | 4.4 | % | | | 3.9 | % | | | 4.7 | % | | | 3.8 | % | | | 4.5 | % | Average invested assets at cost | | $ | 30,626 | | $ | 28,798 | | | $ | 30,745 | | $ | 29,507 | | $ | 30,747 | | $ | 29,243 | | | | | | | | |
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Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Ongoing Operations earned premium growth | | | | | Personal Lines | | • | | The decrease in the earned premium growth rate from 2007 to 2008 was due to a significantly lower growth rate of AARP and Agencya change to declining earned premium in Agency, partially offset by the effect of the sale of Omni in 2006 which lowered the growth rate in 2007. Excluding Omni, Personal Lines earned premium grew 7% in the second quarter of 2007 and 8% in the first six months of 2007. The earned premium growth rate declined to 1% in the second quarter of 2007. Earned premium growth declined to 3%2008 and 2% in the first six months of 2008, primarily due to a decline in new business premium since the middle of 2007. | | | | | | Small Commercial | | • | | The decrease in thechange from earned premium growth ratein 2007 to no growth in earned premium in 2008 was primarily attributable to a change to earned pricing decreases in 2008 from flat earned pricing in 2007 and because new business premium written duringrenewal retention was lower over the last nine months of 2007 declined at a higher rateand first three months of 2008 than init was over the last nine months of 2006.2006 and first three months of 2007. | | | | | | Middle Market | | • | | The larger earned premium decrease in 2008 was primarily attributable to alarger earned pricing decreases in 2008 than in 2007 and to lower premium renewal retention over the last nine months of 2007 than overand first three months of 2008 compared with the last nine months of 2006.2006 and first three months of 2007. | | | | | | Specialty Commercial | | • Earned premiums decreased | | An earned premium decrease of 4% infor the second quarter of 2008 was an improvement compared to no growthan earned premium decrease of 6% for the second quarter of 2007 as an improvement in 2007, primarily due tothe rate of earned premium decline in casualty more than offset a larger earned premium decreasesdecrease in casualty and property and a lower earned premium increase in professional liability, fidelity and surety. For the six month period, earned premiums decreased more significantly in 2008 than in 2007 due to a larger earned premium decrease in property and the change in professional liability, fidelity and surety earned premiums from 10%8% growth in 2007 to no growth in 2008. The change to little or no growth in professional liability, fidelity and surety earned premium in 2008 was primarily due to larger earned pricing decreases and the effect of lower premium renewal retention and decreased new business premium over the last nine months of 2007. Casualty earned premium experienced a larger decrease in 2008, primarily because of a decline in new business premium on loss-sensitive business written with larger accounts. Property earned premium decreased more significantly in 2008 than in 2007 due to a change from earned pricing increases to earned pricing decreases and lower new business growth and premium renewal retention oversince the last nine monthsthird quarter of 2007 and a continuation of decreases in new business premium.2007. |
Ongoing Operations combined ratio For the three months ended March 31,June 30, 2008, the Ongoing Operations’ combined ratio decreased 1.0 point,increased 4.1 points, to 87.8,95.8, primarily due to a 1.9 point improvement in non-catastrophe prior accident year reserve development, partially offset by a 0.84.6 point increase in the current accident year catastrophe ratio and a 0.30.5 point increase in the combined ratio before catastrophes and prior accident year development, partially offset by a 0.9 point improvement in non-catastrophe prior accident year reserve development. For the six months ended June 30, 2008, the Ongoing Operations’ combined ratio increased by 1.5 points, to 91.8, primarily due to a 2.7 point increase in the current accident year catastrophe ratio and a 0.4 point increase in the combined ratio before catastrophes and prior accident year development, partially offset by a 1.4 point improvement in non-catastrophe prior accident year reserve development. | | | | | Combined ratio before catastrophes and prior accident year development | | • The 0.3 | | For both the three and six month periods, there was an increase in the combined ratio before catastrophes and prior accident year development, from 87.6 to 87.9, was due to a 0.3 point increase in the current accident year loss and loss adjustment expense ratio before catastrophes. The increase in the current accident year loss and loss adjustment expense ratio before catastrophes was primarily due to higher loss costs on Personal Lines auto claims and higher non-catastrophe losses on Middle Market property and marine business,Personal Lines homeowners’ claims and an increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits, largely offset by a lower loss and loss adjustment expense ratio for Small Commercial workers’ compensation and package business.claims. | | | | | | Catastrophes | | • | | The catastrophe ratio increased 0.6 points, to 1.5, primarilyfor both the three and six month periods due to an increase in current accident year catastrophes in the first quarter or 2008 primarily caused by tornadoes and thunderstorms in the South and Midwest and, for the six month period, winter storms along the Pacific coast. | | | | | | Non-catastrophe prior accident year development | | • Net | | For both the three and six month periods, net non-catastrophe prior accident year reserve development was more favorable in 2008 and unfavorablethan in 2007. Favorable reserve development in 2008 included, among other reserve changes, thea release of reserves for workers’ compensation claims, primarily related to accident years 20062000 to 2007 and prior.a release of reserves for high hazard general liability and umbrella claims, primarily related to accident years 2001 to 2006. See the “Reserves” section for a discussion of prior accident year reserve development for Ongoing Operations in 2008. |
Other Operations net income Other Operations reported net income of $14$3 in the three months ended June 30, 2008 compared to $32a net loss of $40 for the comparable period in 2007 and net income of $17 in the six months ended June 30, 2008 compared to a net loss of $8 for the comparable period in 2007. The $18 decreasechange from a net loss to net income in net incomeboth the three and six month periods was primarily due to a change from net realized capital gains in 2007 to net realized capital losses in 2008 and a decrease in net investment income, partially offset by a slight decrease in unfavorable prior accident year reserve development.development, partially offset by a decrease in net investment income and, for the six month period, net realized capital losses in 2008. See the Other Operations segment MD&A for further discussion. 77
Investment yield and average invested assets InFor both the three and six months ended June 30, 2008, the after-tax investment yield decreased due to losses in 2008 on limited partnershipa lower investment yield for partnerships and other alternative investments largely dueand, to a lesser extent, a lower returns on hedge funds and real estate partnerships as a result of the lack of liquidity in the financial markets.investment yield for fixed maturities.
The average annual invested assets at cost increased as a result of positive operating cash flows, and an increase in collateral held from increased securities lending activities, partially offset by the effect of dividends paid to Corporate. 62
Reserves Reserving for property and casualty losses is an estimation process. As additional experience and other relevant claim data become available, reserve levels are adjusted accordingly. Such adjustments of reserves related to claims incurred in prior years are a natural occurrence in the loss reserving process and are referred to as “reserve development”. Reserve development that increases previous estimates of ultimate cost is called “reserve strengthening”. Reserve development that decreases previous estimates of ultimate cost is called “reserve releases”. Reserve development can influence the comparability of year over year underwriting results and is set forth in the paragraphs and tables that follow. The “prior accident year development (pts)” in the following table represents the ratio of reserve development to earned premiums. For a detailed discussion of the Company’s reserve policies, see Notes 1, 11 and 12 of Notes to Consolidated Financial Statements and the Critical Accounting Estimates section of the MD&A included in The Hartford’s 2007 Form 10-K Annual Report. Based on the results of the quarterly reserve review process, the Company determines the appropriate reserve adjustments, if any, to record. Recorded reserve estimates are changed after consideration of numerous factors, including but not limited to, the magnitude of the difference between the actuarial indication and the recorded reserves, improvement or deterioration of actuarial indications in the period, the maturity of the accident year, trends observed over the recent past and the level of volatility within a particular line of business. In general, changes are made more quickly to more mature accident years and less volatile lines of business. For information regarding reserving for asbestos and environmental claims within Other Operations, refer to the Other Operations segment discussion. As part of its quarterly reserve review process, the Company is closely monitoring reported loss development in certain lines where the recent emergence of paid losses and case reserves could indicate a trend that may eventually lead the Company to change its estimate of ultimate losses in those lines. If, and when, the emergence of reported losses is determined to be a trend that changes the Company’s estimate of ultimate losses, prior accident year reserves would be adjusted in the period the change in estimate is made. For example, the Company has experienced favorable emergence of reported workers’ compensation claims for recent accident years and, during the first and second quarter of 2008, released workers’ compensation reserves in Small Commercial and Middle Market by $40.a total of $58. If reported losses on workers’ compensation claims for recent accident years continue to emerge favorably, reserves could be reduced further. In addition, reported losses for claims under directors’ and officers’ and errors and omissions insurance policies are emerging favorably to initial expectations although it is too early to tell if this trend will be sustained. Up until the fourth quarter of 2007, there had been a decrease in the number of shareholders’ class action suits under directors’ and officers’ insurance policies and emerged claim severity has been favorable to previous expectations for the 2003 to 2006 accident years. The Company released a total of $20 of reserves for directors’ and officers’ and errors and omissions claims in the first six months of 2008. Any continued favorable emergence of claims under directors’ and officers’ or errors and omissions insurance policies for the 2006 and prior accident years could lead the Company to reduce reserves for these liabilities in future quarters. The Company expects to perform its regular reviewsreview of asbestos liabilities in the second quarter of 2008, Other Operations’ reinsurance recoverables and the allowance for uncollectible reinsurance in the second quarter of 2008 and environmental liabilities in the third quarter of 2008. If there are significant developments that affect particular exposures, reinsurance arrangements or the financial conditions of particular reinsurers, the Company will make adjustments to its reserves, or the portion of liabilities it expects to cede to reinsurers.reserves. 6378
A rollforward follows of Property & Casualty liabilities for unpaid losses and loss adjustment expenses by segment for the three and six months ended March 31,June 30, 2008: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended March 31, 2008 | | | | | Three Months Ended June 30, 2008 | | Three Months Ended June 30, 2008 | | | | Personal | | Small | | Middle | | Specialty | | Ongoing | | Other | | Total | | | Personal | | Small | | Middle | | Specialty | | Ongoing | | Other | | Total | | | | Lines | | Commercial | | Market | | Commercial | | Operations | | Operations | | P&C | | | Lines | | Commercial | | Market | | Commercial | | Operations | | Operations | | P&C | | Beginning liabilities for unpaid losses and loss adjustment expenses-gross | | $ | 2,042 | | $ | 3,470 | | $ | 4,687 | | $ | 6,883 | | $ | 17,082 | | $ | 5,071 | | $ | 22,153 | | | $ | 2,023 | | $ | 3,513 | | $ | 4,735 | | $ | 6,901 | | $ | 17,172 | | $ | 4,978 | | $ | 22,150 | | Reinsurance and other recoverables | | 81 | | 177 | | 413 | | 2,317 | | 2,988 | | 934 | | 3,922 | | | 65 | | 181 | | 414 | | 2,255 | | 2,915 | | 911 | | 3,826 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Beginning liabilities for unpaid losses and loss adjustment expenses-net | | 1,961 | | 3,293 | | 4,274 | | 4,566 | | 14,094 | | 4,137 | | 18,231 | | | 1,958 | | 3,332 | | 4,321 | | 4,646 | | 14,257 | | 4,067 | | 18,324 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Provision for unpaid losses and loss adjustment expenses | | | Current accident year before catastrophes | | 635 | | 370 | | 372 | | 248 | | 1,625 | | — | | 1,625 | | | 645 | | 380 | | 369 | | 245 | | 1,639 | | — | | 1,639 | | Current accident year catastrophes | | 30 | | 9 | | 9 | | 2 | | 50 | | — | | 50 | | | 97 | | 35 | | 33 | | 6 | | 171 | | — | | 171 | | Prior accident years | | | (8 | ) | | | (2 | ) | | | (16 | ) | | | (25 | ) | | | (51 | ) | | 15 | | | (36 | ) | | 1 | | | (2 | ) | | | (22 | ) | | | (16 | ) | | | (39 | ) | | 55 | | 16 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total provision for unpaid losses and loss adjustment expenses | | 657 | | 377 | | 365 | | 225 | | 1,624 | | 15 | | 1,639 | | | 743 | | 413 | | 380 | | 235 | | 1,771 | | 55 | | 1,826 | | Payments | | | (660 | ) | | | (338 | ) | | | (318 | ) | | | (145 | ) | | | (1,461 | ) | | | (85 | ) | | | (1,546 | ) | | | (672 | ) | | | (317 | ) | | | (341 | ) | | | (157 | ) | | | (1,487 | ) | | | (115 | ) | | | (1,602 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Ending liabilities for unpaid losses and loss adjustment expenses-net | | 1,958 | | 3,332 | | 4,321 | | 4,646 | | 14,257 | | 4,067 | | 18,324 | | | 2,029 | | 3,428 | | 4,360 | | 4,724 | | 14,541 | | 4,007 | | 18,548 | | Reinsurance and other recoverables | | 65 | | 181 | | 414 | | 2,255 | | 2,915 | | 911 | | 3,826 | | | 62 | | 191 | | 431 | | 2,164 | | 2,848 | | 919 | | 3,767 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Ending liabilities for unpaid losses and loss adjustment expenses-gross | | $ | 2,023 | | $ | 3,513 | | $ | 4,735 | | $ | 6,901 | | $ | 17,172 | | $ | 4,978 | | $ | 22,150 | | | $ | 2,091 | | $ | 3,619 | | $ | 4,791 | | $ | 6,888 | | $ | 17,389 | | $ | 4,926 | | $ | 22,315 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Earned premiums | | $ | 983 | | $ | 687 | | $ | 576 | | $ | 367 | | $ | 2,613 | | $ | 1 | | $ | 2,614 | | | $ | 980 | | $ | 683 | | $ | 559 | | $ | 362 | | $ | 2,584 | | $ | 2 | | $ | 2,586 | | Loss and loss expense paid ratio [1] | | 67.2 | | 49.1 | | 55.1 | | 39.4 | | 55.9 | | | 68.6 | | 46.2 | | 61.2 | | 43.8 | | 57.6 | | Loss and loss expense incurred ratio | | 66.9 | | 54.8 | | 63.4 | | 61.2 | | 62.2 | | | 75.8 | | 60.4 | | 68.1 | | 65.1 | | 68.5 | | Prior accident year development (pts) [2] | | | (0.8 | ) | | | (0.3 | ) | | | (2.7 | ) | | | (7.0 | ) | | | (2.0 | ) | | | — | | | (0.3 | ) | | | (3.9 | ) | | | (4.2 | ) | | | (1.5 | ) | | | | | | | | | | | | | | | | | | |
| | | [1] | | The “loss and loss expense paid ratio” represents the ratio of paid losses and loss adjustment expenses to earned premiums. | | [2] | | “Prior accident year development (pts)” represents the ratio of prior accident year development to earned premiums. |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | Six Months Ended June 30, 2008 | | | | Personal | | | Small | | | Middle | | | Specialty | | | Ongoing | | | Other | | | Total | | | | Lines | | | Commercial | | | Market | | | Commercial | | | Operations | | | Operations | | | P&C | | Beginning liabilities for unpaid losses and loss adjustment expenses-gross | | $ | 2,042 | | | $ | 3,470 | | | $ | 4,687 | | | $ | 6,883 | | | $ | 17,082 | | | $ | 5,071 | | | $ | 22,153 | | Reinsurance and other recoverables | | | 81 | | | | 177 | | | | 413 | | | | 2,317 | | | | 2,988 | | | | 934 | | | | 3,922 | | | | | | | | | | | | | | | | | | | | | | | | Beginning liabilities for unpaid losses and loss adjustment expenses-net | | | 1,961 | | | | 3,293 | | | | 4,274 | | | | 4,566 | | | | 14,094 | | | | 4,137 | | | | 18,231 | | | | | | | | | | | | | | | | | | | | | | | | Provision for unpaid losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 1,280 | | | | 750 | | | | 741 | | | | 493 | | | | 3,264 | | | | — | | | | 3,264 | | Current accident year catastrophes | | | 127 | | | | 44 | | | | 42 | | | | 8 | | | | 221 | | | | — | | | | 221 | | Prior accident years | | | (7 | ) | | | (4 | ) | | | (38 | ) | | | (41 | ) | | | (90 | ) | | | 70 | | | | (20 | ) | | | | | | | | | | | | | | | | | | | | | | | Total provision for unpaid losses and loss adjustment expenses | | | 1,400 | | | | 790 | | | | 745 | | | | 460 | | | | 3,395 | | | | 70 | | | | 3,465 | | Payments | | | (1,332 | ) | | | (655 | ) | | | (659 | ) | | | (302 | ) | | | (2,948 | ) | | | (200 | ) | | | (3,148 | ) | | | | | | | | | | | | | | | | | | | | | | | Ending liabilities for unpaid losses and loss adjustment expenses-net | | | 2,029 | | | | 3,428 | | | | 4,360 | | | | 4,724 | | | | 14,541 | | | | 4,007 | | | | 18,548 | | Reinsurance and other recoverables | | | 62 | | | | 191 | | | | 431 | | | | 2,164 | | | | 2,848 | | | | 919 | | | | 3,767 | | | | | | | | | | | | | | | | | | | | | | | | Ending liabilities for unpaid losses and loss adjustment expenses-gross | | $ | 2,091 | | | $ | 3,619 | | | $ | 4,791 | | | $ | 6,888 | | | $ | 17,389 | | | $ | 4,926 | | | $ | 22,315 | | | | | | | | | | | | | | | | | | | | | | | | Earned premiums | | $ | 1,963 | | | $ | 1,370 | | | $ | 1,135 | | | $ | 729 | | | $ | 5,197 | | | $ | 3 | | | $ | 5,200 | | Loss and loss expense paid ratio [1] | | | 67.9 | | | | 47.6 | | | | 58.1 | | | | 41.5 | | | | 56.7 | | | | | | | | | | Loss and loss expense incurred ratio | | | 71.3 | | | | 57.6 | | | | 65.7 | | | | 63.1 | | | | 65.3 | | | | | | | | | | Prior accident year development (pts) [2] | | | (0.4 | ) | | | (0.3 | ) | | | (3.3 | ) | | | (5.6 | ) | | | (1.7 | ) | | | | | | | | |
| | | [1] | | The “loss and loss expense paid ratio” represents the ratio of paid losses and loss adjustment expenses to earned premiums. | | [2] | | “Prior accident year development (pts)” represents the ratio of prior accident year development to earned premiums. |
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Prior accident year development recorded in 2008 Included within prior accident year development for the threesix months ended March 31,June 30, 2008 were the following reserve strengthenings (releases): | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Personal | | Small | | Middle | | Specialty | | Ongoing | | Other | | Total | | | Personal | | Small | | Middle | | Specialty | | Ongoing | | Other | | Total | | | | Lines | | Commercial | | Market | | Commercial | | Operations | | Operations | | P&C | | | Lines | | Commercial | | Market | | Commercial | | Operations | | Operations | | P&C | | Strengthened reserves for claims under Small Commercial package policies related to accident year 2007 | | | $ | — | | $ | 10 | | $ | — | | $ | — | | $ | 10 | | $ | — | | $ | 10 | | Released workers’ compensation reserves, primarily related to accident years 2000 to 2007 | | | — | | | (18 | ) | | — | | — | | | (18 | ) | | — | | | (18 | ) | Released reserves for high hazard and umbrella general liability claims primarily related to the 2001 to 2006 accident years | | | — | | — | | | (23 | ) | | — | | | (23 | ) | | — | | | (23 | ) | Released reserves for directors and officers claims and errors and omissions claims for accident years 2004 to 2006 | | | — | | — | | — | | | (10 | ) | | | (10 | ) | | — | | | (10 | ) | Strengthening of net asbestos reserves | | | — | | — | | — | | — | | — | | 50 | | 50 | | Other reserve re-estimates, net [1] | | | 1 | | 6 | | 1 | | | (6 | ) | | 2 | | 5 | | 7 | | | | | | | | | | | | | | | | | | | Total prior accident years development for the three months ended June 30, 2008 | | | $ | 1 | | $ | (2 | ) | | $ | (22 | ) | | $ | (16 | ) | | $ | (39 | ) | | $ | 55 | | $ | 16 | | | | | | | | | | | | | | | | | | | Released reserves for extra-contractual liability claims under non-standard personal auto policies | | $ | (9 | ) | | $ | — | | $ | — | | $ | — | | $ | (9 | ) | | $ | — | | $ | (9 | ) | | $ | (9 | ) | | $ | — | | $ | — | | $ | — | | $ | (9 | ) | | $ | — | | $ | (9 | ) | Released workers’ compensation reserves, primarily related to accident years 2006 and prior | | — | | | (21 | ) | | | (19 | ) | | — | | | (40 | ) | | — | | | (40 | ) | | Released workers’ compensation reserves, primarily related to accident years 2000 to 2007 | | | — | | | (21 | ) | | | (19 | ) | | — | | | (40 | ) | | — | | | (40 | ) | Strengthened reserves for general liability and products liability claims primarily for accident years 2004 and prior | | — | | 17 | | 30 | | — | | 47 | | — | | 47 | | | — | | 17 | | 30 | | — | | 47 | | — | | 47 | | Released reserves for umbrella claims, primarily related to accident years 2001 to 2005 | | — | | | (5 | ) | | | (14 | ) | | — | | | (19 | ) | | — | | | (19 | ) | | — | | | (5 | ) | | | (14 | ) | | — | | | (19 | ) | | — | | | (19 | ) | Released reserves for directors and officers claims for accident year 2003 | | — | | — | | — | | | (10 | ) | | | (10 | ) | | — | | | (10 | ) | | — | | — | | — | | | (10 | ) | | | (10 | ) | | — | | | (10 | ) | Released reserves for construction defect claims in Specialty Commercial for accident year 2001 and prior | | — | | — | | — | | | (10 | ) | | | (10 | ) | | — | | | (10 | ) | | Other reserve re-estimates, net [1] | | 1 | | 7 | | | (13 | ) | | | (5 | ) | | | (10 | ) | | 15 | | 5 | | | Released reserves for construction defect claims in Specialty Commercial for accident years 2001 and prior | | | — | | — | | — | | | (10 | ) | | | (10 | ) | | — | | | (10 | ) | Other reserve re-estimates, net [2] | | | 1 | | 7 | | | (13 | ) | | | (5 | ) | | | (10 | ) | | 15 | | 5 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total prior accident years development for the three months ended March 31, 2008 | | $ | (8 | ) | | $ | (2 | ) | | $ | (16 | ) | | $ | (25 | ) | | $ | (51 | ) | | $ | 15 | | $ | (36 | ) | | $ | (8 | ) | | $ | (2 | ) | | $ | (16 | ) | | $ | (25 | ) | | $ | (51 | ) | | $ | 15 | | $ | (36 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total prior accident years development for the six months ended June 30, 2008 | | | $ | (7 | ) | | $ | (4 | ) | | $ | (38 | ) | | $ | (41 | ) | | $ | (90 | ) | | $ | 70 | | $ | (20 | ) | | | | | | | | | | | | | | | | | |
| | | [1] | | Includes reserve discount accretion of $5,$8, including $1 in Small Commercial, $2 in Middle Market, $1$3 in Specialty Commercial and $2 in Other Operations. | | [2] | | Includes reserve discount accretion of $7, including $2 in Small Commercial, $2 in Middle Market, $2 in Specialty Commercial and $1 in Other Operations. |
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During the three and six months ended March 31,June 30, 2008, the Company’s re-estimates of prior accident year reserves included the following significant reserve changes: Ongoing Operations During the second quarter of 2008, strengthened reserves for claims under Small Commercial package policies by $10. Beginning in the first quarter of 2008, the Company observed an increase in the emerged severity of package business claims for the 2007 accident year, under both property and liability coverages, driven by a higher than initially expected number of large-sized claims. In the second quarter of 2008, the Company recognized that this trend in increasing severity was a verifiable trend and, accordingly, increased reserves in the second quarter of 2008. Released workers’ compensation reserves related to accident years 2000 to 2007 by $40 in the first quarter of 2008 and by $18 in the second quarter of 2008, including year-to-date releases of $39 in Small Commercial and $19 in Middle Market. This reserve release is a continuation of favorable developments first recognized in 2005 and recognized in both 2006 and 2007. The reserve releases in 2008 resulted from a determination that workers’ compensation losses continue to develop even more favorably from prior expectations due to the California and Florida legal reforms and underwriting actions as well as cost reduction initiatives first instituted in 2003. In particular, the state legal reforms and underwriting actions have resulted in lower than expected medical claim severity. Released reserves for general liability claims primarily related to the 2001 to 2006 accident years by $19 in the first quarter of 2008 and by $23 in the second quarter of 2008, including year-to-date releases of $37 in Middle Market and $5 in Small Commercial. Beginning in the third quarter of 2007, the Company observed that reported losses for high hazard and umbrella general liability claims, primarily related to the 2001 to 2006 accident years, were emerging favorably and this caused management to reduce its estimate of the cost of future reported claims for these accident years, resulting in a reserve release in each quarter since the third quarter of 2007. The number of reported claims for this line of business has been lower than expected, a trend first observed in 2005. Over time, management has come to believe that the lower than expected number of claims reported to date will not be offset by a higher than expected number of late reported claims. Released reserves for professional liability claims for accident years 2003 to 2006 by $10 in the first quarter of 2008 and by $10 in the second quarter of 2008. During the first six months of 2008, the Company updated its analysis of certain professional liability claims and the new analysis showed that claim severity for directors and officers losses in the 2003 and 2006 accident years were favorable to previous expectations, resulting in a $10 reduction of reserves in the first quarter and a $4 reduction of reserves in the second quarter. The analysis in the second quarter also showed favorable emergence of claim severity on errors and omission policy claims for the 2004 and 2005 accident years, resulting in a release of $6 in reserves in the second quarter. During the first quarter of 2008, released reserves for extra-contractual liability claims under non-standard personal auto policies by $9. As part of the agreement to sell its non-standard auto insurance business in November, 2006, the Company continues to be obligated for certain extra-contractual liability claims arising prior to the date of sale. Reserve estimates for extra-contractual liability claims are subject to significant variability depending on the expected settlement of individually large claims and, during the first quarter of 2008, the Company determined that the settlement value of a number of these claims was expected to be less than previously anticipated, resulting in a $9 release of reserves. Released workers’ compensation reserves by $40 related to accident years 2006 and prior, including a release of $21 in Small Commercial and $19 in Middle Market. This reserve release is a continuation of favorable developments first recognized in 2005 and recognized in both 2006 and 2007. The reserve releases inDuring the first quarter of 2008, resulted from a determination that workers’ compensation losses continue to develop even more favorably from prior expectations due to the California and Florida legal reforms and underwriting actions as well as cost reduction initiatives first instituted in 2003. In particular, the state legal reforms and underwriting actions have resulted in lower than expected medical claim severity.
Strengthenedstrengthened reserves for general liability and products liability claims primarily for accident years 2004 and prior by $47 for losses expected to emerge after 20 years of development, including $17 in Small Commercial and $30 in Middle Market. In 2007, management observed that long outstanding general liability claims have been settling for more than previously anticipated and, during the first quarter of 2008, the Company increased the estimate of late development of general liability claims.
Released reserves for umbrella claims by $19, primarily related to accident years 2001 to 2005, including $14 in Middle Market and $5 in Small Commercial. The number of reported claims for this line of business has been lower than expected, a trend first observed in 2005. Over time, management has come to believe that the lower than expected number of claims reported to date will not be offset by a higher than expected number of late reported claims. Accordingly, reserves were reduced in the first quarter of 2008.
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Released reserves for directors and officers claims by $10 for accident year 2003. During the first quarter of 2008, the Company updated its analysis of certain professional liability claims and the new analysis showed that claim severity for directors and officers losses were favorable to previous expectations, resulting in a release of reserves.
Releasedreleased reserves for construction defect claims in Specialty Commercial by $10 for accident years 2001 and prior due to lower than expected reported claim activity. Lower than expected claim activity was first noted in the first quarter of 2007 and continued throughout 2007. In the first quarter of 2008, management determined that this was a verifiable trend and reduced reserves accordingly.
Other Operations During the second quarter of 2008, the Company completed its annual ground up asbestos reserve evaluation. As part of this evaluation, the Company reviewed all of its open direct domestic insurance accounts exposed to asbestos liability as well as assumed reinsurance accounts and its London Market exposures for both direct insurance and assumed reinsurance. The Company found estimates for individual cases changed based upon the particular circumstances of each account. These changes were case specific and not as a result of any underlying change in the current environment. The net effect of these changes resulted in a $50 increase in net asbestos reserves. 81
Risk Management Strategy Refer to the MD&A in The Hartford’s 2007 Form 10-K Annual Report for an explanation of Property & Casualty’s risk management strategy. Use of Reinsurance In managing risk, The Hartford utilizes reinsurance to transfer risk to well-established and financially secure reinsurers. Reinsurance is used to manage aggregations of risk as well as specific risks based on accumulated property and casualty liabilities in certain geographic zones. All treaty purchases related to the Company’s property and casualty operations are administered by a centralized function to support a consistent strategy and ensure that the reinsurance activities are fully integrated into the organization’s risk management processes. A variety of traditional reinsurance products are used as part of the Company’s risk management strategy, including excess of loss occurrence-based products that protect property and workers’ compensation exposures, and individual risk or quota share arrangements, that protect specific classes or lines of business. There are no significant finite risk contracts in place and the statutory surplus benefit from all such prior year contracts is immaterial. Facultative reinsurance is also used to manage policy-specific risk exposures based on established underwriting guidelines. The Hartford also participates in governmentally administered reinsurance facilities such as the Florida Hurricane Catastrophe Fund (“FHCF”), the Terrorism Risk Insurance Program established under The Terrorism Risk Insurance Program Reauthorization Act of 2007 (“TRIPRA”) and other reinsurance programs relating to particular risks or specific lines of business. The Company has several catastrophe reinsurance programs, including reinsurance treaties that cover property and workers’ compensation losses aggregating from single catastrophe events. The following table summarizes the primary catastrophe treaty reinsurance coverages that the Company has renewed subsequent to January 1, 2008. Refer to the MD&A in The Hartford’s 2007 Form 10-K Annual Report for an explanation of the Company’s primary catastrophe program, including the treaties that renewed January 1, 2008. | | | | | | | | | | | | | | | | | | | | | | | % of layer(s) | | | | | | | | Coverage | | Treaty term | | | reinsured | | | Per occurrence limit | | | Retention | | Layer covering property catastrophe losses from a single wind or earthquake event affecting the northeast of the United States from Virginia to Maine | | 6/1/2008 to 6/1/2009 | | | 90 | % | | $ | 300 | | | $ | 1,000 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Reinsurance with the FHCF covering Florida Personal Lines property catastrophe losses from a single event | | 6/1/2008 to 6/1/2009 | | | 90 | % | | | 436 | [1] | | | 83 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Workers’ compensation losses arising from a single catastrophe event | | 7/1/2008 to 7/1/2009 | | | 95 | % | | | 280 | | | | 20 | | | | | | | | | | | | | | |
| | | [1] | | The per occurrence limit on the FHCF treaty is $436 for the 6/1/2008 to 6/1/2009 treaty year based on the Company’s election to purchase additional limits under the “Temporary Increase in Coverage Limit (TCIL)” statutory provision in excess of the coverage the Company is required to purchase from the FHCF. |
Reinsurance Recoverables Refer to the MD&A in The Hartford’s 2007 Form 10-K Annual Report for an explanation of Property & Casualty’s reinsurance recoverables. Premium Measures Written premium is a statutory accounting financial measure which represents the amount of premiums charged for policies issued, net of reinsurance, during a fiscal period. Earned premium is a measure under both U.S. GAAP and statutory accounting principles. Premiums are considered earned and are included in the financial results on a pro rata basis over the policy period. Management believes that written premium is a performance measure that is useful to investors as it reflects current trends in the Company’s sale of property and casualty insurance products. Written and earned premium are recorded net of ceded reinsurance premium. Reinstatement premium represents additional ceded premium paid for the reinstatement of the amount of reinsurance coverage that was reduced as a result of a reinsurance loss payment. Unless otherwise specified, the following discussion speaks to changes in the firstsecond quarter of 2008 as compared to the firstsecond quarter of 2007 and the six months ended June 30, 2008 compared to the six months ended June 30, 2007. 6682
TOTAL PROPERTY & CASUALTY | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Earned premiums | | $ | 2,614 | | | $ | 2,623 | | | | — | | Net investment income | | | 365 | | | | 413 | | | | (12 | %) | Other revenues [1] | | | 120 | | | | 118 | | | | 2 | % | Net realized capital gains (losses) | | | (152 | ) | | | 23 | | | NM | | | | | | | | | | | | Total revenues | | | 2,947 | | | | 3,177 | | | | (7 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | Current accident year before catastrophes | | | 1,625 | | | | 1,625 | | | | — | | Current accident year catastrophes | | | 50 | | | | 28 | | | | 79 | % | Prior accident years | | | (36 | ) | | | 22 | | | NM | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 1,639 | | | | 1,675 | | | | (2 | %) | Amortization of deferred policy acquisition costs | | | 523 | | | | 528 | | | | (1 | %) | Insurance operating costs and expenses | | | 153 | | | | 151 | | | | 1 | % | Other expenses | | | 180 | | | | 167 | | | | 8 | % | | | | | | | | | | | Total losses and expenses | | | 2,495 | | | | 2,521 | | | | (1 | %) | Income before income taxes | | | 452 | | | | 656 | | | | (31 | %) | Income tax expense | | | 126 | | | | 195 | | | | (35 | %) | | | | | | | | | | | Net income [2] | | $ | 326 | | | $ | 461 | | | | (29 | %) | | | | | | | | | | | Net Income | | | | | | | | | | | | | | | | | | | | | | | Ongoing Operations | | $ | 312 | | | $ | 429 | | | | (27 | %) | Other Operations | | | 14 | | | | 32 | | | | (56 | %) | | | | | | | | | | | Total Property & Casualty net income | | $ | 326 | | | $ | 461 | | | | (29 | %) | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Earned premiums | | $ | 2,586 | | | $ | 2,622 | | | | (1 | %) | | $ | 5,200 | | | $ | 5,245 | | | | (1 | %) | Net investment income | | | 391 | | | | 446 | | | | (12 | %) | | | 756 | | | | 859 | | | | (12 | %) | Other revenues [1] | | | 125 | | | | 124 | | | | 1 | % | | | 245 | | | | 242 | | | | 1 | % | Net realized capital losses | | | (51 | ) | | | (24 | ) | | | (113 | %) | | | (203 | ) | | | (1 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total revenues | | | 3,051 | | | | 3,168 | | | | (4 | %) | | | 5,998 | | | | 6,345 | | | | (5 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 1,639 | | | | 1,664 | | | | (2 | %) | | | 3,264 | | | | 3,289 | | | | (1 | %) | Current accident year catastrophes | | | 171 | | | | 52 | | | NM | | | | 221 | | | | 80 | | | | 176 | % | Prior accident years | | | 16 | | | | 104 | | | | (85 | %) | | | (20 | ) | | | 126 | | | NM | | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 1,826 | | | | 1,820 | | | | — | | | | 3,465 | | | | 3,495 | | | | (1 | %) | Amortization of deferred policy acquisition costs | | | 521 | | | | 528 | | | | (1 | %) | | | 1,044 | | | | 1,056 | | | | (1 | %) | Insurance operating costs and expenses | | | 189 | | | | 177 | | | | 7 | % | | | 342 | | | | 328 | | | | 4 | % | Other expenses | | | 182 | | | | 168 | | | | 8 | % | | | 362 | | | | 335 | | | | 8 | % | | | | | | | | | | | | | | | | | | | | Total losses and expenses | | | 2,718 | | | | 2,693 | | | | 1 | % | | | 5,213 | | | | 5,214 | | | | — | | Income before income taxes | | | 333 | | | | 475 | | | | (30 | %) | | | 785 | | | | 1,131 | | | | (31 | %) | Income tax expense | | | 84 | | | | 131 | | | | (36 | %) | | | 210 | | | | 326 | | | | (36 | %) | | | | | | | | | | | | | | | | | | | | Net income [2] | | $ | 249 | | | $ | 344 | | | | (28 | %) | | $ | 575 | | | $ | 805 | | | | (29 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net Income (Loss) | | | | | | | | | | | | | | | | | | | | | | | | | Ongoing Operations | | $ | 246 | | | $ | 384 | | | | (36 | %) | | $ | 558 | | | $ | 813 | | | | (31 | %) | Other Operations | | | 3 | | | | (40 | ) | | NM | | | | 17 | | | | (8 | ) | | NM | | | | | | | | | | | | | | | | | | | | | Total Property & Casualty net income | | $ | 249 | | | $ | 344 | | | | (28 | %) | | $ | 575 | | | $ | 805 | | | | (29 | %) | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Represents servicing revenue. | | [2] | | Includes net realized capital gains (losses),losses, after-tax, of $(99)$(33) and $15$(16) for the three months ended March 31,June 30, 2008 and 2007, respectively, and $(132) and $(1) for the six months ended June 30, 2008 and 2007, respectively. |
Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Net income decreased by $135,$95, or 28%, as a result of a $138 decrease in Ongoing Operations’ net income, partially offset by a $43 improvement in Other Operations’ results from a net loss of $40 in 2007 to net income of $3 in 2008. See the Ongoing Operations and Other Operations segment MD&A discussions for an analysis of the underwriting results and investment performance driving the decrease in net income. Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Net income decreased by $230, or 29%, as a result of a $117$255 decrease in Ongoing Operations’ net income, and an $18 decreasepartially offset by a $25 improvement in Other Operations’ results from a net income.loss of $8 in 2007 to net income of $17 in 2008. See the Ongoing Operations and Other Operations segment MD&A discussions for an analysis of the underwriting results and investment performance driving the decrease in net income. 6783
ONGOING OPERATIONS Ongoing Operations includes the four underwriting segments of Personal Lines, Small Commercial, Middle Market and Specialty Commercial. Operating Summary Net income for Ongoing Operations includes underwriting results for each of its segments, income from servicing businesses, net investment income, other expenses and net realized capital gains (losses), net of related income taxes. | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | Change | | | 2008 | | 2007 | | Change | | 2008 | | 2007 | | Change | | Written premiums | | $ | 2,584 | | $ | 2,622 | | | (1 | %) | | $ | 2,583 | | $ | 2,674 | | | (3 | %) | | $ | 5,167 | | $ | 5,296 | | | (2 | %) | Change in unearned premium reserve | | | (29 | ) | | | (1 | ) | | NM | | | | (1 | ) | | 53 | | NM | | | (30 | ) | | 52 | | NM | | | | | | | | | | | | | | | | | | | | | | | Earned premiums | | 2,613 | | 2,623 | | — | | | 2,584 | | 2,621 | | | (1 | %) | | 5,197 | | 5,244 | | | (1 | %) | Losses and loss adjustment expenses | | | Current accident year before catastrophes | | 1,625 | | 1,625 | | — | | | 1,639 | | 1,664 | | | (2 | %) | | 3,264 | | 3,289 | | | (1 | %) | Current accident year catastrophes | | 50 | | 28 | | | 79 | % | | 171 | | 52 | | NM | | 221 | | 80 | | | 176 | % | Prior accident years | | | (51 | ) | | 4 | | NM | | | | (39 | ) | | | (12 | ) | | NM | | | (90 | ) | | | (8 | ) | | NM | | | | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | 1,624 | | 1,657 | | | (2 | %) | | 1,771 | | 1,704 | | | 4 | % | | 3,395 | | 3,361 | | | 1 | % | Amortization of deferred policy acquisition costs | | 523 | | 528 | | | (1 | %) | | 521 | | 528 | | | (1 | %) | | 1,044 | | 1,056 | | | (1 | %) | Insurance operating costs and expenses | | 148 | | 145 | | | 2 | % | | 184 | | 172 | | | 7 | % | | 332 | | 317 | | | 5 | % | | | | | | | | | | | | | | | | | | | | | | Underwriting results | | 318 | | 293 | | | 9 | % | | 108 | | 217 | | | (50 | %) | | 426 | | 510 | | | (16 | %) | Net servicing income [1] | | | (1 | ) | | 11 | | NM | | | 8 | | 14 | | | (43 | %) | | 7 | | 25 | | | (72 | %) | Net investment income | | 310 | | 351 | | | (12 | %) | | 334 | | 385 | | | (13 | %) | | 644 | | 736 | | | (13 | %) | Net realized capital gains (losses) | | | (134 | ) | | 17 | | NM | | | Net realized capital losses | | | | (53 | ) | | | (18 | ) | | | (194 | %) | | | (187 | ) | | | (1 | ) | | NM | | Other expenses | | | (57 | ) | | | (60 | ) | | | 5 | % | | | (65 | ) | | | (56 | ) | | | 16 | % | | | (122 | ) | | | (116 | ) | | | 5 | % | | | | | | | | | | | | | | | | | | | | | | Income before income taxes | | 436 | | 612 | | | (29 | %) | | 332 | | 542 | | | (39 | %) | | 768 | | 1,154 | | | (33 | %) | Income tax expense | | | (124 | ) | | | (183 | ) | | | 32 | % | | | (86 | ) | | | (158 | ) | | | (46 | %) | | | (210 | ) | | | (341 | ) | | | (38 | %) | | | | | | | | | | | | | | | | | | | | | | Net income | | $ | 312 | | $ | 429 | | | (27 | %) | | $ | 246 | | $ | 384 | | | (36 | %) | | $ | 558 | | $ | 813 | | | (31 | %) | | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | Current accident year before catastrophes | | 62.2 | | 61.9 | | | (0.3 | ) | | 63.4 | | 63.6 | | 0.2 | | 62.8 | | 62.7 | | | (0.1 | ) | Current accident year catastrophes | | 1.9 | | 1.1 | | | (0.8 | ) | | 6.6 | | 2.0 | | | (4.6 | ) | | 4.2 | | 1.5 | | | (2.7 | ) | Prior accident years | | | (2.0 | ) | | 0.2 | | 2.2 | | | | (1.5 | ) | | | (0.5 | ) | | 1.0 | | | (1.7 | ) | | | (0.1 | ) | | 1.6 | | | | | | | | | | | | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | 62.2 | | 63.1 | | 0.9 | | | 68.5 | | 65.1 | | | (3.4 | ) | | 65.3 | | 64.1 | | | (1.2 | ) | Expense ratio | | 25.5 | | 25.5 | | — | | | 26.5 | | 26.3 | | | (0.2 | ) | | 26.0 | | 25.9 | | | (0.1 | ) | Policyholder dividend ratio | | 0.2 | | 0.2 | | — | | | 0.8 | | 0.4 | | | (0.4 | ) | | 0.5 | | 0.3 | | | (0.2 | ) | | | | | | | | | | | | | | | | | | | | | | Combined ratio | | 87.8 | | 88.8 | | 1.0 | | | 95.8 | | 91.7 | | | (4.1 | ) | | 91.8 | | 90.3 | | | (1.5 | ) | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | Current accident year | | 1.9 | | 1.1 | | | (0.8 | ) | | 6.6 | | 2.0 | | | (4.6 | ) | | 4.2 | | 1.5 | | | (2.7 | ) | Prior accident years | | | (0.4 | ) | | | (0.2 | ) | | 0.2 | | | — | | 0.1 | | 0.1 | | | (0.2 | ) | | — | | 0.2 | | | | | | | | | | | | | | | | | | | | | | | Total catastrophe ratio | | 1.5 | | 0.9 | | | (0.6 | ) | | 6.6 | | 2.1 | | | (4.5 | ) | | 4.0 | | 1.5 | | | (2.5 | ) | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | 86.4 | | 87.9 | | 1.5 | | | 89.2 | | 89.6 | | 0.4 | | 87.8 | | 88.8 | | 1.0 | | Combined ratio before catastrophes and prior accident year development | | 87.9 | | 87.6 | | | (0.3 | ) | | 90.7 | | 90.2 | | | (0.5 | ) | | 89.3 | | 88.9 | | | (0.4 | ) |
| | | [1] | | Net of expenses related to service business. |
Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Net income Net income decreased by $117,$138, or 27%36%, due primarily to a change from net realized capital gainsdecrease in underwriting results of $17 in 2007 to net realized capital losses of $134 in 2008$109 and a decrease in net investment income of $41, partially offset by an increase in underwriting results of $25. A change from net realized capital gains of $17 to net realized capital losses of $134
The change from net realized capital gains of $17 in 2007 to net realized capital losses of $134 in 2008 was primarily due to realized losses in 2008 from impairments, sales of investments in corporate securities and commercial mortgage-backed securities and decreases in the value of credit derivatives due to credit spreads widening.
Impairments in 2008 primarily consisted of credit-related impairments of CMBS, ABS, and corporate securities. (See the Other-Than-Temporary Impairments discussion within Investment Results for more information on the impairments recorded in 2008).$51.
6884
Net investment incomeUnderwriting results decreased by $41
Primarily driving the $41 decrease in net investment income were losses in 2008 on limited partnerships and other alternative investments, largely driven by lower returns on hedge funds and real estate partnerships as a result of the lack of liquidity in the financial markets.
Underwriting results increased by $25$109
Underwriting results increaseddecreased by $25$109 with a corresponding 1.04.1 point decreaseincrease in the combined ratio, from 88.891.7 to 87.8,95.8, due to: | | | | | | | | | Change in underwriting results | | | Decrease in earned premiums | | $ | (10 | ) | | $ | (37 | ) | | | | Losses and loss adjustment expenses | | | Ratio change — An increase in the current accident year loss and loss adjustment expense ratio before catastrophes | | | (7 | ) | | Volume change — Decrease in current accident year losses and loss adjustment expenses before catastrophes due to the decrease in earned premium | | 7 | | | 23 | | Ratio change — A decrease in the current accident year loss and loss adjustment expense ratio before catastrophes | | | 2 | | | | | | | | | Net change in current accident year losses and loss adjustment expenses before catastrophes | | — | | | Decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 25 | | Catastrophes — Increase in current accident year catastrophe losses | | | (22 | ) | | | (119 | ) | Reserve changes — A change from net unfavorable to net favorable prior accident year reserve development | | 55 | | | Reserve changes — An increase in net favorable prior accident year reserve development | | | 27 | | | | | | | | | Net decrease in losses and loss adjustment expenses | | 33 | | | Net increase in losses and loss adjustment expenses | | | | (67 | ) | | | | Operating expenses | | | Decrease in amortization of deferred policy acquisition costs | | 5 | | | 7 | | Increase in insurance operating costs and expenses | | | (3 | ) | | | (12 | ) | | | | | | | | Net decrease in operating expenses | | 2 | | | Net increase in operating expenses | | | | (5 | ) | | | | | | | | | | | Increase in underwriting results from 2007 to 2008 | | $ | 25 | | | Decrease in underwriting results from 2007 to 2008 | | | $ | (109 | ) | | | | | | | |
Earned premium decreased by $10$37 Ongoing Operations’ earned premium decreased by $10$37, or 1%, due to a 5%6% decrease in Middle Market and a 4% decrease in Specialty Commercial, largelypartially offset by a 3% increase in Personal Lines and a 1% increase in Small Commercial.Personal Lines. Refer to the earned premium discussion in the Executive Overview section of the Property & Casualty MD&A for further discussion of the decrease in earned premium. Losses and loss adjustment expenses decreasedincreased by $33$67 Current accident year losses and loss adjustment expenses before catastrophes remained flatdecreased by $25 Ongoing Operations’ current accident year losses and loss adjustment expenses before catastrophes remained flat at $1,625 as a decrease in earned pricing and an increase in expected current accident year loss costs was completely offsetdecreased by the effect of$25 due primarily to a decrease in earned premium. An increase in theThe current accident year loss and loss adjustment expense ratio before catastrophes in Personal Lines, Middle Market and Specialty Commercial was partially offsetdecreased by 0.2 points, to 63.4, driven by a decrease in the current accident year lossSmall Commercial and loss adjustment expense ratio before catastrophesSpecialty Commercial, largely offset by an increase in Small Commercial.Personal Lines and Middle Market. | | | | | Personal Lines | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Personal Lines increased by 2.40.8 points, primarily due to a higher current accident year loss and loss adjustment expense ratio foran increase in anticipated bodily injury severity on auto liability claims and to a lesser extent, increased frequencyseverity of non-catastrophe losses on homeowners business, partially offset by favorable frequency on auto physical damage claims, the effect of strengthening current accident year auto liability reserves by $10 in 2007 and the effect of earned pricing increases in 2008 for both auto and homeowners. | | | | | | Small Commercial | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Small Commercial decreased by 4.52.9 points, primarily due to a lower loss and loss adjustment expense ratio for workers’ compensation business, partially offset by a higher loss and loss adjustment expense ratio for package business. Workers’ compensation claim frequency has been trending favorably for recent accident years due to improved workplace safety and underwriting actions and the lower loss and loss adjustment expense ratio for the 2008 accident year includes an assumption that this decreasing level of claim frequency will continue. The effect of lower claim frequency for workers’ compensation claims was partially offset by the effect of earned pricing decreases. For package business, the loss and loss adjustment expense ratio before catastrophes and prior accident year development increased modestly as the effect of strengthening current accident year reserves by $7 for liability claims was partly offset by the effect of lower non-catastrophe property losses. | | | | | | Middle Market | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Middle Market increased by 1.62.0 points, primarily due to higher non-catastrophe losses on property and marine business, driven by a number of large individual claims.claims, and the effect of earned pricing decreases. | | | | | | Specialty Commercial | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Specialty Commercial increaseddecreased by 2.20.6 points, primarily due to lower non-catastrophe property losses, partially offset by a higher loss and loss adjustment ratio on directors and officers insurance in professional liability. |
6985
Current accident year catastrophes increased by $22$119 Current accident year catastrophe losses increased by $22, from $28,of $171, or 1.16.6 points, in 2007 to $50,2008 were higher than current accident year catastrophe losses of $52, or 1.92.0 points, in 2008,2007, primarily due to tornadoes and thunderstorms in the South and winter storms along the Pacific coast.Midwest. A $55 change from net unfavorable to netNet favorable prior accident year reserve development increased by $27
PriorNet favorable prior accident year reserve development changedincreased from net unfavorablefavorable development of $4,$12, or 0.20.5 points, in 2007, to net favorable prior accident year reserve development of $51,$39, or 2.01.5 points, in 2008. Among other reserve changes, net favorable reserve development of $51$39 in 2008 included an $18 release of workers’ compensation reserve releases in Small Commercialreserves, primarily related to accident years 2000 to 2007 and Middle Market.a $23 release of reserves for high hazard and umbrella general liability claims, primarily related to the 2001 to 2006 accident years. Refer to the “Reserves” section of the MD&A for further discussion of the prior accident year reserve development in 2008. There were no significant priorNet favorable reserve development of $12 in 2007 included a release of small commercial reserves for accident year developments in 2007.years 2002 through 2006, principally related to package business and workers’ compensation business sold through payroll service providers, partially offset by strengthening of reserves for allocated loss adjustment expenses on national account casualty business.
Operating expenses decreasedincreased by $2$5 The expense ratio remained flat as a result of only a slight increase in operating expenses and a slight$7 decrease in earned premium. Consistent with the decrease in earned premium, amortization of deferred policy acquisition costs was largely due to the decrease in earned premium. Insurance operating costs and expenses increased by $12 primarily due to a $10 increase in policyholder dividends. The increase in policyholder dividends was primarily due to a $15 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits. The expense ratio increased by 0.2 points, to 26.5, because of a slight increase in insurance operating costs and expenses other than policyholder dividends coupled with a reduction in earned premium. Net investment income decreased slightlyby $51 Primarily driving the $51 decrease in net investment income was a decrease in investment yield for partnerships and other alternative investments and, to a lesser extent, a decrease in investment yield for fixed maturities. The lower yield on limited partnerships and other alternative investments was largely driven by lower returns on hedge funds and real estate partnerships. The lower yield on fixed maturities primarily resulted from 2007lower income on variable rate securities due to 2008.a decrease in short-term interest rates. Net realized capital losses increased by $35 The increase in net realized capital losses of $35 in 2008 was primarily due to realized losses in 2008 from impairments and net losses on credit derivatives, partially offset by net realized gains from the sales of securities. Impairments in 2008 consisted of credit related impairments as well as other impairments of securities where the Company is uncertain of its intent to retain the investments for a period of time sufficient to allow recovery. (See the Other-Than-Temporary Impairments discussion within “Investment Results” in the “Investments” section of the MD&A for more information on the impairments recorded in 2008). Other expenses increased by $9 The increase in other expenses was principally due to a reduction in the estimated cost of legal settlements in 2007. Net servicing income decreased by $6 The decrease in net servicing income was primarily driven by a decrease in servicing income from the AARP Health program. Income tax expense decreased by $59$72 Income tax expense decreased by $59,$72, primarily due to the decrease in income before income taxes. Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Net income Net income decreased by $255, or 31%, due primarily to an increase in net realized capital losses of $186, a decrease in net investment income of $92 and a decrease in underwriting results of $84. Net realized capital losses increased by $186 The increase in net realized capital losses of $186 in 2008 was primarily due to realized losses in 2008 from impairments and net losses on credit derivatives, partially offset by net realized gains from the sales of securities. Impairments in 2008 consisted of credit related impairments as well as other impairments of securities where the Company is uncertain of its intent to retain the investments for a period of time sufficient to allow recovery. (See the Other-Than-Temporary Impairments discussion within “Investment Results” in the “Investments” section of the MD&A for more information on the impairments recorded in 2008). 86
Net investment income decreased by $92 Primarily driving the $92 decrease in net investment income was a decrease in investment yield for partnerships and other alternative investments and, to a lesser extent, a decrease in investment yield for fixed maturities. The lower yield on limited partnerships and other alternative investments was largely driven by lower returns on hedge funds and real estate partnerships. The lower yield on fixed maturities primarily resulted from lower income on variable rate securities due to a decrease in short-term interest rates. Underwriting results decreased by $84 Underwriting results decreased by $84 with a corresponding 1.5 point increase in the combined ratio, from 90.3 to 91.8, due to: | | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (47 | ) | | | | | | Losses and loss adjustment expenses | | | | | Volume change — Decrease in current accident year losses and loss adjustment expenses before catastrophes due to the decrease in earned premium | | | 29 | | Ratio change — An increase in the current accident year loss and loss adjustment expense ratio before catastrophes | | | (4 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 25 | | Catastrophes — Increase in current accident year catastrophe losses | | | (141 | ) | Reserve changes — An increase in net favorable prior accident year reserve development | | | 82 | | | | | | Net increase in losses and loss adjustment expenses | | | (34 | ) | | | | | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 12 | | Increase in insurance operating costs and expenses | | | (15 | ) | | | | | Net increase in operating expenses | | | (3 | ) | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (84 | ) | | | | |
Earned premium decreased by $47 Ongoing Operations’ earned premium decreased by $47, or 1%, due to a 5% decrease in Middle Market and a 4% decrease in Specialty Commercial, partially offset by a 2% increase in Personal Lines. Refer to the earned premium discussion in the Executive Overview section of the Property & Casualty MD&A for further discussion of the decrease in earned premium. Losses and loss adjustment expenses increased by $34 Current accident year losses and loss adjustment expenses before catastrophes decreased by $25 Ongoing Operations’ current accident year losses and loss adjustment expenses before catastrophes decreased by $25 due primarily to a decrease in earned premium. The current accident year loss and loss adjustment expense ratio before catastrophes increased by 0.1 points, to 62.8, due to an increase in Personal Lines, Middle Market and Specialty Commercial, largely offset by a decrease in Small Commercial. 87
| | | | | Personal Lines | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Personal Lines increased by 1.6 points, primarily due to an increase in anticipated bodily injury severity on auto liability claims and increased severity of non-catastrophe losses on homeowners business, partially offset by favorable frequency on auto physical damage claims and the effect of earned pricing increases for both auto and homeowners. | | | | | | Small Commercial | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Small Commercial decreased by 3.8 points, primarily due to a lower loss and loss adjustment expense ratio for workers’ compensation and package business. Workers’ compensation claim frequency has been trending favorably for recent accident years due to improved workplace safety and underwriting actions and the lower loss and loss adjustment expense ratio for the 2008 accident year includes an assumption that this decreasing level of claim frequency will continue. The effect of lower claim frequency for workers’ compensation claims was partially offset by the effect of earned pricing decreases. The lower current accident year loss and loss adjustment expense ratio for package business included the effect of lower non-catastrophe property losses, primarily driven by lower claim severity. | | | | | | Middle Market | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Middle Market increased by 1.8 points, primarily due to higher non-catastrophe losses on property and marine business, driven by a number of large individual claims, and the effect of earned pricing decreases. | | | | | | Specialty Commercial | | • | | The current accident year loss and loss adjustment expense ratio before catastrophes in Specialty Commercial increased by 0.7 points, primarily due to a higher loss and loss adjustment ratio on directors and officers insurance in professional liability, driven by earned pricing decreases. |
Current accident year catastrophes increased by $141 Current accident year catastrophe losses of $221, or 4.2 points, in 2008 were higher than current accident year catastrophe losses of $80, or 1.5 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest and winter storms along the Pacific coast. An increase in net favorable prior accident year reserve development of $82 Net favorable prior accident year reserve development increased from net favorable development of $8, or 0.1 points, in 2007, to net favorable development of $90, or 1.7 points, in 2008. Among other reserve developments, net favorable development in 2008 included a $58 release of workers’ compensation reserves, primarily related to accident years 2000 to 2007 and a $42 release of reserves for high hazard and umbrella general liability claims, primarily related to the 2001 to 2006 accident years. Refer to the “Reserves” section of the MD&A for further discussion of the prior accident year reserve development in 2008. Net favorable reserve development of $8 in 2007 included a release of small commercial reserves for accident years 2002 through 2006, principally related to package business and workers’ compensation business sold through payroll service providers, partially offset by strengthening of reserves for allocated loss adjustment expenses on national account casualty business. Operating expenses increased by $3 The $12 decrease in the amortization of deferred policy acquisition costs was largely due to the decrease in earned premium. Insurance operating costs and expenses increased by $15 primarily due to an $11 increase in policyholder dividends. The increase in policyholder dividends was primarily due to a $15 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits. The expense ratio increased by 0.1 points, to 26.0 because of a slight increase in insurance operating costs and expenses other than policyholder dividends coupled with a reduction in earned premium. Net servicing income decreased by $18 The decrease in net servicing income was primarily driven by a decrease in servicing income from the AARP Health program and the write-off of software used in administering policies for third parties. Income tax expense decreased by $131 Income tax expense decreased by $131, primarily due to the decrease in income before income taxes. 7088
PERSONAL LINES | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Premiums | | 2008 | | | 2007 | | | Change | | Written Premiums [1] | | | | | | | | | | | | | Business Unit | | | | | | | | | | | | | AARP | | $ | 662 | | | $ | 650 | | | | 2 | % | Agency | | | 258 | | | | 269 | | | | (4 | %) | Other | | | 16 | | | | 20 | | | | (20 | %) | | | | | | | | | | | Total | | $ | 936 | | | $ | 939 | | | | — | | | | | | | | | | | | Product Line | | | | | | | | | | | | | Automobile | | $ | 698 | | | $ | 699 | | | | — | | Homeowners | | | 238 | | | | 240 | | | | (1 | %) | | | | | | | | | | | Total | | $ | 936 | | | $ | 939 | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | Earned Premiums [1] | | | | | | | | | | | | | Business Unit | | | | | | | | | | | | | AARP | | $ | 687 | | | $ | 653 | | | | 5 | % | Agency | | | 277 | | | | 277 | | | | — | | Other | | | 19 | | | | 23 | | | | (17 | %) | | | | | | | | | | | Total | | $ | 983 | | | $ | 953 | | | | 3 | % | | | | | | | | | | | Product Line | | | | | | | | | | | | | Automobile | | $ | 706 | | | $ | 693 | | | | 2 | % | Homeowners | | | 277 | | | | 260 | | | | 7 | % | | | | | | | | | | | Total | | $ | 983 | | | $ | 953 | | | | 3 | % | | | | | | | | | | |
Premiums | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | Written Premiums [1] | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Business Unit | | | | | | | | | | | | | | | | | | | | | | | | | AARP | | $ | 741 | | | $ | 727 | | | | 2 | % | | $ | 1,403 | | | $ | 1,377 | | | | 2 | % | Agency | | | 271 | | | | 293 | | | | (8 | %) | | | 529 | | | | 562 | | | | (6 | %) | Other | | | 17 | | | | 19 | | | | (11 | %) | | | 33 | | | | 39 | | | | (15 | %) | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,029 | | | $ | 1,039 | | | | (1 | %) | | $ | 1,965 | | | $ | 1,978 | | | | (1 | %) | | | | | | | | | | | | | | | | | | | | Product Line | | | | | | | | | | | | | | | | | | | | | | | | | Automobile | | $ | 729 | | | $ | 739 | | | | (1 | %) | | $ | 1,427 | | | $ | 1,438 | | | | (1 | %) | Homeowners | | | 300 | | | | 300 | | | | — | | | | 538 | | | | 540 | | | | — | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,029 | | | $ | 1,039 | | | | (1 | %) | | $ | 1,965 | | | $ | 1,978 | | | | (1 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Earned Premiums [1] | | | | | | | | | | | | | | | | | | | | | | | | | Business Unit | | | | | | | | | | | | | | | | | | | | | | | | | AARP | | $ | 691 | | | $ | 663 | | | | 4 | % | | $ | 1,378 | | | $ | 1,316 | | | | 5 | % | Agency | | | 273 | | | | 282 | | | | (3 | %) | | | 550 | | | | 559 | | | | (2 | %) | Other | | | 16 | | | | 22 | | | | (27 | %) | | | 35 | | | | 45 | | | | (22 | %) | | | | | | | | | | | | | | | | | | | | Total | | $ | 980 | | | $ | 967 | | | | 1 | % | | $ | 1,963 | | | $ | 1,920 | | | | 2 | % | | | | | | | | | | | | | | | | | | | | Product Line | | | | | | | | | | | | | | | | | | | | | | | | | Automobile | | $ | 707 | | | $ | 705 | | | | — | | | $ | 1,413 | | | $ | 1,398 | | | | 1 | % | Homeowners | | | 273 | | | | 262 | | | | 4 | % | | | 550 | | | | 522 | | | | 5 | % | | | | | | | | | | | | | | | | | | | | Total | | $ | 980 | | | $ | 967 | | | | 1 | % | | $ | 1,963 | | | $ | 1,920 | | | | 2 | % | | | | | | | | | | | | | | | | | | | |
| | | [1] | | The difference between written premiums and earned premiums is attributable to the change in unearned premium reserve. |
| | | | | | | | | Premium Measures | | 2008 | | | 2007 | | Policies in-force end of period | | | | | | | | | Automobile | | | 2,339,871 | | | | 2,313,512 | | Homeowners | | | 1,477,335 | | | | 1,458,485 | | | | | | | | | Total policies in-force end of period | | | 3,817,206 | | | | 3,771,997 | | | | | | | | | | | | | | | | | | New business premium | | | | | | | | | Automobile | | $ | 84 | | | $ | 117 | | Homeowners | | $ | 24 | | | $ | 37 | | | | | | | | | | | | | | | | | | Premium Renewal Retention | | | | | | | | | Automobile | | | 88 | % | | | 89 | % | Homeowners | | | 88 | % | | | 100 | % | | | | | | | | | | | | | | | | | Written Pricing Increase (Decrease) | | | | | | | | | Automobile | | | 3 | % | | | — | | Homeowners | | | 3 | % | | | 8 | % | | | | | | | | | | | | | | | | | Earned Pricing Increase (Decrease) | | | | | | | | | Automobile | | | 1 | % | | | (1 | %) | Homeowners | | | 4 | % | | | 6 | % | | | | | | | |
Premium Measures | | | | | | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2008 | | | 2007 | | Policies in-force end of period | | | | | | | | | | | | | | | | | Automobile | | | | | | | | | | | 2,326,188 | | | | 2,342,883 | | Homeowners | | | | | | | | | | | 1,471,920 | | | | 1,476,340 | | | | | | | | | | | | | | | | | Total policies in-force end of period | | | | | | | | | | | 3,798,108 | | | | 3,819,223 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | New business premium | | | | | | | | | | | | | | | | | Automobile | | $ | 87 | | | $ | 115 | | | $ | 171 | | | $ | 232 | | Homeowners | | $ | 27 | | | $ | 39 | | | $ | 51 | | | $ | 76 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Premium Renewal Retention | | | | | | | | | | | | | | | | | Automobile | | | 87 | % | | | 88 | % | | | 88 | % | | | 89 | % | Homeowners | | | 91 | % | | | 97 | % | | | 90 | % | | | 98 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Written Pricing Increase | | | | | | | | | | | | | | | | | Automobile | | | 3 | % | | | — | | | | 3 | % | | | — | | Homeowners | | | 2 | % | | | 6 | % | | | 2 | % | | | 7 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Earned Pricing Increase | | | | | | | | | | | | | | | | | Automobile | | | 1 | % | | | — | | | | 1 | % | | | — | | Homeowners | | | 3 | % | | | 6 | % | | | 3 | % | | | 6 | % | | | | | | | | | | | | | |
Earned Premiums Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Earned premiums increased $30,$13, or 3%1%, for the three months ended June 30, 2008 and $43, or 2%, for the six months ended June 30, 2008, primarily due to earned premium growth in AARP. AgencyAARP, partially offset by earned premium decreases in Agency and Other. AARP earned premium grew $28 and $62, respectively, for the three and six months ended June 30, 2008, reflecting growth in the size of the AARP target market, the effect of direct marketing programs and the effect of cross selling homeowners insurance to insureds who have auto policies. The earned premium growth in AARP was flat yearprimarily due to auto and homeowners’ new business written premium outpacing non-renewals over year.the last nine months of 2007. In the first six months of 2008, non-renewals have outpaced new business due largely to a decline in new business written premium driven by increased competition. • | | AARP earned premium grew $34, or 5%, reflecting growth in the size of the AARP target market, the effect of direct marketing programs and the effect of cross selling homeowners insurance to insureds who have auto policies. The earned premium growth in AARP was primarily due to auto and homeowners new business written premium outpacing non-renewals over the last nine months of 2007. | | • | | Agency earned premium remained flat from 2007 to 2008 as the effect of earned pricing increases was offset by the effect of a decline in new business premium and auto premium renewal retention since the second quarter of 2007. The market environment continues to be intensely competitive with flat to declining rate actions by some competitors in 2007 contributing to the decrease in new business and premium renewal retention. Partially offsetting the effect of price competition on new business and retention was the effect of an increase in the number of agency appointments. | | • | | Other earned premium decreased by $4, or 17%, primarily due to a strategic decision to reduce other affinity business. |
7189
Agency earned premium decreased by $9 for both the three and six months ended June 30, 2008 as the effect of a decline in new business premium and premium renewal retention since the second quarter of 2007 was partially offset by the effect of modest earned pricing increases. The market environment continues to be intensely competitive. The increase in advertising for auto business among the top carriers is also occurring with homeowners’ business, particularly in non-coastal and non-catastrophe prone areas. In the latter part of 2007 and the first half of 2008, a number of Personal Lines carriers have begun to increase rates although a significant portion of the market continues to compete heavily on price. Other earned premium decreased by $6 and $10, respectively, for the three and six months ended June 30, 2008, primarily due to a strategic decision to reduce other affinity business. Auto earned premium grew by $13, or 2%, inslightly for the six months ended June 30, 2008 primarily due toand was relatively flat for the three months ended June 30, 2008 as the effect of new business outpacing non-renewals in AARP over the last nine months of 2007.2007 contributed to earned premium growth in the first quarter of 2008. Largely offsetting the increase in AARP auto earned premium was a decrease in Agency and Other auto earned premiums. Homeowners’ earned premium grew $17, or 7%,$11 and $28, respectively, for the three and six months ended June 30, 2008, primarily due to an earned pricing increaseincreases of 4% in 2008 and due to new business outpacing non-renewals in AARP business over the last nine months of 2007.3%. | | | | | New business premium | | • | | Both auto and homeownershomeowners’ new business written premium decreased in the three and six months ended March 31, 2008 with autoJune 30, 2008. Auto new business decreasingdecreased by $33,$28, or 28%24%, to $84for the three month period and homeownersby $61, or 26%, for the six month period, including decreases in both AARP and Agency. Homeowners’ new business decreasing $13,decreased by $12, or 35%31%, to $24.for the three month period and by $25, or 33%, for the six month period, including decreases in both AARP and Agency. AARP new business written premium decreased primarily due to lower auto and homeowners’ policy conversion rates.rates, driven by increased competition, including the effect of price decreases by some carriers and the effect of continued advertising among carriers for new business. Agency new business written premium decreased primarily due to price competition driven, in part, by a greater number of agents using comparative rating software to obtain quotes from multiple carriers. | | | | | | Premium renewal retention | | • | | Premium renewal retention for auto decreased from 88% to 87% in the three month period and from 89% to 88% asin the six month period, driven primarily by lower retention in Agency largely due to price competition. Auto premium renewal retention remainedfor AARP was flat as the effect of a decrease in AARP and decreased in Agency.policy retention was offset by the effect of written pricing increases. Premium renewal retention for homeowners decreased from 100%97% to 88% for91% in the three months ended March 31, 2008, withmonth period and from 98% to 90% in the six month period driven by a decrease in retention for both AARP and Agency business. The decreasesdecrease in premium renewal retention for AARP homeowners’ business was driven by increased price competition by some carriers and mandated homeowners rate declines in Florida for AARP policies. The decrease in premium renewal retention for Agency auto and homeowners were driven largely by price competition.homeowners’ business was due, in part, to Florida policyholders non-renewing in advance of the Company’s decision to stop renewing Florida homeowners’ policies sold through agents later in 2008. | | | | | | Earned pricing increase (decrease) | | • The trend in | | Auto earned pricing during 2007 was primarily a reflectionincreases of 1% in the three and six months ended June 30, 2008 reflect the portion of the written pricing changes3% increase in the last nine months of 2007. While written pricing in 2008 reflected in earned premium. While auto written pricing was flat for the last nine months ofin 2007, written pricing increased in auto by 3% in the first quarter of 2008 as the Company has increased auto insurance rates in certain states for certain classes of business to maintain profitability in the face of rising loss costs. Homeowners’In addition, written pricing continued to increase due largely to rate increases included the effect of policyholders purchasing newer vehicle models in place of older models. Homeowners’ earned pricing increases of 3% in the three and six months ended June 30, 2008 reflect the earning of a blend of mid-single digit written pricing increases recognized over the last nine months of 2007 and 2% written pricing increases recognized in the first six months of 2008. Written pricing increases in insurancehomeowners are largely driven by increases in coverage limits due to value. Insurance to value is the ratio of the amount of insurance purchased to the value of the insured property.rising replacement costs. | | | | | | Policies in-force | | • | | The number of policies in-force increased by 1%decreased slightly for both auto and homeowners, reflecting growthprimarily due to a 6% decline in the number of Agency policies in-force, partially offset by a 2% increase in the number of AARP business.policies in-force. |
7290
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Personal Lines — Underwriting Summary | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 936 | | | $ | 939 | | | | — | | Change in unearned premium reserve | | | (47 | ) | | | (14 | ) | | NM | | | | | | | | | | | | Earned premiums | | | 983 | | | | 953 | | | | 3 | % | Losses and loss adjustment expenses | | | | | | | | | | | | | Current accident year before catastrophes | | | 635 | | | | 593 | | | | 7 | % | Current accident year catastrophes | | | 30 | | | | 17 | | | | 76 | % | Prior accident years | | | (8 | ) | | | 4 | | | NM | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 657 | | | | 614 | | | | 7 | % | Amortization of deferred policy acquisition costs | | | 156 | | | | 152 | | | | 3 | % | Insurance operating costs and expenses | | | 65 | | | | 57 | | | | 14 | % | | | | | | | | | | | Underwriting results | | $ | 105 | | | $ | 130 | | | | (19 | %) | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | Current accident year before catastrophes | | | 64.6 | | | | 62.2 | | | | (2.4 | ) | Current accident year catastrophes | | | 3.1 | | | | 1.8 | | | | (1.3 | ) | Prior accident years | | | (0.8 | ) | | | 0.5 | | | | 1.3 | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 66.9 | | | | 64.5 | | | | (2.4 | ) | Expense ratio | | | 22.4 | | | | 21.9 | | | | (0.5 | ) | | | | | | | | | | | Combined ratio | | | 89.4 | | | | 86.4 | | | | (3.0 | ) | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | Current year | | | 3.1 | | | | 1.8 | | | | (1.3 | ) | Prior years | | | (0.7 | ) | | | — | | | | 0.7 | | | | | | | | | | | | Total catastrophe ratio | | | 2.5 | | | | 1.8 | | | | (0.7 | ) | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 86.9 | | | | 84.6 | | | | (2.3 | ) | Combined ratio before catastrophes and prior accident years development | | | 87.0 | | | | 84.1 | | | | (2.9 | ) | | | | | | | | | | | Other revenues [1] | | $ | 34 | | | $ | 36 | | | | (6 | %) | | | | | | | | | | |
Personal Lines — Underwriting Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 1,029 | | | $ | 1,039 | | | | (1 | %) | | $ | 1,965 | | | $ | 1,978 | | | | (1 | %) | Change in unearned premium reserve | | | 49 | | | | 72 | | | | (32 | %) | | | 2 | | | | 58 | | | | (97 | %) | | | | | | | | | | | | | | | | | | | | Earned premiums | | | 980 | | | | 967 | | | | 1 | % | | | 1,963 | | | | 1,920 | | | | 2 | % | Losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 645 | | | | 628 | | | | 3 | % | | | 1,280 | | | | 1,221 | | | | 5 | % | Current accident year catastrophes | | | 97 | | | | 32 | | | NM | | | | 127 | | | | 49 | | | | 159 | % | Prior accident years | | | 1 | | | | 4 | | | | (75 | %) | | | (7 | ) | | | 8 | | | NM | | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 743 | | | | 664 | | | | 12 | % | | | 1,400 | | | | 1,278 | | | | 10 | % | Amortization of deferred policy acquisition costs | | | 155 | | | | 154 | | | | 1 | % | | | 311 | | | | 306 | | | | 2 | % | Insurance operating costs and expenses | | | 64 | | | | 65 | | | | (2 | %) | | | 129 | | | | 122 | | | | 6 | % | | | | | | | | | | | | | | | | | | | | Underwriting results | | $ | 18 | | | $ | 84 | | | | (79 | %) | | $ | 123 | | | $ | 214 | | | | (43 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 65.9 | | | | 65.1 | | | | (0.8 | ) | | | 65.3 | | | | 63.7 | | | | (1.6 | ) | Current accident year catastrophes | | | 9.8 | | | | 3.3 | | | | (6.5 | ) | | | 6.4 | | | | 2.5 | | | | (3.9 | ) | Prior accident years | | | — | | | | 0.3 | | | | 0.3 | | | | (0.4 | ) | | | 0.4 | | | | 0.8 | | | | | | | | | | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 75.8 | | | | 68.7 | | | | (7.1 | ) | | | 71.3 | | | | 66.6 | | | | (4.7 | ) | Expense ratio | | | 22.4 | | | | 22.6 | | | | 0.2 | | | | 22.4 | | | | 22.2 | | | | (0.2 | ) | | | | | | | | | | | | | | | | | | | | Combined ratio | | | 98.1 | | | | 91.3 | | | | (6.8 | ) | | | 93.7 | | | | 88.9 | | | | (4.8 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current year | | | 9.8 | | | | 3.3 | | | | (6.5 | ) | | | 6.4 | | | | 2.5 | | | | (3.9 | ) | Prior years | | | 0.3 | | | | 0.3 | | | | — | | | | (0.2 | ) | | | 0.2 | | | | 0.4 | | | | | | | | | | | | | | | | | | | | | Total catastrophe ratio | | | 10.1 | | | | 3.6 | | | | (6.5 | ) | | | 6.3 | | | | 2.7 | | | | (3.6 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 88.0 | | | | 87.7 | | | | (0.3 | ) | | | 87.5 | | | | 86.1 | | | | (1.4 | ) | Combined ratio before catastrophes and prior accident years development | | | 88.3 | | | | 87.7 | | | | (0.6 | ) | | | 87.7 | | | | 85.9 | | | | (1.8 | ) | | | | | | | | | | | | | | | | | | | | Other revenues [1] | | $ | 29 | | | $ | 33 | | | | (12 | %) | | $ | 63 | | | $ | 69 | | | | (9 | %) | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Represents servicing revenues. |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | Combined Ratios | | 2008 | | 2007 | | Change | | | 2008 | | 2007 | | Change | | 2008 | | 2007 | | Change | | Automobile | | 92.6 | | 90.7 | | | (1.9 | ) | | 94.3 | | 95.9 | | 1.6 | | 93.5 | | 93.3 | | | (0.2 | ) | Homeowners | | 81.1 | | 74.8 | | | (6.3 | ) | | 107.9 | | 79.0 | | | (28.9 | ) | | 94.4 | | 76.9 | | | (17.5 | ) | | | | | | | | | | | | | | | | | | | | | | Total | | 89.4 | | 86.4 | | | (3.0 | ) | | 98.1 | | 91.3 | | | (6.8 | ) | | 93.7 | | 88.9 | | | (4.8 | ) | | | | | | | | | | | | | | | | | | | | | |
7391
Underwriting results and ratios Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Underwriting results decreased by $25,$66, from $130$84 to $105,$18, with a corresponding 3.06.8 point increase in the combined ratio, from 86.491.3 to 89.4,98.1, due to: | | | | | | | | | Change in underwriting results | | | Increase in earned premiums | | $ | 30 | | | $ | 13 | | | | | Losses and loss adjustment expenses | | | Ratio change — An increase in the current accident loss and loss adjustment expense ratio before catastrophes | | | (24 | ) | | | (9 | ) | Volume change — Increase in current accident year losses and loss adjustment expenses before catastrophes due to the increase in earned premium | | | (18 | ) | | | (8 | ) | | | | | | | | Increase in current accident year losses and loss adjustment expenses before catastrophes | | | (42 | ) | | | (17 | ) | Catastrophes — Increase in current accident year catastrophes | | | (13 | ) | | | (65 | ) | Reserve changes — A change to net favorable prior accident year reserve development | | 12 | | | Reserve changes — A decrease in net unfavorable prior accident year reserve development | | | 3 | | | | | | | | | Net increase in losses and loss adjustment expenses | | | (43 | ) | | | (79 | ) | | | | Operating expenses | | | Increase in amortization of deferred policy acquisition costs | | | (4 | ) | | | (1 | ) | Increase in insurance operating costs and expenses | | | (8 | ) | | Decrease in insurance operating costs and expenses | | | 1 | | | | | | | | | Net increase in operating expenses | | | (12 | ) | | No change in operating expenses | | | — | | | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (25 | ) | | $ | (66 | ) | | | | | | | |
Earned premium increased by $30$13 Earned premiums increased $30,$13, or 3%1%, primarily due to earned premium growth in AARP.AARP, partially offset by decreases in Agency and Other. Refer to the earned premium section above for further discussion. Losses and loss adjustment expenses increased by $43$79 Current accident year losses and loss adjustment expenses before catastrophes increased by $42$17 Personal Lines current accident year losses and loss adjustment expenses before catastrophes increased by $42,$17, to $635,$645, due to an increase in the current accident year loss and loss adjustment expense ratio before catastrophes and an increase in earned premium. The current accident year loss and loss adjustment expense ratio before catastrophes increased by 2.40.8 points, to 64.6.65.9. The increase was primarily due to a higher current accident year loss and loss adjustment expense ratio foran increase in anticipated bodily injury severity on auto liability claims and to a lesser extent, increased frequencyseverity of non-catastrophe losses on homeowners business, partially offset by favorable frequency on auto physical damage claims, the effect of strengthening current accident year auto liability reserves by $10 in 2007 and the effect of earned pricing increases in homeowners. The higher loss2008 in both auto and loss adjustment expense ratio for auto liability claims was primarily driven by an expectation of increased bodily injury severity.homeowners. Current accident year catastrophes increased by $13$65 Current accident year catastrophe losses of $30,$97, or 3.19.8 points, forin 2008 were higher than current accident year catastrophe losses of $17,$32, or 1.83.3 points, in 2007, primarily due to tornadoes and thunderstorms in the South and winter storms along the Pacific coast.Midwest. A $12 change from$3 decrease in net unfavorable to net favorable prior accident year reserve development Net favorable reserve development of $8 in 2008 included a $9 release of reserves for extra-contractual liability claims related to non-standard auto liability claims in runoff. There were no significant prior accident year reserve developments in 2008 or 2007.
Operating expenses — no change The expense ratio decreased slightly, to 22.4. Amortization of deferred policy acquisition costs increased slightly, driven primarily by the increase in earned premium. Insurance operating costs and expenses were relatively flat. 92
Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Underwriting results decreased by $91, from $214 to $123, with a corresponding 4.8 point increase in the combined ratio, from 88.9 to 93.7, due to: | | | | | Change in underwriting results | | | | | Increase in earned premiums | | $ | 43 | | | | | | | Losses and loss adjustment expenses | | | | | Ratio change — An increase in the current accident loss and loss adjustment expense ratio before catastrophes | | | (32 | ) | Volume change — Increase in current accident year losses and loss adjustment expenses before catastrophes due to the increase in earned premium | | | (27 | ) | | | | | Increase in current accident year losses and loss adjustment expenses before catastrophes | | | (59 | ) | Catastrophes — Increase in current accident year catastrophes | | | (78 | ) | Reserve changes — A change to net favorable prior accident year reserve development | | | 15 | | | | | | Net increase in losses and loss adjustment expenses | | | (122 | ) | | | | | | Operating expenses | | | | | Increase in amortization of deferred policy acquisition costs | | | (5 | ) | Increase in insurance operating costs and expenses | | | (7 | ) | | | | | Increase in operating expenses | | | (12 | ) | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (91 | ) | | | | |
Earned premium increased by $43 Earned premiums increased $43, or 2%, primarily due to earned premium growth in AARP. Refer to the earned premium section above for further discussion. Losses and loss adjustment expenses increased by $122 Current accident year losses and loss adjustment expenses before catastrophes increased by $59 Personal Lines current accident year losses and loss adjustment expenses before catastrophes increased by $59, to $1,280, due to an increase in the current accident year loss and loss adjustment expense ratio before catastrophes and an increase in earned premium. The current accident year loss and loss adjustment expense ratio before catastrophes increased by 1.6 points, to 65.3. The increase was primarily due to an increase in anticipated bodily injury severity on auto liability claims and increased severity of non-catastrophe losses on homeowners business, partially offset by favorable frequency on auto physical damage claims and the effect of earned pricing increases for both auto and homeowners. Current accident year catastrophes increased by $78 Current accident year catastrophe losses of $127, or 6.4 points, in 2008 were higher than current accident year catastrophe losses of $49, or 2.5 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest and winter storms along the Pacific coast. Prior accident year reserve development changed by $15 from net unfavorable to net favorable development There were no significant prior accident year reserve developments in 2008 or 2007. Operating expenses increased by $12 The expense ratio increased by 0.50.2 points, to 22.4, in 2008, due largely to an increase in insurance operating costs and expenses incurred to achieve earned premium growth. Amortization of deferred policy acquisition costs increased slightly,modestly, driven primarily by the increase in earned premium. 7493
Outlook Management expects written premium for the Personal Lines segment to be flat1% higher to 3% higher2% lower in 2008 than in 2007. New business written premium began to decline in the third quarter of 2007 and this trend continued in the first quartersix months of 2008 for both AARP and Agency. Based on competitive market conditions, written premium is expected to be 1% higher to 4% higher2% lower in both auto and between 1% lower and 2% higher in homeowners with all of the growth coming within AARP. For AARP business, management expects to achieve its written premium growth primarily through continued direct marketing to AARP members and an expansion of underwriting appetite through the continued roll-out of the “Next Gen Auto” product. Through improvements in technology, the Company seeks to increase AARP new business flow from the internet and increase the percentage of AARP new business submissions that can be quoted real-time. In addition to marketing directly to AARP members, the Company will increaseis increasing its media spend to enhance brand awareness. For the Agency business in 2008, management expects written premium to decrease as competition for business has increased, in part, driven by more agencies using comparative raters to obtain quotes from multiple carriers. The Company seeks to increase its new business by appointing more agents, increasing the flow of new business from recently appointed agents and improving its price competitiveness across a broader spectrum of risks.risks through continued enhancements of the Dimensions Auto class plan. In April of 2008, the Company launched a brand and channel expansion initiativepilot in four states: Arizona, Illinois, Tennessee and Minnesota. In those four states, the Company will significantly increase Personal Lines brand advertising and will launch direct marketing efforts beyond its existing AARP program. In addition, certain certified agents in the four target states will have the opportunity for the first time to sell the Company’s AARP product. The Company is currently targeting the fourth quarter of 2008 for rollout of the agent-sold AARP product. Margins for both auto and homeowners are under pressure as carriers have generally been willing to allow their combined ratios to increase in order to grow written premium. For auto, written pricing was flat for 2007 and did not keep pace with loss costs which increased due to a higher frequency of auto claims and a higher severity of bodily injury claims. In response to higherrising loss costs, written pricingin 2008 the Company began to increase auto insurance rates in certain states for auto increased in the first quartercertain classes of 2008, reflecting modest rate increases.business to maintain profitability. While carriers in the personal lines industry will continue to compete on price, management expects that auto pricing in the industry will continue to firm a bit in 2008 as combined ratios have risen in the past couple of years and eroded profitability. Throughout 2007, the Company increased its estimate of current accident year loss costs for auto liability claims, due primarily to higher than anticipated frequency on AARP and Agency business. In 2008, management expects claim frequency on auto claims to stabilize, but expects claim severity to increase relative to 2007, resulting in a moderately higher current accident year loss and loss adjustment expense ratio on auto claims.claims that is relatively flat to the prior year. For homeowners, written pricing increased 5% for the 2007 full year and 3%2% in the first quartersix months of 2008, primarily reflecting an increase in insurancecoverage limits due to value and, prior to 2008, an increase in the value of insured properties.rising replacement costs. Non-catastrophe loss costs of homeowners claims increased in both 2007 and the first six months of 2008 due to higher claim severity and increased in the first quarter of 2008 due to higher claim frequency. For the remainder of 2008, management expects claim severity will increase but that unfavorable claim frequency will moderate.this trend to continue. For Personal Lines, the Company expects a 2008 combined ratio before catastrophes and prior accident year development in the range of 88.588.0 to 91.5.91.0. The combined ratio before catastrophes and prior accident year development was 88.6 in 2007. To help maintain profitability, the Company is seeking to achieve greater economy of scale, enhance its products, improve its pricing structure and expand market access. To summarize, management’s outlook in Personal Lines for the 2008 full year is: • | | Written premium flat to 3% higher, with auto written premium 1% to 4% higher and homeowners written premium from 1% lower to 2% higher | | • | | A combined ratio before catastrophes and prior accident year development of 88.5 to 91.5 |
Written premium 1% higher to 2% lower, with both auto and homeowners’ written premium 1% higher to 2% lower A combined ratio before catastrophes and prior accident year development of 88.0 to 91.0 7594
SMALL COMMERCIAL | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Premiums [1] | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 743 | | | $ | 740 | | | | — | | Earned premiums | | | 687 | | | | 681 | | | | 1 | % | | | | | | | | | | |
Premiums [1] | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | Change | | Written premiums | | $ | 679 | | | $ | 694 | | | | (2 | %) | | $ | 1,422 | | | $ | 1,434 | | | | (1 | %) | Earned premiums | | | 683 | | | | 684 | | | | — | | | | 1,370 | | | | 1,365 | | | | — | |
| | | [1] | | The difference between written premiums and earned premiums is attributable to the change in unearned premium reserve. |
| | | | | | | | | | | | | | | | | | | | | | | | | Premium Measures | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | New business premium | | $ | 127 | | $ | 129 | | | $ | 117 | | $ | 126 | | $ | 244 | | $ | 255 | | Premium renewal retention | | | 83 | % | | | 85 | % | | | 81 | % | | | 84 | % | | | 82 | % | | | 85 | % | Written pricing decrease | | | (2 | %) | | | (1 | %) | | | (3 | %) | | | (1 | %) | | | (3 | %) | | | (1 | %) | Earned pricing increase (decrease) | | | (2 | %) | | — | | | Earned pricing decrease | | | | (2 | %) | | | (1 | %) | | | (2 | %) | | — | | Policies in-force end of period | | 1,048,057 | | 1,005,879 | | | 1,057,058 | | 1,020,262 | | | | | | | | |
Earned Premiums Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Earned premiums for the Small Commercial segment increased $6, or 1%, primarily due towere relatively flat for both the three and six month periods, as the effect of new business premiums outpacing non-renewals for workers’ compensation business over the last nine months of 2007.2007 and first three months of 2008 was largely offset by the effect of earned pricing decreases. While the Company has focused on increasing new business from its agents and expanding writings in certain territories, actions taken by some of the Company’s competitors to increase market share and increase business appetite in certain classes of risks may be contributingand actions taken by the Company to reduce workers’ compensation rates in certain states have contributed to the Company’s flatdecrease in written premium growth.premiums from 2007 to 2008. | | | | | New business premium | | • While new | | New business written premium declined significantly duringwas down $9, or 7%, in the last ninethree months of 2007,ended June 30, 2008 and down $11, or 4%, for the six months ended June 30, 2008. In both the three and six months ended June 30, 2008, the decrease in new business written premium was only down slightly in the first quarter of 2008 (down $2, or 2%). In the first quarter of 2008,primarily driven by a decrease in new package and commercial automobile business, was largely offset by an increase in new workers’ compensation business. The decrease in new package business premium was largely due to increased competition. Contributing to the increase in workers’ compensation newNew business wasdeclined despite the use of more flexiblelower pricing on targeted accounts and an increase in commissions paid to agents. | | | | | | Premium renewal retention | | • | | Premium renewal retention decreased from 84% to 81% in the three month period and decreased from 85% to 83%82% in the six month period due in part,largely to a reduction in average premium per account, including the effect of a decrease in written pricing for workers’ compensation business. | | | | | | Earned pricing increase (decrease) | | • | | For both the three and six month periods, earned pricing decreased for workers’ compensation and commercial auto and was flat for package business. As written premium is earned over the 12-month term of the policies, the earned pricing changes during the first quarter ofthree and six month periods ended June 30, 2008 arewere primarily a reflection of the written pricing changesdecreases of 1% over the last nine months of 2007.2007 and written pricing decreases of 2% over the first three months of 2008. | | | | | | Policies in-force | | • Consistent with | | While earned premium was flat for both the increase in earned premium,three and six month periods, the number of policies in-force has increased.increased 4% from June 30, 2007 to June 30, 2008. The growth in policies in-force does not correspond directly with the change in earned premiums due to the effect of changes in earned pricing and changes in the average premium per policy and because policy in-force counts are as of a point in time rather than over a period of time.policy. |
7695
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Small Commercial — Underwriting Summary | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 743 | | | $ | 740 | | | | — | | Change in unearned premium reserve | | | 56 | | | | 59 | | | | (5 | %) | | | | | | | | | | | Earned premiums | | | 687 | | | | 681 | | | | 1 | % | Losses and loss adjustment expenses | | | | | | | | | | | | | Current accident year before catastrophes | | | 370 | | | | 397 | | | | (7 | %) | Current accident year catastrophes | | | 9 | | | | 7 | | | | 29 | % | Prior accident years | | | (2 | ) | | | (5 | ) | | | 60 | % | | | | | | | | | | | Total losses and loss adjustment expenses | | | 377 | | | | 399 | | | | (6 | %) | Amortization of deferred policy acquisition costs | | | 159 | | | | 160 | | | | (1 | %) | Insurance operating costs and expenses | | | 32 | | | | 38 | | | | (16 | %) | | | | | | | | | | | Underwriting results | | $ | 119 | | | $ | 84 | | | | 42 | % | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | Current accident year before catastrophes | | | 53.8 | | | | 58.3 | | | | 4.5 | | Current accident year catastrophes | | | 1.3 | | | | 1.0 | | | | (0.3 | ) | Prior accident years | | | (0.3 | ) | | | (0.8 | ) | | | (0.5 | ) | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 54.8 | | | | 58.5 | | | | 3.7 | | Expense ratio | | | 27.7 | | | | 28.9 | | | | 1.2 | | Policyholder dividend ratio | | | 0.2 | | | | 0.2 | | | | — | | | | | | | | | | | | Combined ratio | | | 82.7 | | | | 87.6 | | | | 4.9 | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | Current year | | | 1.3 | | | | 1.0 | | | | (0.3 | ) | Prior years | | | — | | | | 0.3 | | | | 0.3 | | | | | | | | | | | | Total catastrophe ratio | | | 1.3 | | | | 1.3 | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 81.3 | | | | 86.3 | | | | 5.0 | | Combined ratio before catastrophes and prior accident years development | | | 81.7 | | | | 87.4 | | | | 5.7 | | | | | | | | | | | |
Small Commercial — Underwriting Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 679 | | | $ | 694 | | | | (2 | %) | | $ | 1,422 | | | $ | 1,434 | | | | (1 | %) | Change in unearned premium reserve | | | (4 | ) | | | 10 | | | NM | | | | 52 | | | | 69 | | | | (25 | %) | | | | | | | | | | | | | | | | | | | | Earned premiums | | | 683 | | | | 684 | | | | — | | | | 1,370 | | | | 1,365 | | | | — | | Losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 380 | | | | 399 | | | | (5 | %) | | | 750 | | | | 796 | | | | (6 | %) | Current accident year catastrophes | | | 35 | | | | 12 | | | | 192 | % | | | 44 | | | | 19 | | | | 132 | % | Prior accident years | | | (2 | ) | | | (27 | ) | | | 93 | % | | | (4 | ) | | | (32 | ) | | | 88 | % | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 413 | | | | 384 | | | | 8 | % | | | 790 | | | | 783 | | | | 1 | % | Amortization of deferred policy acquisition costs | | | 159 | | | | 159 | | | | — | | | | 318 | | | | 319 | | | | — | | Insurance operating costs and expenses | | | 42 | | | | 40 | | | | 5 | % | | | 74 | | | | 78 | | | | (5 | %) | | | | | | | | | | | | | | | | | | | | Underwriting results | | $ | 69 | | | $ | 101 | | | | (32 | %) | | $ | 188 | | | $ | 185 | | | | 2 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 55.5 | | | | 58.4 | | | | 2.9 | | | | 54.6 | | | | 58.4 | | | | 3.8 | | Current accident year catastrophes | | | 5.2 | | | | 1.8 | | | | (3.4 | ) | | | 3.2 | | | | 1.4 | | | | (1.8 | ) | Prior accident years | | | (0.3 | ) | | | (3.9 | ) | | | (3.6 | ) | | | (0.3 | ) | | | (2.3 | ) | | | (2.0 | ) | | | | | | | | | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 60.4 | | | | 56.3 | | | | (4.1 | ) | | | 57.6 | | | | 57.4 | | | | (0.2 | ) | Expense ratio | | | 29.0 | | | | 28.8 | | | | (0.2 | ) | | | 28.3 | | | | 28.9 | | | | 0.6 | | Policyholder dividend ratio | | | 0.5 | | | | 0.2 | | | | (0.3 | ) | | | 0.3 | | | | 0.2 | | | | (0.1 | ) | | | | | | | | | | | | | | | | | | | | Combined ratio | | | 89.8 | | | | 85.4 | | | | (4.4 | ) | | | 86.2 | | | | 86.5 | | | | 0.3 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current year | | | 5.2 | | | | 1.8 | | | | (3.4 | ) | | | 3.2 | | | | 1.4 | | | | (1.8 | ) | Prior years | | | 0.1 | | | | 0.1 | | | | — | | | | 0.1 | | | | 0.2 | | | | 0.1 | | | | | | | | | | | | | | | | | | | | | Total catastrophe ratio | | | 5.3 | | | | 1.9 | | | | (3.4 | ) | | | 3.3 | | | | 1.6 | | | | (1.7 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 84.5 | | | | 83.4 | | | | (1.1 | ) | | | 82.9 | | | | 84.9 | | | | 2.0 | | Combined ratio before catastrophes and prior accident years development | | | 84.9 | | | | 87.5 | | | | 2.6 | | | | 83.3 | | | | 87.4 | | | | 4.1 | |
Underwriting results and ratios Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Underwriting results increaseddecreased by $35,$32, from $84$101 to $119,$69, with a corresponding 4.94.4 point improvementincrease in the combined ratio, from 87.685.4 to 82.7,89.8, due to: | | | | | Change in underwriting results | | | | | Increase in earned premiums | | $ | 6 | | | | | | | Losses and loss adjustment expenses | | | | | Ratio change — A decrease in the current accident loss and loss adjustment expense ratio before catastrophes | | | 31 | | Volume change — Increase in current accident year losses and loss adjustment expenses before catastrophes due to the increase in earned premium | | | (4 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 27 | | Catastrophes — Increase in current accident year catastrophes | | | (2 | ) | Reserve changes — Decrease in net favorable prior accident year reserve development | | | (3 | ) | | | | | Net decrease in losses and loss adjustment expenses | | | 22 | | | | | | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 1 | | Decrease in insurance operating costs and expenses | | | 6 | | | | | | Decrease in operating expenses | | | 7 | | | | | | | | | | | Increase in underwriting results from 2007 to 2008 | | $ | 35 | | | | | |
| | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (1 | ) | | | | | | Losses and loss adjustment expenses | | | | | Ratio change — A decrease in the current accident loss and loss adjustment expense ratio before catastrophes | | | 19 | | Catastrophes — Increase in current accident year catastrophes | | | (23 | ) | Reserve changes — Decrease in net favorable prior accident year reserve development | | | (25 | ) | | | | | Net increase in losses and loss adjustment expenses | | | (29 | ) | | | | | | Operating expenses | | | | | No change in amortization of deferred policy acquisition costs | | | — | | Increase in insurance operating costs and expenses | | | (2 | ) | | | | | Increase in operating expenses | | | (2 | ) | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (32 | ) | | | | |
7796
Earned premium increaseddecreased by $6$1 EarnedFor the three months ended June 30, 2008, earned premiums for the Small Commercial segment increased $6, or 1%, primarily due to an increase in earned premiums on workers’ compensation business.remained relatively flat, at $683. Refer to the earned premium section above for further discussion.
Losses and loss adjustment expenses decreasedincreased by $22$29 Current accident year losses and loss adjustment expenses before catastrophes decreased by $27$19 Small Commercial’s current accident year losses and loss adjustment expenses before catastrophes decreased by $27$19 in 2008, to $370,$380, primarily due to a 4.52.9 point decrease in the current accident year loss and loss adjustment expense ratio before catastrophes, to 53.8.55.5. The decrease in this ratio was primarily due to a lower loss and loss adjustment expense ratio for workers’ compensation business, partially offset by a higher loss and loss adjustment expense ratio for package business. Workers’ compensation claim frequency has been trending favorably for recent accident years due to improved workplace safety and underwriting actions and the lower loss and loss adjustment expense ratio for the 2008 accident year includes an assumption that this decreasing level of claim frequency will continue. The loss and loss adjustment expense ratio for the 2007 accident year recorded in 2007 did not give as much credence to this lower level of claim frequency. The effect of lower claim frequency for workers’ compensation claims was partially offset by the effect of earned pricing decreases. For package business, the loss and loss adjustment expense ratio before catastrophes and prior accident year development increased modestly as the effect of strengthening current accident year reserves in 2008 by $7 for liability claims was partly offset by the effect of lower non-catastrophe property losses, primarily driven by lower claim severity. Current accident year catastrophes increased by $23 Current accident year catastrophe losses of $35, or 5.2 points, in 2008 were higher than current accident year catastrophe losses of $12, or 1.8 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest. Net favorable prior accident year development decreased by $25 Net favorable prior accident year development of $2 in 2008 included an $18 release of workers’ compensation reserves related to accident years 2000 to 2007, largely offset by a $10 strengthening of reserves for claims under Small Commercial package policies related to accident year 2007. Net favorable reserve development of $27 in 2007 included a $30 release of small commercial reserves for accident years 2003 through 2006, principally related to package business and workers’ compensation business sold through payroll service providers. Operating expense increased by $2 The expense ratio increased by 0.2 points to 29.0, primarily due to a modest $2 increase in insurance operating costs and other expenses. There was no change in amortization of deferred policy acquisition costs as earned premium remained relatively flat. Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Underwriting results increased by $3, from $185 to $188, with a corresponding 0.3 point improvement in the combined ratio, from 86.5 to 86.2, due to: | | | | | Change in underwriting results | | | | | Increase in earned premiums | | $ | 5 | | | | | | | Losses and loss adjustment expenses | | | | | Ratio change — A decrease in the current accident loss and loss adjustment expense ratio before catastrophes | | | 49 | | Volume change — Increase in current accident year losses and loss adjustment expenses before catastrophes due to the increase in earned premium | | | (3 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 46 | | Catastrophes — Increase in current accident year catastrophes | | | (25 | ) | Reserve changes — Decrease in net favorable prior accident year reserve development | | | (28 | ) | | | | | Net increase in losses and loss adjustment expenses | | | (7 | ) | | | | | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 1 | | Decrease in insurance operating costs and expenses | | | 4 | | | | | | Decrease in operating expenses | | | 5 | | | | | | | | | | | Increase in underwriting results from 2007 to 2008 | | $ | 3 | | | | | |
97
Earned premium increased by $5 For the six months ended June 30, 2008, earned premiums for the Small Commercial segment remained relatively flat at $1,370. Refer to the earned premium section above for discussion. Losses and loss adjustment expenses increased by $7 Current accident year losses and loss adjustment expenses before catastrophes decreased by $46 Small Commercial’s current accident year losses and loss adjustment expenses before catastrophes decreased by $46 in 2008, to $750, primarily due to a 3.8 point decrease in the current accident year loss and loss adjustment expense ratio before catastrophes, to 54.6. The decrease in this ratio was primarily due to a lower loss and loss adjustment expense ratio for workers’ compensation and package business. TheWorkers’ compensation claim frequency has been trending favorably for recent accident years due to improved workplace safety and underwriting actions and the lower current accident year loss and loss adjustment expense ratio for workers’ compensation claims reflectedthe 2008 accident year includes an expectation of favorable medical claim severity relative to theassumption that this decreasing level of medical claim severity assumedfrequency will continue. The loss and loss adjustment expense ratio for the 2007 accident year.year recorded in 2007 did not give as much credence to this lower level of claim frequency. The effect of lower claim frequency for workers’ compensation claims was partially offset by the effect of earned pricing decreases. The lower current accident year loss and loss adjustment expense ratio for package business included the effect of lower non-catastrophe property losses, primarily driven by lower claim severity. DecreaseCurrent accident year catastrophes increased by $25
Current accident year catastrophe losses of $44, or 3.2 points, in net2008 were higher than current accident year catastrophe losses of $19, or 1.4 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest. Net favorable prior accident year development decreased by $3$28 While netNet favorable prior accident year development was only $2of $4 in 2008 reserve development included a $21$39 release of workers’ compensation reserves related to accident years 2006 and prior,2000 to 2007, largely offset by a $17 strengthening of reserves for general liability and products liability claims primarily for accident years 2004 and prior. There were no significant prior and $10 strengthening of reserves for claims under package policies related to accident year developments2007. Net favorable reserve development of $32 in 2007.2007 included a $30 release of small commercial reserves for accident years 2003 through 2006, principally related to package business and workers’ compensation business sold through payroll service providers.
Operating expenses decreased by $7$5 The expense ratio decreased by 1.20.6 points, to 27.7,28.3, in 2008, primarily due to a $6$4 decrease in insurance operating costs and expenses, driven, in part, by a decrease in estimated contingent commissions related to 2007 agent compensation. 7898
Outlook Management expects written premium in 2008 to be flat1% higher to 3% higher2% lower than in 2007 as it seeks to increase the flow of new business from its agents. Small Commercial expects to increase written premium by selectively expanding its underwriting appetite, refining its pricing models and upgrading product features. The Company expects to provide more pricing flexibility in 2008 by adding a pricing tier for workers’ compensation business. In addition, the Company plans to introduce in 2008 an enhanced renewal pricing model for the Company’s Spectrum business owners’ package product. Despite a decline in new business in 2007 and the first six months of 2008, management expects new business will increase modestly in the latter half of 2008, driven by an increased flow of new business submissions from the larger producers. Including supplemental commissions, the Company has increased commissions paid to agents and expects that this will help it achieve its growth objectives in 2008. Through technology and process improvements, in 2008, the Company plans to improve efficiency and service levels in its underwriting centers and enhance the agent’s on-line experience. Average premium per policy is expected to continue to decline due to the sale of more liability-only policies, workers’ compensation rate reductions and a lower average premium on Next Generation Auto business. (Refer to the Business Section in The Hartford’s 2007 Form 10-K Annual Report for further discussion on Small Commercial’s Next Generation Auto Business). Written pricing for Small Commercial business has declined modestly, by 2%3%, in the first quartersix months of 2008, as carriers have competed for new business through new product features and expanded coverage. In 2008, the Company will continue to focus on renewal retention, particularly in the mid-Western states, where competition has been particularly strong. Reflecting favorable trends in workers’ compensation loss cost frequency in recent accident years, Small Commercial recognized a lower 2008 accident year loss and loss adjustment expense ratio for workers’ compensation business in the first quartersix months of 2008. Management expects this trend tobelieves that the expected favorable frequency on workers’ compensation claims will continue provided that claim frequency continues to emerge favorably.for the balance of the year. While the Company experienced favorable non-catastrophe property losses on package business and commercial auto claims in the first quartersix months of 2008 due to favorable severity, management expects thatis not projecting loss cost severity will notto be as favorable for the balance of the year. Based on anticipated trends in earned pricing and loss costs, the combined ratio before catastrophes and prior accident year development is expected to be in the range of 84.083.0 to 87.086.0 in 2008. The combined ratio before catastrophes and prior accident year development was 88.0 in 2007. To summarize, management’s outlook in Small Commercial for the 2008 full year is: • | | Written premium flat to 3% higher | | • | | A combined ratio before catastrophes and prior accident year development of 84.0 to 87.0 |
Written premium 1% higher to 2% lower A combined ratio before catastrophes and prior accident year development of 83.0 to 86.0 7999
MIDDLE MARKET | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Premiums [1] | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 548 | | | $ | 557 | | | | (2 | %) | Earned premiums | | | 576 | | | | 605 | | | | (5 | %) | | | | | | | | | | |
Premiums [1] | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 513 | | | $ | 536 | | | | (4 | %) | | $ | 1,061 | | | $ | 1,093 | | | | (3 | %) | Earned premiums | | | 559 | | | | 592 | | | | (6 | %) | | | 1,135 | | | | 1,197 | | | | (5 | %) |
| | | [1] | | The difference between written premiums and earned premiums is attributable to the change in unearned premium reserve. |
| | | | | | | | | | | | | | | | | | | | | | | | | Premium Measures | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | New business premium | | $ | 104 | | $ | 106 | | | $ | 100 | | $ | 97 | | $ | 204 | | $ | 203 | | Premium renewal retention | | | 80 | % | | | 78 | % | | | 78 | % | | | 76 | % | | | 79 | % | | | 77 | % | Written pricing increase (decrease) | | | (6 | %) | | | (5 | %) | | | (7 | %) | | | (4 | %) | | | (6 | %) | | | (4 | %) | Earned pricing increase (decrease) | | | (5 | %) | | | (5 | %) | | | (6 | %) | | | (5 | %) | | | (5 | %) | | | (5 | %) | Policies in-force end of period | | 81,482 | | 79,244 | | | 82,578 | | 79,539 | | | | | | | | |
Earned Premiums Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Earned premiums for the Middle Market segment decreased by $29,$33, or 6%, for the three months ended June 30, 2008 and decreased by $62, or 5%. The, for the six months ended June 30, 2008. For both periods, the decrease was primarily due to earned pricing decreases in 2008 and the first quartereffect of 2008, a decrease innon-renewals outpacing new business written premium forover the last nine months of 2007 and a decrease in premium renewal retention in the second and third quarter of 2007. | | | | | New business premium | | • While new | | New business written premium declined duringincreased by $3, or 3%, to $100 in the last ninesecond quarter of 2008 and was relatively unchanged, at $204 for the first six months of 2007, new2008. New business written premium was only down slightlyincreased for workers’ compensation in the first quarter of 2008 (down $2, or 2%). Athree and six month period and increased for property in the six month period. Partially offsetting these increases in new business was a decrease in auto and general liability new business premium was largely offset by an increasefor commercial auto in workers’ compensation new business.both the three and six month periods. While continued price competition and the effect of some state-mandated rate reductions in workers’ compensation has lessened the attractiveness of new business in certain lines and regions, the Company has increased new business for worker’s compensation due, in part, to the effect of increasing commissions and expanding underwriting appetitetargeting business in selected industries and regions of the country. | | | | | | Premium renewal retention | | • After a decline in premium | | Premium renewal retention during 2007,increased from 76% to 78% for the three month period and increased from 77% to 79% for the six month period due largely to an increase in retention increasedof workers’ compensation business for the three month period and an increase in mostother lines for the six month period, partially offset by the effect of businesswritten pricing decreases. The Company continued to take actions to protect renewals in the first quartersix months of 2008, due to actions taken to protect renewals, including the use of flexiblereduced pricing on targeted accounts. | | | | | | Earned pricing increase (decrease) | | • | | Earned pricing decreased in all lines of business, including workers’ compensation, commercial auto, general liability, property and marine. As written premium is earned over the 12-month term of the policies, the earned pricing changes during the second quarter and first quartersix months of 2008 were primarily a reflection of themid-single digit written pricing changesdecreases over the last nine months of 2007.2007 and the first three months of 2008. A number of carriers have continued to compete fairly aggressively on price, particularly on larger accounts within Middle Market, which has contributed to mid-single digit price decreases across the industry. | | | | | | Policies in-force | | • Despite the decrease in earned premium, | | While the number of policies in-force has increased reflecting aby 4% from June 30, 2007 to June 30, 2008, due largely to growth on smaller accounts, earned premium declined due to the reduction in the average premium per policy. |
80100
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Middle Market — Underwriting Summary | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 548 | | | $ | 557 | | | | (2 | %) | Change in unearned premium reserve | | | (28 | ) | | | (48 | ) | | | 42 | % | | | | | | | | | | | Earned premiums | | | 576 | | | | 605 | | | | (5 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | Current accident year before catastrophes | | | 372 | | | | 380 | | | | (2 | %) | Current accident year catastrophes | | | 9 | | | | 5 | | | | 80 | % | Prior accident years | | | (16 | ) | | | 18 | | | NM | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 365 | | | | 403 | | | | (9 | %) | Amortization of deferred policy acquisition costs | | | 129 | | | | 135 | | | | (4 | %) | Insurance operating costs and expenses | | | 31 | | | | 34 | | | | (9 | %) | | | | | | | | | | | Underwriting results | | $ | 51 | | | $ | 33 | | | | 55 | % | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | Current accident year before catastrophes | | | 64.5 | | | | 62.9 | | | | (1.6 | ) | Current accident year catastrophes | | | 1.6 | | | | 0.7 | | | | (0.9 | ) | Prior accident years | | | (2.7 | ) | | | 3.1 | | | | 5.8 | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 63.4 | | | | 66.8 | | | | 3.4 | | Expense ratio | | | 27.5 | | | | 27.6 | | | | 0.1 | | Policyholder dividend ratio | | | 0.3 | | | | 0.2 | | | | (0.1 | ) | | | | | | | | | | | Combined ratio | | | 91.2 | | | | 94.6 | | | | 3.4 | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | Current year | | | 1.6 | | | | 0.7 | | | | (0.9 | ) | Prior years | | | 0.3 | | | | (0.6 | ) | | | (0.9 | ) | | | | | | | | | | | Total catastrophe ratio | | | 1.9 | | | | 0.1 | | | | (1.8 | ) | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 89.3 | | | | 94.5 | | | | 5.2 | | Combined ratio before catastrophes and prior accident years development | | | 92.3 | | | | 90.7 | | | | (1.6 | ) | | | | | | | | | | |
Middle Market — Underwriting Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 513 | | | $ | 536 | | | | (4 | %) | | $ | 1,061 | | | $ | 1,093 | | | | (3 | %) | Change in unearned premium reserve | | | (46 | ) | | | (56 | ) | | | 18 | % | | | (74 | ) | | | (104 | ) | | | 29 | % | | | | | | | | | | | | | | | | | | | | Earned premiums | | | 559 | | | | 592 | | | | (6 | %) | | | 1,135 | | | | 1,197 | | | | (5 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 369 | | | | 381 | | | | (3 | %) | | | 741 | | | | 761 | | | | (3 | %) | Current accident year catastrophes | | | 33 | | | | 5 | | | NM | | | | 42 | | | | 10 | | | NM | | Prior accident years | | | (22 | ) | | | (2 | ) | | NM | | | | (38 | ) | | | 16 | | | NM | | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 380 | | | | 384 | | | | (1 | %) | | | 745 | | | | 787 | | | | (5 | %) | Amortization of deferred policy acquisition costs | | | 129 | | | | 134 | | | | (4 | %) | | | 258 | | | | 269 | | | | (4 | %) | Insurance operating costs and expenses | | | 49 | | | | 40 | | | | 23 | % | | | 80 | | | | 74 | | | | 8 | % | | | | | | | | | | | | | | | | | | | | Underwriting results | | $ | 1 | | | $ | 34 | | | | (97 | %) | | $ | 52 | | | $ | 67 | | | | (22 | %) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 66.2 | | | | 64.2 | | | | (2.0 | ) | | | 65.3 | | | | 63.5 | | | | (1.8 | ) | Current accident year catastrophes | | | 5.8 | | | | 0.9 | | | | (4.9 | ) | | | 3.7 | | | | 0.8 | | | | (2.9 | ) | Prior accident years | | | (3.9 | ) | | | (0.5 | ) | | | 3.4 | | | | (3.3 | ) | | | 1.3 | | | | 4.6 | | | | | | | | | | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 68.1 | | | | 64.6 | | | | (3.5 | ) | | | 65.7 | | | | 65.7 | | | | — | | Expense ratio | | | 29.4 | | | | 28.5 | | | | (0.9 | ) | | | 28.4 | | | | 28.0 | | | | (0.4 | ) | Policyholder dividend ratio | | | 2.4 | | | | 1.1 | | | | (1.3 | ) | | | 1.3 | | | | 0.7 | | | | (0.6 | ) | | | | | | | | | | | | | | | | | | | | Combined ratio | | | 99.8 | | | | 94.1 | | | | (5.7 | ) | | | 95.5 | | | | 94.4 | | | | (1.1 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current year | | | 5.8 | | | | 0.9 | | | | (4.9 | ) | | | 3.7 | | | | 0.8 | | | | (2.9 | ) | Prior years | | | (0.4 | ) | | | (0.2 | ) | | | 0.2 | | | | (0.1 | ) | | | (0.4 | ) | | | (0.3 | ) | | | | | | | | | | | | | | | | | | | | Total catastrophe ratio | | | 5.4 | | | | 0.8 | | | | (4.6 | ) | | | 3.6 | | | | 0.4 | | | | (3.2 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 94.4 | | | | 93.4 | | | | (1.0 | ) | | | 91.8 | | | | 93.9 | | | | 2.1 | | Combined ratio before catastrophes and prior accident years development | | | 97.9 | | | | 93.7 | | | | (4.2 | ) | | | 95.1 | | | | 92.2 | | | | (2.9 | ) | | | | | | | | | | | | | | | | | | | |
Underwriting results and ratios Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30 2007 Underwriting results increaseddecreased by $18,$33, from $33$34 to $51,$1, with a corresponding 3.45.7 point decreaseincrease in the combined ratio, from 94.694.1 to 91.2,99.8, due to: | | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (29 | ) | | | | | | Losses and loss adjustment expenses | | | | | Volume change — Decrease in current accident year loss and loss adjustment expenses before catastrophes due to the decrease in earned premium | | | 17 | | Ratio change — An increase in the current accident year loss and loss adjustment expense ratio before catastrophes | | | (9 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 8 | | Catastrophes — Increase in current accident year catastrophes | | | (4 | ) | Reserve changes — Change to net favorable prior accident year reserve development | | | 34 | | | | | | Net decrease in losses and loss adjustment expenses | | | 38 | | | | | | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 6 | | Decrease in insurance operating costs and expenses | | | 3 | | | | | | Net decrease in operating expenses | | | 9 | | | | | | | | | | | Increase in underwriting results from 2007 to 2008 | | $ | 18 | | | | | |
| | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (33 | ) | | | | | | Losses and loss adjustment expenses | | | | | Volume change — Decrease in current accident year loss and loss adjustment expenses before catastrophes due to the decrease in earned premium | | | 21 | | Ratio change — An increase in the current accident year loss and loss adjustment expense ratio before catastrophes | | | (9 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 12 | | Catastrophes — Increase in current accident year catastrophes | | | (28 | ) | Reserve changes — Increase in net favorable prior accident year reserve development | | | 20 | | | | | | Net decrease in losses and loss adjustment expenses | | | 4 | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 5 | | Increase in insurance operating costs and expenses | | | (9 | ) | | | | | Net increase in operating expenses | | | (4 | ) | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (33 | ) | | | | |
81101
Earned premium decreased by $29$33 Earned premiums for the Middle Market segment decreased by $29,$33, or 5%6%, driven primarily by decreases in workers’ compensation and commercial auto, business.general liability and workers’ compensation. Refer to the earned premium section for further discussion. Losses and loss adjustment expenses decreased by $38$4 Current accident year losses and loss adjustment expenses before catastrophes decreased by $8$12 Middle Market current accident year losses and loss adjustment expenses before catastrophes decreased by $8$12 due to a decrease in earned premium, partially offset by the effect of an increase in the current accident year loss and loss adjustment expense ratio before catastrophes. Before catastrophes, the current accident year loss and loss adjustment expense ratio increased by 1.62.0 points, to 64.5,66.2, primarily due to higher non-catastrophe losses on property and marine business, driven by a number of large individual claims. Also contributing to the increase in the current accident year lossclaims, and loss adjustment expense ratio before catastrophes was the effect of earned pricing decreases. ChangeCurrent accident year catastrophes increased by $28
Current accident year catastrophe losses of $34$33, or 5.8 points, in 2008 were higher than current accident year catastrophe losses of $5, or 0.9 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest. Net favorable prior accident year development increased by $20 Prior accident year reserve development changed from net unfavorable prior accident year reserve development of $18, or 3.1 points, in 2007 to net favorable prior accident year reserve development of $16, or 2.7 points, in 2008. Net favorable reserve development of $16$22 in 2008 included a $19 release of workers’ compensation reserves and a $14$23 release of reserves for high hazard and umbrella claims, partially offset by a $30 strengthening of reserves for general liability and products liability claims.claims, primarily related to the 2001 to 2006 accident years.
Operating expenses decreasedincreased by $9$4 The expense ratio was relatively flat, at 27.5 in 2008, as the effect of lower earned premium was offset by the effect of lower amortization of deferred policy acquisition costs and lower insurance operating costs and expenses. The $6$5 decrease in the amortization of deferred policy acquisition costs was largely due to the decrease in earned premium. Insurance operating costs and expenses increased by $9 primarily due to a $7 increase in policyholder dividends. The increase in policyholder dividends was primarily due to an $11 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits. The expense ratio increased by 0.9 points, to 29.4, because of a reduction in earned premium and a slight increase in insurance operating costs and expenses other than policyholder dividends, including IT costs. Six months ended June 30, 2008 compared to the six months ended June 30 2007 Underwriting results decreased by $3 based on actions taken$15, from $67 to reduce these costs given$52, with a corresponding 1.1 point increase in the anticipated decreasecombined ratio, from 94.4 to 95.5, due to: | | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (62 | ) | | | | | | Losses and loss adjustment expenses | | | | | Volume change — Decrease in current accident year loss and loss adjustment expenses before catastrophes due to the decrease in earned premium | | | 40 | | Ratio change — An increase in the current accident year loss and loss adjustment expense ratio before catastrophes | | | (20 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 20 | | Catastrophes — Increase in current accident year catastrophes | | | (32 | ) | Reserve changes — Change to net favorable prior accident year reserve development | | | 54 | | | | | | Net decrease in losses and loss adjustment expenses | | | 42 | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 11 | | Increase in insurance operating costs and expenses | | | (6 | ) | | | | | Net decrease in operating expenses | | | 5 | | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (15 | ) | | | | |
Earned premium decreased by $62 Earned premiums for the Middle Market segment decreased by $62, or 5%, driven primarily by decreases in premium.commercial auto, workers’ compensation and general liability. Refer to the earned premium section for further discussion. 82102
Losses and loss adjustment expenses decreased by $42 Current accident year losses and loss adjustment expenses before catastrophes decreased by $20 Middle Market current accident year losses and loss adjustment expenses before catastrophes decreased by $20 due to a decrease in earned premium, partially offset by the effect of an increase in the current accident year loss and loss adjustment expense ratio before catastrophes. Before catastrophes, the current accident year loss and loss adjustment expense ratio increased by 1.8 points, to 65.3, primarily due to higher non-catastrophe losses on property and marine business, driven by a number of large individual claims, and the effect of earned pricing decreases. Current accident year catastrophes increased by $32 Current accident year catastrophe losses of $42, or 3.7 points, in 2008 were higher than current accident year catastrophe losses of $10, or 0.8 points, in 2007, primarily due to tornadoes and thunderstorms in the South and Midwest. Prior accident year reserve development changed by $54 from net unfavorable to net favorable development Prior accident year reserve development changed from net unfavorable prior accident year reserve development of $16, or 1.3 points, in 2007 to net favorable prior accident year reserve development of $38, or 3.3 points, in 2008. Net favorable reserve development of $38 in 2008 included a $37 release of reserves for high hazard and umbrella general liability claims, primarily related to the 2001 to 2006 accident years and a $19 release of workers’ compensation reserves, partially offset by a $30 strengthening of reserves for general liability and products liability claims primarily related to accident years 2004 and prior. Operating expenses decreased by $5 The $11 decrease in the amortization of deferred policy acquisition costs was largely due to the decrease in earned premium. Insurance operating costs and expenses increased by $6 primarily due to a $7 increase in policyholder dividends. The increase in policyholder dividends was primarily due to an $11 increase in the estimated amount of dividends payable to certain workers’ compensation policyholders due to underwriting profits. The expense ratio increased by 0.4 points, to 28.4, due to the reduction in earned premium and an increase in insurance operating costs and expenses other than policyholder dividends, including IT costs. 103
Outlook Management expects written premium to be 1%2% to 4%5% lower in 2008 as the Company takes a disciplined approach to evaluating and pricing risks in the face of declines in written pricing. Contributing to the expected decline in Middle Market written premium is the effect of state-mandated rate reductions in workers’ compensation and increased competition in specific geographic markets and lines. For both workers’ compensation and commercial auto products, the Company is improving the sophistication of its pricing models in order to expand its underwriting appetitetarget business in selected industries and regions of the country. Including supplemental commissions, the Company has increased commissions paid to agents and expects that this will help it achieve its growth objectives in 2008. Written pricing has been affected by increased competition for new business as evidenced by written pricing decreases of 5% in 2007 and 6% in the first quartersix months of 2008. Market conditions in the commercial lines industry continue to be soft with written pricing likely to continue to decline in 2008, more so on the larger accounts. Through the end of 2007, The Hartford’s new business had been declining due to the increased competition and written pricing decreases. However, new business written premium increased in the first quartersix months of 2008 for workers’ compensation and property business. In 2008, the Company will continue to focus on protecting its renewals. Consistent with claims experience for the 2007 accident year, during 2008, management expects an increase in claim costs as an increase in expected severity will likely more than offset the effect of a reduction in expected claim frequency. Loss costs are expected to continue to increase across mostmany lines of business in Middle Market, including on workers’ compensation claims and on non-catastrophe property claims covered under property, marine and commercial auto policies. Based on anticipated trends in earned pricing and loss costs, the combined ratio before catastrophes and prior accident year development is expected to be in the range of 93.5 to 96.5 in 2008. The combined ratio before catastrophes and prior accident year development was 93.8 in 2007. To summarize, management’s outlook in Middle Market for the 2008 full year is: • | | Written premium 1%2% to 4%5% lower | | • | | A combined ratio before catastrophes and prior accident year development of 93.5 to 96.5 |
83104
SPECIALTY COMMERCIAL | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | Six Months Ended | | | | Three Months Ended | | | June 30, | | June 30, | | | | March 31, | | | 2008 | | 2007 | | Change | | 2008 | | 2007 | | Change | | | | 2008 | | 2007 | | Change | | | Written Premiums [1] | | | Property | | $ | 24 | | $ | 41 | | | (41 | %) | | $ | 30 | | $ | 59 | | | (49 | %) | | $ | 54 | | $ | 100 | | | (46 | %) | Casualty | | 159 | | 165 | | | (4 | %) | | 135 | | 147 | | | (8 | %) | | 294 | | 312 | | | (6 | %) | Professional liability, fidelity and surety | | 152 | | 159 | | | (4 | %) | | 176 | | 178 | | | (1 | %) | | 328 | | 337 | | | (3 | %) | Other | | 22 | | 21 | | | 5 | % | | 21 | | 21 | | — | | 43 | | 42 | | | 2 | % | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 357 | | $ | 386 | | | (8 | %) | | $ | 362 | | $ | 405 | | | (11 | %) | | $ | 719 | | $ | 791 | | | (9 | %) | | | | | | | | | | | | | | | | | | | | | | | | | Earned Premiums [1] | | | Property | | $ | 44 | | $ | 52 | | | (15 | %) | | $ | 40 | | $ | 49 | | | (18 | %) | | $ | 84 | | $ | 101 | | | (17 | %) | Casualty | | 132 | | 141 | | | (6 | %) | | 132 | | 138 | | | (4 | %) | | 264 | | 279 | | | (5 | %) | Professional liability, fidelity and surety | | 170 | | 170 | | — | | | 169 | | 168 | | | 1 | % | | 339 | | 338 | | — | | Other | | 21 | | 21 | | — | | | 21 | | 23 | | | (9 | %) | | 42 | | 44 | | | (5 | %) | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 367 | | $ | 384 | | | (4 | %) | | $ | 362 | | $ | 378 | | | (4 | %) | | $ | 729 | | $ | 762 | | | (4 | %) | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | The difference between written premiums and earned premiums is attributable to the change in unearned premium reserve. |
Earned premiums Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Earned premiums for the Specialty Commercial segment decreased by $17,$16, or 4%, for the three month period and by $33, or 4%, for the six month period, primarily due to a decrease in casualty and property earned premiums. • | | Property earned premiums decreased by $8, or 15%, primarily due to the effect of an arrangement with Berkshire Hathaway to share premiums written under subscription policies sold in the excess and surplus lines market. Under the arrangement with Berkshire Hathaway that commenced in the second quarter of 2007, a share of excess and surplus lines business that was previously written entirely by the Company is now being written in conjunction with Berkshire Hathaway under subscription policies, whereby both companies share, or participate, in the business written. Also contributing to the decrease in earned premiums was a decrease in earned pricing and lower new business growth and premium renewal retention since the third quarter of 2007, primarily due to increased competition and lower written pricing in the standard excess and surplus lines market, particularly for catastrophe-exposed business. Partially offsetting the decrease in earned premiums was the effect of lower reinsurance costs. | | • | | Casualty earned premiums decreased by $9, or 6%, primarily because of earned pricing decreases and a decline in new business premium on loss-sensitive business written with larger accounts. | | • | | Professional liability, fidelity and surety earned premium remained flat from 2007 to 2008 as a modest increase in contract surety earned premium was offset by a modest decrease in professional liability earned premium. The increase in earned premium from contract surety business was primarily due to an increase in the average size of construction projects bonded in the last nine months of 2007. However, written premium for contract surety business has declined in the first quarter of 2008 due to the increased competition for public construction projects and reduced private construction activity. The decrease in earned premium from professional liability business was primarily due to earned pricing decreases and a decrease in new business written premium, partially offset by the effect of a decrease in the portion of risks ceded to outside reinsurers. | | • | | Within the “other” category, earned premium remained flat from 2007 to 2008. The “Other” category of earned premiums includes premiums assumed under inter-segment arrangements. |
Property earned premiums decreased by $9, or 18%, for the three month period and by $17, or 17%, for the six month period, primarily due to the Company’s decision to stop writing specialty property business with large, national accounts, the effect of increased competition for core excess and surplus lines business and the effect of an arrangement with Berkshire Hathaway to share premiums written under subscription policies sold in the excess and surplus lines market. Under the arrangement with Berkshire Hathaway that commenced in the second quarter of 2007, a share of excess and surplus lines business that was previously written entirely by the Company is now being written in conjunction with Berkshire Hathaway under subscription policies, whereby both companies share, or participate, in the business written. As a result of increased competition and capacity for core excess and surplus lines business, the Company has experienced a decrease in earned pricing, lower new business growth and lower premium renewal retention since the third quarter of 2007, particularly for catastrophe-exposed business. Casualty earned premiums decreased by $6, or 4%, for the three month period and by $15, or 5%, for the six month period, primarily because of earned pricing decreases and, for the six month period, a decline in new business premium on loss-sensitive business written with larger accounts. Professional liability, fidelity and surety earned premium remained relatively flat from 2007 to 2008 in both the three and six month periods as a modest increase in surety earned premium was offset by a modest decrease in professional liability earned premium. While surety earned premium has increased, the growth rate has declined in the first six months of 2008 due to the increased competition for public construction projects and reduced private construction activity. The decrease in earned premium from professional liability business was primarily due to earned pricing decreases and a decrease in new business written premium, partially offset by the effect of a decrease in the portion of risks ceded to outside reinsurers. Within the “Other” category, earned premium remained relatively flat from 2007 to 2008 in both the three and six month periods. The “Other” category of earned premiums includes premiums assumed under inter-segment arrangements. 84105
| | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Specialty Commercial — Underwriting Summary | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 357 | | | $ | 386 | | | | (8 | %) | Change in unearned premium reserve | | | (10 | ) | | | 2 | | | NM | | | | | | | | | | | | Earned premiums | | | 367 | | | | 384 | | | | (4 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | Current accident year before catastrophes | | | 248 | | | | 255 | | | | (3 | %) | Current accident year catastrophes | | | 2 | | | | (1 | ) | | NM | | Prior accident years | | | (25 | ) | | | (13 | ) | | | (92 | %) | | | | | | | | | | | Total losses and loss adjustment expenses | | | 225 | | | | 241 | | | | (7 | %) | Amortization of deferred policy acquisition costs | | | 79 | | | | 81 | | | | (2 | %) | Insurance operating costs and expenses | | | 20 | | | | 16 | | | | 25 | % | | | | | | | | | | | Underwriting results | | $ | 43 | | | $ | 46 | | | | (7 | %) | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | Current accident year before catastrophes | | | 67.9 | | | | 65.7 | | | | (2.2 | ) | Current accident year catastrophes | | | 0.3 | | | | 0.1 | | | | (0.2 | ) | Prior accident years | | | (7.0 | ) | | | (3.6 | ) | | | 3.4 | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 61.2 | | | | 62.2 | | | | 1.0 | | Expense ratio | | | 26.4 | | | | 25.2 | | | | (1.2 | ) | Policyholder dividend ratio | | | 0.5 | | | | 0.4 | | | | (0.1 | ) | | | | | | | | | | | Combined ratio | | | 88.0 | | | | 87.8 | | | | (0.2 | ) | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | Current year | | | 0.3 | | | | 0.1 | | | | (0.2 | ) | Prior years | | | (1.8 | ) | | | (1.1 | ) | | | 0.7 | | | | | | | | | | | | Total catastrophe ratio | | | (1.5 | ) | | | (1.0 | ) | | | 0.5 | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 89.6 | | | | 88.8 | | | | (0.8 | ) | Combined ratio before catastrophes and prior accident years development | | | 94.7 | | | | 91.4 | | | | (3.3 | ) | | | | | | | | | | | Other revenues [1] | | $ | 86 | | | $ | 82 | | | | 5 | % | | | | | | | | | | |
Specialty Commercial — Underwriting Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 362 | | | $ | 405 | | | | (11 | %) | | $ | 719 | | | $ | 791 | | | | (9 | %) | Change in unearned premium reserve | | | — | | | | 27 | | | | (100 | %) | | | (10 | ) | | | 29 | | | NM | | | | | | | | | | | | | | | | | | | | | Earned premiums | | | 362 | | | | 378 | | | | (4 | %) | | | 729 | | | | 762 | | | | (4 | %) | Losses and loss adjustment expenses | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 245 | | | | 256 | | | | (4 | %) | | | 493 | | | | 511 | | | | (4 | %) | Current accident year catastrophes | | | 6 | | | | 3 | | | | 100 | % | | | 8 | | | | 2 | | | NM | | Prior accident years | | | (16 | ) | | | 13 | | | NM | | | | (41 | ) | | | — | | | NM | | | | | | | | | | | | | | | | | | | | | Total losses and loss adjustment expenses | | | 235 | | | | 272 | | | | (14 | %) | | | 460 | | | | 513 | | | | (10 | %) | Amortization of deferred policy acquisition costs | | | 78 | | | | 81 | | | | (4 | %) | | | 157 | | | | 162 | | | | (3 | %) | Insurance operating costs and expenses | | | 29 | | | | 27 | | | | 7 | % | | | 49 | | | | 43 | | | | 14 | % | | | | | | | | | | | | | | | | | | | | Underwriting results | | $ | 20 | | | $ | (2 | ) | | NM | | | $ | 63 | | | $ | 44 | | | | 43 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Loss and loss adjustment expense ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current accident year before catastrophes | | | 67.4 | | | | 68.0 | | | | 0.6 | | | | 67.6 | | | | 66.9 | | | | (0.7 | ) | Current accident year catastrophes | | | 1.9 | | | | 0.6 | | | | (1.3 | ) | | | 1.1 | | | | 0.3 | | | | (0.8 | ) | Prior accident years | | | (4.2 | ) | | | 3.8 | | | | 8.0 | | | | (5.6 | ) | | | 0.1 | | | | 5.7 | | | | | | | | | | | | | | | | | | | | | Total loss and loss adjustment expense ratio | | | 65.1 | | | | 72.4 | | | | 7.3 | | | | 63.1 | | | | 67.3 | | | | 4.2 | | Expense ratio | | | 28.6 | | | | 27.8 | | | | (0.8 | ) | | | 27.5 | | | | 26.5 | | | | (1.0 | ) | Policyholder dividend ratio | | | 1.0 | | | | 0.4 | | | | (0.6 | ) | | | 0.8 | | | | 0.4 | | | | (0.4 | ) | | | | | | | | | | | | | | | | | | | | Combined ratio | | | 94.7 | | | | 100.6 | | | | 5.9 | | | | 91.4 | | | | 94.2 | | | | 2.8 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Catastrophe ratio | | | | | | | | | | | | | | | | | | | | | | | | | Current year | | | 1.9 | | | | 0.6 | | | | (1.3 | ) | | | 1.1 | | | | 0.3 | | | | (0.8 | ) | Prior years | | | (0.5 | ) | | | — | | | | 0.5 | | | | (1.1 | ) | | | (0.5 | ) | | | 0.6 | | | | | | | | | | | | | | | | | | | | | Total catastrophe ratio | | | 1.4 | | | | 0.6 | | | | (0.8 | ) | | | (0.1 | ) | | | (0.2 | ) | | | (0.1 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Combined ratio before catastrophes | | | 93.3 | | | | 100.0 | | | | 6.7 | | | | 91.4 | | | | 94.4 | | | | 3.0 | | Combined ratio before catastrophes and prior accident years development | | | 97.0 | | | | 96.3 | | | | (0.7 | ) | | | 95.9 | | | | 93.8 | | | | (2.1 | ) | | | | | | | | | | | | | | | | | | | | Other revenues [1] | | $ | 96 | | | $ | 91 | | | | 5 | % | | $ | 182 | | | $ | 173 | | | | 5 | % | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Represents servicing revenuerevenue. |
Underwriting results and ratios Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Underwriting results decreasedincreased by $3,$22, with a corresponding 0.25.9 point increasedecrease in the combined ratio, to 88.0,94.7, due to: | | | | | | | | | Change in underwriting results | | | Decrease in earned premiums | | $ | (17 | ) | | $ | (16 | ) | | | | Losses and loss adjustment expenses | | | Volume change — Decrease in current accident year loss and loss adjustment expenses before catastrophes due to the decrease in earned premium | | 13 | | | 11 | | Ratio change — Increase in the current accident year non-catastrophe loss and loss adjustment expense ratio before catastrophes | | | (6 | ) | | | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | 7 | | | Catastrophes — Change in current accident year catastrophe losses | | | (3 | ) | | Reserve changes — Increase in net favorable prior accident year reserve development | | 12 | | | Catastrophes — Increase in current accident year catastrophe losses | | | | (3 | ) | Reserve changes — Change from net unfavorable to net favorable prior accident year reserve development | | | 29 | | | | | | | | | Net decrease in losses and loss adjustment expenses | | 16 | | | 37 | | | | | Operating expenses | | | Decrease in amortization of deferred policy acquisition costs | | 2 | | | 3 | | Increase in insurance operating costs and expenses | | | (4 | ) | | | (2 | ) | | | | | | | | Increase in operating expenses | | | (2 | ) | | Net decrease in operating expenses | | | 1 | | | | | | | | | | | | Decrease in underwriting results from 2007 to 2008 | | $ | (3 | ) | | Increase in underwriting results from 2007 to 2008 | | | $ | 22 | | | | | | | | |
85106
Earned premium decreased by $17$16 Earned premiums for the Specialty Commercial segment decreased by $17,$16, or 4%, primarily due to decreases in casualty and property earned premiums. Refer to the earned premium section above for further discussion. Losses and loss adjustment expenses decreased by $37 Current accident year losses and loss adjustment expenses before catastrophes decreased by $11 Specialty Commercial current accident year losses and loss adjustment expenses before catastrophes decreased by $11 in 2008, to $245, primarily due to a decrease in earned premium. The loss and loss adjustment expense ratio before catastrophes and prior accident year development decreased by 0.6 points, to 67.4, primarily due to lower non-catastrophe property losses, partially offset by a higher loss and loss adjustment ratio on directors and officers insurance for professional liability business, driven by earned pricing decreases. Prior accident year reserve development changed by $29 from net unfavorable to net favorable development Prior accident year reserve development changed from net unfavorable development of $13, or 3.8 points, in 2007 to net favorable development of $16, or 4.2 points, in 2008. Net favorable reserve development of $16 in the second quarter of 2008 included a $10 release of reserves for directors and officers insurance and errors and omissions insurance for the 2004 to 2006 accident years. Net unfavorable reserve development of $13 in the second quarter of 2007 consisted primarily of reserve strengthening for allocated loss adjustment expenses on national account casualty business. Operating expenses decreased by $1 The expense ratio increased by 0.8 points, to 28.6, as insurance operating costs and expenses increased by $2, primarily due to set up costs associated with the launch of the Hartford Financial Products International office and increased net acquisition costs related to writing a greater mix of higher net commission small commercial and private directors’ and officers’ insurance. The decrease in the amortization of deferred policy acquisition costs was commensurate with the decrease in earned premium. Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Underwriting results increased by $19, with a corresponding 2.8 point decrease in the combined ratio, to 91.4, due to: | | | | | Change in underwriting results | | | | | Decrease in earned premiums | | $ | (33 | ) | | | | | | Losses and loss adjustment expenses | | | | | Volume change — Decrease in current accident year loss and loss adjustment expenses before catastrophes due to the decrease in earned premium | | | 22 | | Ratio change — Increase in the current accident year non-catastrophe loss and loss adjustment expense ratio before catastrophes | | | (4 | ) | | | | | Net decrease in current accident year losses and loss adjustment expenses before catastrophes | | | 18 | | Catastrophes — Increase in current accident year catastrophe losses | | | (6 | ) | Reserve changes — Increase in net favorable prior accident year reserve development | | | 41 | | | | | | Net decrease in losses and loss adjustment expenses | | | 53 | | | | | | | Operating expenses | | | | | Decrease in amortization of deferred policy acquisition costs | | | 5 | | Increase in insurance operating costs and expenses | | | (6 | ) | | | | | Net increase in operating expenses | | | (1 | ) | | | | | | | | | | Increase in underwriting results from 2007 to 2008 | | $ | 19 | | | | | |
Earned premium decreased by $33 Earned premiums for the Specialty Commercial segment decreased by $33, or 4%, primarily due to a decrease in casualty and property earned premiums. Refer to the earned premium section above for further discussion. Losses and loss adjustment expenses decreased by $16$53 Current accident year losses and loss adjustment expenses before catastrophes decreased by $7$18 Specialty Commercial current accident year losses and loss adjustment expenses before catastrophes decreased by $7$18 in 2008, to $248,$493, primarily due to a decrease in earned premium, partially offset by a 2.2 point increase in thepremium. The loss and loss adjustment expense ratio before catastrophes and prior accident year development increased by 0.7 points, to 67.9. The increase in the loss and loss adjustment expense ratio before catastrophes and prior accident year development was67.6, primarily due to a higher loss and loss adjustment ratio on directors and officers insurance in professional liability, driven by earned pricing decreases, and a large non-catastrophe property fire loss.decreases. 107
Increase in net favorable prior accident year development by $12$41 Net favorable prior accident year reserve development increased from $13,$41, or 3.6 points, in 2007 to $25, or 7.0 points, in 2008.5.7 points. Net favorable prior accident year reserve development of $25$41 in 2008 included a $10$20 release of reserves for directors’ and officers insurance and errors and omissions insurance claims related to accident yearyears 2003 to 2006 and a $10 release of reserves for construction defect claims related to accident year 2001. There were no significant prioryears 2001 and prior. Prior accident year reserve developmentsdevelopment in 2007.the first six months of 2007 included reserve strengthening for allocated loss adjustment expenses on national account casualty business, offset by other reserve strengthenings. Operating expenses increased by $2$1 The expense ratio increased by 1.2 points,1.0 point, to 26.4,27.5, as insurance operating costs and expenses increased by $6, primarily due largely to set up costs associated with the launch of the Hartford Financial Products International office and increased net acquisition costs related to writing a greater mix of higher net commission small commercial and private directorsdirectors’ and officersofficers’ insurance. Insurance operating costs and expenses increased by $4, primarily due to the reduction in ceding commissions as a result of the decision to cede less of the Company’s professional liability premiums to reinsurers. The decrease in the amortization of deferred policy acquisition costs of $5 was commensurate with the decrease in earned premium. 86108
Outlook In 2008, the Company expects written premium for the Specialty Commercial segment to be flat5% to 3%8% lower. For property business, the Company expects written premium to decrease, largely because of the decision to stop writing specialty property business with large, national accounts. Also contributing to the expected decline in property written premium is a decrease in written premium for the Company’s core excess and surplus lines property business. Under an arrangement with Berkshire Hathaway that commenced in the second quarter of 2007, a share of core excess and surplus lines business that was previously written entirely by the Company is now being written in conjunction with Berkshire Hathaway under subscription policies, whereby both companies share, or participate, in the business written. While the arrangement with Berkshire Hathaway enables the Company to offer its insureds larger policy limits and thereby enhance its competitive position, in the marketplace capacity and competition hashave increased significantly, particularly for catastrophe-exposed business. StandardIn addition, standard admitted markets have expanded their appetite for core excess and surplus lines business which has significantly increased competition. Management expects a modest increasedecrease in casualty written premium in 2008 due largely to an increaselower written pricing and a decrease in new business while retaining its profitable renewals. Withinpremium in construction, larger loss-sensitive accounts, and captive programs. Despite the expected decrease in written premiums within the specialty casualty business, the Company will improvecontinue to focus on improving interaction with agents by reducing the number of internal touch points through the underwriting process and will realign the field office organization to better serve specialty construction accounts. Within professional liability, fidelity and surety, management expects an increase in written premium to be relatively flat for 2008, primarily driven by directors’ and officers’ insurance (“D&O”) and errors and omissions insurance (“E&O”).2008. The Company will focus on D&O and E&O new business opportunities with both large and middle market private companies and seeks to grow its business in Europe through its new underwriting office in the United Kingdom. In addition, the Company will continue to cross-sell professional liability coverage to small businesses that purchase business owners package policies and capitalize on the increased demand for separate Side-A D&O insurance limits of liability that provide protection to individual directors and officers to the extent their company is unwilling or unable to indemnify them against litigation. In the face of written pricing decreases, the Company will maintain underwriting discipline when writing professional liability coverage for larger public companies. Written premium from contract surety business is expected to be relatively flatdown slightly as this segment of the market has been affected by increased competition for public construction projects and reduced private construction activity. The Company will seek to diversify its portfolio of commercial surety business, including a focus on growing our small bond book of business. Written premium growth could be lower than planned in any one or all of the Specialty Commercial businesses if written pricing is less favorable than anticipated and management determines that new and renewal business is not adequately priced. Written pricing has been decreasing in professional liability and property lines of business. Since 2006, competition has intensified for professional liability business, particularly for directors’ and officers’ insurance coverage. A lower frequency of shareholder class action cases in 2005 and 2006 has put downward pressure on rates. Increased volatility in the equity and debt markets along with the evolving fall out of the sub-prime mortgage market led to a rebound of such cases in 2007 and a stabilization of rates in affected industries. Written pricing for property business began to decline in the second half of 2007, primarily due to price competition which has resulted in lower pricing in the standard core excess and surplus lines markets. The industry has increased its capacity and appetite to write business in catastrophe-prone markets and this has increased competition in those markets. As a percentage of earned premiums, management expects that losses and loss adjustment expenses will increase in 2008 for professional liability, casualty and property business with the increase driven primarily by lower earned pricing. The Company expects its sub-prime loss activity to be manageable based on several factors. Principal among them is the diversified nature of the product and customer portfolio with the majority of the Company’s total in-force professional liability net written premium derived from policyholders with privately-held ownership and, therefore, relatively low shareholder class action exposure. Furthermore, only 12% of the portfolio is from financial services firms, the area most directly affected by the sub-prime and credit environment fall out. Among the Company’s policyholders considered to have the greatest sub-prime loss exposure, the Company’s average net limit exposed is $7 at an average attachment point of $96. Given the anticipated trends in pricing and loss costs in Specialty Commercial, management expects a combined ratio before catastrophes and prior accident year development in the range of 96.0 to 99.0 for 2008. The combined ratio before catastrophes and prior accident year development was 94.4 in 2007. To summarize, management’s outlook in Specialty Commercial for the 2008 full year is: • | | Written premium flat to 3% lower | | • | | A combined ratio before catastrophes and prior accident year development of 96.0 to 99.0 |
Written premium 5% to 8% lower A combined ratio before catastrophes and prior accident year development of 96.0 to 99.0 87109
OTHER OPERATIONS (INCLUDING ASBESTOS AND ENVIRONMENTAL CLAIMS) | | | | | | | | | | | | | | | Three Months Ended | | | | March 31, | | Operating Summary | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 2 | | | $ | — | | | | — | | Change in unearned premium reserve | | | 1 | | | | — | | | | — | | | | | | | | | | | | Earned premiums | | | 1 | | | | — | | | | — | | Losses and loss adjustment expenses — prior years | | | 15 | | | | 18 | | | | (17 | %) | Insurance operating costs and expenses | | | 5 | | | | 6 | | | | (17 | %) | | | | | | | | | | | Underwriting results | | | (19 | ) | | | (24 | ) | | | 21 | % | Net investment income | | | 55 | | | | 62 | | | | (11 | %) | Net realized capital gains (losses) | | | (18 | ) | | | 6 | | | NM | | Other expenses | | | (2 | ) | | | — | | | | — | | | | | | | | | | | | Income before income taxes | | | 16 | | | | 44 | | | | (64 | %) | Income tax expense | | | (2 | ) | | | (12 | ) | | | 83 | % | | | | | | | | | | | Net income (loss) | | $ | 14 | | | $ | 32 | | | | (56 | %) | | | | | | | | | | |
Operating Summary | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Six Months Ended | | | | June 30, | | | June 30, | | | | 2008 | | | 2007 | | | Change | | | 2008 | | | 2007 | | | Change | | Written premiums | | $ | 2 | | | $ | 1 | | | | 100 | % | | $ | 4 | | | $ | 1 | | | NM | | Change in unearned premium reserve | | | — | | | | — | | | | — | | | | 1 | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | Earned premiums | | | 2 | | | | 1 | | | | 100 | % | | | 3 | | | | 1 | | | NM | | Losses and loss adjustment expenses — prior years | | | 55 | | | | 116 | | | | (53 | %) | | | 70 | | | | 134 | | | | (48 | %) | Insurance operating costs and expenses | | | 5 | | | | 5 | | | | — | | | | 10 | | | | 11 | | | | (9 | %) | | | | | | | | | | | | | | | | | | | | Underwriting results | | | (58 | ) | | | (120 | ) | | | 52 | % | | | (77 | ) | | | (144 | ) | | | 47 | % | Net investment income | | | 57 | | | | 61 | | | | (7 | %) | | | 112 | | | | 123 | | | | (9 | %) | Net realized capital gains (losses) | | | 2 | | | | (6 | ) | | NM | | | | (16 | ) | | | — | | | | — | | Other expenses | | | — | | | | (2 | ) | | | 100 | % | | | (2 | ) | | | (2 | ) | | | — | | | | | | | | | | | | | | | | | | | | | Income (loss) before income taxes | | | 1 | | | | (67 | ) | | NM | | | | 17 | | | | (23 | ) | | NM | | Income tax benefit | | | 2 | | | | 27 | | | | (93 | %) | | | — | | | | 15 | | | | (100 | %) | | | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | 3 | | | $ | (40 | ) | | NM | | | $ | 17 | | | $ | (8 | ) | | NM | | | | | | | | | | | | | | | | | | | | |
The Other Operations segment includes operations that are under a single management structure, Heritage Holdings, which is responsible for two related activities. The first activity is the management of certain subsidiaries and operations of the Company that have discontinued writing new business. The second is the management of claims (and the associated reserves) related to asbestos, environmental and other exposures. The Other Operations book of business contains policies written from approximately the 1940s to 2003. The Company’s experience has been that this book of run-off business has, over time, produced significantly higher claims and losses than were contemplated at inception. Three months ended March 31,June 30, 2008 compared to the three months ended March 31,June 30, 2007 Net income for the three months ended March 31,June 30, 2008 decreased $18increased $43 compared to the prior year period, driven primarily by the following: • | | A $5 increase in underwriting results, primarily due to a $3 decrease in unfavorable prior year loss development. | | • | | A $7 decrease in net investment income, primarily as a result of a decrease in investment yield for fixed maturities and losses in 2008 on limited partnerships and other alternative investments and a decrease in invested assets resulting from net losses and loss adjustment expenses paid. | | • | | A change from $6 of net realized capital gains in 2007 to $18 of net realized capital losses in 2008, primarily due to impairments, sales of investments in corporate securities and commercial mortgage-backed securities and decreases in the value of credit derivatives due to credit spreads widening. | | • | | A $10 decrease in income tax expense, as a result of a decrease in income before taxes. |
A $62 increase in underwriting results, primarily due to a $61 decrease in unfavorable prior year loss development. Reserve development in the three months ended June 30, 2008 included $50 of asbestos reserve strengthening as a result of the Company’s annual asbestos reserve evaluation. For the comparable three month period ended June 30, 2007, reserve development included $99 principally as a result of an adverse arbitration decision. A $25 decrease in income tax benefit, as a result of a change from a net loss before taxes in 2007 to net income before taxes in 2008. Six months ended June 30, 2008 compared to the six months ended June 30, 2007 Net income for the six months ended June 30, 2008 increased $25 compared to the prior year period, driven primarily by the following: A $67 increase in underwriting results, primarily due to a $64 decrease in unfavorable prior year loss development. Reserve development in the six months ended June 30, 2008 included $50 of asbestos reserve strengthening as a result of the Company’s annual asbestos reserve evaluation. For the comparable six month period ended June 30, 2007, reserve development included $99 principally as a result of an adverse arbitration decision. An $11 decrease in net investment income, primarily as a result of a decrease in investment yield for partnerships and other alternative investments and, to a lesser extent, a decrease in investment yield for fixed maturities and a decrease in invested assets resulting from net losses and loss adjustment expenses paid. A $16 decrease in net realized capital gains (losses) in 2008, primarily due to impairments, decreases in the value of credit derivatives due to credit spreads widening and, to a lesser extent, net realized losses from the sale of securities. A $15 decrease in income tax benefit, as a result of a change from a net loss before taxes in 2007 to net income before taxes in 2008. 88110
Asbestos and Environmental Claims The Company continues to receive asbestos and environmental claims. Asbestos claims relate primarily to bodily injuries asserted by people who came in contact with asbestos or products containing asbestos. Environmental claims relate primarily to pollution and related clean-up costs. The Company wrote several different categories of insurance contracts that may cover asbestos and environmental claims. First, the Company wrote primary policies providing the first layer of coverage in an insured’s liability program. Second, the Company wrote excess policies providing higher layers of coverage for losses that exhaust the limits of underlying coverage. Third, the Company acted as a reinsurer assuming a portion of those risks assumed by other insurers writing primary, excess and reinsurance coverages. Fourth, subsidiaries of the Company participated in the London Market, writing both direct insurance and assumed reinsurance business. With regard to both environmental and particularly asbestos claims, significant uncertainty limits the ability of insurers and reinsurers to estimate the ultimate reserves necessary for unpaid losses and related expenses. Traditional actuarial reserving techniques cannot reasonably estimate the ultimate cost of these claims, particularly during periods where theories of law are in flux. The degree of variability of reserve estimates for these exposures is significantly greater than for other more traditional exposures. In particular, the Company believes there is a high degree of uncertainty inherent in the estimation of asbestos loss reserves. In the case of the reserves for asbestos exposures, factors contributing to the high degree of uncertainty include inadequate loss development patterns, plaintiffs’ expanding theories of liability, the risks inherent in major litigation, and inconsistent emerging legal doctrines. Furthermore, over time, insurers, including the Company, have experienced significant changes in the rate at which asbestos claims are brought, the claims experience of particular insureds, and the value of claims, making predictions of future exposure from past experience uncertain. Plaintiffs and insureds also have sought to use bankruptcy proceedings, including “pre-packaged” bankruptcies, to accelerate and increase loss payments by insurers. In addition, some policyholders have asserted new classes of claims for coverages to which an aggregate limit of liability may not apply. Further uncertainties include insolvencies of other carriers and unanticipated developments pertaining to the Company’s ability to recover reinsurance for asbestos and environmental claims. Management believes these issues are not likely to be resolved in the near future. In the case of the reserves for environmental exposures, factors contributing to the high degree of uncertainty include expanding theories of liability and damages, the risks inherent in major litigation, inconsistent decisions concerning the existence and scope of coverage for environmental claims, and uncertainty as to the monetary amount being sought by the claimant from the insured. It is also not possible to predict changes in the legal and legislative environment and their effect on the future development of asbestos and environmental claims. Although potential Federal asbestos-related legislation was considered by the Senate in 2006, it is uncertain whether such legislation will be reconsidered or enacted in the future and, if enacted, what its effect would be on the Company’s aggregate asbestos liabilities. The reporting pattern for assumed reinsurance claims, including those related to asbestos and environmental claims, is much longer than for direct claims. In many instances, it takes months or years to determine that the policyholder’s own obligations have been met and how the reinsurance in question may apply to such claims. The delay in reporting reinsurance claims and exposures adds to the uncertainty of estimating the related reserves. Given the factors described above, the Company believes the actuarial tools and other techniques it employs to estimate the ultimate cost of claims for more traditional kinds of insurance exposure are less precise in estimating reserves for its asbestos and environmental exposures. For this reason, the Company relies on exposure-based analysis to estimate the ultimate costs of these claims and regularly evaluates new information in assessing its potential asbestos and environmental exposures. 89111
Reserve Activity Reserves and reserve activity in the Other Operations segment are categorized and reported as asbestos, environmental, or “all other”. The “all other” category of reserves covers a wide range of insurance and assumed reinsurance coverages, including, but not limited to, potential liability for construction defects, lead paint, silica, pharmaceutical products, molestation and other long-tail liabilities. In addition, within the “all other” category of reserves, Other Operations records its allowance for future reinsurer insolvencies and disputes that might affect reinsurance collectibility associated with asbestos, environmental, and other claims recoverable from reinsurers. The following table presents reserve activity, inclusive of estimates for both reported and incurred but not reported claims, net of reinsurance, for Other Operations, categorized by asbestos, environmental and “all other” claims, for the three and six months ended March 31,June 30, 2008. Other Operations Losses and Loss Adjustment Expenses | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | For the Three Months Ended March 31, 2008 | | Asbestos | | Environmental | | All Other [1] | | Total | | | For the Three Months Ended June 30, 2008 | | | Asbestos | | Environmental | | All Other [1] | | Total | | Beginning liability — net [2][3] | | $ | 1,998 | | $ | 251 | | $ | 1,888 | | $ | 4,137 | | | $ | 1,949 | | $ | 244 | | $ | 1,874 | | $ | 4,067 | | Losses and loss adjustment expenses incurred | | 2 | | — | | 13 | | 15 | | | 54 | | — | | 1 | | 55 | | Losses and loss adjustment expenses paid | | | (51 | ) | | | (7 | ) | | | (27 | ) | | | (85 | ) | | | (36 | ) | | | (7 | ) | | | (72 | ) | | | (115 | ) | | | | | | | | | | | | | | | | | | | | Ending liability — net [2][3] | | $ | 1,949 | [4] | | $ | 244 | | $ | 1,874 | | $ | 4,067 | | | $ | 1,967 | [4] | | $ | 237 | | $ | 1,803 | | $ | 4,007 | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | For the Six Months Ended June 30, 2008 | | Asbestos | | | Environmental | | | All Other [1] | | Total | | Beginning liability — net [2][3] | | $ | 1,998 | | | $ | 251 | | | $ | 1,888 | | | $ | 4,137 | | Losses and loss adjustment expenses incurred | | | 56 | | | | — | | | | 14 | | | | 70 | | Losses and loss adjustment expenses paid | | | (87 | ) | | | (14 | ) | | | (99 | ) | | | (200 | ) | | | | | | | | | | | | | | Ending liability — net [2][3] | | $ | 1,967 | [4] | | $ | 237 | | | $ | 1,803 | | | $ | 4,007 | | | | | | | | | | | | | | |
| | | [1] | | “All Other” includes unallocated loss adjustment expense reserves and the allowance for uncollectible reinsurance. | | [2] | | Excludes asbestos and environmental net liabilities reported in Ongoing Operations of $12 and $6, respectively, as of June 30, 2008, $9 and $5, respectively, as of March 31, 2008, and $9 and $6, respectively, as of December 31, 2007. Total net losses and loss adjustment expenses incurred in Ongoing Operations for the three and six months ended March 31,June 30, 2008 includes $1$7 and $8, respectively, related to asbestos and environmental claims. Total net losses and loss adjustment expenses paid in Ongoing Operations for the three and six months ended March 31,June 30, 2008 includes $2$3 and $5, respectively, related to asbestos and environmental claims. | | [3] | | Gross of reinsurance, asbestos and environmental reserves, including liabilities in Ongoing Operations, were $2,654$2,676 and $271, respectively, as of June 30, 2008,$2,654 and $278, respectively, as of March 31, 2008, and $2,707 and $290, respectively, as of December 31, 2007. | | [4] | | The one year and average three year net paid amounts for asbestos claims, including Ongoing Operations, are $271$265 and $277,$279, respectively, resulting in a one year net survival ratio of 7.27.5 and a three year net survival ratio of 7.1. Net survival ratio is the quotient of the net carried reserves divided by the average annual payment amount and is an indication of the number of years that the net carried reserve would last (i.e. survive) if the future annual claim payments were consistent with the calculated historical average. |
During the second quarter of 2008, the Company completed its annual ground up asbestos reserve evaluation. As part of this evaluation, the Company reviewed all of its open direct domestic insurance accounts exposed to asbestos liability as well as assumed reinsurance accounts and its London Market exposures for both direct insurance and assumed reinsurance. The Company found estimates for individual cases changed based upon the particular circumstances of each account. These changes were case specific and not as a result of any underlying change in the current environment. The net effect of these changes resulted in a $50 increase in net asbestos reserves. The Company currently expects to continue to perform an evaluation of its asbestos liabilities annually. The Company divides its gross asbestos exposures into Direct, Assumed Reinsurance and London Market. The Company further divides its direct asbestos exposures into the following categories: Major Asbestos Defendants (the “Top 70” accounts in Tillinghast’s published Tiers 1 and 2 and Wellington accounts), which are subdivided further as: Structured Settlements, Wellington, Other Major Asbestos Defendants; Accounts with Future Expected Exposures greater than $2.5; Accounts with Future Expected Exposures less than $2.5 and Unallocated. Structured Settlements are those accounts where the Company has reached an agreement with the insured as to the amount and timing of the claim payments to be made to the insured. The Wellington subcategory includes insureds that entered into the “Wellington Agreement” dated June 19, 1985. The Wellington Agreement provided terms and conditions for how the signatory asbestos producers would access their coverage from the signatory insurers. The Other Major Asbestos Defendants subcategory represents insureds included in Tiers 1 and 2, as defined by Tillinghast that are not Wellington signatories and have not entered into structured settlements with The Hartford. The Tier 1 and 2 classifications are meant to capture the insureds for which there is expected to be significant exposure to asbestos claims. The Unallocated category includes an estimate of the reserves necessary for asbestos claims related to direct insureds that have not previously tendered asbestos claims to the Company and exposures related to liability claims that may not be subject to an aggregate limit under the applicable policies. 112
An account may move between categories from one evaluation to the next. For example, an account with future expected exposure of greater than $2.5 in one evaluation may be reevaluated due to changing conditions and recategorized as less than $2.5 in a subsequent evaluation or vice versa. The following table displays asbestos reserves and other statistics by policyholder category, as of June 30, 2008: Summary of Gross Asbestos Reserves As of June 30, 2008 | | | | | | | | | | | | | | | | | | | Number of | | | All Time | | | Total | | | All Time | | | | Accounts [1] | | | Paid [2] | | | Reserves | | | Ultimate [2] | | Major asbestos defendants [4] | | | | | | | | | | | | | | | | | Structured settlements (includes 2 Wellington accounts) | | | 5 | | | $ | 194 | | | $ | 408 | | | $ | 602 | | Wellington (direct only) | | | 31 | | | | 968 | | | | 67 | | | | 1,035 | | Other major asbestos defendants | | | 29 | | | | 482 | | | | 168 | | | | 650 | | No known policies (includes 3 Wellington accounts) | | | 5 | | | | — | | | | — | | | | — | | Accounts with future exposure > $2.5 | | | 74 | | | | 715 | | | | 603 | | | | 1,318 | | Accounts with future exposure < $2.5 | | | 1,090 | | | | 282 | | | | 119 | | | | 401 | | Unallocated [5] | | | | | | | 1,653 | | | | 444 | | | | 2,097 | | | | | | | | | | | | | | | Total direct | | | | | | $ | 4,294 | | | $ | 1,809 | | | $ | 6,103 | | Assumed reinsurance | | | | | | | 1,058 | | | | 497 | | | | 1,555 | | London market | | | | | | | 558 | | | | 370 | | | | 928 | | | | | | | | | | | | | | | Total as of June 30, 2008 [3] | | | | | | $ | 5,910 | | | $ | 2,676 | | | $ | 8,586 | | | | | | | | | | | | | | |
| | | [1] | | An account may move between categories from one evaluation to the next. Reclassifications were made as a result of the reserve evaluation completed in the second quarter of 2008. | | [2] | | “All Time Paid” represents the total payments with respect to the indicated claim type that have already been made by the Company as of the indicated balance sheet date. “All Time Ultimate” represents the Company’s estimate, as of the indicated balance sheet date, of the total payments that are ultimately expected to be made to fully settle the indicated payment type. The amount is the sum of the amounts already paid (e.g. “All Time Paid”) and the estimated future payments (e.g. the amount shown in the column labeled “Total Reserves”). | | [3] | | Survival ratio is a commonly used industry ratio for comparing reserve levels between companies. While the method is commonly used, it is not a predictive technique. Survival ratios may vary over time for numerous reasons such as large payments due to the final resolution of certain asbestos liabilities, or reserve re-estimates. The survival ratio is computed by dividing the recorded reserves by the average of the past three years of payments. The ratio is the calculated number of years the recorded reserves would survive if future annual payments were equal to the average annual payments for the past three years. The 3-year gross survival ratio of 6.1 as of June 30, 2008 is computed based on total paid losses of $1,321 for the period from July 1, 2005 to June 30, 2008. As of June 30, 2008, the one year gross paid amount for total asbestos claims is $279, resulting in a one year gross survival ratio of 9.6. | | [4] | | Includes 25 open accounts at June 30, 2008. Included 26 open accounts at June 30, 2007. | | [5] | | Includes closed accounts (exclusive of Major Asbestos Defendants) and unallocated IBNR. |
For paid and incurred losses and loss adjustment expenses reporting, the Company classifies its asbestos and environmental reserves into three categories: Direct, Assumed — Domestic and London Market. Direct insurance includes primary and excess coverage. Assumed reinsurance includes both “treaty” reinsurance (covering broad categories of claims or blocks of business) and “facultative” reinsurance (covering specific risks or individual policies of primary or excess insurance companies). London Market business includes the business written by one or more of the Company’s subsidiaries in the United Kingdom, which are no longer active in the insurance or reinsurance business. Such business includes both direct insurance and assumed reinsurance. Of the three categories of claims (Direct, Assumed — Domestic and London Market), direct policies tend to have the greatest factual development from which to estimate the Company’s exposures. Assumed reinsurance exposures are inherently less predictable than direct insurance exposures because the Company may not receive notice of a reinsurance claim until the underlying direct insurance claim is mature. This causes a delay in the receipt of information at the reinsurer level and adds to the uncertainty of estimating related reserves. London Market exposures are the most uncertain of the three categories of claims. As a participant in the London Market (comprised of both Lloyd’s of London and London Market companies), certain subsidiaries of the Company wrote business on a subscription basis, with those subsidiaries’ involvement being limited to a relatively small percentage of a total contract placement. Claims are reported, via a broker, to the “lead” underwriter and, once agreed to, are presented to the following markets for concurrence. This reporting and claim agreement process makes estimating liabilities for this business the most uncertain of the three categories of claims. 90113
The following table sets forth, for the three and six months ended March 31,June 30, 2008, paid and incurred loss activity by the three categories of claims for asbestos and environmental. Paid and Incurred Losses and Loss Adjustment Expense (“LAE”) Development — Asbestos and Environmental | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Asbestos [1] | | Environmental [1] | | | Asbestos [1] | | Environmental [1] | | | | Paid | | Incurred | | Paid | | Incurred | | | Paid | | Incurred | | Paid | | Incurred | | Three Months Ended March 31, 2008 | | Losses & LAE | | Losses & LAE | | Losses & LAE | | Losses & LAE | | | Three Months Ended June 30, 2008 | | | Losses & LAE | | Losses & LAE | | Losses & LAE | | Losses & LAE | | Gross | | | Direct | | $ | 35 | | $ | 2 | | $ | 8 | | $ | — | | | $ | 34 | | $ | 74 | | $ | 6 | | $ | — | | Assumed — Domestic | | 15 | | — | | 3 | | — | | | 19 | | — | | 2 | | — | | London Market | | 3 | | — | | 1 | | — | | | 3 | | — | | 1 | | — | | | | | | | | | | | | | | | | | | | | | Total | | 53 | | 2 | | 12 | | — | | | 56 | | 74 | | 9 | | — | | Ceded | | | (2 | ) | | — | | | (5 | ) | | — | | | | (20 | ) | | | (20 | ) | | | (2 | ) | | — | | | | | | | | | | | | | | | | | | | | | Net | | $ | 51 | | $ | 2 | | $ | 7 | | $ | — | | | $ | 36 | | $ | 54 | | $ | 7 | | $ | — | | | | | | | | | | | | | | | | | | | | | Six Months Ended June 30, 2008 | | | | | | | | | | | | | | Gross | | | Direct | | | $ | 69 | | $ | 76 | | $ | 14 | | $ | — | | Assumed — Domestic | | | 34 | | — | | 5 | | — | | London Market | | | 6 | | — | | 2 | | — | | | | | | | | | | | | | Total | | | 109 | | 76 | | 21 | | — | | Ceded | | | | (22 | ) | | | (20 | ) | | | (7 | ) | | — | | | | | | | | | | | | | Net | | | $ | 87 | | $ | 56 | | $ | 14 | | $ | — | | | | | | | | | | | | |
| | | [1] | | Excludes asbestos and environmental paid and incurred loss and LAE reported in Ongoing Operations. Total gross lossesloss and LAE incurred in Ongoing Operations for the three and six months ended March 31,June 30, 2008 includes $1$7 and $8, respectively, related to asbestos and environmental claims. Total gross lossesloss and LAE paid in Ongoing Operations for the three and six months ended March 31,June 30, 2008 includes $3$1 and $4, respectively, related to asbestos and environmental claims. |
A number of factors affect the variability of estimates for asbestos and environmental reserves including assumptions with respect to the frequency of claims, the average severity of those claims settled with payment, the dismissal rate of claims with no payment and the expense to indemnity ratio. The uncertainty with respect to the underlying reserve assumptions for asbestos and environmental adds a greater degree of variability to these reserve estimates than reserve estimates for more traditional exposures. While this variability is reflected in part in the size of the range of reserves developed by the Company, that range may still not be indicative of the potential variance between the ultimate outcome and the recorded reserves. The recorded net reserves as of March 31,June 30, 2008 of $2.21$2.22 billion ($1.961.98 billion and $249$243 for asbestos and environmental, respectively) is within an estimated range, unadjusted for covariance, of $1.83$1.86 billion to $2.54$2.47 billion. The process of estimating asbestos and environmental reserves remains subject to a wide variety of uncertainties, which are detailed in the Company’s 2007 Form 10-K Annual Report. The Company believes that its current asbestos and environmental reserves are reasonable and appropriate. However, analyses of future developments could cause the Company to change its estimates and ranges of its asbestos and environmental reserves, and the effect of these changes could be material to the Company’s consolidated operating results, financial condition and liquidity. If there are significant During the second quarter of 2008, the Company also completed its annual evaluation of the collectibility of the reinsurance recoverables and the adequacy of the allowance for uncollectible reinsurance associated with older, long-term casualty liabilities reported in the Other Operations segment. The evaluation resulted in no addition to the allowance for uncollectible reinsurance. In conducting this evaluation, the Company used its most recent detailed evaluations of ceded liabilities reported in the segment. The Company analyzed the overall credit quality of the Company’s reinsurers, recent trends in arbitration and litigation outcomes in disputes between cedants and reinsurers, and recent developments in commutation activity between reinsurers and cedants. The allowance for uncollectible reinsurance reflects management’s current estimate of reinsurance cessions that may be uncollectible in the future due to reinsurers’ unwillingness or inability to pay. As of June 30, 2008, the allowance for uncollectible reinsurance for Other Operations totals $269. The Company currently expects to perform its regular comprehensive review of Other Operations reinsurance recoverables annually. Uncertainties regarding the factors that affect particular exposures,the allowance for uncollectible reinsurance arrangements or the financial condition of particular reinsurers,could cause the Company will make adjustments to change its reserves orestimates, and the effect of these changes could be material to the amounts recoverable from its reinsurers.Company’s consolidated results of operations or cash flows. The Company expects to perform its regular reviewsreview of asbestos liabilities in the second quarter of 2008, Other Operations’ reinsurance recoverables and the allowance for uncollectible reinsurance in the second quarter of 2008, and environmental liabilities in the third quarter of 2008. Consistent with the Company’s long-standing reserve practices, the Company will continue to review and monitor its reserves in the Other Operations segment regularly, and where future developments indicate, make appropriate adjustments to the reserves. For a discussion of the Company’s reserving practices, see the Critical Accounting Estimates—Property & Casualty Reserves, Net of Reinsurance and Other Operations (Including Asbestos and Environmental Claims) sections of the MD&A included in the Company’s 2007 Form 10-K Annual Report. 91114
INVESTMENTS General The Hartford’s investment portfolios are primarily divided between Life and Property & Casualty. The investment portfolios of Life and Property & Casualty are managed by HIMCO, a wholly-owned subsidiary of The Hartford. HIMCO manages the portfolios to maximize economic value, while attempting to generate the income necessary to support the Company’s various product obligations within internally established objectives, guidelines and risk tolerances. The portfolio objectives and guidelines are developed based upon the asset/liability profile, including duration, convexity and other characteristics within specified risk tolerances. The risk tolerances considered include, for example, asset and credit issuer allocation limits, maximum portfolio below investment grade (“BIG”) holdings and foreign currency exposure. The Company attempts to minimize adverse impacts to the portfolio and the Company’s results of operations due to changes in economic conditions through asset allocation limits, asset/liability duration matching and through the use of derivatives. For a further discussion of how HIMCO manages the investment portfolios, see the Investments section of the MD&A under the General section in The Hartford’s 2007 Form 10-K Annual Report. For a further discussion of how the investment portfolio’s credit and market risks are assessed and managed, see the Investment Credit Risk and Capital Markets Risk Management sections of the MD&A. Return on general account invested assets is an important element of The Hartford’s financial results. Significant fluctuations in the fixed income or equity markets could weaken the Company’s financial condition or its results of operations. Additionally, changes in market interest rates may impact the period of time over which certain investments, such as MBS, are repaid and whether certain investments are called by the issuers. Such changes may, in turn, impact the yield on these investments and also may result in re-investment of funds received from calls and prepayments at rates below the average portfolio yield. NetFor the three and six months ended June 30, net investment income and net realized capital gains (losses) reducedcontributed to and contributed ($3,756) and $1,529 toreduced the Company’s consolidated revenues by $2,101 and $(1,655), respectively, for 2008 and contributed $2,322 and $3,851, respectively, for 2007. For the three and six months ended March 31, 2008 and 2007, respectively. NetJune 30, net investment income and net realized capital gains (losses), excluding net investment income from trading securities, reducedcontributed to consolidated revenues by $948 and $770, respectively, for 2008 and contributed ($178)$1,088 and $1,319 to the Company’s consolidated revenues$2,407, respectively, for the three months ended March 31, 2008 and 2007, respectively.2007. The decrease in the contribution to consolidated revenues for 2008, as compared to the prior year period, is primarily due to a net loss in the value of equity securities held for trading and in realized capital losses in 2008. Fluctuations in interest rates affect the Company’s return on, and the fair value of, fixed maturity investments, which comprised approximately 58%57% and 61% of the fair value of its invested assets as of March 31,June 30, 2008 and December 31, 2007, respectively. Other events beyond the Company’s control, including changes in credit spreads, could also adversely impact the fair value of these investments. Additionally, a downgrade of an issuer’s credit rating or default of payment by an issuer, could reducealso adversely impact the Company’s investment return.fair value of these investments. A decrease in the fair value of any investment that is deemed other-than-temporary would result in the Company’s recognition of a net realized capital loss in its financial results prior to the actual sale of the investment. Following the recognition of the other-than-temporary impairment for fixed maturities, the Company accretes the new cost basis to par or to estimated future value over the remaining life of the security based on future estimated cash flows by adjusting the security’s yields. For a further discussion of the evaluation of other-than-temporary impairments, see the Critical Accounting Estimates section of the MD&A under “Evaluation of Other-Than-Temporary Impairments on Available-for-Sale Securities” section in The Hartford’s 2007 Form 10-K Annual Report. Life The primary investment objective of Life’s general account is to maximize economic value consistent with acceptable risk parameters, including the management of thecredit risk and interest rate sensitivity of invested assets, while generating sufficient after-tax income to support policyholder and corporate obligations. The following table identifies the invested assets by type held in the general account as of March 31,June 30, 2008 and December 31, 2007. Composition of Invested Assets | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, 2008 | | December 31, 2007 | | | June 30, 2008 | | December 31, 2007 | | | | Amount | | Percent | | Amount | | Percent | | | Amount | | Percent | | Amount | | Percent | | Fixed maturities, available-for-sale, at fair value | | $ | 50,615 | | | 50.4 | % | | $ | 52,542 | | | 52.6 | % | | $ | 49,683 | | | 78.6 | % | | $ | 52,542 | | | 82.6 | % | Equity securities, available-for-sale, at fair value | | 1,202 | | | 1.2 | % | | 1,284 | | | 1.3 | % | | 1,194 | | | 1.9 | % | | 1,284 | | | 2.0 | % | Equity securities held for trading, at fair value [1] | | 37,406 | | | 37.3 | % | | 36,182 | | | 36.3 | % | | Policy loans, at outstanding balance | | 2,118 | | | 2.1 | % | | 2,061 | | | 2.1 | % | | 2,146 | | | 3.4 | % | | 2,061 | | | 3.2 | % | Mortgage loans, at amortized cost [2] | | 4,821 | | | 4.8 | % | | 4,739 | | | 4.7 | % | | Limited partnerships and other alternative investments [3] | | 1,329 | | | 1.3 | % | | 1,306 | | | 1.3 | % | | Mortgage loans, at amortized cost [1] | | | 5,135 | | | 8.1 | % | | 4,739 | | | 7.5 | % | Limited partnerships and other alternative investments [2] | | | 1,407 | | | 2.2 | % | | 1,306 | | | 2.1 | % | Short-term investments | | 1,807 | | | 1.8 | % | | 1,158 | | | 1.2 | % | | 2,756 | | | 4.4 | % | | 1,158 | | | 1.8 | % | Other investments [4] | | 1,086 | | | 1.1 | % | | 534 | | | 0.5 | % | | Other investments [3] | | | 894 | | | 1.4 | % | | 534 | | | 0.8 | % | | | | | | | | | | | | Total investments excl. equity securities, held for trading | | | $ | 63,215 | | | 100.0 | % | | $ | 63,624 | | | 100.0 | % | Equity securities, held for trading, at fair value [4] | | | 36,853 | | 36,182 | | | | | | | | | | | | | | | | | Total investments | | $ | 100,384 | | | 100.0 | % | | $ | 99,806 | | | 100.0 | % | | $ | 100,068 | | $ | 99,806 | | | | | | | | | | | | | | | | |
| | | [1] | | Consist of commercial and agricultural loans. | | [2] | | Includes a real estate joint venture. | | [3] | | Primarily relates to derivative instruments. | | [4] | | These assets primarily support the International variable annuity business. Changes in these balances are also reflected in the respective liabilities. | | [2] | | Consist of commercial and agricultural loans.
| | [3] | | Includes a real estate joint venture.
| | [4] | | Primarily relates to derivative instruments.
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92115
Total investments increased $578$262 since December 31, 2007 primarily as a result of an increase in equity securities held for trading short-term investments, and Other investments,positive operating cash flows, partially offset by increased unrealized losses primarily due to a widening of credit spreads associated with fixed maturities. EquityShort-term investments as a percentage of total investments, excluding equity securities held for trading, increased $1.2 billion since December 31, 2007, as a resultin preparation for funding liability outflows and in anticipation of investing in more favorable risk/return opportunities. The increase in equity securities, held for trading, of $671 resulted from foreign currency gains due to the appreciation of the Japanese yen in comparison to the U.S. dollar as well as positive cash flowflows primarily generated from sales and deposits related to variable annuity products sold in Japan, partially offset by a decreasedecline in value of the underlying investment funds supporting the Japanese variable annuity product due to negative market performance. Life’s limited partnerships and other alternative investment composition has not significantly changed since December 31, 2007. The increase in short-termfollowing table summarizes Life’s limited partnerships and other alternative investments resulted from the investmentas of proceeds received from the saleJune 30, 2008 and December 31, 2007. Composition of fixed maturities in anticipation of investing in favorable risk/return opportunities as they emerge. The increase inLimited Partnerships and Other investments is primarily related to derivative instruments increasing in value primarily due to a decline in interest rates, an increase in equity volatility, and a decrease in equity index levels.Alternative Investments | | | | | | | | | | | | | | | | | | | June 30, 2008 | | | December 31, 2007 | | | | Amount | | | Percent | | | Amount | | | Percent | | Hedge funds [1] | | $ | 506 | | | | 36.0 | % | | $ | 506 | | | | 38.7 | % | Mortgage and real estate [2] | | | 338 | | | | 24.0 | % | | | 309 | | | | 23.7 | % | Mezzanine debt [3] | | | 82 | | | | 5.8 | % | | | 72 | | | | 5.5 | % | Private equity and other [4] | | | 481 | | | | 34.2 | % | | | 419 | | | | 32.1 | % | | | | | | | | | | | | | | Total | | $ | 1,407 | | | | 100.0 | % | | $ | 1,306 | | | | 100.0 | % | | | | | | | | | | | | | |
| | | [1] | | Hedge funds include investments in funds of funds as well as direct funds. The hedge funds of funds invest in approximately 25 to 50 different hedge funds within a variety of investment styles. Examples of hedge fund strategies include long/short equity or credit, event driven strategies and structured credit. | | [2] | | Mortgage and real estate funds consist of investments in funds whose assets consist of mortgage loans, participations in mortgage loans, mezzanine loans or other notes which may be below investment grade credit quality as well as equity real estate. Also included is the investment in real estate joint ventures. | | [3] | | Mezzanine debt funds consist of investments in funds whose assets consist of subordinated debt that often times incorporates equity-based options such as warrants and a limited amount of direct equity investments. | | [4] | | Private equity and other funds primarily consist of investments in funds whose assets typically consist of a diversified pool of investments in small non-public businesses with high growth potential. |
Investment Results The following table summarizes Life’s net investment income (loss). | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | (Before-tax) | | Amount | | Yield [1] | | Amount | | Yield [1] | | | | | | Amount | | Yield [1] | | Amount | | Yield [1] | | Amount | | Yield [1] | | Amount | | Yield [1] | | Fixed maturities [2] | | $ | 755 | | | 5.5 | % | | $ | 757 | | | 5.8 | % | | $ | 711 | | | 5.4 | % | | $ | 762 | | | 5.8 | % | | $ | 1,466 | | | 5.5 | % | | $ | 1,519 | | | 5.8 | % | Equity securities, available-for-sale | | 25 | | | 7.1 | % | | 18 | | | 6.8 | % | | 31 | | | 8.6 | % | | 22 | | | 6.9 | % | | 56 | | | 7.8 | % | | 40 | | | 7.1 | % | Mortgage loans | | 69 | | | 5.8 | % | | 50 | | | 6.1 | % | | 74 | | | 6.0 | % | | 66 | | | 6.5 | % | | 143 | | | 5.9 | % | | 116 | | | 6.4 | % | Policy loans | | 33 | | | 6.3 | % | | 36 | | | 7.0 | % | | 34 | | | 6.4 | % | | 34 | | | 6.5 | % | | 67 | | | 6.3 | % | | 70 | | | 6.7 | % | Limited partnerships and other alternative investments | | | (17 | ) | | | (5.3 | %) | | 32 | | | 14.9 | % | | 9 | | | 2.7 | % | | 46 | | | 19.8 | % | | | (8 | ) | | | (1.2 | %) | | 78 | | | 17.5 | % | Other [3] | | | (32 | ) | | — | | | (24 | ) | | — | | | | (9 | ) | | — | | | (27 | ) | | — | | | (41 | ) | | — | | | (51 | ) | | — | | Investment expense | | | (14 | ) | | — | | | (17 | ) | | — | | | | (21 | ) | | — | | | (19 | ) | | — | | | (35 | ) | | — | | | (36 | ) | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total net investment income excluding equity securities held for trading | | 819 | | | 5.3 | % | | 852 | | | 6.0 | % | | Equity securities held for trading [4] | | | (3,578 | ) | | — | | 210 | | — | | | Total net investment income excl. equity securities held for trading | | | 829 | | | 5.3 | % | | 884 | | | 6.1 | % | | 1,648 | | | 5.3 | % | | 1,736 | | | 6.0 | % | Equity securities, held for trading [4] | | | 1,153 | | — | | 1,234 | | — | | | (2,425 | ) | | — | | 1,444 | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total net investment income (loss) | | $ | (2,759 | ) | | — | | $ | 1,062 | | — | | | $ | 1,982 | | — | | $ | 2,118 | | — | | $ | (777 | ) | | — | | $ | 3,180 | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Yields calculated using investment income before investment expenses divided by the monthly weighted average invested assets at cost, amortized cost, or adjusted carrying value, as applicable excluding collateral received associated with the securities lending program and consolidated variable interest entity minority interests. Included in the fixed maturity yield is Other income (loss) as it primarily relates to fixed maturities (see footnote [3] below). Included in the total net investment income yield is investment expense. | | [2] | | Includes net investment income on short-term bonds. | | [3] | | Primarily represents fees associated with securities lending activities of $(22)$17 and $(16) as of March 31,$39, respectively, for the three and six months ended June 30, 2008, and 2007, respectively.$22 and $38, respectively, for the three and six months ended June 30, 2007. The income from securities lending activities is included within fixed maturities. Also included are derivatives that qualify for hedge accounting under SFAS 133. These derivatives hedge fixed maturities. | | [4] | | Includes investment income and mark-to-market effects of equity securities, held for trading. |
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Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Net investment income, excluding equity securities, held for trading, decreased $33,$55, or (4)%6%, and $88, or 5%, for the three and six months ended March 31,June 30, 2008, respectively, compared to the prior year period. The decrease in net investment income for both periods was primarily due to a decrease in investment yield for fixed maturities and losses in 2008 on limited partnership and other alternative investments, partially offset by a higher average invested asset base.investments. The decrease in the fixed maturity yield primarily resulted from lower income on variable rate securities due to decreases in short-term interest rates year over year. LimitedThe decrease in limited partnerships and other alternative investments contributed to the decrease in income compared to the prior year periodyield was largely due to lower returns on hedge funds and real estate partnerships as a result of the lack of liquidity in the financial markets and a wider credit spread environment. Based upon the current interest rate environment, Life expects to see a continued decline inlower fixed maturity yield in 2008, which coupled with a lower expected yield from limited partnership and other alternative investments, is expected to result in a lower average portfolio yield for 2008 as compared to 2007 levels. The decrease in net investment income on equity securities, held for trading, for the three and six months ended March 31,June 30, 2008 compared to the prior year periodperiods was primarily attributed to a decreasedecline in the value of the underlying investment funds supporting the Japanese variable annuity product due to negative market performance.performance year over year. 93
The following table summarizes Life’s net realized capital gains and losses results. | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | (Before-tax) | | 2008 | | 2007 | | | | | | 2008 | | 2007 | | 2008 | | 2007 | | Gross gains on sale | | $ | 43 | | $ | 72 | | | $ | 41 | | $ | 36 | | $ | 84 | | $ | 108 | | Gross losses on sale | | | (110 | ) | | | (40 | ) | | | (45 | ) | | | (52 | ) | | | (155 | ) | | | (92 | ) | Impairments | | | | | | | | | | Credit related [1] | | | (211 | ) | | | (12 | ) | | | (64 | ) | | — | | | (275 | ) | | | (12 | ) | Other [2] | | | (20 | ) | | | (2 | ) | | | (60 | ) | | | (20 | ) | | | (80 | ) | | | (22 | ) | | | | | | | | | | | | | | | | Total impairments | | | (231 | ) | | | (14 | ) | | | (124 | ) | | | (20 | ) | | | (355 | ) | | | (34 | ) | Japanese fixed annuity contract hedges, net [3] | | | (14 | ) | | 5 | | | | (9 | ) | | | (17 | ) | | | (23 | ) | | | (12 | ) | Periodic net coupon settlements on credit derivatives/Japan | | | (7 | ) | | | (12 | ) | | | (11 | ) | | | (13 | ) | | | (18 | ) | | | (25 | ) | SFAS 157 transition impact [4] | | | (650 | ) | | — | | | — | | — | | | (650 | ) | | — | | GMWB derivatives, net | | | (110 | ) | | 22 | | | | (13 | ) | | | (133 | ) | | | (123 | ) | | | (111 | ) | Other, net [5] | | | (141 | ) | | | (10 | ) | | | (67 | ) | | | (22 | ) | | | (208 | ) | | | (32 | ) | | | | | | | | | | | | | | | | Net realized capital gains (losses), before-tax | | $ | (1,220 | ) | | $ | 23 | | | Net realized capital losses, before-tax | | | $ | (228 | ) | | $ | (221 | ) | | $ | (1,448 | ) | | $ | (198 | ) | | | | | | | | | | | | | | | |
| | | [1] | | Relates to impairments for which the Company has current concerns regarding the issuersissuers’ ability to pay future interest and principal amounts based upon the securities contractual terms or the depression in security value is primarily related to significant issuer specific or sector credit spread widening. | | [2] | | Primarily relates to impairments of securities that had declined in value primarily due to changes in interest rate or general or modest spread widening and for which the Company was uncertain of its intent to retain the investment for a period of time sufficient to allow recovery to cost or amortized cost. | | [3] | | Relates to the Japanese fixed annuity product (product and related derivative hedging instruments excluding periodic net coupon settlements). | | [4] | | Includes losses from SFAS 157 transition impact of $616, $10 and $24 related to the embedded derivatives within GMWB-US, GMWB-UK and GMAB liabilities, respectively. | | [5] | | Primarily consists of changes in fair value on non-qualifying derivatives and other investment gains and losses. |
The circumstances giving rise to the net realized capital gains and losses in these components are as follows: | | | Gross Gains and Losses on Sale | | • Gross lossesgains on sales for the three and six months ended March 31,June 30, 2008 were predominantly within fixed maturities and were primarily comprised of corporate securities. Gross losses on sales for the three and six months ended June 30, 2008 were primarily comprised of corporate securities, municipal securities, and CMBS, as well as $17 of CLOs in the first quarter for which HIMCO is the collateral manager. Gross gains and losses on sale, excluding the loss on CLOs, primarily resulted from the decision to reallocate the portfolio to securities with more favorable risk/return profiles. For more information regarding losses on the sale of HIMCO managed CLOs, refer to the Variable Interest Entities section below. Securities that wereDuring the three and six months ended June 30, 2008, securities sold at a loss duringwere depressed, on average, approximately 1% at the three months ended March 31, 2008 had an average unrealized loss position as a percentage of the securities, amortized cost of 2% as of December 31, 2007, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. | | | | | | • Gross gains and losses on sales for three and six months ended March 31,June 30, 2007 were primarily comprised of corporate securities. Securities that wereDuring the three and six months ended June 30, 2007, securities sold at a loss had anwere depressed, on average, unrealized loss position as a percentage ofapproximately 1% at the securities, amortized cost of 2% as of December 31, 2006, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. | | | | Impairments | | • See the Other-Than-Temporary Impairments section that follows for information on impairment losseslosses. | | | | SFAS 157 | | • The loss from the SFAS 157 transition impact to the GMWB and GMAB rider embedded derivatives was a one-time loss recognition resulting from the transition to this accounting standard. For further discussion of the SFAS 157 transition impact, see Note 4 in the Notes to the Condensed Consolidated Financial Statements. |
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| | | GMWB | | • Losses infor the three months ended June 30, 2008 on GMWB rider embedded derivatives were primarily due to market volatility and for the six months ended June 30, 2008 were primarily due to mortality assumptions updates. | | | | | | • Losses for the three and six months ended June 30, 2007 were primarily the result of liability model assumption updates and model refinements. Liability model assumption updates were primarily made to reflect newly reliable market inputs for volatility. | | | | Other | | • Other, net losses for the three and six months ended June 30, 2008 were primarily related to net losses on credit derivatives of $50 and $207, respectively. The net losses on credit derivatives in the first quarter were due to significant credit spreads widening on credit derivatives that assume credit exposure. The net losses on credit derivatives in the second quarter were due to credit spreads tightening significantly on credit derivatives that reduce credit exposure on certain referenced corporate entities. Included in the six months ended June 30, 2008 were losses incurred in the first quarter on HIMCO managed CLOs. For more information regarding these losses, refer to the Variable Interest Entities section below. | | | | | | • Other, net losses for the three and six months ended June 30, 2007 were primarily resulted fromdriven by the change in value of non-qualifying derivatives due to credit spread widening. Credit spreads widened primarily due to the deterioration in the U.S. housing market, tightened lending conditions, the market’s flight to quality securitieswidening as well as increased likelihood of a U.S. recession. For further discussion, see the “Capital Market Risk Management” section of the MD&A. Also includedfluctuations in 2008 were losses on HIMCO managed CLOs of $33. For more information regarding losses on the sale of HIMCO managed CLOs, refer to the Variable Interest Entities section below.interest rates and foreign currency exchange rates. |
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Property & Casualty The primary investment objective for Property & Casualty’s Ongoing Operations segment is to maximize economic value while generating sufficient after-tax income to meet policyholder and corporate obligations. For Property & Casualty’s Other Operations segment, the investment objective is to ensure the full and timely payment of all liabilities. Property & Casualty’s investment strategies are developed based on a variety of factors including business needs, regulatory requirements and tax considerations. The following table identifies the invested assets by type held as of March 31,June 30, 2008 and December 31, 2007. Composition of Invested Assets | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, 2008 | | December 31, 2007 | | | June 30, 2008 | | December 31, 2007 | | | | Amount | | | Percent | | | Amount | | | Percent | | | Amount | | Percent | | Amount | | Percent | | Fixed maturities, available-for-sale, at fair value | | $ | 25,683 | | | 86.8 | % | | $ | 27,205 | | | 88.8 | % | | $ | 25,234 | | | 84.6 | % | | $ | 27,205 | | | 88.8 | % | Equity securities, available-for-sale, at fair value | | 1,162 | | | 3.9 | % | | 1,208 | | | 3.9 | % | | 1,327 | | | 4.4 | % | | 1,208 | | | 3.9 | % | Mortgage loans, at amortized cost [1] | | 682 | | | 2.3 | % | | 671 | | | 2.2 | % | | 747 | | | 2.5 | % | | 671 | | | 2.2 | % | Limited partnerships and other alternative investments [2] | | 1,290 | | | 4.4 | % | | 1,260 | | | 4.1 | % | | 1,398 | | | 4.7 | % | | 1,260 | | | 4.1 | % | Short-term investments | | 711 | | | 2.4 | % | | 284 | | | 0.9 | % | | 1,073 | | | 3.6 | % | | 284 | | | 0.9 | % | Other investments | | 58 | | | 0.2 | % | | 38 | | | 0.1 | % | | 58 | | | 0.2 | % | | 38 | | | 0.1 | % | | | | | | | | | | | | | | | | | | | | Total investments | | $ | 29,586 | | | 100.0 | % | | $ | 30,666 | | | 100.0 | % | | $ | 29,837 | | | 100.0 | % | | $ | 30,666 | | | 100.0 | % | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Consist of commercial and agricultural loans. | | [2] | | Includes hedge fund investments outside of limited partnerships and real estate joint ventures. |
Total investments decreased $1.1 billion$829 since December 31, 2007, primarily as a result of increased unrealized losses primarily due to a widening of credit spreads associated with fixed maturities, partially offset by an increase in short-term investments. The increase in short-termpositive operating cash flows. Short-term investments resulted fromincreased as a result of the investment of proceeds received from the sale of fixed maturities sold in anticipation of investing in favorable risk/return opportunitiesopportunities. 118
Property & Casualty’s limited partnerships and other alternative investment composition has not significantly changed since December 31, 2007. The following table summarizes Property & Casualty’s limited partnerships and other alternative investments as they emerge.of June 30, 2008 and December 31, 2007. Composition of Limited Partnerships and Other Alternative Investments | | | | | | | | | | | | | | | | | | | June 30, 2008 | | | December 31, 2007 | | | | Amount | | | Percent | | | Amount | | | Percent | | Hedge funds [1] | | $ | 793 | | | | 56.7 | % | | $ | 728 | | | | 57.8 | % | Mortgage and real estate [2] | | | 318 | | | | 22.7 | % | | | 291 | | | | 23.1 | % | Mezzanine debt [3] | | | 54 | | | | 3.9 | % | | | 48 | | | | 3.8 | % | Private equity and other [4] | | | 233 | | | | 16.7 | % | | | 193 | | | | 15.3 | % | | | | | | | | | | | | | | Total | | $ | 1,398 | | | | 100.0 | % | | $ | 1,260 | | | | 100.0 | % | | | | | | | | | | | | | |
| | | [1] | | Hedge funds include investments in funds of funds as well as direct funds. The hedge funds of funds invest in approximately 25 to 50 different hedge funds within a variety of investment styles. Examples of hedge fund strategies include long/short equity or credit, event driven strategies and structured credit. | | [2] | | Mortgage and real estate funds consist of investments in funds whose assets consist of mortgage loans, participations in mortgage loans, mezzanine loans or other notes which may be below investment grade credit quality as well as equity real estate. Also included is the investment in a real estate joint venture. | | [3] | | Mezzanine debt funds consist of investments in funds whose assets consist of subordinated debt that often times incorporates equity-based options such as warrants and a limited amount of direct equity investments. | | [4] | | Private equity and other funds primarily consist of investments in funds whose assets typically consist of a diversified pool of investments in small non-public businesses with high growth potential. |
Investment Results The following table below summarizes Property & Casualty’s net investment income. | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | (Before-tax) | | Amount | | Yield [1] | | Amount | | Yield [1] | | | | | | Amount | | Yield [1] | | Amount | | Yield [1] | | Amount | | Yield [1] | | Amount | | Yield [1] | | Fixed maturities [2] | | $ | 371 | | | 5.5 | % | | $ | 370 | | | 5.6 | % | | $ | 357 | | | 5.4 | % | | $ | 373 | | | 5.7 | % | | $ | 728 | | | 5.4 | % | | $ | 743 | | | 5.6 | % | Equity securities, available-for-sale | | 20 | | | 7.0 | % | | 10 | | | 5.8 | % | | 19 | | | 5.8 | % | | 12 | | | 6.5 | % | | 39 | | | 6.3 | % | | 22 | | | 6.1 | % | Mortgage loans | | 10 | | | 5.9 | % | | 7 | | | 5.8 | % | | 9 | | | 5.1 | % | | 10 | | | 6.2 | % | | 19 | | | 5.5 | % | | 17 | | | 6.2 | % | Limited partnerships and other alternative investments | | | (19 | ) | | | (5.9 | %) | | 34 | | | 16.0 | % | | 16 | | | 4.8 | % | | 61 | | | 26.9 | % | | | (3 | ) | | | (0.5 | %) | | 95 | | | 21.6 | % | Other [3] | | | (12 | ) | | — | | | (3 | ) | | — | | | | (3 | ) | | — | | | (3 | ) | | — | | | (15 | ) | | — | | | (6 | ) | | — | | Investment expense | | | (5 | ) | | — | | | (5 | ) | | — | | | | (7 | ) | | — | | | (7 | ) | | — | | | (12 | ) | | — | | | (12 | ) | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net investment income, before-tax | | $ | 365 | | | 5.0 | % | | $ | 413 | | | 5.9 | % | | 391 | | | 5.3 | % | | 446 | | | 6.3 | % | | 756 | | | 5.1 | % | | 859 | | | 6.1 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net investment income, after-tax [4] | | $ | 272 | | | 3.7 | % | | $ | 306 | | | 4.4 | % | | $ | 290 | | | 3.9 | % | | $ | 333 | | | 4.7 | % | | $ | 562 | | | 3.8 | % | | $ | 641 | | | 4.5 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Yields calculated using investment income before investment expenses divided by the monthly weighted average invested assets at cost, amortized cost, or adjusted carrying value, as applicable, and collateral received associated with the securities lending program. Included in the fixed maturity yield is Other income (loss) as it primarily relates to fixed maturities (see footnote [3] below). Included in the total net investment income yield is investment expense. | | [2] | | Includes net investment income on short-term bonds. | | [3] | | Primarily represents fees associated with securities lending activities of $(9)$9 and $(4) as of March 31,$18, respectively, for the three and six months ended June 30, 2008 and 2007, respectively. The income from securities lending activities is included within fixed maturities.$10 and $14, respectively, for the three and six months ended June 30, 2007. Also included are derivatives that qualify for hedge accounting under SFAS 133. These derivatives hedge fixed maturities. | | [4] | | Due to significant holdings in tax-exempt investments, after-tax net investment income and yield are also included. |
Three and six months ended March 31,June 30, 2008 compared to the three and six months ended March 31,June 30, 2007 Before-tax net investment income decreased $48,$55, or 12%, and $103, or 12%, and after-tax net investment income decreased $34,$43, or 11%13%, and $79, or 12%, for the three and six months ended June 30, 2008, respectively, compared to the prior year period. The decrease in net investment income and yieldfor both periods was primarily due to lossesa decrease in 2008 oninvestment yield for fixed maturities and limited partnership and other alternative investments. Limitedinvestments in 2008. The decrease in fixed maturity yield primarily resulted from lower income on variable rate securities due to a decrease in short-term interest rates year over year. The decrease in limited partnerships and other alternative investments contributed to the decrease in income compared to the prior year periodyield was largely due to lower returns on hedge funds and real estate partnerships as a result of the lack of liquidity in the financial markets and a wider credit spread environment. Based upon the current interest rate environment, Property and& Casualty expects to see a continued decline inlower fixed maturity yield in 2008, which coupled with a lower expected yield from limited partnership and other alternative investments, is expected to result in a lower average portfolio yield for 2008 as compared to 2007 levels. 95119
The following table summarizes Property & Casualty’s net realized capital gains and losses results. | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | (Before-tax) | | 2008 | | 2007 | | | | | | 2008 | | 2007 | | 2008 | | 2007 | | Gross gains on sale | | $ | 52 | | $ | 52 | | | $ | 31 | | $ | 38 | | $ | 83 | | $ | 90 | | Gross losses on sale | | | (100 | ) | | | (26 | ) | | | (13 | ) | | | (36 | ) | | | (113 | ) | | | (62 | ) | Impairments | | | | | | | | | | | | | | | | | | Credit related [1] | | | (57 | ) | | — | | | | (15 | ) | | | (10 | ) | | | (72 | ) | | | (10 | ) | Other [2] | | | (16 | ) | | | (1 | ) | | | (25 | ) | | | (10 | ) | | | (41 | ) | | | (11 | ) | | | | | | | | | | | | | | | | Total impairments | | | (73 | ) | | | (1 | ) | | | (40 | ) | | | (20 | ) | | | (113 | ) | | | (21 | ) | Periodic net coupon settlements on credit derivatives | | 2 | | 3 | | | 1 | | 3 | | 3 | | 6 | | Other, net [3] | | | (33 | ) | | | (5 | ) | | | (30 | ) | | | (9 | ) | | | (63 | ) | | | (14 | ) | | | | | | | | | | | | | | | | Net realized capital gains (losses), before-tax | | $ | (152 | ) | | $ | 23 | | | Net realized capital losses, before-tax | | | $ | (51 | ) | | $ | (24 | ) | | $ | (203 | ) | | $ | (1 | ) | | | | | | | | | | | | | | | |
| | | [1] | | Relates to impairments for which the Company has current concerns regarding the issuersissuers’ ability to pay future interest and principal amounts based upon the securities contractual terms or the depression in security value is primarily related to significant issuer specific or sector credit spread widening. | | [2] | | Primarily relates to impairments of securities that had declined in value primarily due to changes in interest rate or general or modest spread widening and for which the Company was uncertain of its intent to retain the investment for a period of time sufficient to allow recovery to cost or amortized cost. | | [3] | | Primarily consists of changes in fair value on non-qualifying derivatives and other investment gains and losses. |
The circumstances giving rise to the net realized capital gains and losses in these components are as follows: | | | Gross Gains and Losses on Sale | | • Gross lossesgains on sales for the three and six months ended March 31,June 30, 2008 were predominantly within fixed maturities and were comprised of corporate and municipal securities. Gross losses on sales for the three and six months ended June 30, 2008, were primarily comprised of corporate securities and CMBS, as well as $19 of CLOs in the first quarter for which HIMCO is the collateral manager. Gross gains and losses on sale, excluding the loss on CLOs, primarily resulted from the decision to reallocate the portfolio to securities with more favorable risk/return profiles. For more information regarding losses on the sale of HIMCO managed CLOs, refer to the Variable Interest Entities section below. Securities that wereDuring the three and six months ended June 30, 2008, securities sold at a loss duringwere depressed, on average, approximately 3% at the three months ended March 31, 2008 had an average unrealized loss position as a percentage of the securities, amortized cost of 4% as of December 31, 2007, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. | | | | | | • Gross gains and losses on sales for the three and six months ended March 31,June 30, 2007 were primarily comprised of corporate securities. Securities that wereDuring the three and six months ended June 30, 2007, securities sold at a loss had anwere depressed, on average, unrealized loss position as a percentage ofapproximately 1% and 2%, respectively, at the securities, amortized cost of 2% as of December 31, 2006, which under the Company’srespective period’s impairment policy wasreview date and were deemed to be depressed only to a minor extent.temporarily impaired. | | | | Impairments | | • See the Other-Than-Temporary Impairments section that follows for information on impairment losseslosses. | | | | Other | | • Other, net losses infor the three and six months ended June 30, 2008 were primarily resulted from the change in value associated withrelated to net losses on credit derivatives of $24 and $76, respectively. The net losses on credit derivatives in the first quarter were due to significant credit spreads widening on credit derivatives that assume credit exposure. The net losses on credit derivatives in the second quarter were due to credit spread widening andspreads tightening significantly on credit derivatives that reduce credit exposure on certain referenced corporate entities. Included in the six months ended June 30, 2008 were losses incurred in the first quarter on HIMCO managed CLOs of $17. Credit spreads widened primarily due to the deterioration in the U.S. housing market, tightened lending conditions, the market’s flight to quality securities as well as increased likelihood of a U.S. recession. For further discussion, see the “Capital Market Risk Management” section of the MD&A.CLOs. For more information regarding these losses, on the sale of HIMCO managed CLOs, refer to the Variable Interest Entities section below. | | | | | | • Other, net losses for the three and six months ended June 30, 2007 were primarily driven by the change in value of non-qualifying derivatives due to credit spreads widening. |
Corporate The investment objective of Corporate is to raise capital through financing activities to support the Life and Property & Casualty operations of the Company and to maintain sufficient funds to support the cost of those financing activities including the payment of interest for The Hartford Financial Services Group, Inc. (“HFSG”) issued debt and dividends to shareholders of The Hartford’s common stock. As of March 31,June 30, 2008 and December 31, 2007, Corporate held $313$151 and $308, respectively, of fixed maturity investments, $1.1$1.3 billion and $160, respectively, of short-term investments and $99$98 and $103, respectively, of equity securities. Short-term investments increased in anticipation of repayment of approximately $1.0 billion of senior notes that will mature during the second half of 2008. For further information on these notes, see “Capital Resources and Liquidity” section under Liquidity Requirements. As of March 31,June 30, 2008 and December 31, 2007, a put option agreement for the Company’s contingent capital facility with a fair value of $41 and $43 was included in Other invested assets. 96
Variable Interest Entities (“VIE”) The Company is involved with variable interest entities as a collateral manager and as an investor through normal investment activities. The Company’s involvement includes providing investment management and administrative services for a fee, and holding ownership or other investment interests in the entities. 120
VIEs may or may not be consolidated on the Company’s condensed consolidated financial statements. When the Company is the primary beneficiary of the VIE, all of the assets of the VIE are consolidated into the Company’s financial statements. The Company also reports a liability for the portion of the VIE that represents the minority interest of other investors in the VIE. When the Company concludes that it is not the primary beneficiary of the VIE, the fair value of the Company’s investment in the VIE is recorded in the Company’s financial statements. The Company’s maximum exposure to loss represents the maximum loss amount that the Company could recognize as a reduction in net investment income or as a realized capital loss. As of March 31,June 30, 2008 and December 31, 2007, the Company had relationships with six and seven VIEs, respectively, where the Company was the primary beneficiary. The following table sets forth the carrying value of assets and liabilities, and the Company’s maximum exposure to loss on these consolidated VIEs. | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, 2008 | | December 31, 2007 | | | June 30, 2008 | | December 31, 2007 | | | | Maximum | | Maximum | | | Maximum | | Maximum | | | | Total | | Total | | Exposure | | Total | | Total | | Exposure | | | Total | | Total | | Exposure | | Total | | Total | | Exposure | | | | Assets | | Liabilities [1] | | to Loss | | Assets | | Liabilities [1] | | to Loss | | | Assets | | Liabilities [1] | | to Loss | | Assets | | Liabilities [1] | | to Loss | | CLOs [2] | | $ | 347 | | $ | 40 | | $ | 311 | | $ | 128 | | $ | 47 | | $ | 107 | | | Collateralized loan obligations (“CLOs”) [2] | | | $ | 346 | | $ | 47 | | $ | 291 | | $ | 128 | | $ | 47 | | $ | 107 | | Limited partnerships | | 304 | | 50 | | 254 | | 309 | | 47 | | 262 | | | 306 | | 55 | | 251 | | 309 | | 47 | | 262 | | Other investments [3] | | 364 | | 73 | | 329 | | 377 | | | 71 | | | 317 | | | 391 | | 154 | | 291 | | 377 | | 71 | | 317 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,015 | | $ | 163 | | $ | 894 | | $ | 814 | | $ | 165 | | $ | 686 | | | $ | 1,043 | | $ | 256 | | $ | 833 | | $ | 814 | | $ | 165 | | $ | 686 | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Creditors have no recourse against the Company in the event of default by the VIE. | | [2] | | The Company provides collateral management services and earns a fee associated with these structures. | | [3] | | Other investments include one unlevered investment bank loan fund for which the Company provides collateral management services and earns an associated fee as well as two investment structures that are backed by preferred securities. |
As of March 31,June 30, 2008 and December 31, 2007, the Company also held variable interests in four and five VIEs, respectively, where the Company is not the primary beneficiary. These investments have been held by the Company for less than two years. The Company’s maximum exposure to loss from these non-consolidated VIEs as of March 31,June 30, 2008 and December 31, 2007 was $504 and $150, respectively. As of December 31, 2007, HIMCO was the collateral manager of four VIEs with provisions that allowed for termination if the fair value of the aggregate referenced bank loan portfolio declined below a stated level. These VIEs were market value CLOs that invested in senior secured bank loans through total return swaps. Two of these market value CLOs were consolidated, and two were not consolidated. During the first quarter of 2008, the fair value of the aggregate referenced bank loan portfolio declined below the stated level in all four market value CLOs and the total return swap counterparties terminated the transactions. Three of these CLOs were restructured from market value CLOs to cash flow CLOs without market value triggers and the remaining CLO is expected to terminate by the end of 2008. The Company realized a capital loss of $90, before-tax, $86 (Lifeof which was realized $50 and Property and Casualty realized $36) before-taxin the first quarter, from the termination of these CLOs. In connection with the restructuring, the Company purchased interests in two of the resulting VIEs. TheVIEs, one of which the Company is the primary beneficiarybeneficiary. These purchases resulted in an increase in the Company’s maximum exposure to loss for one of the resultingboth consolidated and non-consolidated VIEs. 97
Other-Than-Temporary Impairments The following table identifies the Company’s other-than-temporary impairments by type. | | | | | | | | | | | | | | | | | | | | | | | | | | | Three Months Ended | | | Three Months Ended | | Six Months Ended | | | | March 31, | | | June 30, | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | 2008 | | 2007 | | ABS | | | Sub-prime residential mortgages | | $ | 61 | | $ | — | | | $ | 20 | | $ | — | | $ | 81 | | $ | — | | Other | | — | | 12 | | | — | | — | | — | | 12 | | CMBS | | 119 | | — | | | 36 | | — | | 155 | | — | | Corporate | | 99 | | 1 | | | 54 | | 31 | | 153 | | 32 | | Equity and other | | 25 | | 2 | | | 54 | | 9 | | 79 | | 11 | | | | | | | | | | | | | | | | | Total other-than-temporary impairments | | $ | 304 | | $ | 15 | | | $ | 164 | | $ | 40 | | $ | 468 | | $ | 55 | | | | | | | | | | | | | | | | | Credit related | | $ | 268 | | $ | 12 | | | 79 | | 10 | | 347 | | 22 | | Other | | 36 | | 3 | | | 85 | | 30 | | 121 | | 33 | | | | | | | | | | | | | | | | | Total other-than-temporary impairments | | $ | 304 | | $ | 15 | | | $ | 164 | | $ | 40 | | $ | 468 | | $ | 55 | | | | | | | | | | | | | | | | |
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Credit Related Impairments The following discussion provides an analysis of significant other-than-temporaryCredit impairments recognized duringwere primarily concentrated in ABS, CMBS and financial services securities included in Corporate and Equity and other in the table above for the three and six months ended March 31, 2008 and 2007 as well as the related circumstances giving rise to the other-than-temporary impairments.
June 30, 2008. For the threesix months ended March 31,June 30, 2008, credit related other-than-temporarythe majority of ABS impairments primarily consistedwere on RMBS backed by second lien residential mortgages and the majority of CMBS, ABS, and Corporate securities. The CMBS impairments were primarily related toon CMBS CDOs that contained below investment grade 2006 and 2007 vintage year collateral. For the three months ended June 30, 2008, ABS and CMBS impairments were primarily on securities that were previously impaired and experienced further price deterioration. For the three and six months ended June 30, 2008, Corporate and Equity and other credit impairments were primarily taken on RMBS backed by second lien residential mortgages. Corporate credit impairments were primarily due to asubordinated fixed maturities and preferred equities within the financial services company that has recently experienced a lack of liquidity. For the majority of the credit related impairments, the Company expects to recover principal and interest substantially greater than what the market price indicates. sector. These impairments were included in credit related either because of credit concerns or because the impaired security experienced extensive credit spread widening and were recognized due to the Company’s uncertaintyCompany was uncertain of its intent to retain the investments for a period of time sufficient to allow recoveryfor recovery. The Company expects to recover principal and interest greater than what the market price indicates for the majority of our credit impairments. For the three months ended June 30, 2007, credit impairments were concentrated in a preferred equity security that experienced significant issuer credit spread widening as a result of a proposed leveraged buyout. Credit impairments for the six months ended June 30, 2007, related to an ABS backed by aircraft lease receivables and a preferred equity security. The ABS impairment was attributable to higher than expected aircraft maintenance costs and a ratings downgrade. Other Impairments Other impairments were primarily concentrated in Corporate and Equity and other for the three and six months ended June 30, 2008; these impairments were taken on securities which the Company is uncertain of its intent to retain the investments for a period of time sufficient to allow for recovery. For the three months ended June 30, 2008, the Company recorded other-than-temporary impairments of $42 on perpetual preferred securities issued by two government-sponsored entities with significant exposure to residential mortgages. Prior to the other-than-temporary impairments, these Other impaired securities had an average market value as a percentage of amortized cost.cost of 81%. TheFor the three and six months ended June 30, 2007, the other-than-temporary impairments reported in Other were recorded on securitiesprimarily corporate fixed maturities that had declineddeclines in value for which the Company was uncertain of its intent to retain the investments for a period of time sufficient to allow for allow recovery to cost or amortized cost.
Prior to theFuture other-than-temporary impairments these securities had an average market value as a percentageand recovery of amortized cost of 71%.
During the three months ended March 31, 2007, thepreviously recorded credit related other-than-temporary impairment was recorded on one ABS security backed by aircraft lease receivables due to a continued decline in value, attributed to higher than expected aircraft maintenance costs and a rating agency downgrade.
Future other-than-temporary impairments will depend primarily on economic fundamentals, political stability, issuer and/or collateral performance and future movements in interest rates and credit spreads. If the economic fundamentals continue to deteriorate, other-than-temporary impairments for 2008 could significantly exceed the 2007 impairments of $483. For further discussionsdiscussion on fundamentals related to sub-prime residential mortgage-backed securities, commercial mortgage-backed securities,CMBS, and corporate securities in the financial services sector, see the Investment Credit Risk section below.
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INVESTMENT CREDIT RISK The Company has established investment credit policies that focus on the credit quality of obligors and counterparties, limit credit concentrations, encourage diversification and require frequent creditworthiness reviews. Investment activity, including setting of policy and defining acceptable risk levels, is subject to regular review and approval by senior management and by The Hartford’s Board of Directors. The Company invests primarily in securities which are rated investment grade and has established exposure limits, diversification standards and review procedures for all credit risks including borrower, issuer and counterparty. Creditworthiness of specific obligors is determined by consideration of external determinants of creditworthiness, typically ratings assigned by nationally recognized ratings agencies and is supplemented by an internal credit evaluation. Obligor, asset sector and industry concentrations are subject to established Company limits and are monitored on a regular basis. The Company is not exposed to any credit concentration risk of a single issuer greater than 10% of the Company’s stockholders’ equity other than U.S. government and certain U.S. government agencies.agencies backed by the full faith and credit of the U.S. government. For further discussion of concentration of credit risk, see the “Concentration of Credit Risk” section in Note 4 of Notes to Consolidated Financial Statements in The Hartford’s 2007 Form 10-K Annual Report. Derivative Instruments In the normal course of business, the Company uses various derivative counterparties in executing its derivative transactions. The use of counterparties creates credit risk that the counterparty may not perform in accordance with the terms of the derivative transaction. The Company has developed a derivative counterparty exposure policy which limits the Company’s exposure to credit risk. The derivative counterparty exposure policy establishes market-based credit limits, favors long-term financial stability and creditworthiness of the counterparty and typically requires credit enhancement/credit risk reducing agreements. Credit risk is measured as the amount owed to the Company based on current market conditions and potential payment obligations between the Company and its counterparties. Credit exposures are generally quantified daily and collateral is pledged to and held by, or on behalf of, the Company to the extent the current value of derivatives exceeds the exposure policy thresholds which do not exceed $10 by counterparty for each legal entity of the Company. 122
The Company also minimizes the credit risk in derivative instruments by entering into transactions with high quality counterparties rated A2/A or better, which are monitored by the Company’s internal compliance unit and reviewed frequently by senior management. In addition, the compliance unit monitors counterparty credit exposure on a monthly basis to ensure compliance with Company policies and statutory limitations. The Company also maintains a policy of requiring that derivative contracts, other than exchange traded contracts, currency forward contracts, and certain embedded derivatives, be governed by an International Swaps and Derivatives Association Master Agreement which is structured by legal entity and by counterparty and permits right of offset. For each counterparty, the Company has developed credit exposure thresholds which are based upon counterparty ratings. Credit exposures are measured using the market value of the derivative, resulting in amounts owed to the Company by its counterparties or potential payment obligations from the Company to its counterparties. Credit exposures are generally quantified daily and collateral is pledged to and held by, or on behalf of, the Company to the extent the current value of derivatives exceeds the exposure policy thresholds. The Company has exposure to credit risk for amounts below the exposure thresholds which are uncollateralized. The maximum uncollateralized threshold for a derivative counterparty for a single legal entity is $10. The Company currently transacts derivatives in five legal entities and therefore the maximum combined exposure for a single counterparty over all legal entities that use derivatives is $50. To date, the Company has not incurred any losses on derivative instruments due to counterparty nonperformance. In addition to counterparty credit risk, the Company enters into credit derivative instruments to manage credit exposure which includes assuming credit risk from and reducing credit risk to a single entity, referenced index, or asset pool.exposure. Credit derivatives used by the Company include credit default swaps, credit index swaps, and total return swaps. Credit default swaps involve a transfer of credit risk of one or many referenced entities from one party to another in exchange for periodic payments. The party that purchases credit protection will make a paymentperiodic payments based on an agreed upon rate and notional amount.amount, and for certain transactions there will also be an upfront premium payment. The second party, who assumes credit exposure, will typically only make a payment if there is a credit event and such payment will be equal to the notional value of the swap contract less the value of the referenced security issuer’s debt obligation. A credit event is generally defined as default on contractually obligated interest or principal payments or bankruptcy of the referenced entity. Credit index swaps and total return swaps involve the periodic exchange of payments with other parties, at specified intervals, calculated using the agreed upon index and notional principal amounts. Generally, no cash or principal payments are exchanged at the inception of the contract. The Company assumesuses credit exposure through credit default swaps and credit index swaps as an efficient meansderivatives to manage credit exposure without directly investing in the cash market investments. The following table presents the notional, fair value, derivativeassume credit risk from and underlying referenced asset average credit ratings for credit derivatives in which the Company is assumingreduce credit risk as of March 31, 2008. March 31, 2008
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Underlying Referenced Asset(s) | | | | Notional | | | | | | | Average Credit | | | | | | | Average | | | | Amount | | | Fair Value | | | Risk Exposure | | | Type | | | Credit Rating | | Credit default swaps [1] | | | | | | | | | | | | | | | | | | | | | Investment grade risk exposure | | $ | 1,587 | | | $ | (238 | ) | | AA | | Corporate Credit | | BBB+ | Below investment grade risk exposure [2] | | | 538 | | | | (311 | ) | | CCC+ | | Corporate Credit | | BBB- | | | | | | | | | | | | | | | | | | | | Total | | $ | 2,125 | | | $ | (549 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | Includes $1.1 billion of notional value, as of March 31, 2008, of a standard market index of diversified portfolios of corporate issuers referenced through credit default swaps.
| | [2] | | The fair value includes cash payments received at the inception of certain contracts of $201. The net loss for the three months ended March 31, 2008, was ($37), before-tax.
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to a single entity, referenced index, or asset pool. The credit default swaps in which the Company assumes credit risk reference investment grade single corporate issuers, baskets of up to five corporate issuers and diversified portfolios of corporate issuers. The diversified portfolios of corporate issuers are established within sector concentration limits and are typically divided into tranches which possess different credit ratings ranging from AAA through the CCC rated first loss position. 99
In addition to the credit default swaps that assume credit exposure, presented in the table above, the Company also purchases credit protection through credit default swaps to economically hedge and manage credit risk of certain fixed maturity investments across multiple sectors of the investment portfolio. As of March 31, 2008, the notional and fair value of these The credit default swaps was $5.2 billion and $257, respectively. In addition, duringare carried on the firstbalance sheet at fair value. The Company received upfront premium payouts on certain credit default swaps of $204, which reduces the Company’s overall credit exposure. The following table summarizes the credit default swaps used by the Company to manage credit risk within the portfolio, excluding credit default swaps with offsetting positions. Credit Default Swaps | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | | December 31, 2007 | | | | | | | | Initial | | | | | | | | | | | Initial | | | | | | | Notional | | | Premium | | | Fair | | | Notional | | | Premium | | | Fair | | | | Amount | | | Received | | | Value | | | Amount | | | Received | | | Value | | Assuming credit risk | | $ | 1,752 | | | $ | (203 | ) | | $ | (527 | ) | | $ | 2,715 | | | $ | (203 | ) | | $ | (416 | ) | Reducing credit risk | | | 4,579 | | | | (1 | ) | | | 166 | | | | 5,166 | | | | (1 | ) | | | 81 | | | | | | | | | | | | | | | | | | | | | Total credit default swaps | | $ | 6,331 | | | $ | (204 | ) | | $ | (361 | ) | | $ | 7,881 | | | $ | (204 | ) | | $ | (335 | ) | | | | | | | | | | | | | | | | | | | |
During the second quarter of 2008, the Company entered intocontinued to reduce overall credit protection usingrisk exposure to general credit spread movements by both reducing and rebalancing the total notional amount of the credit default basket swapsswap portfolio. The Company’s credit default swap portfolio has experienced and may continue to experience market value fluctuations based upon certain market conditions, including credit spread movement of specific referenced entities. For the three and six months ended June 30, 2008, the Company realized losses of $66 and $118, respectively, on a standard corporate market index. This protection significantly reduced the Company’s overall net exposure to credit derivatives and had a notional and fair value as of March 31, 2008 of $650 and $28, respectively.default swaps. Prior to the first quarter of 2008, the Company also assumed credit exposure through credit index swaps referencing AAA rated commercial mortgage backed securityCMBS indices. During the first and second quarter of 2008, the Company realized a loss of $100 and $3, before-tax, respectively, as a result of certain of these swaps maturing as well as the Company eliminating exposure to the remaining swaps by entering into offsetting positions. As of March 31,June 30, 2008, the remainingCompany does not have exposure to CMBS through credit index swaps that were closed by offsetting positions had a notional and fair value of $280 and $15, respectively, while the offsetting swaps had a notional and fair value at March 31, 2008, of $280 and $(17), respectively.derivatives. 123
Fixed Maturities The following tables identifytable identifies fixed maturity securitiesmaturities by quality and type on a consolidated basis as of March 31,June 30, 2008 and December 31, 2007. The ratings referenced below are based on the ratings of a nationally recognized rating organization or, if not rated, assigned based on the Company’s internal analysis of such securities. Consolidated Fixed Maturities by Credit Quality | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, 2008 | | December 31, 2007 | | | June 30, 2008 | | December 31, 2007 | | | | Percent of | | Percent of | | | Percent of | | Percent of | | | | Amortized | | Total Fair | | Amortized | | Total Fair | | | Amortized | | Total Fair | | Amortized | | Total Fair | | | | Cost | | Fair Value | | | Value | | Cost | | Fair Value | | Value | | | Cost | | Fair Value | | Value | | Cost | | Fair Value | | Value | | AAA | | $ | 25,842 | | $ | 24,418 | | | 31.9 | % | | $ | 28,547 | | $ | 28,318 | | | 35.4 | % | | $ | 20,496 | | $ | 19,238 | | | 25.6 | % | | $ | 28,547 | | $ | 28,318 | | | 35.4 | % | AA | | 11,808 | | 10,932 | | | 14.3 | % | | 11,326 | | 10,999 | | | 13.7 | % | | 14,690 | | 13,717 | | | 18.3 | % | | 11,326 | | 10,999 | | | 13.7 | % | A | | 17,812 | | 17,325 | | | 22.6 | % | | 16,999 | | 17,030 | | | 21.3 | % | | 19,259 | | 18,344 | | | 24.4 | % | | 16,999 | | 17,030 | | | 21.3 | % | BBB | | 15,617 | | 15,319 | | | 20.0 | % | | 15,093 | | 14,974 | | | 18.7 | % | | 15,535 | | 14,909 | | | 19.9 | % | | 15,093 | | 14,974 | | | 18.7 | % | United States Government/Government agencies | | 4,962 | | 5,071 | | | 6.6 | % | | 5,165 | | 5,229 | | | 6.5 | % | | 4,985 | | 5,005 | | | 6.7 | % | | 5,165 | | 5,229 | | | 6.5 | % | BB & below | | 3,751 | | 3,546 | | | 4.6 | % | | 3,594 | | 3,505 | | | 4.4 | % | | 4,132 | | 3,855 | | | 5.1 | % | | 3,594 | | 3,505 | | | 4.4 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total fixed maturities | | $ | 79,792 | | $ | 76,611 | | | 100.0 | % | | $ | 80,724 | | $ | 80,055 | | | 100.0 | % | | $ | 79,097 | | $ | 75,068 | | | 100.0 | % | | $ | 80,724 | | $ | 80,055 | | | 100.0 | % | | | | | | | | | | | | | | | | | | | | | | | | | | | |
The Company’s investment ratings as a percentage of total fixed maturities experienced a shift from AAA rated to AA and A rated since December 31, 2007 primarily due to rating agency downgrades of monoline insurers. 100124
The following table identifies fixed maturity and equity securities classified as available-for-sale on a consolidated basis as of June 30, 2008 and December 31, 2007. Consolidated Fixed MaturitiesAvailable-for-Sale Securities by Type | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, 2008 | | December 31, 2007 | | June 30, 2008 | | December 31, 2007 | | | | Percent | | Percent | | | Percent | | Percent | | | | of Total | | of Total | | | Cost or | | Gross | | Gross | | of Total | | Cost or | | Gross | | Gross | | of Total | | | | Amortized | | Unrealized | | Unrealized | | Fair | | Fair | | Amortized | | Unrealized | | Unrealized | | Fair | | Fair | | | Amortized | | Unrealized | | Unrealized | | Fair | | Fair | | Amortized | | Unrealized | | Unrealized | | Fair | | Fair | | | | Cost | | Gains | | Losses | | Value | | Value | | Cost | | Gains | | Losses | | Value | | Value | | | Cost | | Gains | | Losses | | Value | | Value | | Cost | | Gains | | Losses | | Value | | Value | | ABS | | | Auto | | $ | 643 | | $ | 2 | | $ | (24 | ) | | $ | 621 | | | 0.8 | % | | $ | 692 | | $ | — | | $ | (16 | ) | | $ | 676 | | | 0.9 | % | | $ | 614 | | $ | 1 | | $ | (36 | ) | | $ | 579 | | | 0.8 | % | | $ | 692 | | $ | — | | $ | (16 | ) | | $ | 676 | | | 0.9 | % | CDOs [1] [2] | | 3,011 | | 1 | | | (267 | ) | | 2,745 | | | 3.6 | % | | 2,633 | | 1 | | | (118 | ) | | 2,516 | | | 3.1 | % | | CLOs [1] | | | 2,911 | | 2 | | | (236 | ) | | 2,677 | | | 3.6 | % | | 2,590 | | — | | | (114 | ) | | 2,476 | | | 3.1 | % | Credit cards | | 901 | | 1 | | | (42 | ) | | 860 | | | 1.1 | % | | 957 | | 3 | | | (22 | ) | | 938 | | | 1.2 | % | | 1,038 | | 2 | | | (43 | ) | | 997 | | | 1.3 | % | | 957 | | 3 | | | (22 | ) | | 938 | | | 1.2 | % | RMBS [3] | | 2,868 | | 5 | | | (574 | ) | | 2,299 | | | 3.0 | % | | 2,999 | | 10 | | | (343 | ) | | 2,666 | | | 3.3 | % | | RMBS [2] | | | 2,783 | | 12 | | | (659 | ) | | 2,136 | | | 2.8 | % | | 2,999 | | 10 | | | (343 | ) | | 2,666 | | | 3.3 | % | Student loan | | 785 | | — | | | (123 | ) | | 662 | | | 0.9 | % | | 786 | | 1 | | | (40 | ) | | 747 | | | 0.9 | % | | 783 | | — | | | (132 | ) | | 651 | | | 0.9 | % | | 786 | | 1 | | | (40 | ) | | 747 | | | 0.9 | % | Other | | 1,347 | | 20 | | | (180 | ) | | 1,187 | | | 1.5 | % | | 1,448 | | 18 | | | (94 | ) | | 1,372 | | | 1.7 | % | | Other [3] | | | 1,446 | | 9 | | | (263 | ) | | 1,192 | | | 1.6 | % | | 1,491 | | 19 | | | (98 | ) | | 1,412 | | | 1.7 | % | CMBS | | | Bonds | | 12,888 | | 68 | | | (1,146 | ) | | 11,810 | | | 15.4 | % | | 13,641 | | 126 | | | (421 | ) | | 13,346 | | | 16.7 | % | | 12,069 | | 26 | | | (1,119 | ) | | 10,976 | | | 14.7 | % | | 13,641 | | 126 | | | (421 | ) | | 13,346 | | | 16.7 | % | Commercial real estate (“CRE”) CDOs | | 2,132 | | — | | | (657 | ) | | 1,475 | | | 1.9 | % | | 2,243 | | 1 | | | (390 | ) | | 1,854 | | | 2.3 | % | | 2,066 | | 13 | | | (698 | ) | | 1,381 | | | 1.8 | % | | 2,243 | | 1 | | | (390 | ) | | 1,854 | | | 2.3 | % | Interest only (“IOs”) | | 1,661 | | 152 | | | (42 | ) | | 1,771 | | | 2.3 | % | | 1,741 | | 117 | | | (27 | ) | | 1,831 | | | 2.3 | % | | 1,580 | | 129 | | | (38 | ) | | 1,671 | | | 2.2 | % | | 1,741 | | 117 | | | (27 | ) | | 1,831 | | | 2.3 | % | CMOs | | | Agency backed | | 1,023 | | 34 | | | (6 | ) | | 1,051 | | | 1.4 | % | | 1,191 | | 32 | | | (4 | ) | | 1,219 | | | 1.5 | % | | 867 | | 25 | | | (2 | ) | | 890 | | | 1.2 | % | | 1,191 | | 32 | | | (4 | ) | | 1,219 | | | 1.5 | % | Non-agency backed [4] | | 512 | | 1 | | | (30 | ) | | 483 | | | 0.6 | % | | 525 | | 4 | | | (3 | ) | | 526 | | | 0.7 | % | | 474 | | — | | | (38 | ) | | 436 | | | 0.6 | % | | 525 | | 4 | | | (3 | ) | | 526 | | | 0.7 | % | Corporate | | | Corporate [5] | | | Basic industry | | 2,472 | | 69 | | | (54 | ) | | 2,487 | | | 3.3 | % | | 2,508 | | 61 | | | (34 | ) | | 2,535 | | | 3.2 | % | | 2,739 | | 49 | | | (70 | ) | | 2,718 | | | 3.6 | % | | 2,508 | | 61 | | | (34 | ) | | 2,535 | | | 3.2 | % | Capital goods | | 2,258 | | 105 | | | (29 | ) | | 2,334 | | | 3.0 | % | | 2,194 | | 86 | | | (26 | ) | | 2,254 | | | 2.8 | % | | 2,277 | | 59 | | | (68 | ) | | 2,268 | | | 3.0 | % | | 2,194 | | 86 | | | (26 | ) | | 2,254 | | | 2.8 | % | Consumer cyclical | | 2,958 | | 94 | | | (93 | ) | | 2,959 | | | 3.9 | % | | 3,011 | | 87 | | | (60 | ) | | 3,038 | | | 3.8 | % | | 2,940 | | 70 | | | (125 | ) | | 2,885 | | | 3.8 | % | | 3,011 | | 87 | | | (60 | ) | | 3,038 | | | 3.8 | % | Consumer non-cyclical | | 3,243 | | 119 | | | (34 | ) | | 3,328 | | | 4.3 | % | | 3,008 | | 89 | | | (37 | ) | | 3,060 | | | 3.8 | % | | 3,343 | | 71 | | | (69 | ) | | 3,345 | | | 4.4 | % | | 3,008 | | 89 | | | (37 | ) | | 3,060 | | | 3.8 | % | Energy | | 1,569 | | 79 | | | (16 | ) | | 1,632 | | | 2.1 | % | | 1,595 | | 71 | | | (12 | ) | | 1,654 | | | 2.1 | % | | 1,731 | | 50 | | | (29 | ) | | 1,752 | | | 2.3 | % | | 1,595 | | 71 | | | (12 | ) | | 1,654 | | | 2.1 | % | Financial services | | 11,823 | | 238 | | | (1,087 | ) | | 10,974 | | | 14.3 | % | | 11,934 | | 230 | | | (568 | ) | | 11,596 | | | 14.4 | % | | 11,705 | | 240 | | | (1,010 | ) | | 10,935 | | | 14.5 | % | | 11,934 | | 230 | | | (568 | ) | | 11,596 | | | 14.4 | % | Technology and communications | | 3,932 | | 160 | | | (115 | ) | | 3,977 | | | 5.2 | % | | 3,763 | | 181 | | | (40 | ) | | 3,904 | | | 4.9 | % | | 4,121 | | 137 | | | (132 | ) | | 4,126 | | | 5.5 | % | | 3,763 | | 181 | | | (40 | ) | | 3,904 | | | 4.9 | % | Transportation | | 518 | | 20 | | | (15 | ) | | 523 | | | 0.7 | % | | 401 | | 12 | | | (13 | ) | | 400 | | | 0.5 | % | | 521 | | 9 | | | (26 | ) | | 504 | | | 0.7 | % | | 401 | | 12 | | | (13 | ) | | 400 | | | 0.5 | % | Utilities | | 4,710 | | 210 | | | (113 | ) | | 4,807 | | | 6.3 | % | | 4,500 | | 181 | | | (104 | ) | | 4,577 | | | 5.7 | % | | 4,883 | | 146 | | | (187 | ) | | 4,842 | | | 6.5 | % | | 4,500 | | 181 | | | (104 | ) | | 4,577 | | | 5.7 | % | Other | | 1,065 | | 11 | | | (70 | ) | | 1,006 | | | 1.3 | % | | 1,204 | | 24 | | | (48 | ) | | 1,180 | | | 1.5 | % | | 1,037 | | 3 | | | (84 | ) | | 956 | | | 1.3 | % | | 1,204 | | 24 | | | (48 | ) | | 1,180 | | | 1.5 | % | Government/Government agencies | | | Foreign | | 997 | | 62 | | | (11 | ) | | 1,048 | | | 1.4 | % | | 999 | | 59 | | | (5 | ) | | 1,053 | | | 1.3 | % | | 958 | | 39 | | | (18 | ) | | 979 | | | 1.3 | % | | 999 | | 59 | | | (5 | ) | | 1,053 | | | 1.3 | % | United States | | 1,296 | | 54 | | — | | 1,350 | | | 1.8 | % | | 836 | | 22 | | | (3 | ) | | 855 | | | 1.1 | % | | 1,376 | | 19 | | | (12 | ) | | 1,383 | | | 1.8 | % | | 836 | | 22 | | | (3 | ) | | 855 | | | 1.1 | % | MBS | | 2,273 | | 27 | | | (10 | ) | | 2,290 | | | 3.0 | % | | 2,757 | | 26 | | | (20 | ) | | 2,763 | | | 3.5 | % | | 2,384 | | 9 | | | (21 | ) | | 2,372 | | | 3.2 | % | | 2,757 | | 26 | | | (20 | ) | | 2,763 | | | 3.5 | % | Municipal | | | Taxable | | 1,388 | | 33 | | | (47 | ) | | 1,374 | | | 1.8 | % | | 1,376 | | 33 | | | (23 | ) | | 1,386 | | | 1.7 | % | | 1,081 | | 6 | | | (70 | ) | | 1,017 | | | 1.4 | % | | 1,376 | | 33 | | | (23 | ) | | 1,386 | | | 1.7 | % | Tax-exempt | | 11,519 | | 321 | | | (282 | ) | | 11,558 | | | 15.1 | % | | 11,776 | | 394 | | | (67 | ) | | 12,103 | | | 15.1 | % | | 11,370 | | 257 | | | (227 | ) | | 11,400 | | | 15.2 | % | | 11,776 | | 394 | | | (67 | ) | | 12,103 | | | 15.1 | % | Redeemable preferred stock | | — | | — | | — | | — | | — | | 6 | | — | | — | | 6 | | — | | | — | | — | | — | | — | | — | | 6 | | — | | — | | 6 | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total fixed maturities | | $ | 79,792 | | $ | 1,886 | | $ | (5,067 | ) | | $ | 76,611 | | | 100.0 | % | | $ | 80,724 | | $ | 1,869 | | $ | (2,538 | ) | | $ | 80,055 | | | 100.0 | % | | Fixed maturities | | | $ | 79,097 | | $ | 1,383 | | $ | (5,412 | ) | | $ | 75,068 | | | 100.0 | % | | $ | 80,724 | | $ | 1,869 | | $ | (2,538 | ) | | $ | 80,055 | | | 100.0 | % | Equity securities, available-for-sale [6] | | | 2,890 | | 197 | | | (468 | ) | | 2,619 | | 2,611 | | 218 | | | (234 | ) | | 2,595 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total securities, available-for-sale [7] | | | $ | 81,987 | | $ | 1,580 | | $ | (5,880 | ) | | $ | 77,687 | | $ | 83,335 | | $ | 2,087 | | $ | (2,772 | ) | | $ | 82,650 | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | As of June 30, 2008, 99% of these senior secured bank loan CLOs were AAA rated with an average subordination of 29%. | | [2] | | Includes securities with an amortized cost and fair value of $15$29 and $12,$26, respectively, as of MarchJune 30, 2008, and $40 and $37, respectively, as of December 31, 2007, which were backed by pools of loans issued to prime borrowers. Includes securities with an amortized cost and fair value of $94 and $75, respectively, as of June 30, 2008, and $96 and $87, respectively, as of December 31, 2007, which were backed by pools of loans issued to Alt-A borrowers. | | [3] | | Includes CDO securities with an amortized cost and fair value of $16 and $10, respectively, as of June 30, 2008, and $16 and $15, respectively, as of December 31, 2007, that contain a below-prime residential mortgage loan component. Typically these CDOs are also backed by assets other than below-prime loans. | | [2] | | Primarily relates to CLOs which are supported by senior secured bank loans. As of March 31, 2008, 99% of these CLOs were AAA rated with an average subordination of 29%.
| | [3]4] | | Includes securities with an amortized cost and fair value of $39$253 and $35,$223, respectively, as of March 31,June 30, 2008, and $40 and $37, respectively, as of December 31, 2007, which were backed by pools of loans issued to prime borrowers. Includes securities with an amortized cost and fair value of $95 and $78, respectively, as of March 31, 2008, and $96 and $87, respectively,$270 as of December 31, 2007, which were backed by pools of loans issued to Alt-A borrowers. | | [4]5] | | IncludesAs of June 30, 2008 and December 31, 2007, 91% and 92%, respectively, of corporate securities with an amortized costwere rated investment grade.
| | [6] | | As of June 30, 2008 and fair valueDecember 31, 2007, approximately 79% relates to the financial services sector. | | [7] | | Gross unrealized gains represent gains of $261$1,007, $563, and $240,$10 for Life, Property & Casualty, and Corporate, respectively, as of March 31,June 30, 2008 and $270$1,339, $734, and $14, respectively, as of December 31, 2007, which were backed by pools2007. Gross unrealized losses represent losses of loans issued to Alt-A borrowers.$4,185, $1,689, and $6 for Life, Property & Casualty, and Corporate, respectively, as of June 30, 2008 and $1,985, $781, and $6, respectively, as of December 31, 2007. |
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The Company’s investment sector allocations as a percentage of total fixed maturities have not significantly changed since December 31, 2007.2007 except for CMBS bonds which decreased primarily due to sales and credit spreads widening. The fixed maturityavailable-for-sale net unrealized loss position increased $2.5$3.6 billion since December 31, 2007 and $876 since March 31, 2008. The increase since December 31, 2007 primarily due toresulted from credit spread widening, partially offset by a decrease in interest rates and other-than-temporary impairments taken during the year.spreads widening. Credit spreads widened primarily due to the continued deterioration of the sub-prime mortgage market and liquidity disruptions, impacting the overall credit market. The increase in the second quarter primarily resulted from rising interest rates, partially offset by credit spreads tightening. The sectors with the most significant concentration of unrealized losses were CMBS, corporate fixed maturities, most significantly within the financial services, sector, and RMBS. The Company’s current view of risk factors relative to these fixed maturityavailable-for-sale security types is as follows: 101
CMBS—During the first quarter of 2008, CMBS continued to experienceexperienced price declines due to ongoing market disruptions. These disruptions are both broad based in the form of re-pricing of risk and liquidity disruptions across lending markets as well asand CMBS specific concerns over weaker underwriting practices such as higher leverage, lower debt service coverage, and more aggressive income growth projections. However, the Company believes the commercial property market cash flow fundamentals will remain sound. The Company performed quantitative and qualitative analysis on the CMBS portfolio that included cash flow modeling. The assumptions used in the cash flow modeling included, on a region by region basis, increases in unemployment, capitalization rates and defaults, and continued declines in property values. As of March 31,June 30, 2008, based on this analysis, the Company concluded these securities were temporarily impaired. For further discussion on CMBS, see the “Commercial Mortgage Loans” commentary and tables below. Financial services— The increase in unrealized losses was primarily due to the recent credit spreadspreads widening stemming fromdriven by concerns over risksongoing weakness in the sub-prime mortgagehousing markets, financial institution exposures to riskier assets (mortgages, leveraged loans, and leveraged finance marketsstructured products) and the associated impact of issueraccelerating credit losses leading to earnings volatility and access to liquidity for companies involved in those markets as well as theconcerns over capital adequacy at many financial sector as a whole.institutions. The majority of thesethe securities held are issued by large, diversified, investment grade issuances by large financialrated global banking and brokerage institutions and were priced above 80% of amortized cost as of March 31,June 30, 2008. RMBS—Continued deterioration in collateral performance, uncertainty surrounding the decline in home prices, the impact of potential federal intervention, and negative technical factors caused further price depression on ABS backed by sub-prime mortgages during the first quarter of 2008. The Company performed quantitative and qualitative analysis on the RMBS portfolio that included cash flow modeling. The assumptions used in the cash flow modeling included increased defaults to incorporate currently highincreased delinquency and foreclosure rates, higher loss severities upon default to factor in declining home values, and slower voluntary prepayments to reflect limited borrower refinance options. As of March 31,June 30, 2008, based on this analysis, the Company concluded these securities were temporarily impaired. For further discussion on RMBS, see the “Sub-prime Residential Mortgage Loans” commentary and tables below. The Company has reviewed its overall investment portfolio and concluded that the securities in an unrealized loss position at March 31,June 30, 2008 were temporarily impaired. For further discussion on unrealized losses and the Company’s other-than-temporary impairment process, see the Fixed Maturity and Equity, Available-for-Sale, Consolidated Unrealized Loss section below. Deterioration in the U.S. housing market, tightened lending conditions and the market’s flight to quality securities as well as the increased likelihood of a U.S. recession has caused credit spreads to widen considerably. The sectors most significantly impacted include residential and commercial mortgage backed investments, and other structured products, including consumer loan backed investments. The following sections illustrate the Company’s holdings and provides commentary on the sectors identified above. Sub-prime Residential Mortgage Loans The Company has exposure to sub-prime and Alt-A residential mortgage backed securities included in the Consolidated Fixed MaturitiesAvailable-for-Sale Securities by Type table above. Sub-prime mortgage lending is the origination of residential mortgage loans to customers with weak credit profiles. Alt-A mortgage lending is the origination of residential mortgage loans to customers who have credit ratings above sub-prime but do not conform to government-sponsored enterprise standards. Both of these categories are considered to be below-prime. The Company is not an originator of below-prime mortgages. The slowing U.S. housing market, greater use of affordability mortgage products, and relaxed underwriting standards for some originators of below-prime loans has recently led to higher delinquency and loss rates, especially within the 2007 and 2006 vintage years. Continued deterioration in collateral performance, uncertaintyUncertainty surrounding the decline in home prices, the impact of potential federal intervention, and negative technical factors, along with continued deterioration in collateral performance, has led to an increase in unrealized losses in these sectors from December 31, 2007 to March 31,June 30, 2008. The Company expects delinquency and loss rates in the sub-prime mortgage sector to continue to increase in the near term. The Company has performed cash flow analysis on its sub-prime holdings stressing multiple variables, including prepayment speeds, default rates, and loss severity. Based on this analysis and the Company’s expectation of future loan performance, other than certain credit related impairments recorded in the current year, future payments are expected to be received in accordance with the contractual terms of the securities. For a discussion on credit related impairments, see Other-Than-Temporary Impairments section included in the Investment Results section of the MD&A. The following table presents the Company’s exposure to ABS supported by sub-prime mortgage loans by credit quality and vintage year, including direct investments in CDOs that contain a sub-prime loan component, included in the RMBS and CDOABS other line in the table above. Credit protection represents the current weighted average percentage, excluding wrapped securities, of the capital structure subordinated to the Company’s investment holding that is available to absorb losses before the security incurs the first dollar loss of principal. The table below does not include the Company’s exposure to Alt-A residential mortgage loans, with an amortized cost and fair value of $356$347 and $318,$298, respectively, as of March 31,June 30, 2008, and $366 and $357, respectively, as of December 31, 2007. These securities were primarily rated AAA and backed by AAA 2007 vintage year collateral. 102126
Sub-Prime Residential Mortgage Loans [1] [2] [3] [4] March 31, 2008 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 [5] | | | | AAA | | | AA | | | A | | | BBB | | | BB and Below | | | Total | | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | 2003 & Prior | | $ | 61 | | | $ | 56 | | | $ | 197 | | | $ | 170 | | | $ | 68 | | | $ | 55 | | | $ | 31 | | | $ | 19 | | | $ | 24 | | | $ | 17 | | | $ | 381 | | | $ | 317 | | 2004 | | | 116 | | | | 105 | | | | 361 | | | | 301 | | | | 7 | | | | 6 | | | | 2 | | | | 1 | | | | — | | | | — | | | | 486 | | | | 413 | | 2005 | | | 97 | | | | 88 | | | | 698 | | | | 565 | | | | 57 | | | | 49 | | | | 4 | | | | 4 | | | | 7 | | | | 5 | | | | 863 | | | | 711 | | 2006 | | | 230 | | | | 196 | | | | 134 | | | | 74 | | | | 23 | | | | 16 | | | | 98 | | | | 41 | | | | 28 | | | | 9 | | | | 513 | | | | 336 | | 2007 | | | 136 | | | | 102 | | | | 16 | | | | 8 | | | | 68 | | | | 35 | | | | 57 | | | | 40 | | | | 156 | | | | 83 | | | | 433 | | | | 268 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 640 | | | $ | 547 | | | $ | 1,406 | | | $ | 1,118 | | | $ | 223 | | | $ | 161 | | | $ | 192 | | | $ | 105 | | | $ | 215 | | | $ | 114 | | | $ | 2,676 | | | $ | 2,045 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 34.3% | | 50.4% | | 34.8% | | 27.8% | | 18.0% | | 39.7% |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | AAA | | | AA | | | A | | | BBB | | | BB and Below | | | Total | | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | 2003 & Prior | | $ | 79 | | | $ | 75 | | | $ | 203 | | | $ | 175 | | | $ | 94 | | | $ | 71 | | | $ | 24 | | | $ | 17 | | | $ | 6 | | | $ | 5 | | | $ | 406 | | | $ | 343 | | 2004 | | | 128 | | | | 116 | | | | 358 | | | | 287 | | | | 2 | | | | 2 | | | | 2 | | | | 1 | | | | — | | | | — | | | | 490 | | | | 406 | | 2005 | | | 101 | | | | 92 | | | | 761 | | | | 622 | | | | 13 | | | | 10 | | | | 2 | | | | 2 | | | | 9 | | | | 7 | | | | 886 | | | | 733 | | 2006 | | | 338 | | | | 277 | | | | 58 | | | | 40 | | | | 29 | | | | 20 | | | | 71 | | | | 49 | | | | 31 | | | | 18 | | | | 527 | | | | 404 | | 2007 | | | 258 | | | | 208 | | | | 52 | | | | 24 | | | | 37 | | | | 31 | | | | 27 | | | | 14 | | | | 66 | | | | 35 | | | | 440 | | | | 312 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 904 | | | $ | 768 | | | $ | 1,432 | | | $ | 1,148 | | | $ | 175 | | | $ | 134 | | | $ | 126 | | | $ | 83 | | | $ | 112 | | | $ | 65 | | | $ | 2,749 | | | $ | 2,198 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 32.7% | | 48.2% | | 32.5% | | 18.8% | | 17.8% | | 40.0% |
December 31, 2007
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, 2007 | | December 31, 2007 | | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | Cost | | Value | | Cost | | Value | | Cost | | Fair Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | 2003 & Prior | | $ | 93 | | $ | 92 | | $ | 213 | | $ | 199 | | $ | 113 | | $ | 94 | | $ | 8 | | $ | 7 | | $ | 7 | | $ | 7 | | $ | 434 | | $ | 399 | | | $ | 93 | | $ | 92 | | $ | 213 | | $ | 199 | | $ | 113 | | $ | 94 | | $ | 8 | | $ | 7 | | $ | 7 | | $ | 7 | | $ | 434 | | $ | 399 | | 2004 | | 133 | | 131 | | 358 | | 324 | | 2 | | 2 | | 2 | | 1 | | — | | — | | 495 | | 458 | | | 133 | | 131 | | 358 | | 324 | | 2 | | 2 | | 2 | | 1 | | — | | — | | 495 | | 458 | | 2005 | | 113 | | 107 | | 796 | | 713 | | 8 | | 5 | | 10 | | 3 | | 33 | | 23 | | 960 | | 851 | | | 113 | | 107 | | 796 | | 713 | | 8 | | 5 | | 10 | | 3 | | 33 | | 23 | | 960 | | 851 | | 2006 | | 457 | | 413 | | 67 | | 55 | | 2 | | 3 | | 3 | | 2 | | 8 | | 2 | | 537 | | 475 | | | 457 | | 413 | | 67 | | 55 | | 2 | | 3 | | 3 | | 2 | | 8 | | 2 | | 537 | | 475 | | 2007 | | 280 | | 241 | | 71 | | 39 | | 56 | | 47 | | 21 | | 20 | | 25 | | 27 | | 453 | | 374 | | | 280 | | 241 | | 71 | | 39 | | 56 | | 47 | | 21 | | 20 | | 25 | | 27 | | 453 | | 374 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,076 | | $ | 984 | | $ | 1,505 | | $ | 1,330 | | $ | 181 | | $ | 151 | | $ | 44 | | $ | 33 | | $ | 73 | | $ | 59 | | $ | 2,879 | | $ | 2,557 | | | $ | 1,076 | | $ | 984 | | $ | 1,505 | | $ | 1,330 | | $ | 181 | | $ | 151 | | $ | 44 | | $ | 33 | | $ | 73 | | $ | 59 | | $ | 2,879 | | $ | 2,557 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 32.7% | | 47.3% | | 21.1% | | 19.6% | | 17.1% | | 39.8% | | 32.7% | | 47.3% | | 21.1% | | 19.6% | | 17.1% | | 39.8% |
| | | [1] | | The vintage year represents the year the underlying loans in the pool were originated. | | [2] | | The Company’s exposure to second lien residential mortgages is composed primarily of loans to prime and Alt-A borrowers, of which approximately over half were wrapped by monoline insurers. These securities are included in the table above and have an amortized cost and fair value of $221$203 and $179,$120, respectively, as of March 31,June 30, 2008 and $260 and $217, respectively, as of December 31, 2007. | | [3] | | As of March 31,June 30, 2008, the weighted average life of the sub-prime residential mortgage portfolio was 4.33.2 years. | | [4] | | As of March 31,June 30, 2008, approximately 83% of the portfolio is backed by adjustable rate mortgages. | | [5] | | The credit qualities above include downgrades since December 31, 2007. |
Commercial Mortgage Loans Commercial real estate market cash flow fundamentals have been solid with mortgage delinquencies near all time lows. Recently, however, commercial real estate rents and property values have begun to soften. The following tables represent the Company’s exposure to CMBS bonds and commercial real estate CDOs by credit quality and vintage year. Credit protection represents the current weighted average percentage excluding wrapped securities, of the capital structure subordinated to the Company’s investment holding that is available to absorb losses before the security incurs the first dollar loss of principal. This credit protection does not include any equity interest or property value in excess of outstanding debt. The table below does not include the Company’s exposure to CMBS IOs. These securities are AAA rated and have an amortized cost and fair value of $1,661$1,580 and $1,771,$1,671, respectively, as of March 31,June 30, 2008 and $1,741 and $1,831, respectively, as of December 31, 2007. CMBS — Bonds [1] March 31, 2008
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | June 30, 2008 | | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | 2003 & Prior | | $ | 2,595 | | $ | 2,599 | | $ | 500 | | $ | 475 | | $ | 178 | | $ | 157 | | $ | 39 | | $ | 39 | | $ | 37 | | $ | 36 | | $ | 3,349 | | $ | 3,306 | | | $ | 2,386 | | $ | 2,349 | | $ | 483 | | $ | 453 | | $ | 177 | | $ | 162 | | $ | 39 | | $ | 37 | | $ | 37 | | $ | 36 | | $ | 3,122 | | $ | 3,037 | | 2004 | | 770 | | 756 | | 89 | | 75 | | 65 | | 52 | | 23 | | 19 | | — | | — | | 947 | | 902 | | | 725 | | 707 | | 85 | | 73 | | 65 | | 53 | | 23 | | 19 | | — | | — | | 898 | | 852 | | 2005 | | 1,317 | | 1,265 | | 462 | | 370 | | 350 | | 299 | | 68 | | 59 | | 23 | | 21 | | 2,220 | | 2,014 | | | 1,215 | | 1,152 | | 462 | | 376 | | 351 | | 299 | | 64 | | 53 | | 23 | | 20 | | 2,115 | | 1,900 | | 2006 | | 3,015 | | 2,749 | | 363 | | 285 | | 538 | | 453 | | 442 | | 363 | | 19 | | 16 | | 4,377 | | 3,866 | | | 2,811 | | 2,590 | | 361 | | 281 | | 526 | | 432 | | 423 | | 343 | | 26 | | 22 | | 4,147 | | 3,668 | | 2007 | | 1,172 | | 1,061 | | 460 | | 371 | | 179 | | 144 | | 181 | | 144 | | 3 | | 2 | | 1,995 | | 1,722 | | | 1,038 | | 937 | | 439 | | 342 | | 157 | | 122 | | 150 | | 116 | | 3 | | 2 | | 1,787 | | 1,519 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 8,869 | | $ | 8,430 | | $ | 1,874 | | $ | 1,576 | | $ | 1,310 | | $ | 1,105 | | $ | 753 | | $ | 624 | | $ | 82 | | $ | 75 | | $ | 12,888 | | $ | 11,810 | | | $ | 8,175 | | $ | 7,735 | | $ | 1,830 | | $ | 1,525 | | $ | 1,276 | | $ | 1,068 | | $ | 699 | | $ | 568 | | $ | 89 | | $ | 80 | | $ | 12,069 | | $ | 10,976 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 24.6% | | 16.4% | | 13.1% | | 7.6% | | 3.3% | | 21.2% | | 24.3% | | 16.2% | | 12.4% | | 7.5% | | 3.9% | | 20.8% |
103127
December 31, 2007
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, 2007 | | December 31, 2007 | | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | 2003 & Prior | | $ | 2,666 | | $ | 2,702 | | $ | 495 | | $ | 502 | | $ | 289 | | $ | 292 | | $ | 30 | | $ | 32 | | $ | 46 | | $ | 49 | | $ | 3,526 | | $ | 3,577 | | | $ | 2,666 | | $ | 2,702 | | $ | 495 | | $ | 502 | | $ | 289 | | $ | 292 | | $ | 30 | | $ | 32 | | $ | 46 | | $ | 49 | | $ | 3,526 | | $ | 3,577 | | 2004 | | 709 | | 708 | | 89 | | 87 | | 130 | | 128 | | 23 | | 21 | | — | | — | | 951 | | 944 | | | 709 | | 708 | | 89 | | 87 | | 130 | | 128 | | 23 | | 21 | | — | | — | | 951 | | 944 | | 2005 | | 1,280 | | 1,258 | | 479 | | 454 | | 404 | | 389 | | 85 | | 76 | | 24 | | 21 | | 2,272 | | 2,198 | | | 1,280 | | 1,258 | | 479 | | 454 | | 404 | | 389 | | 85 | | 76 | | 24 | | 21 | | 2,272 | | 2,198 | | 2006 | | 2,975 | | 2,910 | | 415 | | 395 | | 763 | | 739 | | 456 | | 400 | | 24 | | 22 | | 4,633 | | 4,466 | | | 2,975 | | 2,910 | | 415 | | 395 | | 763 | | 739 | | 456 | | 400 | | 24 | | 22 | | 4,633 | | 4,466 | | 2007 | | 1,365 | | 1,342 | | 461 | | 431 | | 240 | | 220 | | 190 | | 165 | | 3 | | 3 | | 2,259 | | 2,161 | | | 1,365 | | 1,342 | | 461 | | 431 | | 240 | | 220 | | 190 | | 165 | | 3 | | 3 | | 2,259 | | 2,161 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 8,995 | | $ | 8,920 | | $ | 1,939 | | $ | 1,869 | | $ | 1,826 | | $ | 1,768 | | $ | 784 | | $ | 694 | | $ | 97 | | $ | 95 | | $ | 13,641 | | $ | 13,346 | | | $ | 8,995 | | $ | 8,920 | | $ | 1,939 | | $ | 1,869 | | $ | 1,826 | | $ | 1,768 | | $ | 784 | | $ | 694 | | $ | 97 | | $ | 95 | | $ | 13,641 | | $ | 13,346 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 23.8% | | 16.4% | | 13.6% | | 6.8% | | 3.7% | | 20.6% | | 23.8% | | 16.4% | | 13.6% | | 6.8% | | 3.7% | | 20.6% |
| | | [1] | | The vintage year represents the year the pool of loans was originated. |
CMBS — CRE CDOs [1] [2] [3] March 31, 2008 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 [4] | | | | AAA | | | AA | | | A | | | BBB | | | BB and Below | | | Total | | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | 2003 & Prior | | $ | 280 | | | $ | 223 | | | $ | 96 | | | $ | 72 | | | $ | 55 | | | $ | 29 | | | $ | 41 | | | $ | 25 | | | $ | 53 | | | $ | 21 | | | $ | 525 | | | $ | 370 | | 2004 | | | 148 | | | | 119 | | | | 28 | | | | 19 | | | | 11 | | | | 6 | | | | 22 | | | | 15 | | | | 21 | | | | 9 | | | | 230 | | | | 168 | | 2005 | | | 115 | | | | 81 | | | | 78 | | | | 55 | | | | 59 | | | | 29 | | | | 15 | | | | 10 | | | | 3 | | | | 3 | | | | 270 | | | | 178 | | 2006 | | | 330 | | | | 198 | | | | 121 | | | | 82 | | | | 77 | | | | 44 | | | | 34 | | | | 23 | | | | 5 | | | | 5 | | | | 567 | | | | 352 | | 2007 | | | 159 | | | | 118 | | | | 116 | | | | 79 | | | | 116 | | | | 64 | | | | 29 | | | | 14 | | | | — | | | | — | | | | 420 | | | | 275 | | 2008 | | | 24 | | | | 19 | | | | 11 | | | | 8 | | | | 15 | | | | 9 | | | | 4 | | | | 2 | | | | — | | | | — | | | | 54 | | | | 38 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,056 | | | $ | 758 | | | $ | 450 | | | $ | 315 | | | $ | 333 | | | $ | 181 | | | $ | 145 | | | $ | 89 | | | $ | 82 | | | $ | 38 | | | $ | 2,066 | | | $ | 1,381 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 31.0% | | 28.0% | | 16.5% | | 41.8% | | 52.4% | | 29.7% |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | AAA | | | AA | | | A | | | BBB | | | Total | | | | Amortized Cost | | | Fair Value | | | Amortized Cost | | | Fair Value | | | Amortized Cost | | | Fair Value | | | Amortized Cost | | | Fair Value | | | Amortized Cost | | | Fair Value | | 2003 & Prior | | $ | 357 | | | $ | 288 | | | $ | 93 | | | $ | 71 | | | $ | 48 | | | $ | 39 | | | $ | 12 | | | $ | 8 | | | $ | 510 | | | $ | 406 | | 2004 | | | 158 | | | | 132 | | | | 17 | | | | 12 | | | | 18 | | | | 14 | | | | 8 | | | | 5 | | | | 201 | | | | 163 | | 2005 | | | 169 | | | | 114 | | | | 45 | | | | 34 | | | | 56 | | | | 27 | | | | 6 | | | | 4 | | | | 276 | | | | 179 | | 2006 | | | 499 | | | | 326 | | | | 172 | | | | 111 | | | | 150 | | | | 89 | | | | 46 | | | | 23 | | | | 867 | | | | 549 | | 2007 | | | 107 | | | | 78 | | | | 86 | | | | 55 | | | | 72 | | | | 39 | | | | 13 | | | | 6 | | | | 278 | | | | 178 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,290 | | | $ | 938 | | | $ | 413 | | | $ | 283 | | | $ | 344 | | | $ | 208 | | | $ | 85 | | | $ | 46 | | | $ | 2,132 | | | $ | 1,475 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 34.0% | | 27.1% | | 17.5% | | 11.5% | | 29.7% |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, 2007 | December 31, 2007 | December 31, 2007 | | | | AAA | | AA | | A | | BBB | | Total | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | 2003 & Prior | | $ | 378 | | $ | 320 | | $ | 88 | | $ | 73 | | $ | 64 | | $ | 42 | | $ | 13 | | $ | 10 | | $ | 543 | | $ | 445 | | | $ | 378 | | $ | 320 | | $ | 88 | | $ | 73 | | $ | 64 | | $ | 42 | | $ | 13 | | $ | 10 | | $ | — | | $ | — | | $ | 543 | | $ | 445 | | 2004 | | 170 | | 149 | | 17 | | 15 | | 24 | | 17 | | 8 | | 7 | | 219 | | 188 | | | 170 | | 149 | | 17 | | 15 | | 24 | | 17 | | 8 | | 7 | | — | | — | | 219 | | 188 | | 2005 | | 178 | | 153 | | 63 | | 52 | | 60 | | 42 | | 6 | | 5 | | 307 | | 252 | | | 178 | | 153 | | 63 | | 52 | | 60 | | 42 | | 6 | | 5 | | — | | — | | 307 | | 252 | | 2006 | | 517 | | 436 | | 178 | | 136 | | 149 | | 118 | | 46 | | 34 | | 890 | | 724 | | | 517 | | 436 | | 178 | | 136 | | 149 | | 118 | | 46 | | 34 | | — | | — | | 890 | | 724 | | 2007 | | 107 | | 97 | | 92 | | 80 | | 72 | | 58 | | 13 | | 10 | | 284 | | 245 | | | 107 | | 97 | | 92 | | 80 | | 72 | | 58 | | 13 | | 10 | | — | | — | | 284 | | 245 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 1,350 | | $ | 1,155 | | $ | 438 | | $ | 356 | | $ | 369 | | $ | 277 | | $ | 86 | | $ | 66 | | $ | 2,243 | | $ | 1,854 | | | $ | 1,350 | | $ | 1,155 | | $ | 438 | | $ | 356 | | $ | 369 | | $ | 277 | | $ | 86 | | $ | 66 | | $ | — | | $ | — | | $ | 2,243 | | $ | 1,854 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Credit protection | | 31.5 | % | | | 27.1 | % | | | 16.7 | % | | | 10.4 | % | | | 27.5 | % | | | 31.5% | | 27.1% | | 16.7% | | 10.4% | | — | | 27.5% |
| | | [1] | | The vintage year represents the year that the underlying loanscollateral in the pool werewas originated. Individual CDO market value is allocated by the proportion of collateral within each vintage year. | | [2] | | As of March 31,June 30, 2008, approximately 42%43% of the underlying CMBS CRE CDO collateral are seasoned, below investment grade securities. However, | | [3] | | For certain CDO’s, the Companycollateral manager has the ability to reinvest proceeds that become available, primarily investsfrom collateral maturities. The increase in the AAA tranche of the CDO capital structure.2008 vintage year represents reinvestment under these CDO’s. | | [4] | | The credit qualities above include downgrades since December 31, 2007. |
In addition to commercial mortgage-backed securities, the companyCompany has whole loan commercial real estate investments. The carrying value of these investments was $5.5 billion$5.9 and $5.4 billion as of March 31,June 30, 2008 and December 31, 2007, respectively. The Company’s mortgage loans are collateralized by a variety of commercial and agricultural properties. The mortgage loans are geographically dispersed throughout the United States and by property type. At March 31,June 30, 2008, and December 31, 2007, the Company held no impaired, restructured,one delinquent or in-process-of-foreclosure mortgage loans and accordinglyloan with a carrying value of $60, however, the value of the underlying collateral exceeds the carrying value. Accordingly, the Company had no valuation allowance for mortgage loans at March 31, 2008 and December 31, 2007.June 30, 2008. 104
Consumer Loans The Company continues to see weakness in consumer credit fundamentals. Rising delinquency and loss rates have been driven by the softening economy and higher unemployment rates. Delinquencies and losses on consumer loans rose modestly during the firstsecond quarter of 2008 and the Company expects this trend to continue throughout the year. However, the Company does not expect its ABS consumer loan holdings to face credit concerns, as the borrower collateral quality and structural credit enhancement of the securities is sufficient to absorb a significantly higher level of defaults than are currently anticipated. The following table presents the Company’s exposure to ABS consumer loans by credit quality. 128
ABS Consumer Loans March 31, 2008
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | AAA | | | AA | | | A | | | BBB | | | BB and Below | | | Total | | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | Amortized | | | Fair | | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | | Cost | | | Value | | Credit card [1] | | $ | 167 | | | $ | 166 | | | $ | 6 | | | $ | 6 | | | $ | 156 | | | $ | 153 | | | $ | 572 | | | $ | 535 | | | $ | — | | | $ | — | | | $ | 901 | | | $ | 860 | | Auto [2] | | | 211 | | | | 207 | | | | 27 | | | | 28 | | | | 156 | | | | 150 | | | | 208 | | | | 201 | | | | 41 | | | | 35 | | | | 643 | | | | 621 | | Student loan [3] | | | 312 | | | | 267 | | | | 333 | | | | 284 | | | | 140 | | | | 111 | | | | — | | | | — | | | | — | | | | — | | | | 785 | | | | 662 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 690 | | | $ | 640 | | | $ | 366 | | | $ | 318 | | | $ | 452 | | | $ | 414 | | | $ | 780 | | | $ | 736 | | | $ | 41 | | | $ | 35 | | | $ | 2,329 | | | $ | 2,143 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
December 31, 2007
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | June 30, 2008 | | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Credit card [1] | | $ | 166 | | $ | 166 | | $ | 19 | | $ | 19 | | $ | 162 | | $ | 162 | | $ | 610 | | $ | 591 | | $ | — | | $ | — | | $ | 957 | | $ | 938 | | | $ | 373 | | $ | 372 | | $ | 6 | | $ | 5 | | $ | 150 | | $ | 148 | | $ | 509 | | $ | 472 | | $ | — | | $ | — | | $ | 1,038 | | $ | 997 | | Auto [2] | | 274 | | 270 | | 27 | | 27 | | 151 | | 148 | | 198 | | 192 | | 42 | | 39 | | 692 | | 676 | | | 171 | | 166 | | 36 | | 36 | | 152 | | 145 | | 214 | | 203 | | 41 | | 29 | | 614 | | 579 | | Student loan [3] | | 313 | | 297 | | 333 | | 317 | | 140 | | 133 | | — | | — | | — | | — | | 786 | | 747 | | | 309 | | 259 | | 333 | | 288 | | 141 | | 104 | | — | | — | | — | | — | | 783 | | 651 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | $ | 753 | | $ | 733 | | $ | 379 | | $ | 363 | | $ | 453 | | $ | 443 | | $ | 808 | | $ | 783 | | $ | 42 | | $ | 39 | | $ | 2,435 | | $ | 2,361 | | | $ | 853 | | $ | 797 | | $ | 375 | | $ | 329 | | $ | 443 | | $ | 397 | | $ | 723 | | $ | 675 | | $ | 41 | | $ | 29 | | $ | 2,435 | | $ | 2,227 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, 2007 | | December 31, 2007 | | | | | AAA | | AA | | A | | BBB | | BB and Below | | Total | | | | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | Amortized | | Fair | | | | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Cost | | Value | | Credit card [1] | | | $ | 166 | | $ | 166 | | $ | 19 | | $ | 19 | | $ | 162 | | $ | 162 | | $ | 610 | | $ | 591 | | $ | — | | $ | — | | $ | 957 | | $ | 938 | | Auto [2] | | | 274 | | 270 | | 27 | | 27 | | 151 | | 148 | | 198 | | 192 | | 42 | | 39 | | 692 | | 676 | | Student loan [3] | | | 313 | | 297 | | 333 | | 317 | | 140 | | 133 | | — | | — | | — | | — | | 786 | | 747 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | | $ | 753 | | $ | 733 | | $ | 379 | | $ | 363 | | $ | 453 | | $ | 443 | | $ | 808 | | $ | 783 | | $ | 42 | | $ | 39 | | $ | 2,435 | | $ | 2,361 | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | As of March 31,June 30, 2008, approximately 14%12% of the securities were issued by lenders that lend primarily to sub-prime borrowers. | | [2] | | Includes monoline insured securities with an amortized cost and fair value of $50$57 and $49,$55, respectively, at March 31,June 30, 2008, and amortized cost and fair value of $49 at December 31, 2007. Additionally, approximately 7%6% of the auto consumer loan-backed securities were issued by lenders whose primary business is to sub-prime borrowers. | | [3] | | Includes monoline insured securities with an amortized cost and fair value of $102 and $77, respectively, at March 31,June 30, 2008, and amortized cost and fair value of $102 and $93, respectively, at December 31, 2007. Additionally, approximately half of the student loan-backed exposure is guaranteed by the Federal Family Education Loan Program, with the remainder comprised of loans to prime-borrowers. |
Monoline Insured Securities Monoline insurers guarantee the timely payment of principal and interest of certain securities. Municipalities will often purchase monoline insurance to “wrap” a security issuance in order to benefit from better market execution. Recent rating agency downgrades of bond insurers have not had a significant impact on the fair value of the Company’s insured portfolio; however, these downgrades have caused a shift in rating quality from AAA rated to AA and A rated since December 31, 2007. As of June 30, 2008, the fair value of the Company’s total monoline insured securities was $7.8 billion, with the fair value of the insured municipal securities totaling $7 billion. At June 30, 2008 and December 31, 2007, the overall credit quality of the municipal bond portfolio, including the benefits of monoline insurance, was AA- and AA+, respectively, and excluding the benefits of monoline insurance, the overall credit quality was AA-. In addition to the insured municipal securities, as of June 30, 2008, the Company has other insured securities with a fair value of $758. These securities include the below prime mortgage-backed securities and other consumer loan receivables discussed above and corporate securities. The Company also has direct investments in monoline insurers with a fair value of approximately $140 as of June 30, 2008. Fixed Maturity and Equity Securities, Available-for-Sale, Consolidated Unrealized Loss The following table presents the Company’s unrealized loss aging for total fixed maturity and equity securities classified as available-for-sale on a consolidated basis, as of March 31,June 30, 2008 and December 31, 2007, by length of time the security was in an unrealized loss position. Consolidated Unrealized Loss Aging of Total Available-for-Sale Securities | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | December 31, 2007 | | | | March 31, 2008 | | December 31, 2007 | | | Cost or | | Cost or | | | | | | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | Three months or less | | 5,599 | | $ | 15,755 | | $ | 14,968 | | $ | (787 | ) | | 6,070 | | $ | 10,879 | | $ | 10,445 | | $ | (434 | ) | | 2,566 | | $ | 17,888 | | $ | 17,259 | | $ | (629 | ) | | 1,581 | | $ | 10,879 | | $ | 10,445 | | $ | (434 | ) | Greater than three to six months | | 1,897 | | 4,434 | | 3,816 | | | (618 | ) | | 5,341 | | 11,857 | | 10,954 | | | (903 | ) | | 1,040 | | 7,755 | | 7,175 | | | (580 | ) | | 1,052 | | 11,857 | | 10,954 | | | (903 | ) | Greater than six to nine months | | 2,327 | | 10,479 | | 8,735 | | | (1,744 | ) | | 2,584 | | 10,086 | | 9,354 | | | (732 | ) | | 522 | | 4,043 | | 3,464 | | | (579 | ) | | 813 | | 10,086 | | 9,354 | | | (732 | ) | Greater than nine to twelve months | | 1,783 | | 8,466 | | 7,158 | | | (1,308 | ) | | 715 | | 2,756 | | 2,545 | | | (211 | ) | | 800 | | 9,863 | | 8,188 | | | (1,675 | ) | | 262 | | 2,756 | | 2,545 | | | (211 | ) | Greater than twelve months | | 3,005 | | 9,433 | | 8,378 | | | (1,055 | ) | | 3,596 | | 10,563 | | 10,071 | | | (492 | ) | | 1,879 | | 16,897 | | 14,480 | | | (2,417 | ) | | 1,735 | | 10,563 | | 10,071 | | | (492 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | 14,611 | | $ | 48,567 | | $ | 43,055 | | $ | (5,512 | ) | | 18,306 | | $ | 46,141 | | $ | 43,369 | | $ | (2,772 | ) | | 6,807 | | $ | 56,446 | | $ | 50,566 | | $ | (5,880 | ) | | 5,443 | | $ | 46,141 | | $ | 43,369 | | $ | (2,772 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
The increase in thegross unrealized loss amountposition increased $3.1 billion since December 31, 2007 isand $368 since March 31, 2008. The increase since December 31, 2007, primarily the result ofresulted from credit spread widening, offset in part by a decrease in interest rates and other-than-temporary impairments. As ofspreads widening. The increase since March 31, 2008 and December 31, 2007, fixed maturities represented $5,067, or 92%, and $2,538, or 92%, respectively, of the Company’s total unrealized loss associated with securities classified as available-for-sale. The Company held no securities of a single issuer that were at an unrealized loss position in excess of 1% and 2%, respectively, of the total unrealized loss amount as of March 31, 2008 and December 31, 2007.primarily resulted from rising interest rates, partially offset by credit spreads tightening. 105129
Consolidated Unrealized Loss Aging of Total Available-for-Sale Securities Depressed over 20% | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | December 31, 2007 | | | | March 31, 2008 | | December 31, 2007 | | | Cost or | | Cost or | | | | | | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | Consecutive Months | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | Three months or less | | 657 | | $ | 7,403 | | $ | 5,231 | | $ | (2,172 | ) | | 248 | | $ | 1,898 | | $ | 1,327 | | $ | (571 | ) | | 420 | | $ | 3,749 | | $ | 2,472 | | $ | (1,277 | ) | | 248 | | $ | 1,898 | | $ | 1,327 | | $ | (571 | ) | Greater than three to six months | | 95 | | 718 | | 352 | | | (366 | ) | | 27 | | 220 | | 112 | | | (108 | ) | | 330 | | 3,821 | | 2,575 | | | (1,246 | ) | | 27 | | 220 | | 112 | | | (108 | ) | Greater than six to nine months | | 25 | | 117 | | 45 | | | (72 | ) | | — | | — | | — | | — | | | 48 | | 365 | | 203 | | | (162 | ) | | — | | — | | — | | — | | Greater than nine to twelve months | | — | | — | | — | | — | | — | | — | | — | | — | | | 8 | | 3 | | 2 | | | (1 | ) | | — | | — | | — | | — | | Greater than twelve months | | 4 | | 40 | | 28 | | | (12 | ) | | 6 | | 40 | | 26 | | | (14 | ) | | 5 | | 20 | | 12 | | | (8 | ) | | 6 | | 40 | | 26 | | | (14 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | 781 | | $ | 8,278 | | $ | 5,656 | | $ | (2,622 | ) | | 281 | | $ | 2,158 | | $ | 1,465 | | $ | (693 | ) | | 811 | | $ | 7,958 | | $ | 5,264 | | $ | (2,694 | ) | | 281 | | $ | 2,158 | | $ | 1,465 | | $ | (693 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Consolidated Unrealized Loss Aging of Total Available-for-Sale Securities Depressed over 50% (included in the depressed over 20% table above) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | June 30, 2008 | | December 31, 2007 | | | | March 31, 2008 | | December 31, 2007 | | | Cost or | | Cost or | | | | | | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | | Amortized | | Fair | | Unrealized | | Amortized | | Fair | | Unrealized | | Consecutive Months | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | | Items | | Cost | | Value | | Loss | | Items | | Cost | | Value | | Loss | | Three months or less | | 76 | | $ | 616 | | $ | 232 | | $ | (384 | ) | | 36 | | $ | 127 | | $ | 48 | | $ | (79 | ) | | 119 | | $ | 767 | | $ | 318 | | $ | (449 | ) | | 36 | | $ | 127 | | $ | 48 | | $ | (79 | ) | Greater than three to six months | | 10 | | 31 | | 8 | | | (23 | ) | | 4 | | 17 | | 1 | | | (16 | ) | | 35 | | 274 | | 91 | | | (183 | ) | | 4 | | 17 | | 1 | | | (16 | ) | Greater than six to nine months | | — | | — | | — | | — | | — | | — | | — | | — | | | 6 | | 29 | | 5 | | | (24 | ) | | — | | — | | — | | — | | Greater than nine to twelve months | | — | | — | | — | | — | | — | | — | | — | | — | | | — | | — | | — | | — | | — | | — | | — | | — | | Greater than twelve months | | — | | — | | — | | — | | — | | — | | — | | — | | | — | | — | | — | | — | | — | | — | | — | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total | | 86 | | $ | 647 | | $ | 240 | | $ | (407 | ) | | 40 | | $ | 144 | | $ | 49 | | $ | (95 | ) | | 160 | | $ | 1,070 | | $ | 414 | | $ | (656 | ) | | 40 | | $ | 144 | | $ | 49 | | $ | (95 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
The majority of the securities depressed over 20% as well as those over 50% for six consecutive months or greater in the tables above are CMBS and sub-prime RMBS. The Company performed quantitative and qualitative analysis on these portfolios, including cash flow modeling. For further discussion, see the discussion below the “Consolidated Fixed MaturitiesAvailable-for-Sale Securities by Type” table in this section above. Additionally, the 20% for six consecutive months or greater in the tables above includes Corporate Financial Services securities that include corporate bonds as well as preferred equity issued by large financial institutions that are lower in the capital structure, and as a result, have incurred greater price depressions. Based upon the Company’s analysis of these securities and current macroeconomic conditions, the Company expects to see significant price recovery on these securities within a reasonable period of time, generally two years. For a further discussion on these securities, see the discussion below the “Consolidated Fixed MaturitiesAvailable-for-Sale Securities by Type” table in this section above. Future changes in the fair value of the investment portfolio isare primarily dependent on the extent of future issuer credit losses, return of liquidity, and changes in general market conditions, including interest rates and credit spreadspreads movements. As part of the Company’s ongoing security monitoring process by a committee of investment and accounting professionals, the Company has reviewed its investment portfolio and concluded that there were no additional other-than-temporary impairments as of March 31,June 30, 2008 and December 31, 2007. During this analysis, the Company asserts its intent and ability to retain until recovery those securities judged to be temporarily impaired. Once identified, these securities are systematically restricted from trading unless approved by the committee. The committee will only authorize the sale of these securities based on predefined criteria that relate to events that could not have been foreseen at the time the committee rendered its judgment on the Company’s intent and ability to retain such securities until recovery. Examples of the criteria include, but are not limited to, the deterioration in the issuer’s creditworthiness, a change in regulatory requirements or a major business combination or major disposition. The evaluation for other-than-temporary impairments is a quantitative and qualitative process, which is subject to risks and uncertainties in the determination of whether declines in the fair value of investments are other-than-temporary. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or near term recovery prospects and the effects of changes in interest rates and credit spreads. In addition, for securitized financial assets with contractual cash flows (e.g., ABS and CMBS), projections of expected future cash flows may change based upon new information regarding the performance of the underlying collateral. As of March 31,June 30, 2008 and December 31, 2007, management’s expectation of the discounted future cash flows on these securities was in excess of the associated securities’ amortized cost. For a further discussion, see “Evaluation of Other-Than-Temporary Impairments on Available-for-Sale Securities” included in the “Critical Accounting Estimates” section of the MD&A and “Other-Than-Temporary Impairments on Available-for-Sale Securities” section in Note 1 of Notes to Consolidated Financial Statements both of which are included in The Hartford’s 2007 Form 10-K Annual Report. 106130
CAPITAL MARKETS RISK MANAGEMENT The Hartford has a disciplined approach to managing risks associated with its capital markets and asset/liability management activities. Investment portfolio management is organized to focus investment management expertise on the specific classes of investments, while asset/liability management is the responsibility of a dedicated risk management unit supporting Life and Property & Casualty operations. Derivative instruments are utilized in compliance with established Company policy and regulatory requirements and are monitored internally and reviewed by senior management. Market Risk The Hartford is exposed to market risk, primarily relating to the market price and/or cash flow variability associated with changes in interest rates, credit spreads, including issuer defaults, equity prices or market indices, and foreign currency exchange rates. The Hartford is also exposed to credit and counterparty repayment risk. The Company analyzes interest rate risk using various models including parametric models that forecast cash flows of the liabilities and the supporting investments, including derivative instruments, under various market scenarios. For further discussion of market risk, see the “Capital Markets Risk Management” section of the MD&A in The Hartford’s 2007 Form 10-K Annual Report. Interest Rate Risk The Company’s exposure to interest rate risk relates to the market price and/or cash flow variability associated with the changes in market interest rates. The Company manages its exposure to interest rate risk through asset allocation limits, asset/liability duration matching and through the use of derivatives. For further discussion of interest rate risk, see the Interest Rate Risk discussion within the Capital Markets Risk Management section of the MD&A in The Hartford’s 2007 Form 10-K Annual Report. The Company is also exposed to interest rate risk based upon the discount rate assumption associated with the Company’s pension and other postretirement benefit obligations. The discount rate assumption is based upon an interest rate yield curve comprised of bonds rated AA or higher with maturities primarily between zero and thirty years. For further discussion of interest rate risk associated with the benefit obligations, see the Critical Accounting Estimates section of the MD&A under “Pension and Other Postretirement Benefit Obligations” and Note 17 of Notes to Consolidated Financial Statements in The Hartford’s 2007 Form 10-K Annual Report. Credit Risk The Company is exposed to credit risk within our investment portfolio and through derivative counterparties. Credit risk relates to the uncertainty of an obligor’s continued ability to make timely payments in accordance with the contractual terms of the instrument or contract. The Company manages credit risk through established investment credit policies which address quality of obligors and counterparties, credit concentration limits, diversification requirements and acceptable risk levels under expected and stressed scenarios. These policies are regularly reviewed and approved by senior management and by the Company’s Board of Directors. The derivative counterparty exposure policy establishes market-based credit limits, favors long-term financial stability and creditworthiness of the counterparty and typically requires credit enhancement/credit risk reducing agreements. The Company minimized the credit risk in derivative instruments by entering into transactions with high quality counterparties rated A2/A or better, which are monitored by the Company’s internal compliance unit and reviewed frequently by senior management. Derivative counterparty credit risk is measured as the amount owed to the Company based upon current market conditions and potential payment obligations between the Company and its counterparties. Credit exposures are generally quantified daily and collateral is pledged to and held by, or on behalf of, the Company to the extent the current value of derivative instruments exceeds the exposure policy thresholds. The Company has exposure to credit risk for amounts below the exposure thresholds which do not exceed $10 byare uncollateralized. Counterparty exposure thresholds are developed for each of the counterparties based upon their ratings. The maximum threshold for a derivative counterparty for eacha single legal entity of the Company.is $10. The Company also minimizescurrently transacts derivatives in five legal entities and therefore the credit risk in derivative instruments by entering into transactions with high quality counterparties rated A2/A or better.maximum combined exposure for a single counterparty over all legal entities that use derivatives is $50. In addition to counterparty credit risk, the Company enters into credit derivative instruments, including credit default, index and total return swaps, in which the Company assumes credit risk from or reduces credit risk to a single entity, referenced index, or asset pool, in exchange for periodic payments. For further information on credit derivatives, see the “Investment Credit Risk” section. The Company is also exposed to credit spreadspreads risk related to security market price and cash flows associated with changes in credit spreads. Credit spreads widening will reduce the fair value of the investment portfolio and will increase net investment income on new purchases. This will also result in losses associated with credit based non-qualifying derivatives where the Company assumes credit exposure. If issuer credit spreads increase significantly or for an extended period of time, it would likely result in higher other-than-temporary impairments. Credit spreads tightening will reduce net investment income associated with new purchases of fixed maturities and increase the fair value of the investment portfolio. During the first quarter of 2008, credit spreads widening resulted in a significant increase in the Company’s unrealized losses. For further discussion of sectors most significantly impacted, see the “Investment Credit Risk” section. 131
Life’s Equity Products Risk The Company’s Life operations are significantly influenced by changes in the equity markets, primarily in the U.S., but increasingly in JapanJapanese, and other global equity markets. Appreciation or depreciation in equity markets impacts certain assets and liabilities related to the Company’s variable products and the Company’s net income derived from those products. The Company’s profitabilityvariable products include variable annuities, mutual funds, and variable life insurance sold to retail and institutional customers. Generally, declines in its investment products businesses depends largelyequity markets will: • | | reduce the value of assets under management and the amount of fee income generated from those assets; | | • | | reduce the value of equity securities, held for trading, for international variable annuities, the related policyholder funds and benefits payable, and the amount of fee income generated from those annuities; | | • | | increase the liability for guaranteed minimum withdrawal and accumulation benefits (GMWB and GMAB) resulting in realized capital losses; | | • | | increase the value of derivative assets used to hedge GMWB resulting in realized capital gains; | | • | | increase the Company’s net amount at risk for guaranteed death benefits and guaranteed income benefits; and | | • | | decrease the Company’s actual gross profits, resulting in a negative true-up to current period DAC amortization. |
A prolonged or precipitous market decline may: • | | turn customer sentiment toward equity-linked products negative, causing a decline in sales; | | • | | cause a significant decrease in the range of reasonable estimates of future gross profits used in the Company’s quantitative assessment of its modeled estimates of gross profits. If, in a given financial statement period, the modeled estimates of gross profits are determined to be unreasonable, the Company will accelerate the amount of DAC amortization in that period. Particularly in the case of variable annuities, an acceleration of DAC amortization could potentially cause a material adverse deviation in that period’s net income, but it would not affect the Company’s cash flow or liquidity position. See Life Estimated Gross Profits Used in the Valuation and Amortization of Assets and Liabilities Associated with Variable Annuity and Other Universal Life-Type Contracts within Critical Accounting Estimates for further information on DAC and related equity market sensitivities. | | • | | increase costs under the Company’s hedging programs. |
In addition to the impact on U.S. GAAP results, Life’s statutory financial results also have exposure to equity market volatility due to the issuance of variable annuity contracts with guarantees. Specifically, in scenarios where equity markets decline substantially, we would expect lower statutory net income and significant increases in the amount of assets under management, which is primarily driven by the level of deposits, equity market appreciation and depreciation and the persistency of the in-force block of business. Prolonged and precipitous declines in the equity markets can have a significant effect on the Company’s operations, as sales of variable products may decline and surrender activity may increase, as customer sentiment towards the equity market turns negative. Lower assets under management will have a negative effect on the Company’s financial results, primarily due to lower fee income related to the Retail, Retirement Plans, Institutional, International and, to a lesser extent, the Individualstatutory surplus Life segment, where a heavy concentration of equity linked products are administered and sold. Furthermore, the Company may experience a reduction in profit margins if a significant portion of the assets held in the U.S. variable annuity separate accounts move to the general account and the Company is unable to earn an acceptable investment spread, particularly in light of the low interest rate environment and the presence of contractually guaranteed minimum interest credited rates, which for the most part are at a 3% rate.
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In addition, immediate and significant declines in one or more equity markets may also decrease the Company’s expectations of future gross profits in one or more product lines, which are utilized to determine the amount of DAC to be amortized in reporting product profitability in a given financial statement period. A significant decrease in the Company’s future estimated gross profits would require the Company to accelerate the amount of DAC amortization in a given period, which, particularly in the case of U.S. variable annuities, could potentially cause a material adverse deviation in that period’s net income. Although an acceleration of DAC amortization would have a negative effect on the Company’s earnings, it would not affect the Company’s cash flow or liquidity position.
The Company sells variable annuity contracts that offer one or more living benefits, the value of which, to the policyholder, generally increases with declines in equity markets. As is described in more detail below, the Company manages the equity market risks embedded in these guarantees through reinsurance, product design and hedging programs. The Company believes its abilitydevote to manage equity market risks by these means gives it a competitive advantage; and, in particular, its ability to create innovative product designs that allow the Company to meet identified customer needs while generating manageable amounts of equity market risk. The Company’s relative sales and variable annuity market share in the U.S. have generally increased during periods when it has recently introduced new products to the market. In contrast, the Company’s relative sales and market share have generally decreased when competitors introduce products that cause an issuer to assume larger amounts of equitymaintain targeted rating agency, regulatory risk based capital (“RBC”) ratios and other market risk than the Company is confident it can prudently manage. The Company believes its long-term success in the variable annuity market will continue to be aided by successful innovation that allows the Company to offer attractive product features in tandem with prudent equity market risk management. In the absence of this innovation, the Company’s market share in one or more of its markets could decline. At times, the Company has experienced lower levels of U.S. variable annuity sales as competitors continue to introduce new equity guarantees of increasing risk and complexity. New product development is an ongoing process. During the first quarter of 2007, the Company launched a new product in its Japan variable annuity business (“3 Win”) which provides three different potential outcomes for the contract holder. The first outcome allows the contract holder to lock-in gains on their account value after a 5-year waiting period and upon reaching a specified appreciation target chosen by the policyholder. Upon reaching the target and after a 5-year waiting period, contract holder funds are transferred out of the underlying funds and into the Company’s general account from which the contract holder can access their account value without penalty. The second outcome provides a “safety-net” that provides the contract holder a guaranteed minimum income benefit (“GMIB”) returning the contract holder’s original deposit over 15 years, if the contract holder’s account value drops by more than 20% from the original deposit, or allows the policyholder to cash out of the account value free of any surrender fees. The third outcome provides the contract holder a guaranteed minimum accumulation benefit (“GMAB”) of the contract holder’s original deposit in a lump sum if the first two outcomes are not met after a ten-year waiting period. This is the Company’s first GMAB issuance. GMABs are accounted for differently from GMIBs, as described below. Due to the structure of this product, significant equity market movements, either up, to a level that the specified appreciation target is reached, or down by more than 20% of the actual deposit, can result in significant DAC charges as the life of the product will have expired upon reaching either target. There is also a return of premium death benefit attached to this product. In addition, the Company expects to make further changes in its living benefit offerings from time to time. Depending on the degree of consumer receptivity and competitor reaction to continuing changes in the Company’s product offerings, the Company’s future level of sales will continue to be subject to a high level of uncertainty. As of March 31, 2008, account values and guaranteed balances associated with 3 Win were $3.2 billion and $3.4 billion, respectively.
The accounting for various benefit guarantees offered with variable annuity contracts can be significantly different. Those accounted for under SFAS 133 (such as GMWBs or GMABs) are subject to significant fluctuation in value, which is reflected in net income, due to changes in interest rates, changes in the risk-free rate used for discounting equity markets and equity market volatility as use of those capital market rates are required in determining the liability’s fair value at each reporting date. Benefit guarantee liabilities accounted for under SOP 03-1 (such as GMIBs and GMDBs) may also change in value; however, the change in value is not immediately reflected in net income. Under SOP 03-1, the income statement reflects the current period increase in the liability due to the deferral of a percentage of current period revenues. The percentage is determined by dividing the present value of claims by the present value of revenues using best estimate assumptions over a range of market scenarios and discounted at a rate consistent with that used in the Company’s DAC models. Current period revenues are impacted by actual increases or decreases in account value. Claims recorded against the liability have no immediate impact on the income statement unless those claims exceed the liability. As a result of these significant accounting differences the liability for guarantees recorded under SOP 03-1 may be significantly different than if it was recorded under SFAS 133 and vice versa. In addition, the conditions in the capital markets in Japan vs. those in the U.S. are sufficiently different than if the Company’s GMWB product currently offered in the U.S. were offered in Japan, the capital market conditions in Japan would have a significant impact on the valuation of the GMWB, irrespective of the accounting model. The same would hold true if the Company’s GMIB product currently offered in Japan were to be offered in the U.S. Capital market conditions in the U.S. would have a significant impact on the valuation of the GMIB. Many benefit guarantees meet the definition of an embedded derivative, under SFAS 133 (GMWB and GMAB), and as such are recorded at fair value with changes in fair value recorded in net income.similar solvency margin ratios. However, certain contract features that define how the contract holder can access the value and substance of the guaranteed benefit change the accounting from SFAS 133 to SOP 03-1. For contracts where the contract holder can only obtain the value of the guaranteed benefit upon the occurrence of an insurable event such as death (GMDB) or when the benefit received is in substance a long-term financing (GMIB) the accounting for the benefit is prescribed by SOP 03-1.
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In the U.S., the Company sells variable annuity contracts that offer various guaranteed death benefits. The Company maintains a liability, under SOP 03-1, for the death benefit costs of $536, as of March 31, 2008. Declines in the equity market may increase the Company’s net exposure to death benefits under these contracts. The majority of the contracts with the guaranteed death benefit feature are sold by the Retail segment. For certain guaranteed death benefits, The Hartford pays the greater of (1) the account value at death; (2) the sum of all premium payments less prior withdrawals; or (3) the maximum anniversary value of the contract, plus any premium payments since the contract anniversary, minus any withdrawals following the contract anniversary.
For certain guaranteed death benefits sold with variable annuity contracts beginning in June 2003, the Retail segment pays the greater of (1) the account value at death; or (2) the maximum anniversary value; not to exceed the account value plus the greater of (a) 25% of premium payments, or (b) 25% of the maximum anniversary value of the contract. The Company currently reinsures a significant portion of these death benefit guarantees associated with its in-force block of business. Under certain of these reinsurance agreements, the reinsurers’ exposure is subject to an annual cap.
The Company’s total gross exposure (i.e., before reinsurance) to these guaranteed death benefits as of March 31, 2008 is $10.5 billion. Due to the fact that 65% of this amount is reinsured, the Company’s net exposure is $3.6 billion. This amount is often referred to as the retained net amount at risk. However, the Company will incur these guaranteed death benefit payments in the future only if the policyholder has an in-the-money guaranteed death benefit at their time of death.
In Japan, the Company offers certain variable annuity products with both a guaranteed death benefit and a guaranteed income benefit. The Company maintains a liability for these death and income benefits, under SOP 03-1, of $47 as of March 31, 2008. Declines in equity markets as well as a strengthening of the Japanese yen in comparison to the U.S. dollar and other currencies may increase the Company’s exposure to these guaranteed benefits. This increased exposure may be significant in extreme market scenarios. For the guaranteed death benefits, the Company pays the greater of (1) account value at death; (2) a guaranteed death benefit which, depending on the contract, may be based upon the premium paid and/or the maximum anniversary value established no later than age 80, as adjusted for withdrawals under the terms of the contract. With the exception of the GMIB in 3 Win as described above, the guaranteed income benefit guarantees to return the contract holder’s initial investment, adjusted for any earnings withdrawals, through periodic payments that commence at the end of a minimum deferral period of 10, 15 or 20 years as elected by the contract holder. The value of the GMAB associated with Japan’s new product offering in the first quarter of 2007, recorded as an embedded derivative under SFAS 133, was a liability of $26 at March 31, 2008.
In April 2006, the Company entered into an indemnity reinsurance agreement with an unrelated party. Under this agreement, the reinsurer will reimburse the Company for death benefit claims, up to an annual cap, incurred for certain death benefit guarantees associated with an in-force block of variable annuity products offered in Japan with an account value of $2.2 billion as of March 31, 2008.
The Company’s total gross exposure (i.e., before reinsurance) to these guaranteed death benefits and income benefits offered in Japan as of March 31, 2008 is $2.8 billion. Due to the fact that 23% of this amount is reinsured, the Company’s net exposure is $2.2 billion. This amount is often referred to as the retained net amount at risk. However, the Company will incur these guaranteed death or income benefits in the future only if the contract holder has an in-the-money guaranteed benefit at either the time of their death or if the account value is insufficient to fund the guaranteed living benefits.
The majority of the Company’s U.S. variable annuities are sold with a GMWB living benefit rider, which, as described above, is accounted for under SFAS 133. Declines in the equity market may increase the Company’s exposure to benefits under the GMWB contracts. For all contracts in effect through July 6, 2003, the Company entered into a reinsurance arrangement to offset its exposure to the GMWB for the remaining lives of those contracts. Substantially all U.S. GMWB riders sold since July 6, 2003 are not covered by reinsurance. These unreinsured contracts generate volatility in net income each quarter as the underlying embedded derivative liabilities are recorded at fair value each reporting period, resulting in the recognition of net realized capital gains or losses in response to changes in certain critical factors including capital market conditions and policyholder behavior. In order to minimize the volatility associated with the unreinsured GMWB liabilities, the Company established an alternative risk management strategy.
The Company uses hedging instruments to hedge its unreinsured GMWB exposure. These instruments include interest rate futures and swaps, variance swaps, S&P 500 and NASDAQ index put options and futures contracts. The Company also uses EAFE Index swaps to hedge GMWB exposure to international equity markets. The hedging program involves a detailed monitoring of policyholder behavior and capital markets conditions on a daily basis and rebalancing of the hedge position as needed. While the Company actively manages this hedge position, hedge ineffectiveness may result due to factors including, but not limited to, policyholder behavior, capital markets dislocation or discontinuity and divergence between the performance of the underlying funds and the hedging indices.
The Company is continually exploring new ways and new markets to manage or layoff the capital markets and policyholder behavior risks associated with its living benefits. During 2007, the Company opportunistically entered into two customized swap contracts to hedge certain capital market risk components for the remaining term of certain blocks of non-reinsured GMWB riders. As of March 31, 2008, these swaps had a notional value of $11.5 billion and a market value of $144.
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The net effect of the change in value of the U.S. and UK embedded derivatives, net of the results of the hedging program, for the three months ended March 31, 2008 and 2007, was a gain (loss) of $(736) (primarily reflecting mortality assumption changes made by the Company during 2008 and the adoption of SFAS 157) and $22 before deferred policy acquisition costs and tax effects, respectively. As of March 31, 2008, the notional and fair value related to the embedded derivatives, the hedging strategy and reinsurance was $75.3 billion and $(628), respectively. As of December 31, 2007, the notional and fair value related to the embedded derivatives, the hedging strategy and reinsurance was $73.8 billion and $55, respectively.
The Company employs additional strategies to manage equity market risk in addition to the derivativeCompany’s use of reinsurance, hedging instruments and reinsurance strategyother risk management techniques, described above that economically hedges the fair value of the U.S. GMWB rider. Notably,below, the Company purchases onemaintains capital resources to manage the statutory net income and two year S&P 500 Index put option contracts to economically hedge certain other liabilities that could increase if thesurplus risks associated with equity markets decline. As of March 31, 2008 and December 31, 2007, the notional value related to this strategy was $595 and $661, respectively, while the fair value related to this strategy was $27 and $18, respectively. Because this strategy is intended to partially hedge certain equity-market sensitive liabilities calculated under statutory accounting (see Capital Resources and Liquidity), changesmarket declines. See Variable Annuity Equity Risk Impact on Statutory Distributable Earnings in the value of the put options may not be closely aligned to changes in liabilities determined in accordance with U.S. GAAP, causing volatility in U.S. GAAP net income.The Company’s Form 10-K for further information.
The Company continually seeks to improve its equity risk management strategies. Equity Risk Management
The Company has made considerable investment in analyzing current and potential future market risk exposures arising from a number of factors, including but not limited to, product guarantees (GMDB, GMWB, GMAB, and GMIB), equity market and interest rate risks (in both the U.S. and Japan) and foreign currency exchange rates. The Company evaluates these risks individually and, increasingly, in the aggregate to determine the risk profiles of all of its products and to judge their potential impacts on financial metrics including, U.S. GAAP net income and statutory capital. The Company manages the equity market risks embedded in these product guarantees through product design, reinsurance, and hedging programs. The accounting for various benefit guarantees offered with variable annuity contracts can be significantly different and may influence the form of risk management employed by the Company. Many benefit guarantees meet the definition of an embedded derivative under SFAS 133 (GMWB and GMAB) and are recorded at fair value, incorporating changes in equity indices and equity index volatility, with changes in fair value recorded in net income. However, for other benefit guarantees, certain contract features that define how the contract holder can access the value and substance of the guaranteed benefit change the accounting from SFAS 133 to SOP 03-1. For contracts where the contract holder can only obtain the value of the guaranteed benefit upon the occurrence of an insurable event such as death (GMDB) or when the benefit received is in substance a long-term financing (GMIB) the accounting for the benefit is prescribed by SOP03-1. As a result of these significant accounting differences, the liability for guarantees recorded under SOP 03-1 may be significantly different than if it was recorded under SFAS 133 and vice versa. In addition, the conditions in the capital volatilitymarkets in Japan vs. those in the U.S. are sufficiently different that if the Company’s GMWB product currently offered in the U.S. were offered in Japan, the capital market conditions in Japan would have a significant impact on the valuation of the GMWB, irrespective of the accounting model. The same would hold true if the Company’s GMIB product currently offered in Japan were to be offered in the U.S. Capital market conditions in the U.S. would have a significant impact on the valuation of the GMIB. 132
The Company believes its long-term success in the variable annuity market will continue to be aided by successful innovation that allows the Company to offer attractive product features in tandem with prudent equity market risk management. The Company’s variable annuity market share in the U.S. has generally increased during periods when it has recently introduced new products to the market. In contrast, the Company’s market share has generally decreased when competitors introduce products that cause an issuer to assume larger amounts of equity and other metrics. Utilizingmarket risk than the Company is confident it can prudently manage. In the absence of this and future analysis,innovation, the Company’s market share in one or more of its markets could decline. The Company expects to evolve its risk management strategies over time modifying its reinsurance, hedging and product design strategies to optimally mitigate its aggregate exposures to market-driven changes in U.S. GAAP equity, statutory capital and other economic metrics. Because these strategies could target an optimala reduction of a combination of exposures rather than targeting a single one, it is possible thatfurther risk management changes could cause volatility of U.S. GAAP net income wouldto increase, particularly if the Company places an increased relative weight on protection of statutory surplus in future strategies. Variable Annuity Equity Risk Impact on Statutory Distributable Earnings
InThe Company employs additional strategies to manage equity market risk in addition to the impact onderivative and reinsurance strategy described above that economically hedges the fair value of the U.S. GMWB rider. Notably, the Company purchases one and two year S&P 500 Index put option contracts to economically hedge certain other liabilities that could increase if the equity markets decline. Because this strategy is intended to partially hedge certain equity-market sensitive liabilities calculated under statutory accounting (see Capital Resources and Liquidity), changes in the value of the put options may not be closely aligned to changes in liabilities determined in accordance with U.S. GAAP, results, Life’s statutory financial results also havecausing volatility in U.S. GAAP net income.
Guaranteed Minimum Withdrawal Benefits and Guaranteed Minimum Accumulation Benefits The majority of the Company’s U.S. and U.K. variable annuities are sold with a GMWB living benefit rider, which is accounted for under SFAS 133. Declines in the equity market may increase the Company’s exposure to benefits under the GMWB contracts and will increase the Company’s existing liability for those benefits. The fair value of the Company’s GMWB obligations was $1.7 billion as of June 30, 2008. The Company uses reinsurance to manage the risk exposure for a portion of contracts issued with GMWB riders. The fair value of the Company’s reinsurance asset as of June 30, 2008 was $250. Contracts not covered by reinsurance generate volatility in net income each quarter as the underlying embedded derivative liabilities are recorded at fair value. In order to minimize the volatility associated with the non-reinsured GMWB liabilities, the Company established a dynamic hedging program. The Company uses hedging instruments to hedge its non-reinsured GMWB exposure. These instruments include interest rate futures and swaps, variance swaps, S&P 500 and NASDAQ index put options and futures contracts. The Company also uses EAFE Index swaps to hedge GMWB exposure to international equity markets. The fair value of these hedging instruments at June 30, 2008 was $784. The hedging program involves a detailed monitoring of policyholder behavior and capital markets conditions on a daily basis and rebalancing of the hedge position as needed. While the Company actively manages this hedge position within defined risk parameters, hedge ineffectiveness may also result from factors including, but not limited to, policyholder behavior, capital markets dislocation or discontinuity and divergence between the performance of the underlying funds and the hedging indices. The Company is continually exploring new ways and new markets to manage or layoff the capital markets and policyholder behavior risks associated with its living benefits. During 2007 and in April of 2008, the Company entered into customized swap contracts to hedge certain capital market volatility due torisk components for the issuanceremaining term of specific blocks of non-reinsured GMWB riders. As of June 30, 2008, these swaps had a notional value of $14.6 billion and a market value of $85. The following table illustrates the Company’s U.S. GMWB account value by type of SFAS 133/157 risk management strategy: | | | | | | | | | | | Risk Management Strategy | | Duration | | Account Value | | | % | | Entire risk reinsured with a third party | | Life of Product | | $ | 8,526 | | | | 16 | %[1] | Capital markets risk transferred to a third party — behavior risk retained by the Company | | Designed to cover the effective life of the product | | | 14,581 | | | | 28 | % | Dynamic hedging of capital markets risk using various derivative instruments | | Weighted average of 7 years | | | 28,798 | | | | 56 | % | | | | | | | | | | | | | | $ | 51,905 | | | | 100 | % | | | | | | | | | |
| | | [1] | | During July 2008, the Company executed an agreement to reinsure GMWB risks to a third party. Had this transaction been in place on June 30, 2008, approximately $15.0 billion or 29% of our U.S. GMWB would have been covered by reinsurance. |
The net effect of the change in value of the U.S. and UK embedded derivatives, net of the results of the risk management programs, for the three months ended June 30, 2008 and 2007, was a loss of $13 and $133 before deferred acquisition costs and tax effects, respectively. The net effect of the change in value of the U.S. and UK embedded derivatives, net of the results of the hedging program, for the six months ended June 30, 2008 and 2007, was a loss of $749 (primarily reflecting the adoption of SFAS 157 and mortality assumption changes made by the Company during 2008) and $111 before deferred policy acquisition costs and tax effects, respectively. The value of the GMAB associated with Japan’s product offering, recorded as an embedded derivative under SFAS 133, was a liability of $23 at June 30, 2008. Guaranteed Minimum Death Benefits and Guaranteed Minimum Income Benefits In the U.S., the Company sells variable annuity contracts that offer various guaranteed death benefits. The Company maintains a liability, under SOP 03-1, for the death benefit costs of $546, as of June 30, 2008. Declines in the equity market may increase the Company’s exposure to death benefits under these contracts. 133
The Company’s total gross exposure (i.e., before reinsurance) to U.S. guaranteed death benefits as of June 30, 2008 is $11.1 billion. The Company will incur these guaranteed death benefit payments in the future only if the policyholder has an in-the-money guaranteed death benefit at their time of death. The Company currently reinsures 63% of these death benefit guarantees. Under certain of these reinsurance agreements, the reinsurers’ exposure is subject to an annual cap. The Company’s net exposure (i.e. after reinsurance) is $4.1 billion, as of June 30, 2008. This amount is often referred to as the retained net amount at risk. In Japan, the Company offers certain variable annuity products with guarantees. Specifically,both a guaranteed death benefit and a guaranteed income benefit. The Company maintains a liability for these death and income benefits, under SOP 03-1, of $44 as of June 30, 2008. Declines in scenarios where equity markets decline substantially, we would expect lower statutory netas well as a strengthening of the Japanese yen in comparison to the U.S. dollar and other currencies may increase the Company’s exposure to these guaranteed benefits. This increased exposure may be significant in extreme market scenarios. The Company’s total gross exposure (i.e., before reinsurance) to these guaranteed death benefits and income and significant increasesbenefits offered in Japan as of June 30, 2008 is $2.2 billion. However, the Company will incur these guaranteed death or income benefits in the future only if the contract holder has an in-the-money guaranteed benefit at either the time of their death or if the account value is insufficient to fund the guaranteed living benefits. The Company currently reinsures 22% of the death benefit guarantees. Under certain of these reinsurance agreements, the reinsurers’ exposure is subject to an annual cap. For these products, the Company’s retained net amount of statutory surplus Life would have to devote to maintain targeted rating agency, regulatoryat risk based capital (“RBC”) ratios and other similar solvency margin ratios.is $1.7 billion. Derivative Instruments The Hartford utilizes a variety of derivative instruments, including swaps, caps, floors, forwards, futures and options, in compliance with Company policy and regulatory requirements, designed to achieve one of four Company approved objectives: to hedge risk arising from interest rate, equity market, credit spreads including issuer defaults, price or foreign currency exchange rate risk or volatility; to manage liquidity; to control transaction costs; or to enter into replication transactions. 110134
CAPITAL RESOURCES AND LIQUIDITY Capital resources and liquidity represent the overall financial strength of The Hartford and its ability to generate strong cash flows from each of the business segments, borrow funds at competitive rates and raise new capital to meet operating and growth needs. Liquidity Requirements The liquidity requirements of The Hartford have been and will continue to be met by funds from operations as well as the issuance of commercial paper, common stock, debt or other capital securities and borrowings from its credit facilities. Current and expected patterns of claim frequency and severity may change from period to period but continue to be within historical norms and, therefore, the Company’s current liquidity position is considered to be sufficient to meet anticipated demands. However, if an unanticipated demand was placed on the Company, it is likely that the Company would either sell certain of its investments to fund claims which could result in larger than usual realized capital gains and losses or the Company would enter the capital markets to raise further funds to provide the requisite liquidity. For a discussion and tabular presentation of the Company’s current contractual obligations by period, including those related to its Life and Property & Casualty insurance operations, refer to Off-Balance Sheet Arrangements and Aggregate Contractual Obligations within the Capital Resources and Liquidity section of the MD&A included in The Hartford’s 2007 Form 10-K Annual Report. The Hartford endeavors to maintain a capital structure that provides financial and operational flexibility to its insurance subsidiaries, ratings that support its competitive position in the financial services marketplace (see the “Ratings” section below for further discussion), and strong shareholder returns. As a result, the Company may from time to time raise capital from the issuance of stock, debt or other capital securities. The issuance of common stock, debt or other capital securities could result in the dilution of shareholder interests or reduced net income due to additional interest expense. In June 2008, The Hartford’s Board of Directors has authorized a new $1 billion stock repurchase program which is in addition to the Company to repurchase up topreviously announced $2 billion of its securities. As of March 31, 2008, The Hartford repurchased $1.2 billion of its common stock (12.9 million shares) under this program. The Company’s repurchase authorization permits purchases of common stock, which may be in the open market or through privately negotiated transactions. The Company also may enter into derivative transactions to facilitate future repurchases of common stock. The timing of any future repurchases will be dependent upon several factors, including the market price of the Company’s securities, the Company’s capital position, consideration of the effect of any repurchases on the Company’s financial strength or credit ratings, and other corporate considerations. The repurchase program may be modified, extended or terminated by the Board of Directors at any time. As of June 30, 2008, The Hartford has completed the $2 billion stock repurchase program and has $936 remaining for stock repurchase under the new $1 billion repurchase program. For further discussion of treasury shares acquired in 2008, refer to the Stockholders’ Equity section below. HFSG and Hartford Life, Inc. (“HLI”) are holding companies which rely upon operating cash flow in the form of dividends from their subsidiaries, which enable them to service debt, pay dividends, and pay certain business expenses. Dividends to the Company from its insurance subsidiaries are restricted. The payment of dividends by Connecticut-domiciled insurers is limited under the insurance holding company laws of Connecticut. These laws require notice to and approval by the state insurance commissioner for the declaration or payment of any dividend, which, together with other dividends or distributions made within the preceding twelve months, exceeds the greater of (i) 10% of the insurer’s policyholder surplus as of December 31 of the preceding year or (ii) net income (or net gain from operations, if such company is a life insurance company) for the twelve-month period ending on the thirty-first day of December last preceding, in each case determined under statutory insurance accounting principles. In addition, if any dividend of a Connecticut-domiciled insurer exceeds the insurer’s earned surplus, it requires the prior approval of the Connecticut Insurance Commissioner. The insurance holding company laws of the other jurisdictions in which The Hartford’s insurance subsidiaries are incorporated (or deemed commercially domiciled) generally contain similar (although in certain instances somewhat more restrictive) limitations on the payment of dividends. Dividends paid to HFSG by its insurance subsidiaries are further dependent on cash requirements of HLI and other factors. The Company’s property-casualty insurance subsidiaries are permitted to pay up to a maximum of approximately $1.6 billion in dividends to HFSG in 2008 without prior approval from the applicable insurance commissioner. The Company’s life insurance subsidiaries are permitted to pay up to a maximum of approximately $784 in dividends to HLI in 2008 without prior approval from the applicable insurance commissioner. The aggregate of these amounts, net of amounts required by HLI, is the maximum the insurance subsidiaries could pay to HFSG in 2008. From January 1, 2008 through March 31,June 30, 2008, HFSG and HLI received a combined total of $670$811 from their insurance subsidiaries. From AprilJuly 1, 2008 through April 21,July 18, 2008, HFSG and HLI received a combined total of $111$508 from their insurance subsidiaries. The principal sources of operating funds are premiums and investment income, while investing cash flows originate from maturities and sales of invested assets. The primary uses of funds are to pay claims, policy benefits, operating expenses and commissions and to purchase new investments. In addition, The Hartford has a policy of carrying a significant short-term investment position and does not anticipate selling intermediate and long-term fixed maturity investments to meet any liquidity needs. As of March 31,June 30, 2008 and December 31, 2007, HFSG held total fixed maturity investments of $1.3$1.4 billion and $457, of which $1.0$1.3 billion and $154 were short-term investments. HFSG intends to use $425 to repay its 5.55% notes at maturity on August 16, 2008, $200 to repay its 6.375% notes at maturity on November 1, 2008 and $330 to repay its 5.663% notes at maturity on November 16, 2008. HFSG issued $1 billion of senior notes during the first half of 2008 to pre-fund payment of these maturities. For a discussion of the Company’s investment objectives and strategies, see the Investments and Capital Markets Risk Management sections above. 111135
Sources of Capital Shelf Registrations On April 11, 2007, The Hartford filed an automatic shelf registration statement (Registration No. 333-142044) for the potential offering and sale of debt and equity securities with the Securities and Exchange Commission. The registration statement allows for the following types of securities to be offered: (i) debt securities, preferred stock, common stock, depositary shares, warrants, stock purchase contracts, stock purchase units and junior subordinated deferrable interest debentures of the Company, and (ii) preferred securities of any of one or more capital trusts organized by The Hartford (“The Hartford Trusts”). The Company may enter into guarantees with respect to the preferred securities of any of The Hartford Trusts. In that The Hartford is a well-known seasoned issuer, as defined in Rule 405 under the Securities Act of 1933, the registration statement went effective immediately upon filing and The Hartford may offer and sell an unlimited amount of securities under the registration statement during the three-year life of the shelf. Contingent Capital Facility On February 12, 2007, The Hartford entered into a put option agreement (the “Put Option Agreement”) with Glen Meadow ABC Trust, a Delaware statutory trust (the “ABC Trust”), and LaSalle Bank National Association, as put option calculation agent. The Put Option Agreement provides The Hartford with the right to require the ABC Trust, at any time and from time to time, to purchase The Hartford’s junior subordinated notes (the “Notes”) in a maximum aggregate principal amount not to exceed $500. Under the Put Option Agreement, The Hartford will pay the ABC Trust premiums on a periodic basis, calculated with respect to the aggregate principal amount of Notes that The Hartford had the right to put to the ABC Trust for such period. The Hartford has agreed to reimburse the ABC Trust for certain fees and ordinary expenses. The Company holds a variable interest in the ABC Trust where the Company is not the primary beneficiary. As a result, the Company did not consolidate the ABC Trust, as they did not meet the consolidation requirements under FASB Interpretation No. 46 (revised December 2003), “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51” (“FIN 46(R)”). Commercial Paper, Revolving Credit Facility and Line of Credit The table below details the Company’s short-term debt programs and the applicable balances outstanding. | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Maximum Available As of | | Outstanding As of | | | Maximum Available As of | | Outstanding As of | | | | Effective | | Expiration | | March 31, | | December 31, | | March 31, | | December 31, | | | Effective | | Expiration | | June 30, | | December 31, | | June 30, | | December 31, | | Description | | Date | | Date | | 2008 | | 2007 | | 2008 | | 2007 | | | Date | | Date | | 2008 | | 2007 | | 2008 | | 2007 | | Commercial Paper | | | The Hartford | | 11/10/86 | | N/A | | $ | 2,000 | | $ | 2,000 | | $ | 374 | | $ | 373 | | | 11/10/86 | | N/A | | $ | 2,000 | | $ | 2,000 | | $ | 374 | | $ | 373 | | Revolving Credit Facility | | | 5-year revolving credit facility | | 8/9/07 | | 8/9/12 | | 2,000 | | 2,000 | | — | | — | | | 8/9/07 | | 8/9/12 | | 2,000 | | 2,000 | | — | | — | | Line of Credit | | | Life Japan Operations [1] | | 9/18/02 | | 1/5/09 | | 50 | | 45 | | — | | — | | | 9/18/02 | | 1/5/09 | | 47 | | 45 | | — | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Total Commercial Paper, Revolving Credit Facility and Line of Credit | | $ | 4,050 | | $ | 4,045 | | $ | 374 | | $ | 373 | | | $ | 4,047 | | $ | 4,045 | | $ | 374 | | $ | 373 | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | [1] | | As of March 31,June 30, 2008 and December 31, 2007, the line of credit in yen was ¥5 billion. |
The revolving credit facility provides for up to $2.0 billion of unsecured credit. Of the total availability under the revolving credit facility, up to $100 is available to support letters of credit issued on behalf of The Hartford or other subsidiaries of The Hartford. Under the revolving credit facility, the Company must maintain a minimum level of consolidated net worth. In addition, the Company must not exceed a maximum ratio of debt to capitalization. Quarterly, the Company certifies compliance with the financial covenants for the syndicate of participating financial institutions. As of March 31,June 30, 2008, the Company was in compliance with all such covenants. Off-Balance Sheet Arrangements and Aggregate Contractual Obligations There have been no material changes to the Company’s off-balance sheet arrangements and aggregate contractual obligations since the filing of the Company’s 2007 Form 10-K Annual Report. Pension Plans and Other Postretirement Benefits While the Company has significant discretion in making voluntary contributions to the U. S. qualified defined benefit pension plan (the “Plan”), the Employee Retirement Income Security Act of 1974 as amended by the Pension Protection Act of 2006 mandates minimum contributions in certain circumstances. For 2008, the Company does not expect to have a required minimum funding contribution for the Plan and the funding requirements for all of the pension plans are expected to be immaterial. The Company expects to contribute $200 to the pension plans and other postretirement benefitsbenefit plans during 2008. 112136
Capitalization The capital structure of The Hartford as of March 31,June 30, 2008 and December 31, 2007 consisted of debt and equity, summarized as follows: | | | | | | | | | | | | | | | | | | | | | | | | | | | March 31, | | December 31, | | | | | June 30, | | December 31, | | | | | | 2008 | | 2007 | | Change | | | 2008 | | 2007 | | Change | | Short-term debt (includes current maturities of long-term debt and capital lease obligation) | | $ | 1,364 | | $ | 1,365 | | — | | | Short-term debt (includes current maturities of long-term debt and capital lease obligations) | | | $ | 1,353 | | $ | 1,365 | | | (1 | %) | Long-term debt | | 3,618 | | 3,142 | | | 15 | % | | 4,618 | | 3,142 | | | 47 | % | Total debt [1] | | 4,982 | | 4,507 | | | 11 | % | | 5,971 | | 4,507 | | | 32 | % | Equity excluding accumulated other comprehensive income (loss), net of tax (“AOCI”) | | 20,061 | | 20,062 | | — | | | Equity excluding accumulated other comprehensive loss, net of tax (“AOCI”) | | | 19,604 | | 20,062 | | | (2 | %) | AOCI, net of tax | | | (2,225 | ) | | | (858 | ) | | | (159 | %) | | | (2,780 | ) | | | (858 | ) | | NM | | | | | | | | | | | | | | | | | Total stockholders’ equity | | $ | 17,836 | | $ | 19,204 | | | (7 | %) | | $ | 16,824 | | $ | 19,204 | | | (12 | %) | | | | | | | | | | | | | | | | Total capitalization including AOCI | | $ | 22,818 | | $ | 23,711 | | | (4 | %) | | $ | 22,795 | | $ | 23,711 | | | (4 | %) | | | | | | | | | | | | | | | | | | | Debt to equity | | | 28 | % | | | 23 | % | | | | 35 | % | | | 23 | % | | Debt to capitalization | | | 22 | % | | | 19 | % | | | | 26 | % | | | 19 | % | | | | | | | | | | |
| | | [1] | | Total debt of the Company excludes $971$1.1 billion and $809 of consumer notes as of March 31,June 30, 2008 and December 31, 2007, respectively. |
The Hartford’s total capitalization decreased $893$916 and 4% from December 31, 2007 to March 31,June 30, 2008 primarily due to the following: | | | AOCI, net of tax | | • Decreased $1.4$1.9 billion primarily due to increases in unrealized losses on securities of $1.6 billion partially offset by an increase of $142 from the change in foreign currency translation adjustments.$2.0 billion. | | | | Total Debt | | • Increased from issuance of $500 of 6.3%$1.0 billion in senior notes offset by $26 payment on capital lease obligations.and $500 in junior subordinated debentures, see discussion below. |
Debt Senior Notes On May 12, 2008, The Hartford issued $500 of 6.0% senior notes due January 15, 2019. The issuance was made pursuant to the Company’s shelf registration statement (Registration No. 333-142044). On March 4, 2008, The Hartford issued $500 of 6.3% senior notes due March 15, 2018. The Hartford intends to use most of the net proceeds from this issuance to repay its $425 of 5.55% notes, due August 16, 2008, at maturity and use the balance of the proceeds for general corporate purposes, which may include the partial repayment at maturity of the 6.375% notes due November 1, 2008. The issuance was made pursuant to the Company’s shelf registration statement (Registration No. 333-142044). HFSG intends to use proceeds from the total $1 billion in issuances of senior notes to repay its $425 5.55% notes at maturity on August 16, 2008, $200 6.375% notes at maturity on November 1, 2008 and $330 5.663% notes at maturity on November 16, 2008. For additional information regarding debt, see Note 14 of Notes to Consolidated Financial Statements in The Hartford’s 2007 Form 10-K Annual Report. Junior Subordinated Debentures On June 6, 2008, the Company issued $500 aggregate principal amount of 8.125% fixed-to-floating rate junior subordinated debentures (the “debentures”) due June 15, 2068 for net proceeds of approximately $493, after deducting underwriting discounts and expense of the offering. The debentures bear interest at an annual fixed rate of 8.125% from the date of issuance to, but excluding, June 15, 2018, payable semi-annually in arrears on June 15 and December 15. From and including June 15, 2018, the debentures will bear interest at an annual rate, reset quarterly, equal to three-month LIBOR plus 4.6025%, payable quarterly in arrears on March 15, June 15, September 15 and December 15 of each year. The Company has the right, on one or more occasions, to defer the payment of interest on the debentures. The Company may defer interest for up to ten consecutive years without giving rise to an event of default. Deferred interest will accumulate additional interest at an annual rate equal to the annual interest rate then applicable to the debentures. If the Company defers interest for five consecutive years or, if earlier, pays current interest during a deferral period, which may be paid from any source of funds, the Company will be required to pay deferred interest from proceeds from the sale of certain qualifying securities. The debentures carry a scheduled maturity date of June 15, 2038 and a final maturity date of June 15, 2068. During the 180-day period ending on a notice date not more than fifteen and not less than ten business days prior to the scheduled maturity date, the Company is required to use commercially reasonable efforts to sell certain qualifying replacement securities sufficient to permit repayment of the debentures at the scheduled maturity date. If any debentures remain outstanding after the scheduled maturity date, the unpaid amount will remain outstanding until the Company has raised sufficient proceeds from the sale of qualifying replacement securities to permit the repayment in full of the debentures. If there are remaining debentures at the final maturity date, the Company is required to redeem the debentures using any source of funds. Subject to the replacement capital covenant described below, the Company can redeem the debentures at its option, in whole or in part, at any time on or after June 15, 2018 at a redemption price of 100% of the principal amount being redeemed plus accrued but unpaid interest. The Company can redeem the debentures at its option prior to June 15, 2018 (a) in whole at any time or in part from time to time or (b) in whole, but not in part, in the event of certain tax or rating agency events relating to the debentures, at a redemption price equal to the greater of 100% of the principal amount being redeemed and the applicable make-whole amount, in each case plus any accrued and unpaid interest. 137
In connection with the offering of the debentures, the Company entered into a “replacement capital covenant” for the benefit of holders of one or more designated series of the Company’s indebtedness, initially the Company’s 6.1% notes due 2041. Under the terms of the replacement capital covenant, if the Company redeems the debentures at any time prior to June 15, 2048 it can only do so with the proceeds from the sale of certain qualifying replacement securities. Consumer Notes As of March 31,June 30, 2008 and December 31, 2007, $971$1,113 and $809, respectively, of consumer notes had been issued.were outstanding. As of March 31,June 30, 2008, these consumer notes have interest rates ranging from 4.0% to 6.3% for fixed notes and, for variable notes, either consumer price index plus 10080 to 267 basis points, or indexed to the S&P 500, Dow Jones Industrials or the Nikkei 225. For the three months ended March 31,June 30, 2008 and 2007, interest credited to holders of consumer notes was $13$14 and $5,$6, respectively. For the six months ended June 30, 2008 and 2007, interest credited to holders of consumer notes was $26 and $11, respectively. For additional information regarding consumer notes, see Note 14 of Notes to Consolidated Financial Statements in The Hartford’s 2007 Form 10-K Annual Report. Stockholders’ Equity Treasury stock acquired- During the three months ended June 30, 2008, The Hartford repurchased $871 (11.7 million shares), of which $500 (6.3 million shares) was repurchased under an accelerated share repurchase transaction described below. From July 1, 2008 through July 18, 2008, The Hartford repurchased an additional $129 (2.0 million shares) for total share repurchases of $1.0 billion (13.7 million shares) in 2008. On June 4, 2008, the Company entered into a collared accelerated share repurchase agreement (“ASR”) with a major financial institution. Under the terms of the agreement, The Hartford paid $500 and initially received a minimum number of shares based on a maximum or “capped” share price. The Company funded this payment with proceeds from the offering of the junior subordinated debentures (see Note 11). The Hartford initially received 6.3 million shares of common stock based on the “cap” price which were recorded to Treasury Stock and deducted on a weighted basis from the number of shares outstanding as of June 30, 2008 in calculating earnings per share. The actual per share purchase price and the final number of shares to be repurchased will be based on the volume weighted average price, or VWAP, of the Company’s common stock, not to be fixed above a cap price nor fall lower than a floor price. Additional shares that may be delivered to The Hartford and the average price paid for all shares repurchased during the ASR will be determined by the Company’s stock price activity through the final averaging date, not less than 22 and not more than 66 exchange trading days from June 11, 2008. Had the contract settled on June 30, 2008, the Company would have received an additional 1.0 million shares. The Company has accounted for this transaction in accordance with EITF Issue No. 99-7, “Accounting for an Accelerated Share Repurchase Program.” Dividends- On May 22, 2008, The Hartford’s Board of Directors declared a quarterly dividend of $0.53 per share payable on July 1, 2008 to shareholders of record as of June 2, 2008. On July 17, 2008, The Hartford’s Board of Directors declared a quarterly dividend of $0.53 per share payable on October 1, 2008 to shareholders of record as of September 2, 2008. AOCI- AOCI, net of tax, decreased by $1.4$1.9 billion as of March 31,June 30, 2008 compared with December 31, 2007. The decrease in AOCI includes unrealized losses on securities of $1.6$2.0 billion, primarily due to widening credit spreads associated with fixed maturities, partially offset by change in foreign currency translation adjustments of $142.maturities. Because The Hartford’s investment portfolio has a duration of approximately 5 years, a 100 basis point parallel movement in rates would result in approximately a 5% change in fair value. Movements in short-term interest rates without corresponding changes in long-term rates will impact the fair value of our fixed maturities to a lesser extent than parallel interest rate movements. For additional information on stockholders’ equity and AOCI, see Notes 15 and 16, respectively, of Notes to Consolidated Financial Statements in The Hartford’s 2007 Form 10-K Annual Report. 113
Cash Flow | | | | | | | | | | | | | | | | | | | Three months ended | | | Six months ended | | | | March 31, | | | June 30, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | Net cash provided by operating activities | | $ | 567 | | $ | 1,305 | | | $ | 2,261 | | $ | 2,947 | | Net cash used for investing activities | | $ | (1,820 | ) | | $ | (1,196 | ) | | $ | (4,317 | ) | | $ | (3,158 | ) | Net cash provided by financing activities | | $ | 1,350 | | $ | 272 | | | $ | 2,002 | | $ | 482 | | Cash – end of period | | $ | 2,248 | | $ | 1,790 | | | Cash — end of period | | | $ | 2,084 | | $ | 1,624 | |
The decrease in cash from operating activities compared to prior year period was primarily the result of decreased net income and an increase in payments on payables and accrual balances. Net purchases of available-for-sale securities continue to account for the majority of cash used for investing activities. Cash from financing activities increased primarily due to treasury share acquisitions$1.5 billion in issuances of long-term debt in 2008 and short-term debt repayments reflected in the prior year period activity. Operating cash flows for the threesix months ended March 31,June 30, 2008 and 2007 have been adequate to meet liquidity requirements. 138
Equity Markets For a discussion of the potential impact of the equity markets on capital and liquidity, see the Capital Markets Risk Management section under “Market Risk” above. Ratings Ratings are an important factor in establishing the competitive position in the insurance and financial services marketplace. There can be no assurance that the Company’s ratings will continue for any given period of time or that they will not be changed. In the event the Company’s ratings are downgraded, the level of revenues or the persistency of the Company’s business may be adversely impacted. The following table summarizes The Hartford’s significant member companies’ financial ratings from the major independent rating organizations as of April 21,July 18, 2008. | | | | | | | | | Insurance Financial Strength Ratings: | | A.M. Best | | Fitch | | Standard & Poor’s | | Moody’s | Hartford Fire Insurance Company | | A+ | | AA | | AA- | | Aa3 | Hartford Life Insurance Company | | A+ | | AA | | AA- | | Aa3 | Hartford Life and Accident Insurance Company | | A+ | | AA | | AA- | | Aa3 | Hartford Life and Annuity Insurance Company | | A+ | | AA | | AA- | | Aa3 | Hartford Life Insurance KK (Japan) | | — | | — | | AA- | | — | Hartford Life Limited (Ireland) | | — | | — | | AA- | | — | | | | | | | | | | Other Ratings: | | | | | | | | | The Hartford Financial Services Group, Inc.: | | | | | | | | | Senior debt | | a | | A | | A | | A2 | Commercial paper | | AMB-1 | | F1 | | A-1 | | P-1 | Junior subordinated debentures | | bbb+ | | A- | | BBB+ | | A3 | Hartford Life, Inc.: | | | | | | | | | Senior debt | | a | | A | | A | | A2 | Hartford Life Insurance Company: | | | | | | | | | Short term rating | | — | | — | | A-1+ | | P-1 | Consumer notes | | a+ | | AA- | | AA- | | A1 |
These ratings are not a recommendation to buy or hold any of The Hartford’s securities and they may be revised or revoked at any time at the sole discretion of the rating organization. The agencies consider many factors in determining the final rating of an insurance company. One consideration is the relative level of statutory surplus necessary to support the business written. Statutory surplus represents the capital of the insurance company reported in accordance with accounting practices prescribed by the applicable state insurance department. The table below sets forth statutory surplus for the Company’s insurance companies. | | | | | | | | | | | | | | | | | | | March 31, | | December 31, | | | June 30, | | December 31, | | | | 2008 | | 2007 | | | 2008 | | 2007 | | Life Operations | | $ | 5,656 | | $ | 5,786 | | | $ | 5,435 | | $ | 5,786 | | Japan Life Operations | | 1,494 | | 1,620 | | | 1,529 | | 1,620 | | Property & Casualty Operations | | 8,272 | | 8,509 | | | 8,319 | | 8,509 | | | | | | | | | | | | | Total | | $ | 15,422 | | $ | 15,915 | | | $ | 15,283 | | $ | 15,915 | | | | | | | | | | | | |
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Contingencies Legal Proceedings–- For a discussion regarding contingencies related to The Hartford’s legal proceedings, see Part II, Item 1, “Legal Proceedings”. Legislative Initiatives
For a discussion of terrorism reinsurance legislation and how it affects The Hartford, see the “Risk Management Strategy-Terrorism” under the Property & Casualty section of the MD&A in The Hartford’s 2007 Form 10-K Annual Report.
Tax proposals and regulatory initiatives which have been or are being considered by Congress and/or the United States Treasury Department could have a material effect on the insurance business. These proposals and initiatives include, or could include, changes pertaining to the tax treatment of insurance companies and life insurance products and annuities, repeal or reform of the estate tax and comprehensive federal tax reform. The nature and timing of any Congressional or regulatory action with respect to any such efforts is unclear.
ACCOUNTING STANDARDS For a discussion of accounting standards, see Note 1 of Notes to Consolidated Financial Statements included in The Hartford’s 2007 Form 10-K Annual Report and Note 1 of Notes to Condensed Consolidated Financial Statements. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The information contained in the Capital Markets Risk Management section of Management’s Discussion and Analysis of Financial Condition and Results of Operations is incorporated herein by reference. 139
Item 4. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures The Company’s principal executive officer and its principal financial officer, based on their evaluation of the Company’s disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) have concluded that the Company’s disclosure controls and procedures are effective for the purposes set forth in the definition thereof in Exchange Act Rule 13a-15(e) as of March 31,June 30, 2008. Changes in internal control over financial reporting There was no change in the Company’s internal control over financial reporting that occurred during the Company’s firstsecond fiscal quarter of 2008 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting. Part II. OTHER INFORMATION Item 1. LEGAL PROCEEDINGS Litigation The Hartford is involved in claims litigation arising in the ordinary course of business, both as a liability insurer defending or providing indemnity for third-party claims brought against insureds and as an insurer defending coverage claims brought against it. The Hartford accounts for such activity through the establishment of unpaid loss and loss adjustment expense reserves. Subject to the uncertainties discussed below under the caption “Asbestos and Environmental Claims,” management expects that the ultimate liability, if any, with respect to such ordinary-course claims litigation, after consideration of provisions made for potential losses and costs of defense, will not be material to the consolidated financial condition, results of operations or cash flows of The Hartford. The Hartford is also involved in other kinds of legal actions, some of which assert claims for substantial amounts. These actions include, among others, putative state and federal class actions seeking certification of a state or national class. Such putative class actions have alleged, for example, underpayment of claims or improper underwriting practices in connection with various kinds of insurance policies, such as personal and commercial automobile, property, life and inland marine; improper sales practices in connection with the sale of life insurance and other investment products; and improper fee arrangements in connection with mutual fundsinvestment products and structured settlements. The Hartford also is involved in individual actions in which punitive damages are sought, such as claims alleging bad faith in the handling of insurance claims. Like many other insurers, The Hartford also has been joined in actions by asbestos plaintiffs asserting, among other things, that insurers had a duty to protect the public from the dangers of asbestos and that insurers committed unfair trade practices by asserting defenses on behalf of their policyholders in the underlying asbestos cases. Management expects that the ultimate liability, if any, with respect to such lawsuits, after consideration of provisions made for estimated losses, will not be material to the consolidated financial condition of The Hartford. Nonetheless, given the large or indeterminate amounts sought in certain of these actions, and the inherent unpredictability of litigation, an adverse outcome in certain matters could, from time to time, have a material adverse effect on the Company’s consolidated results of operations or cash flows in particular quarterly or annual periods. 115
Broker Compensation Litigation –-Following the New York Attorney General’s filing of a civil complaint against Marsh & McLennan Companies, Inc., and Marsh, Inc. (collectively, “Marsh”) in October 2004 alleging that certain insurance companies, including The Hartford, participated with Marsh in arrangements to submit inflated bids for business insurance and paid contingent commissions to ensure that Marsh would direct business to them, private plaintiffs brought several lawsuits against the Company predicated on the allegations in the Marsh complaint, to which the Company was not party. Among these is a multidistrict litigation in the United States District Court for the District of New Jersey. There are two consolidated amended complaints filed in the multidistrict litigation, one related to conduct in connection with the sale of property-casualty insurance and the other related to alleged conduct in connection with the sale of group benefits products. The Company and various of its subsidiaries are named in both complaints. The complaints assert, on behalf of a putative class of persons who purchased insurance through broker defendants, claims under the Sherman Act, the Racketeer Influenced and Corrupt Organizations Act (“RICO”), state law, and in the case of the group-benefits products complaint, claims under the Employee Retirement Income Security Act of 1974 (“ERISA”). The claims are predicated upon allegedly undisclosed or otherwise improper payments of contingent commissions to the broker defendants to steer business to the insurance company defendants. The district court has dismissed the Sherman Act and RICO claims in both complaints for failure to state a claim and has granted the defendants’ motions for summary judgment on the ERISA claims in the group-benefits products complaint. The district court further has declined to exercise supplemental jurisdiction over the state law claims, has dismissed those state law claims without prejudice, and has closed both cases. The plaintiffs have appealed the dismissal of claims in both consolidated amended complaints.complaints, except the ERISA claims. The Company is also a defendant in two consolidated securities actions and two consolidated derivative actions filed in the United States District Court for the District of Connecticut. The consolidated securities actions assert claims on behalf of a putative class of shareholders alleging that the Company and certain of its executive officers violated Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 by failing to disclose to the investing public that The Hartford’s business and growth was predicated on the unlawful activity alleged in the New York Attorney General’s complaint against Marsh. The consolidated derivative actions, brought by shareholders on behalf of the Company against its directors and an additional executive officer, allege that the defendants knew adverse non-public information about the activities alleged in the Marsh complaint and concealed and misappropriated that information to make profitable stock trades in violation of their duties to the Company. In July 2006, the district court granted defendants’ motion to dismiss the consolidated securities actions. The plaintiffs have appealed that decision. Defendants filed a motion to dismiss the consolidated derivative actions in May 2005, and the plaintiffs have agreed to stay further proceedings until after the resolution of the appeal from the dismissal of the securities action. 140
In September 2007, the Ohio Attorney General filed a civil action in Ohio state court alleging that certain insurance companies, including The Hartford, conspired with Marsh in violation of Ohio’s antitrust statute. The Company has movedtrial court denied the defendants’ motion to dismiss the case.complaint in July 2008. The Company disputes the allegations and intends to defend this action vigorously. Fair Credit Reporting Act Class Action–- In February 2007, the United States District Court for the District of Oregon gave final approval of the Company’s settlement of a lawsuit brought on behalf of a class of homeowners and automobile policy holders alleging that the Company willfully violated the Fair Credit Reporting Act by failing to send appropriate notices to new customers whose initial rates were higher than they would have been had the customer had a more favorable credit report. The settlement was made on a claim-in, nationwide-class basis and required eligible class members to return valid claim forms postmarked no later than June 28, 2007. The Company has paid approximately $86.5 to eligible claimants in connection with the settlement. Some additional payments to claimants may be required to fully satisfy the Company’s obligations under the settlement, but management estimates that any such payments will not exceed $1. The Company has sought reimbursement from the Company’s Excess Professional Liability Insurance Program for the portion of the settlement in excess of the Company’s $10 self-insured retention. Certain insurance carriers participating in that program have disputed coverage for the settlement, and one of the excess insurers has commenced an arbitration to resolve the dispute. Management believes it is probable that the Company’s coverage position ultimately will be sustained. In 2006, the Company accrued $10, the amount of the self-insured retention, which reflects the amount that management believes to be the Company’s ultimate liability under the settlement net of insurance. Call-Center Patent Litigation–- In June 2007, the holder of twenty-one patents related to automated call flow processes, Ronald A. Katz Technology Licensing, LP (“Katz”), brought an action against the Company and various of its subsidiaries in the United States District Court for the Southern District of New York. The action alleges that the Company’s call centers use automated processes that willfully infringe the Katz patents. Katz previously has brought similar patent-infringement actions against a wide range of other companies, none of which has reached a final adjudication of the merits of the plaintiff’s claims, but many of which have resulted in settlements under which the defendants agreed to pay licensing fees. The case has been transferred to a multidistrict litigation in the United States District Court for the Central District of California, which is currently presiding over other Katz patent cases. The Company disputes the allegations and intends to defend this action vigorously. Asbestos and Environmental Claims–- As discussed in Note 12, Commitments and Contingencies, of the Notes to Consolidated Financial Statements under the caption “Asbestos and Environmental Claims”, included in the Company’s 2007 Form 10-K Annual Report, The Hartford continues to receive asbestos and environmental claims that involve significant uncertainty regarding policy coverage issues. Regarding these claims, The Hartford continually reviews its overall reserve levels and reinsurance coverages, as well as the methodologies it uses to estimate its exposures. Because of the significant uncertainties that limit the ability of insurers and reinsurers to estimate the ultimate reserves necessary for unpaid losses and related expenses, particularly those related to asbestos, the ultimate liabilities may exceed the currently recorded reserves. Any such additional liability cannot be reasonably estimated now but could be material to The Hartford’s consolidated operating results, financial condition and liquidity. 116
Item 1A. RISK FACTORS We are updating the risk factor included in the AnnualRefer to Part II, Item 1A of The Hartford’s Quarterly Report on Form 10-K10-Q for the yearquarter ended DecemberMarch 31, 2007 under the heading, “We are exposed to significant financial2008 and capital markets risk, including changes in interest rates, credit spreads, equity prices, and foreign exchange rates which may adversely affect our results of operations, financial condition or liquidity” to read as follows:
We are exposed to significant financial and capital markets risk, including changes in interest rates, credit spreads, equity prices, and foreign exchange rates which may adversely affect our results of operations, financial condition or liquidity.
We are exposed to significant financial and capital markets risk, including changes in interest rates, credit spreads, equity prices and foreign currency exchange rates. Our exposure to interest rate risk relates primarily to the market price and cash flow variability associated with changes in interest rates. A rise in interest rates will increase the net unrealized loss position of our investment portfolio and, if long-term interest rates rise dramatically within a six to twelve month time period, certain of our Life businesses may be exposed to disintermediation risk. Disintermediation risk refers to the risk that our policyholders may surrender their contracts in a rising interest rate environment, requiring us to liquidate assets in an unrealized loss position. Due to the long-term nature of the liabilities associated with certain of our Life businesses, such as structured settlements and guaranteed benefits on variable annuities, sustained declines in long term interest rates may subject us to reinvestment risks and increased hedging costs. In other situations, declines in interest rates or changes in credit spreads may result in reducing the duration of certain Life liabilities, creating asset liability duration mismatches and possibly lower spread income.
Our exposure to credit spreads primarily relates to market price and cash flow variability associated with changes in credit spreads. A widening of credit spreads will increase the net unrealized loss position of the investment portfolio, will increase losses associated with credit based non-qualifying derivatives where the Company assumes credit exposure, and, if issuer credit spreads increase significantly or for an extended period of time, would likely result in higher other-than-temporary impairments. Credit spread tightening will reduce net investment income associated with new purchases of fixed maturities. In addition, market volatility can make it difficult to value certain of our securities if trading becomes less frequent. As such, valuations may include assumptions or estimates that may have significant period to period changes which could have a material adverse effect on our consolidated results of operations or financial condition.
Our statutory surplus is also impacted by widening credit spreads as a result of the accounting for the assets and liabilities on our fixed market value adjusted (“MVA”) annuities. Statutory separate account assets supporting the fixed MVA annuities are recorded at fair value. In determining the statutory reserve for the fixed MVA annuities we are required to use current crediting rates in the U.S. and Japanese LIBOR in Japan. In many capital market scenarios, current crediting rates in the U.S. are highly correlated with market rates implicit in the fair value of statutory separate account assets. As a result, the change in the statutory reserve from period to period will likely substantially offset the change in the fair value of the statutory separate account assets. However, in periods of volatile credit markets, actual credit spreads on investment assets may increase sharply for certain sub-sectors of the overall credit market, resulting in statutory separate account asset market value losses. As actual credit spreads are not fully reflected in current crediting rates in the U.S. or Japanese LIBOR in Japan, the calculation of statutory reserves will not substantially offset the change in fair value of the statutory separate account assets resulting in reductions in statutory surplus.
Our primary exposure to equity risk relates to the potential for lower earnings associated with certain of our Life businesses, such as variable annuities, where fee income is earned based upon the fair value of the assets under management. In addition, certain of our Life products offer guaranteed benefits which increase our potential benefit exposure should equity markets decline. We are also exposed to interest rate and equity risk based upon the discount rate and expected long-term rate of return assumptions associated with our pension and other post-retirement benefit obligations. Sustained declines in long-term interest rates or equity returns likely would have a negative effect on the funded status of these plans.
Our primary foreign currency exchange risks are related to net income from foreign operations, non–U.S. dollar denominated investments, investments in foreign subsidiaries, our yen-denominated individual fixed annuity product, and certain guaranteed benefits associated with the Japan variable annuity. These risks relate to potential decreases in value and income resulting from a strengthening or weakening in foreign exchange rates versus the U.S. dollar. In general, the weakening of foreign currencies versus the U.S. dollar will unfavorably affect net income from foreign operations, the value of non-U.S. dollar denominated investments, investments in foreign subsidiaries and realized gains or losses on the yen denominated individual fixed annuity product. In comparison, a strengthening of the Japanese yen in comparison to the U.S. dollar and other currencies may increase our exposure to the guarantee benefits associated with the Japan variable annuity. If significant, declines in equity prices, changes in U.S. interest rates, changes in credit spreads and the strengthening or weakening of foreign currencies against the U.S. dollar or in combination, could have a material adverse effect on our consolidated results of operations, financial condition or liquidity.
Refer to Part I, Item 1A in The Hartford’s 2007 Form 10-K Annual Report for an explanation of the Company’s other risk factors.
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Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Purchases of Equity Securities by the Issuer The following table summarizes the Company’s repurchases of its common stock for the three months ended March 31,June 30, 2008: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Approximate Dollar | | | | | | | | | | | | Total Number of | | | Value of Shares that | | | | | | | | | | | | Shares Purchased as | | | May Yet Be | | | | Total Number | | | Average Price | | | Part of Publicly | | | Purchased Under | | | | of Shares | | | Paid Per | | | Announced Plans or | | | the Plans or | | Period | | Purchased | | | Share | | | Programs | | | Programs | | | | | | | | | | | | | | | | (in millions) | | January 1, 2008 – January 31, 2008 | | | 419 | [1] | | $ | 87.20 | | | | — | | | $ | 807 | | February 1, 2008 – February 29, 2008 | | | 230,989 | [1] | | $ | 72.69 | | | | — | | | $ | 807 | | March 1, 2008 – March 31, 2008 | | | 5,713 | [1] | | $ | 68.26 | | | | — | | | $ | 807 | | | | | | | | | | | | | | | Total | | | 237,121 | | | $ | 72.61 | | | | — | | | | N/A | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Total Number of | | | Approximate Dollar | | | | | | | | | | | | Shares Purchased as | | | Value of Shares that | | | | Total Number | | | Average Price | | | Part of Publicly | | | May Yet Be | | | | of Shares | | | Paid Per | | | Announced Plans or | | | Purchased Under | | Period | | Purchased | | | Share | | | Programs | | | the Plans or Programs | | | | | | | | | | | | | | | | (in millions) | | April 1, 2008 – April 30, 2008 | | | 19 | [1] | | $ | 72.48 | | | | — | | | $ | 807 | | May 1, 2008 – May 31, 2008 | | | 2,117,189 | [1] | | $ | 69.90 | | | | — | | | $ | 659 | | June 1, 2008 – June 30, 2008 | | | 9,561,800 | [1] [2] | | $ | 75.68 | | | | — | | | $ | 936 | [3] | | | | | | | | | | | | | | Total | | | 11,679,008 | | | $ | 74.63 | | | | — | | | | N/A | | | | | | | | | | | | | | |
| | | [1] | | RepresentsIncludes 19, 414 and 3,996 shares in April, May and June, respectively, acquired from employees of the Company for tax withholding purposes in connection with the Company’s stock compensation plans.
| | [2] | | Includes 6,333,026 shares delivered to the Company’s treasury stock account pursuant to the terms of a collared accelerated stock repurchase confirmation agreement between the Company and a major financial institution (see Note 12 to the Condensed Consolidated Financial Statements). | | [3] | | In June 2008, The Hartford’s Board of Directors authorized a new $1 billion stock repurchase program which is in addition to the $2 billion program completed in June 2008. |
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In June 2008, The Hartford’s Board of Directors has authorized a new $1 billion stock repurchase program which is in addition to the Company to repurchase up topreviously announced $2 billion of its securities. As of March 31, 2008, The Hartford repurchased $1.2 billion of its common stock (12.9 million shares) under this program. The Company’s repurchase authorization permits purchases of common stock, which may be in the open market or through privately negotiated transactions. The Company also may enter into derivative transactions to facilitate future repurchases of common stock. The timing of any future repurchases will be dependent upon several factors, including the market price of the Company’s securities, the Company’s capital position, consideration of the effect of any repurchases on the Company’s financial strength or credit ratings, and other corporate considerations. The repurchase program may be modified, extended or terminated by the Board of Directors at any time. Item 3. DEFAULTS UPON SENIOR SECURITIES
None. As of June 30, 2008, The Hartford has completed the $2 billion stock repurchase program and has $936 remaining for stock repurchase under the new $1 billion repurchase program. From July 1, 2008 through July 18, 2008, The Hartford repurchased an additional $129 (2.0 million shares) for total share repurchases of $1.0 billion (13.7 million shares) in 2008.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS None.On May 21, 2008, The Hartford held its annual meeting of shareholders. The following matters were considered and voted upon: (1) the election of ten directors, each to serve until the next annual meeting of shareholders and the election and qualifications of his or her successor; and (2) a proposal to ratify the appointment of the Company’s independent auditors, Deloitte & Touche LLP, for the fiscal year ending December 31, 2008.
Only shareholders of record as of the close of business on March 24, 2008 were entitled to vote at the annual meeting. As of March 24, 2008, 314,589,526 shares of common stock of the Company were outstanding and entitled to vote at the annual meeting. Item 5. OTHER INFORMATIONSet forth below is the vote tabulation relating to the two items presented to the shareholders at the annual meeting:
None.(1) The shareholders elected each of the ten nominees to the Board of Directors:
| | | | | | | | | | | | | | | Votes Cast | | Names of Director Nominees | | For | | | Against | | | Abstained | | Ramani Ayer | | | 271,461,322 | | | | 4,160,098 | | | | 2,586,359 | | Ramon de Oliveira | | | 273,448,342 | | | | 2,203,409 | | | | 2,556,028 | | Trevor Fetter | | | 273,315,964 | | | | 2,343,558 | | | | 2,548,257 | | Edward J. Kelly, III | | | 273,350,338 | | | | 2,297,822 | | | | 2,559,619 | | Paul G. Kirk, Jr. | | | 271,138,381 | | | | 4,164,250 | | | | 2,905,148 | | Thomas M. Marra | | | 271,909,091 | | | | 3,750,301 | | | | 2,548,387 | | Gail J. McGovern | | | 273,488,758 | | | | 2,165,701 | | | | 2,553,320 | | Michael G. Morris | | | 272,158,947 | | | | 3,496,604 | | | | 2,552,228 | | Charles B. Strauss | | | 273,465,230 | | | | 2,189,911 | | | | 2,552,638 | | H. Patrick Swygert | | | 271,439,284 | | | | 4,195,071 | | | | 2,573,424 | | | | | | | | | | | | | | | (2) The shareholders ratified the appointment of the Company’s independent auditors: | | | | | | | | | | | | | | Shares For: | | | 274,981,694 | | | | | | | | | | Shares Against: | | | 587,962 | | | | | | | | | | Shares Abstained: | | | 2,638,123 | | | | | | | | | |
Item 6. EXHIBITS See Exhibits Index on page 120.144. 118142
SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. | | | | | | The Hartford Financial Services Group, Inc. (Registrant) | | Date: AprilJuly 28, 2008 | /s/ Beth A. Bombara | | | Beth A. Bombara | | | Senior Vice President and Controller (Chief accounting officer and duly authorized signatory) | | |
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THE HARTFORD FINANCIAL SERVICES GROUP, INC. FOR THE THREE MONTHS ENDED MARCH 31,JUNE 30, 2008 FORM 10-Q EXHIBITS INDEX | | | Exhibit No. | | Description | | | | 4.01 | | 6.000% Senior Note due January 15, 2019 (incorporated herein by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K filed on May 12, 2008). | | | | 4.02 | | 8.125% Fixed-to-Floating Rate Junior Subordinated Debenture due 2068 (incorporated herein by reference to Exhibit 4.3 to the Company’s Current Report on Form 8-K filed on June 6, 2008). | | | | 4.03 | | Junior Subordinated Indenture, dated as of June 6, 2008, between The Hartford Financial Services Group, Inc. and The Bank of New York Trust Company, N.A., as Trustee (incorporated herein by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K filed on June 6, 2008). | | | | 4.04 | | First Supplemental Indenture, dated as of June 6, 2008, between The Hartford Financial Services Group, Inc. and The Bank of New York Trust Company, N.A., as Trustee (incorporated herein by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K filed on June 6, 2008). | | | | 4.05 | | Replacement Capital Covenant, dated as of June 6, 2008 (incorporated herein by reference to Exhibit 4.4 to the Company’s Current Report on Form 8-K filed on June 6, 2008). | | | | 10.01 | | Accelerated Share Repurchase Confirmation Agreement, dated as of June 4, 2008, between The Hartford Financial Services Group, Inc. and Credit Suisse International. | | | | 15.01 | | Deloitte & Touche LLP Letter of Awareness. | | | | 31.01 | | Certification of Ramani Ayer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | | | 31.02 | | Certification of David M. JohnsonLizabeth H. Zlatkus pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | | | 32.01 | | Certification of Ramani Ayer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | | | | 32.02 | | Certification of David M. JohnsonLizabeth H. Zlatkus pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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