Note 9. Investments

The following tables set forth the Company’s cash and investments as of September 30, 2014 and December 31, 2013. The table below includes other-than-temporarily impaired (“OTTI”) securities recognized within accumulated other comprehensive income (“AOCI”).


	September 30, 2014
In thousands	Fair Value		Gross Unrealized Gains		Gross Unrealized (Losses)			Cost or Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds	$	414,348	$	2,712	$	(6,215	)	$	417,851
States, municipalities and political subdivisions		550,327		16,585		(1,360	)		535,102
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities		296,198		7,201		(2,363	)		291,360
Residential mortgage obligations		34,738		1,238		(133	)		33,633
Asset-backed securities		195,180		414		(519	)		195,285
Commercial mortgage-backed securities		210,712		6,244		(588	)		205,056

Subtotal	$	736,828	$	15,097	$	(3,603	)	$	725,334
Corporate bonds		608,692		11,945		(2,350	)		599,097

Total fixed maturities	$	2,310,195	$	46,339	$	(13,528	)	$	2,277,384
Equity securities - common stocks		113,250		26,251		(772	)		87,771
Equity securities - Preferred stocks		50,223		1,481		(249	)		48,991
Short-term investments		255,445		11		—			255,434
Cash		74,408		—		—			74,408

Total	$	2,803,521	$	74,082	$	(14,549	)	$	2,743,988


	December 31, 2013
In thousands	Fair Value		Gross Unrealized Gains		Gross Unrealized (Losses)			Cost or Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds	$	441,685	$	2,854	$	(8,855	)	$	447,686
States, municipalities and political subdivisions		460,422		9,298		(13,651	)		464,775
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities		301,274		6,779		(6,016	)		300,511
Residential mortgage obligations		41,755		1,212		(161	)		40,704
Asset-backed securities		125,133		653		(480	)		124,960
Commercial mortgage-backed securities		172,750		7,656		(374	)		165,468

Subtotal	$	640,912	$	16,300	$	(7,031	)	$	631,643
Corporate bonds		504,854		15,402		(3,443	)		492,895

Total fixed maturities	$	2,047,873	$	43,854	$	(32,980	)	$	2,036,999
Equity securities - common stocks		143,954		25,700		(550	)		118,804
Short-term investments		296,250		—		—			296,250
Cash		86,509		—		—			86,509

Total	$	2,574,586	$	69,554	$	(33,530	)	$	2,538,562

As of September 30, 2014 and December 31, 2013, fixed maturities for which non-credit OTTI was previously recognized and included in other accumulated comprehensive income are now in an unrealized gains position of $0.7 million and $0.5 million, respectively.

The fair value of the Company’s investment portfolio may fluctuate significantly in response to various factors such as changes in interest rates, investment quality ratings, equity prices, foreign exchange rates and credit spreads. The Company does not have the intent to sell nor is it more likely than not that it will have to sell fixed maturities in unrealized loss positions that are not other-than-temporarily impaired before recovery. For structured securities, default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. The Company does not intend to sell any of these securities and it is more likely than not that the Company will not be required to sell these securities before the recovery of the amortized cost basis. For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. The Company may realize investment losses to the extent its liquidity needs require the disposition of fixed maturity securities in unfavorable interest rate, liquidity or credit spread environments. Significant changes in the factors the Company considers when evaluating investments for impairment losses could result in a significant change in impairment losses reported in the consolidated financial statements.

The contractual maturity dates for fixed maturities categorized by the number of years until maturity as of September 30, 2014 are shown in the following table:


	September 30, 2014
	Fair		Amortized
In thousands	Value		Cost
Due in one year or less	$	57,455	$	57,822
Due after one year through five years		768,839		761,771
Due after five years through ten years		376,070		370,373
Due after ten years		371,003		362,084
Mortgage- and asset-backed securities		736,828		725,334

Total	$	2,310,195	$	2,277,384

Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. Due to the periodic repayment of principal, the mortgage-backed and asset-backed securities are estimated to have an effective maturity of approximately 4.5 years.

The following table shows the amount and percentage of the Company’s fixed maturities as of September 30, 2014 by S&P credit rating or, if an S&P rating is not available, the equivalent Moody’s Investor Services (“Moody’s”) rating. The table includes fixed maturities at fair value, and the total rating is the weighted average quality rating.


	September 30, 2014
In thousands	Rating	Fair Value		Percent of Total
Rating description:
Extremely strong	AAA	$	446,347		19	%
Very strong	AA		1,067,305		46	%
Strong	A		623,183		27	%
Adequate	BBB		159,354		7	%
Speculative	BB & Below		13,534		1	%
Not rated	NR		472		0	%

Total	AA	$	2,310,195		100	%

The following table summarizes all securities in a gross unrealized loss position as of September 30, 2014 and December 31, 2013, showing the aggregate fair value and gross unrealized loss by the length of time those securities had continuously been in a gross unrealized loss position as well as the relevant number of securities.


	September 30, 2014						December 31, 2013
In thousands, except # of securities	Number of Securities		Fair Value		Gross Unrealized Loss		Number of Securities		Fair Value		Gross Unrealized Loss
Fixed maturities:
U.S. Treasury bonds, agency bonds, and foreign government bonds
0-6 months		19	$	110,580	$	608		27	$	136,360	$	1,096
7-12 months		9		21,694		727		26		149,370		7,759
> 12 months		36		131,073		4,880		—		—		—

Subtotal		64	$	263,347	$	6,215		53	$	285,730	$	8,855
States, municipalities and political subdivisions
0-6 months		18	$	31,874	$	189		28	$	40,132	$	297
7-12 months		1		3,137		78		104		205,152		12,100
> 12 months		39		85,851		1,093		6		12,357		1,254

Subtotal		58	$	120,862	$	1,360		138	$	257,641	$	13,651
Agency mortgage-backed securities
0-6 months		5	$	42,373	$	230		39	$	39,458	$	434
7-12 months		2		1,636		12		64		77,860		3,768
> 12 months		61		74,476		2,121		9		22,784		1,814

Subtotal		68	$	118,485	$	2,363		112	$	140,102	$	6,016
Residential mortgage obligations
0-6 months		6	$	5,295	$	43		3	$	431	$	2
7-12 months		—		—		—		7		950		29
> 12 months		14		1,816		90		15		2,467		130

Subtotal		20	$	7,111	$	133		25	$	3,848	$	161
Asset-backed securities
0-6 months		16	$	93,871	$	200		14	$	75,887	$	479
7-12 months		3		9,930		28		1		203		1
> 12 months		2		31,663		291		—		—		—

Subtotal		21	$	135,464	$	519		15	$	76,090	$	480
Commercial mortgage-backed securities
0-6 months		9	$	48,884	$	408		4	$	6,712	$	31
7-12 months		—		—		—		2		15,098		322
> 12 months		4		15,539		180		4		774		21

Subtotal		13	$	64,423	$	588		10	$	22,584	$	374
Corporate bonds
0-6 months		59	$	218,185	$	1,016		34	$	93,591	$	717
7-12 months		6		8,006		124		18		55,021		2,726
> 12 months		11		36,689		1,210		—		—		—

Subtotal		76	$	262,880	$	2,350		52	$	148,612	$	3,443

Total fixed maturities		320	$	972,572	$	13,528		405	$	934,607	$	32,980

Equity securities - common stocks
0-6 months		5	$	15,496	$	309		5	$	7,387	$	422
7-12 months		1		3,940		433		2		3,538		128
> 12 months		1		214		30		—		—		—

Total common Stocks		7	$	19,650	$	772		7	$	10,925	$	550

Equity securities - preferred stocks
0-6 months		19	$	21,383	$	249		—	$	—	$	—
7-12 months		—		—		—		—		—		—
> 12 months		—		—		—		—		—		—

Total Preferred Stocks		19	$	21,383	$	249		—	$	—	$	—

As of September 30, 2014 and December 31, 2013, the largest unrealized loss by a non-government backed issuer in the investment portfolio was $0.6 million and $1.1 million, respectively.

The Company analyzes impaired securities quarterly to determine if any are other-than-temporary. The above securities with unrealized losses have been determined to be temporarily impaired based on the evaluation described below.

For fixed maturities, when assessing whether the amortized cost basis of the security will be recovered, the Company compares the present value of cash flows expected to be collected in relation to the current book value. Any shortfalls of the present value of the cash flows expected to be collected to the amortized cost basis is considered the credit loss portion of OTTI losses and is recognized in earnings. All non-credit losses are recognized as changes in OTTI losses within AOCI.

To determine whether the unrealized loss on structured securities is other-than-temporary, the Company analyzes the projections provided by its investment managers with respect to an expected principal loss under a range of scenarios and utilizes the most likely outcomes. The analysis relies on actual collateral performance measures such as default rate, prepayment rate and loss severity. These assumptions are applied throughout the remaining term of the deal, incorporating the transaction structure and priority of payments, to generate loss adjusted cash flows. Results of the analysis will indicate whether the security is expected ultimately to incur a loss or whether there is a material impact on yield due to either a projected loss or a change in cash flow timing. A break even default rate is also calculated. A comparison of the break even default rate to the actual default rate provides an indication of the level of cushion or coverage to the first dollar principal loss. The analysis applies the stated assumptions throughout the remaining term of the transaction to forecast cash flows, which are then applied through the transaction structure to determine whether there is a loss to the security. For securities in which a tranche loss is present, and the net present value of loss adjusted cash flows is less than book value, impairment is recognized. The output data also includes a number of additional metrics such as average life remaining, original and current credit support, over 60 day delinquency and security rating.

The significant inputs used to measure the amount of credit loss recognized in earnings were actual delinquency rates, default probability assumptions, severity assumptions and prepayment assumptions. Projected losses are a function of both loss severity and probability of default. Default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. The Company does not intend to sell any of these securities and it is more likely than not that it will not be required to sell these securities before the recovery of the amortized cost basis.

For equity securities, in general, the Company focuses its attention on those securities with a fair value less than 80% of their cost for six or more consecutive months. If warranted as the result of conditions relating to a particular security, the Company will focus on a significant decline in fair value regardless of the time period involved. Factors considered in evaluating potential impairment include, but are not limited to, the current fair value as compared to cost of the security, the length of time the investment has been below cost and by how much the investment is below cost. If an equity security is deemed to be other-than-temporarily impaired, the cost is written down to fair value with the loss recognized in earnings.

The Company’s ability to hold securities is supported by sufficient cash flow from its operations and from maturities within its investment portfolio in order to meet its claims payment and other disbursement obligations arising from its underwriting operations without selling such investments. With respect to securities where the decline in value is determined to be temporary and the security’s value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are made within the context of overall risk monitoring, changing information and market conditions.

The table below summarizes the Company’s activity related to OTTI losses for the periods indicated:


	Three Months Ended September 30,								Nine Months Ended September 30,
	2014				2013				2014					2013
In thousands, except # of securities	Number of Securities		Amount		Number of Securities		Amount		Number of Securities		Amount			Number of Securities		Amount
Total OTTI losses:
Corporate and other bonds		—	$	—		1	$	1,821		—	$	—			1	$	1,821
Commercial mortgage-backed securities		—		—		—		—		—		—			—		—
Residential mortgage-backed securities		31		41		—		—		31		(158	)		—		—
Asset-backed securities		—		—		—		—		—		—			—		—
Equities		—		—		—		—		—		—			2		42

Total		31	$	41		1	$	1,821		31	$	(158	)		3	$	1,863

Less: Portion of loss in accumulated other comprehensive income (loss):
Corporate and other bonds			$	—			$	—			$	—				$	—
Commercial mortgage-backed securities				—				—				—					—
Residential mortgage-backed securities				41				—				(158	)				—
Asset-backed securities				—				—				—					—
Equities				—				—				—					—

Total			$	41			$	—			$	(158	)			$	—

Impairment losses recognized in earnings:
Corporate and other bonds			$	—			$	1,821			$	—				$	1,821
Commercial mortgage-backed securities				—				—				—					—
Residential mortgage-backed securities				—				—				—					—
Asset-backed securities				—				—				—					—
Equities				—				—				—					42

Total			$	—			$	1,821			$	—				$	1,863

The following table summarizes the cumulative amounts related to the Company’s credit loss portion of the OTTI losses on fixed maturities for the three and nine months ended September 30, 2014 and 2013. The Company does not intend to sell and it is more likely than not that it will not be required to sell the securities, prior to recovery of the amortized cost basis and for which the non-credit loss portion is included in AOCI.


	Three Months Ended September 30,					Nine Months Ended September 30,
In thousands	2014			2013		2014			2013
Beginning balance	$	4,183		$	2,362	$	4,183		$	2,362
Additions for credit loss impairments recognized in the current period on securities not previously impaired		—			1,821		—			1,821
Additions for credit loss impairments recognized in the current period on securities previously impaired		—			—		—			—
Reductions for credit loss impairments previously recognized on securities sold during the period		(1,457	)		—		(1,457	)		—

Ending balance	$	2,726		$	4,183	$	2,726		$	4,183

As of September 30, 2014, there were no investments with a fair value of less than 80% of amortized cost.

The contractual maturity dates for fixed maturities categorized by the number of years until maturity, with a gross unrealized loss as of September 30, 2014 is presented in the following table:


	September 30, 2014
	Gross Unrealized Losses					Fair Value
In thousands	Amount		Percent of Total			Amount		Percent of Total
Due in one year or less	$	836		6	%	$	11,737		1	%
Due after one year through five years		4,374		32	%		370,199		38	%
Due after five years through ten years		3,723		28	%		162,429		17	%
Due after ten years		992		7	%		102,724		11	%
Mortgage- and asset-backed securities		3,603		27	%		325,483		33	%

Total	$	13,528		100	%	$	972,572		100	%

The Company’s net investment income was derived from the following sources:


	Three Months Ended September 30,						Nine Months Ended September 30,
In thousands	2014			2013			2014			2013
Fixed maturities	$	14,401		$	13,399		$	42,540		$	40,142
Equity securities		1,956			1,315			7,160			3,603
Short-term investments		225			187			686			575

Total investment income	$	16,582		$	14,901		$	50,386		$	44,320
Investment expenses		(743	)		(807	)		(2,289	)		(2,323	)

Net investment income	$	15,839		$	14,094		$	48,097		$	41,997

The change in net unrealized gains and losses, inclusive of the change in the non-credit portion of other-than-temporary impairment losses, consisted of:


	Nine Months Ended September 30,
In thousands	2014		2013
Fixed maturities	$	21,948	$	(63,771	)
Equity securities		1,561		11,551

Gross unrealized gains (losses)	$	23,509	$	(52,220	)
Deferred income tax		8,094		(18,296	)

Change in net unrealized gains (losses), net	$	15,415	$	(33,924	)

Realized gains and losses, excluding net OTTI losses recognized in earnings, for the periods indicated were as follows:


	Three Months Ended September 30,						Nine Months Ended September 30,
In thousands	2014			2013			2014			2013
Fixed maturities:
Gains	$	3,702		$	1,099		$	8,682		$	6,035
Losses		(1,645	)		(2,087	)		(3,752	)		(2,470	)

Fixed maturities, net	$	2,057		$	(988	)	$	4,930		$	3,565
Equity securities:
Gains	$	6,109		$	—		$	9,445		$	3,733
Losses		(1,448	)		—			(2,351	)		(127	)

Equity securities, net	$	4,661		$	—		$	7,094		$	3,606

Net realized gains (losses)	$	6,718		$	(988	)	$	12,024		$	7,171

The following tables present, for each of the fair value hierarchy levels as defined by the accounting guidance for fair value measurements and described below, the Company’s fixed maturities and equity securities by asset class that are measured at fair value on a recurring basis as of September 30, 2014 and December 31, 2013:


	September 30, 2014
In thousands	Level 1		Level 2		Level 3		Total
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds	$	177,933	$	236,415	$	—	$	414,348
States, municipalities and political subdivisions		—		550,327		—		550,327
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities		—		296,198		—		296,198
Residential mortgage obligations		—		34,738		—		34,738
Asset-backed securities		—		195,180		—		195,180
Commercial mortgage-backed securities		—		210,712		—		210,712

Subtotal	$	—	$	736,828	$	—	$	736,828
Corporate bonds		—		608,692		—		608,692

Total fixed maturities	$	177,933	$	2,132,262	$	—	$	2,310,195
Equity securities - common stocks		113,250		—		—		113,250
Equity securities - preferred stocks		—		50,223		—		50,223

Total	$	291,183	$	2,182,485	$	—	$	2,473,668


	December 31, 2013
In thousands	Level 1		Level 2		Level 3		Total
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds	$	242,379	$	199,306	$	—	$	441,685
States, municipalities and political subdivisions		—		460,422		—		460,422
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities		—		301,274		—		301,274
Residential mortgage obligations		—		41,755		—		41,755
Asset-backed securities		—		125,133		—		125,133
Commercial mortgage-backed securities		—		172,750		—		172,750

Subtotal	$	—	$	640,912	$	—	$	640,912
Corporate bonds		—		500,447		4,407		504,854

Total fixed maturities	$	242,379	$	1,801,087	$	4,407	$	2,047,873
Equity securities - common stocks		143,954		—		—		143,954

Total	$	386,333	$	1,801,087	$	4,407	$	2,191,827

The fair value of financial instruments is determined based on the following fair value hierarchy:

Level 1 – Quoted prices for identical instruments in active markets. Examples are listed equity and fixed income securities traded on an exchange. U.S. Treasury securities are reported as Level 1 and are valued based on unadjusted quoted prices for identical assets in active markets that the Company can access.

Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets. Examples are asset-backed and mortgage-backed securities that are similar to other asset-backed or mortgage-backed securities observed in the market. U.S. government agency securities are reported as Level 2 and are valued using yields and spreads that are observable in active markets.

Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. An example would be a private placement with minimal liquidity.

The Company did not have any significant transfers between Level 1 and 2 as of September 30, 2014 and September 30, 2013.

As of September 30, 2014, the Company did not have any Level 3 assets.

The following tables present a reconciliation of the beginning and ending balances of all investments measured at fair value using Level 3 inputs during the nine months ended September 30, 2014.


	Nine Months Ended September 30, 2014
In thousands	Beginning Balance		Realized Gains (Losses)		Unrealized Gains (Losses)		Purchases		Sales		Settlements		Transfers into Level 3		Transfers out of Level 3			Ending Balance
Assets:
Corporate Bonds	$	4,407	$	—	$	—	$	—	$	—	$	—	$	—	$	(4,407	)	$	—

Total assets	$	4,407	$	—	$	—	$	—	$	—	$	—	$	—	$	(4,407	)	$	—

During 2014 one security was transferred from Level 3 to Level 2 as the Company was able to obtain a valuation in which all significant inputs to the model are observable in active markets.

The following tables present a reconciliation of the beginning and ending balances of all investments measured at fair value using Level 3 inputs during the three and nine months ended September 30, 2013.


	Three Months Ended September 30, 2013
In thousands	Beginning Balance		Realized Gains (Losses)		Unrealized Gains (Losses)			Purchases		Sales			Settlements		Transfers into Level 3		Transfers out of Level 3		Ending Balance
Assets:
Corporate Bonds	$	—	$	—	$	(15	)	$	4,661	$	(84	)	$	—	$	—	$	—	$	4,562

Total assets	$	—	$	—	$	(15	)	$	4,661	$	(84	)	$	—	$	—	$	—	$	4,562


	Nine Months Ended September 30, 2013
In thousands	Beginning Balance		Realized Gains (Losses)		Unrealized Gains (Losses)			Purchases		Sales			Settlements		Transfers into Level 3		Transfers out of Level 3		Ending Balance
Assets:
Corporate Bonds	$	—	$	—	$	(15	)	$	4,661	$	(84	)	$	—	$	—	$	—	$	4,562

Total assets	$	—	$	—	$	(15	)	$	4,661	$	(84	)	$	—	$	—	$	—	$	4,562

The level 3 security was valued using unobservable inputs based on a proxy of a security of similar duration in which market quotations are available.

As of September 30, 2014 and December 31, 2013, the Company did not have a concentration of greater than 5% of invested assets in a single non-U.S. government-backed issuer.