Updated Fair Value Disclosures: SSAP No. 100 Fair Value Measurements

Transcription

1 December 3, 2010 Updated Fair Value Disclosures: SSAP No. 100 Fair Value Measurements On Monday, November 29, 2010, the NAIC approved revisions to SSAP No. 100 Fair Value Measurements (SSAP 100). The new guidance imposes new fair value disclosure requirements, which are effective for the December 31, 2010 reporting. AAM has developed reporting that will satisfy these new fair value disclosures. Our investment accounting clients can seamlessly use these new reports for their disclosure requirements, while non-investment accounting clients may have reconciling differences between the output of these reports and what should be disclosed using the reporting entity s internal values. Information on assets and liabilities that are measured and reported at fair value shall be disclosed within the revised SSAP 100 reporting requirements. The term reported corresponds with SSAP s reporting requirements in determining if a security shall be carried at amortized cost or carried at the lower of amortized cost or market. Below is a summary of the new reporting requirements, which are relevant to the types of securities managed by AAM: 1. The fair value measurements at the reporting date and the source of the fair value measurements. The fair value measurements reported by AAM are obtained primarily from independent pricing services. When a security s fair value is not available from an independent pricing service, the pricing is obtained from broker-dealer quotes or internally derived estimates based on expected future cash flows discounted at relevant market rates. 2. The fair value of securities carried at market, segregated by the fair value hierarchy. The fair value hierarchy can be summarized as follows: Level 1 Quoted prices (unadjusted) that are obtainable at the measurement date and taken from active markets for identical assets Level 2 Prices based on observable market data, other than quoted prices included within Level 1 Level 3 Prices based on unobservable market data

2 Below is the illustrative example of this disclosure that is included in SSAP 100: (In millions) Level 1 Level 2 Level 3 Total Perpetual Preferred Stock Total Perpetual Preferred $ $ $ $ Redeemable Preferred Stock Total Redeemable Preferred $ $ $ $ Bonds U.S. Governments Hybrid Total Bonds $ $ $ $ Common stock Total Common Stock $ $ $ $ Derivatives Interest rate contracts Foreign exchange contracts Credit contracts Commodity futures contracts Commodity forward contracts Total Derivatives $ $ $ $ Separate account assets Total $ $ $ $

3 3. The amounts of any transfers between Level 1 and Level 2, the reasons for the transfers and the reporting entity s policy for determining when transfers between levels are recognized. This disclosure only relates to securities held at the reporting date. Transfers into a fair value hierarchy level shall be disclosed and discussed separately from transfers out of a fair value hierarchy level. The reporting entity s policy for determining when transfers are recognized can include the following: The value of the security on the actual date of the event or change in circumstances that caused the transfer The value of the security at the beginning of the reporting period The value of the security at the end of the reporting period 4. A description of the valuation techniques and the inputs used for Level 2 and Level 3 securities with the reasoning of any changes in valuation techniques noted. The valuation techniques are noted below: Market approach The use of market generated transactions to produce a fair value. The market approach includes Level 1 securities as these fair values are equal to a security s relevant market quote. The market approach also includes matrix priced securities (Level 2). Matrix pricing is a method by which securities are valued using similar benchmark quoted securities. Income Approach The use of a security s estimated future cash flows and a discount rate indicative of market conditions to calculate a fair value. Cost approach The replacement cost, adjusted for obsolescence. This approach is not used by AAM. Regarding the disclosure of inputs used to determine fair value, the guidance suggests including quantitative information such as prepayment rates, estimated credit losses, interest rates or discount rates. The guidance also suggests disclosure of the investment characteristics that are considered in the determination of the relevant inputs. The following characteristics are noted in the guidance that would relate to RMBS: Types of underlying loans Collateral Guarantees or other credit enhancements Seniority level of the tranches of securities Year of issue Weighted-average coupon of the underlying loans Weighted-average maturity of the underlying loans Geographical concentration of the underlying loans Credit ratings of the securities

4 5. A reconciliation from the opening balances to the closing balances of all securities that had Level 3 pricing during the reporting period. The reasons for any transfers into or out of the Level 3 hierarchy shall also be separately disclosed and discussed. The reporting entity s policy for determining when transfers are recognized for this disclosure must be consistent with Level 1 / Level 2 transfer disclosure noted above. Below is the illustrative example of this disclosure that is included in SSAP 100. Note that the purchases, issuances, sales, and settlements are reported net. For the December 31, 2011 reporting, it is probable these items will be reported gross. Roll Forward Loan-Backed and Structured (NAIC 3-6) Derivatives Other Fund Investments Hedge Residential Mortgaged- Backed Commercial Mortgage- Backed Credit Contracts Fund High-Yield Debt Private Equity Total Beginning Balance $ $ $ $ $ $ Transfers into Level 3 (a) (b) Transfers out of Level 3 (c) Total Gains or Losses Included in Net Income Included in Surplus Purchases, issuances, sales and settlements Purchases Issuances Sales Settlements Ending Balance $ $ $ $ $ $ Example Footnotes: (a) Transferred from Level 2 to Level 3 because of lack of observable market data due to decrease in market activity for these securities (b) (c) The reporting entity s policy is to recognize transfers in and transfers out as of the actual date of the event or change in circumstances that caused the transfer. Transferred from Level 3 to Level 2 because observable market data became available for these securities. Note: For liabilities measured at fair value, a similar table should be presented. In addition to requiring the Level 3 purchases, issuances, sales, and settlements on a gross basis in 2011, the NAIC has discussed adding an electronic column to any annual

5 statement schedule that discloses fair values, which would include the fair value hierarchy for each line item. Joseph A. Borgmann, CPA Vice President Investment Accounting Disclaimer: Asset Allocation & Management Company, LLC (AAM) is an investment adviser registered with the and Exchange Commission, specializing in fixed-income asset management services for insurance companies. This information was developed using publicly available information, internally developed data and outside sources believed to be reliable. While all reasonable care has been taken to ensure that the facts stated and the opinions given are accurate, complete and reasonable, liability is expressly disclaimed by AAM and any affiliates (collectively known as AAM ), and their representative officers and employees. This report has been prepared for informational purposes only and does not purport to represent a complete analysis of any security, company or industry discussed. Any opinions and/or recommendations expressed are subject to change without notice and should be considered only as part of a diversified portfolio. A complete list of investment recommendations made during the past year is available upon request. Past performance is not an indication of future returns. This information is distributed to recipients including AAM, any of which may have acted on the basis of the information, or may have an ownership interest in securities to which the information relates. It may also be distributed to clients of AAM, as well as to other recipients with whom no such client relationship exists. Providing this information does not, in and of itself, constitute a recommendation by AAM, nor does it imply that the purchase or sale of any security is suitable for the recipient. Investing in the bond market is subject to certain risks including market, interest-rate, issuer, credit, inflation, liquidity, valuation, volatility, prepayment and extension. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission.