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Variable Interest Entities
9 Months Ended
Sep. 30, 2011
Notes to Financial Statements [Abstract] 
Variable Interest Entities

4. Variable Interest Entities (“VIEs”)

 

Our involvement with VIEs is primarily to invest in assets that allow us to gain exposure to a broadly diversified portfolio of asset classes. A VIE is an entity which does not have sufficient equity to finance its own activities without additional financial support or where investors lack certain characteristics of a controlling financial interest. We perform an ongoing qualitative assessment of our involvement with VIEs to determine whether we have a controlling financial interest and would therefore be considered the primary beneficiary of the VIE. If we determine we are the primary beneficiary of a VIE, we consolidate the assets and liabilities of the VIE in our consolidated financial statements.

 

Consolidated VIEs

 

Credit-Linked Notes

 

We have invested in the Class 1 Notes of two credit-linked note (“CLN”) structures, which represent special purpose trusts combining asset-backed securities with credit default swaps to produce multi-class structured securities. The CLN structures also include subordinated Class 2 Notes, which are held by third parties, and, together with the Class 1 Notes, represent 100% of the outstanding notes of the CLN structures. The entities that issued the CLNs are financed by the note holders, and, as such, the note holders participate in the expected losses and residual returns of the entities. Because the note holders do not have voting rights or similar rights, we determined the entities issuing the CLNs are VIEs, and as a note holder, our interest represented a variable interest. We have the power to direct the most significant activity affecting the performance of both CLN structures, as we have the ability to actively manage the reference portfolio underlying the credit default swaps. As a result, we have concluded we are the primary beneficiary of the VIEs associated with the CLNs and have consolidated the assets and liabilities of both CLN structures in our Consolidated Balance Sheets.

 

As a result of consolidating the CLNs, we also consolidate the derivative instruments in the CLN structures. The credit default swaps create variability in the CLN structures and expose the note holders to the credit risk of the referenced portfolio. The contingent forwards transfer a portion of the loss in the underlying fixed maturity corporate asset-backed credit card loan securities back to the counterparty after credit losses reach our attachment point.

 

The following summarizes information regarding the CLN structures (dollars in millions) as of September 30, 2011:

       Amount and Date of Issuance 
        $400 $200  
        December April  
        2006 2007  
Original attachment point (subordination) 5.50% 2.05%  
Current attachment point (subordination) 4.17% 1.48%  
Maturity12/20/2016 3/20/2017  
Current rating of tranche  B+ Ba2  
Current rating of underlying collateral pool  Aa1-B3 Aaa-Caa1  
Number of defaults in underlying collateral pool  2  2  
Number of entities   123  99  
Number of countries   19  22  

There has been no event of default on the CLNs themselves. Based upon our analysis, the remaining subordination as represented by the attachment point should be sufficient to absorb future credit losses, subject to changing market conditions. Similar to other debt market instruments, our maximum principal loss is limited to our original investment.

 

The following summarizes the exposure of the CLN structures' underlying collateral by industry and rating as of September 30, 2011:

                               
IndustryAAA AA A BBB BB B CCC Total
Telecommunications0.0% 0.0% 5.5% 5.1% 0.6% 0.0% 0.0% 11.2%
Financial intermediaries0.3% 4.0% 5.7% 0.5% 0.0% 0.0% 0.0% 10.5%
Oil and gas0.0% 1.0% 1.2% 4.1% 0.0% 0.0% 0.0% 6.3%
Utilities0.0% 0.0% 3.1% 1.4% 0.0% 0.0% 0.0% 4.5%
Chemicals and plastics0.0% 0.0% 2.3% 1.2% 0.4% 0.0% 0.0% 3.9%
Drugs0.3% 2.2% 1.2% 0.0% 0.0% 0.0% 0.0% 3.7%
Retailers (except food                        
 and drug)0.0% 0.0% 1.6% 1.4% 0.5% 0.0% 0.0% 3.5%
Industrial equipment0.0% 0.0% 3.0% 0.3% 0.0% 0.0% 0.0% 3.3%
Sovereign0.0% 0.7% 1.6% 1.0% 0.0% 0.0% 0.0% 3.3%
Food products0.0% 0.3% 1.8% 1.1% 0.0% 0.0% 0.0% 3.2%
Conglomerates0.0% 2.6% 0.5% 0.0% 0.0% 0.0% 0.0% 3.1%
Forest products0.0% 0.0% 0.0% 1.6% 1.4% 0.0% 0.0% 3.0%
Other industry < 3%                        
 (27 industries)0.0% 2.5% 15.4% 17.3% 3.6% 1.4% 0.3% 40.5%
  Total0.6% 13.3% 42.9% 35.0% 6.5% 1.4% 0.3% 100.0%

           As of September 30, 2011  As of December 31, 2010
           Number         Number       
           of  Notional Carrying  of  Notional Carrying
          Instruments Amounts Value Instruments Amounts Value
Assets                     
Fixed maturity securities:                     
 Asset-backed credit card loan  N/A  $ - $ 593   N/A  $ - $ 584
 U.S. Government bonds  N/A    -   107   N/A    -   -
Excess mortality swap   1    100   -    -    -   -
     Total assets (1)   1  $ 100 $ 700    -  $ - $ 584
                               
Liabilities                     
Derivative instruments not designated                     
 and not qualifying as hedging                     
 instruments:                     
  Credit default swaps   2  $ 600 $ 312    2  $ 600 $ 215
  Contingent forwards   2    -   (5)    2    -   (6)
   Total derivative instruments not                      
    designated and not qualifying                      
    as hedging instruments   4    600   307    4    600   209
Federal income tax  N/A    -   (104)   N/A    -   (77)
     Total liabilities (2)   4  $ 600 $ 203    4  $ 600 $ 132

  • Reported in VIEs' fixed maturity securities on our Consolidated Balance Sheets.
  • Reported in VIEs' liabilities on our Consolidated Balance Sheets.

 

For details related to the fixed maturity AFS securities for these VIEs, see Note 5.

 

As described more fully in Note 1 of our 2010 Form 10-K, we regularly review our investment holdings for other-than-temporary impairment (“OTTI”). Based upon this review, we believe that the fixed maturity securities were not other-than-temporarily impaired as of September 30, 2011.

 

The gains (losses) for these consolidated VIEs (in millions) recorded on our Consolidated Statements of Income (Loss) were as follows:

         For the Three For the Nine
         Months Ended Months Ended
         September 30, September 30,
         2011 2010 2011 2010
Derivative Instruments Not Designated and            
 Not Qualifying as Hedging Instruments           
Credit default swaps$ (105) $ 60 $ (92) $ (10)
Contingent forwards  2   (4)   1   (7)
 Total derivative instruments not designated and           
  not qualifying as hedging instruments (1)$ (103) $ 56 $ (91) $ (17)

  • Reported in realized gain (loss) on our Consolidated Statements of Income (Loss).

 

Unconsolidated VIEs

 

See Note 4 in our 2010 Form 10-K for a detailed discussion of our unconsolidated VIEs.