Derivatives and Hedging Activities

Derivative instruments enable the Company to manage its exposure to various market risks. The value of such instruments is derived from an underlying variable or multiple variables, including equity, foreign exchange and interest rate indices or prices. The Company primarily enters into derivative agreements for risk management purposes related to the Company’s products and operations.

The Company’s freestanding derivatives are recorded at fair value and are reflected in other assets or other liabilities. The Company’s freestanding derivative instruments are all subject to master netting arrangements. The Company’s policy on the recognition of derivatives on the Consolidated Balance Sheets is to not offset fair value amounts recognized for derivatives and collateral arrangements executed with the same counterparty under the same master netting arrangement. See Note 11 for additional information regarding the estimated fair value of the Company’s freestanding derivatives after considering the effect of master netting arrangements and collateral.

The Company uses derivatives as economic hedges and accounting hedges. The following table presents the balance sheet location and the gross fair value of derivative instruments, including embedded derivatives:



Derivatives designated as hedging instruments		Assets					Liabilities
Derivatives designated as hedging instruments	Balance Sheet Location	March 31, 2015		December 31, 2014		Balance Sheet Location	March 31, 2015		December 31, 2014
		(in millions)					(in millions)
Fair value hedges
Interest rate contracts	Other assets	$	81	$	76	Other liabilities	$	—	$	—
Total qualifying hedges		81		76			—		—
Derivatives not designated as hedging instruments
GMWB and GMAB
Interest rate contracts	Other assets	2,397		1,955		Other liabilities	1,244		1,136
Equity contracts	Other assets	2,180		1,954		Other liabilities	2,681		2,650
Credit contracts	Other assets	—		—		Other liabilities	3		—
Foreign exchange contracts	Other assets	54		29		Other liabilities	5		2
Embedded derivatives⁽¹⁾	N/A	—		—		Policyholder account balances, future policy benefits and claims⁽²⁾	827		479
Total GMWB and GMAB		4,631		3,938			4,760		4,267
Other derivatives:
Equity
EIA embedded derivatives	N/A	—		—		Policyholder account balances, future policy benefits and claims	6		6
IUL	Other assets	33		39		Other liabilities	7		12
IUL embedded derivatives	N/A	—		—		Policyholder account balances, future policy benefits and claims	270		242
Stock market certificates	Other assets	33		46		Other liabilities	28		40
Stock market certificates embedded derivatives	N/A	—		—		Customer deposits	5		6
Foreign exchange
Foreign currency	Other assets	1		1		Other liabilities	—		—
Seed money	Other assets	—		—		Other liabilities	1		1
Other
Macro hedge program	Other assets	6		1		Other liabilities	106		114
Total other derivatives		73		87			423		421
Total non-designated hedges		4,704		4,025			5,183		4,688
Total derivatives		$	4,785	$	4,101		$	5,183	$	4,688

N/A Not applicable.

⁽¹⁾The fair values of GMWB and GMAB embedded derivatives fluctuate based on changes in equity, interest rate and credit markets.

⁽²⁾The fair value of the GMWB and GMAB embedded derivatives at March 31, 2015 included $979 million of individual contracts in a liability position and $152 million of individual contracts in an asset position. The fair value of the GMWB and GMAB embedded derivatives at December 31, 2014 included $700 million of individual contracts in a liability position and $221 million of individual contracts in an asset position.

See Note 10 for additional information regarding the Company’s fair value measurement of derivative instruments.

Derivatives Not Designated as Hedges

The following table presents a summary of the impact of derivatives not designated as hedging instruments on the Consolidated Statements of Operation:



Derivatives not designated as hedging instruments	Location of Gain (Loss) on Derivatives Recognized in Income	Amount of Gain (Loss) on Derivatives Recognized in Income
		Three Months Ended March 31,
		2015			2014
		(in millions)
GMWB and GMAB
Interest rate contracts	Benefits, claims, losses and settlement expenses	$	386		$	264
Equity contracts	Benefits, claims, losses and settlement expenses	(122		)	(204		)
Credit contracts	Benefits, claims, losses and settlement expenses	(9		)	(10		)
Foreign exchange contracts	Benefits, claims, losses and settlement expenses	(6		)	(1		)
Embedded derivatives ⁽¹⁾	Benefits, claims, losses and settlement expenses	(348		)	(104		)
Total GMWB and GMAB		(99		)	(55		)
Other derivatives:
Interest rate
Tax hedge	Net investment income	—			3
Seed money	Net investment income	—			(1		)
Equity
IUL	Interest credited to fixed accounts	1			5
IUL embedded derivatives	Interest credited to fixed accounts	(9		)	(6		)
Stock market certificates	Banking and deposit interest expense	1			1
Stock market certificates embedded derivatives	Banking and deposit interest expense	—			(1		)
Seed money	Net investment income	(2		)	(1		)
Deferred compensation	Distribution expenses	7			1
Deferred compensation	General and administrative expense	1			—
Foreign exchange
Deferred compensation	Distribution expenses	(3		)	—
Commodity
Seed money	Net investment income	—			(1		)
Other
Macro hedge program	Benefits, claims, losses and settlement expenses	(1		)	13
Total other derivatives		(5		)	13
Total derivatives		$	(104	)	$	(42	)

⁽¹⁾The fair values of GMWB and GMAB embedded derivatives fluctuate based on changes in equity, interest rate and credit markets.

The Company holds derivative instruments that either do not qualify or are not designated for hedge accounting treatment. These derivative instruments are used as economic hedges of equity, interest rate, credit and foreign currency exchange rate risk related to various products and transactions of the Company.

Certain annuity contracts contain GMWB or GMAB provisions, which guarantee the right to make limited partial withdrawals each contract year regardless of the volatility inherent in the underlying investments or guarantee a minimum accumulation value of consideration received at the beginning of the contract period, after a specified holding period, respectively. The Company economically hedges the exposure related to non-life contingent GMWB and GMAB provisions primarily using various futures, options, interest rate swaptions, interest rate swaps, total return swaps and variance swaps. At March 31, 2015 and December 31, 2014, the gross notional amount of derivative contracts for the Company’s GMWB and GMAB provisions was $139.1 billion and $132.0 billion, respectively.

The deferred premium associated with certain of the above options is paid or received semi-annually over the life of the option contract or at maturity. The following is a summary of the payments the Company is scheduled to make and receive for these options:



	Premiums Payable		Premiums Receivable
	(in millions)
2015 ⁽¹⁾	$	311	$	57
2016	334		68
2017	274		69
2018	205		93
2019	259		87
2020-2027	634		146
Total	$	2,017	$	520

⁽¹⁾2015 amounts represent the amounts payable and receivable for the period from April 1, 2015 to December 31, 2015.

Actual timing and payment amounts may differ due to future contract settlements, modifications or exercises of options prior to the full premium being paid or received.

The Company has a macro hedge program to provide protection against the statutory tail scenario risk arising from variable annuity reserves on its statutory surplus and to cover some of the residual risks not covered by other hedging activities. As a means of economically hedging these risks, the Company uses a combination of options, interest rate swaptions and/or swaps. Certain of the macro hedge derivatives used contain settlement provisions linked to both equity returns and interest rates; the remaining are interest rate contracts or equity contracts. The gross notional amount of these derivative contracts was $3.7 billion and $2.7 billion at March 31, 2015 and December 31, 2014, respectively.

EIA, IUL and stock market certificate products have returns tied to the performance of equity markets. As a result of fluctuations in equity markets, the obligation incurred by the Company related to EIA, IUL and stock market certificate products will positively or negatively impact earnings over the life of these products. As a means of economically hedging its obligations under the provisions of these products, the Company enters into index options and futures contracts. The gross notional amount of these derivative contracts was $2.0 billion at both March 31, 2015 and December 31, 2014.

The Company enters into futures, commodity swaps, and foreign currency forward contracts to manage its exposure to price risk arising from seed money investments in proprietary investment products. The gross notional amount of these contracts was $85 million and $97 million at March 31, 2015 and December 31, 2014, respectively.

The Company enters into foreign currency forward contracts to economically hedge its exposure to certain transactions denominated in non-functional currencies. The gross notional amount of these contracts was $9 million and $11 million at March 31, 2015 and December 31, 2014, respectively.

The Company enters into futures contracts to economically hedge its exposure related to deferred compensation plans. The gross notional amount of these contracts was $301 million and $278 million at March 31, 2015 and December 31, 2014, respectively.

Embedded Derivatives

Certain annuities contain GMAB and non-life contingent GMWB provisions, which are considered embedded derivatives. In addition, the equity component of the EIA, IUL and stock market certificate product obligations are also considered embedded derivatives. These embedded derivatives are bifurcated from their host contracts for valuation purposes and reported on the Consolidated Balance Sheets at fair value with changes in fair value reported in earnings. As discussed above, the Company uses derivatives to mitigate the financial statement impact of these embedded derivatives.

Cash Flow Hedges

The Company has designated and accounts for the following as cash flow hedges: (i) interest rate swaps to hedge interest rate exposure on debt, (ii) interest rate lock agreements to hedge interest rate exposure on debt issuances and (iii) swaptions used to hedge the risk of increasing interest rates on forecasted fixed premium product sales.

For the three months ended March 31, 2015 and 2014, amounts recognized in earnings related to cash flow hedges due to ineffectiveness were not material. The estimated net amount of existing pretax losses as of March 31, 2015 that the Company expects to reclassify to earnings within the next twelve months is $2 million, which consists of $4 million of pretax gains to be recorded as a reduction to interest and debt expense and $6 million of pretax losses to be recorded in net investment income.

The following table presents the impact of the effective portion of the Company’s cash flow hedges on the Consolidated Statements of Operations and the Consolidated Statements of Equity:



Location of Gain (Loss) Reclassified from Accumulated Other Comprehensive Income into Income	Amount of Gain (Loss) Reclassified from Accumulated Other Comprehensive Income into Income
	Three Months Ended March 31,
	2015			2014
	(in millions)
Interest and debt expense	$	1		$	1
Net investment income	(1		)	(1		)
Total	$	—		$	—

Currently, the longest period of time over which the Company is hedging exposure to the variability in future cash flows is 21 years and relates to forecasted debt interest payments.

Fair Value Hedges

In 2010, the Company entered into and designated as fair value hedges three interest rate swaps to convert senior notes due 2015, 2019 and 2020 from fixed rate debt to floating rate debt. The swaps have identical terms as the underlying debt being hedged so no ineffectiveness is expected to be realized. The Company recognizes gains and losses on the derivatives and the related hedged items within interest and debt expense. The following table presents the amounts recognized in income related to fair value hedges:



Derivatives designated as hedging instruments	Location of Gain Recorded into Income	Amount of Gain Recognized in Income on Derivatives
		Three Months Ended March 31,
		2015		2014
		(in millions)
Interest rate contracts	Interest and debt expense	$	8	$	8

Credit Risk

Credit risk associated with the Company’s derivatives is the risk that a derivative counterparty will not perform in accordance with the terms of the applicable derivative contract. To mitigate such risk, the Company has established guidelines and oversight of credit risk through a comprehensive enterprise risk management program that includes members of senior management. Key components of this program are to require preapproval of counterparties and the use of master netting arrangements and collateral arrangements whenever practical. See Note 11 for additional information on the Company’s credit exposure related to derivative assets.

Certain of the Company’s derivative contracts contain provisions that adjust the level of collateral the Company is required to post based on the Company’s debt rating (or based on the financial strength of the Company’s life insurance subsidiaries for contracts in which those subsidiaries are the counterparty). Additionally, certain of the Company’s derivative contracts contain provisions that allow the counterparty to terminate the contract if the Company’s debt does not maintain a specific credit rating (generally an investment grade rating) or the Company’s life insurance subsidiary does not maintain a specific financial strength rating. If these termination provisions were to be triggered, the Company’s counterparty could require immediate settlement of any net liability position. At March 31, 2015 and December 31, 2014, the aggregate fair value of derivative contracts in a net liability position containing such credit contingent provisions was $430 million and $416 million, respectively. The aggregate fair value of assets posted as collateral for such instruments as of March 31, 2015 and December 31, 2014 was $417 million and $416 million, respectively. If the credit contingent provisions of derivative contracts in a net liability position at March 31, 2015 and December 31, 2014 were triggered, the aggregate fair value of additional assets that would be required to be posted as collateral or needed to settle the instruments immediately would have been $13 million and nil, respectively.