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 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 notional value and gross fair value of derivative instruments, including embedded derivatives:



	June 30, 2017						December 31, 2016
	Notional		Gross Fair Value				Notional		Gross Fair Value
	Notional		Assets⁽¹⁾		Liabilities⁽²⁾⁽³⁾		Notional		Assets⁽¹⁾		Liabilities⁽²⁾⁽³⁾
	(in millions)
Derivatives designated as hedging instruments
Interest rate contracts	$	675	$	35	$	—	$	675	$	40	$	—
Foreign exchange contracts	14		—		—		164		12		—
Total qualifying hedges	689		35		—		839		52		—

Derivatives not designated as hedging instruments
Interest rate contracts	67,921		1,229		451		71,949		1,735		979
Equity contracts	59,412		1,759		2,291		60,696		1,568		2,027
Credit contracts	813		1		—		1,039		1		—
Foreign exchange contracts	4,487		46		30		4,733		81		47
Other contracts	3,425		6		138		3,060		9		118
Total non-designated hedges	136,058		3,041		2,910		141,477		3,394		3,171

Embedded derivatives
GMWB and GMAB ⁽⁴⁾	N/A		—		272		N/A		—		614
IUL	N/A		—		527		N/A		—		464
EIA	N/A		—		4		N/A		—		5
SMC	N/A		—		8		N/A		—		8
Total embedded derivatives	N/A		—		811		N/A		—		1,091
Total derivatives	$	136,747	$	3,076	$	3,721	$	142,316	$	3,446	$	4,262

N/A Not applicable.

⁽¹⁾The fair value of freestanding derivative assets is included in Other assets on the Consolidated Balance Sheets.

⁽²⁾The fair value of freestanding derivative liabilities is included in Other liabilities on the Consolidated Balance Sheets. The fair value of GMWB and GMAB, IUL, and EIA embedded derivatives is included in Policyholder account balances, future policy benefits and claims on the Consolidated Balance Sheets. The fair value of the SMC embedded derivative liability is included in Customer deposits on the Consolidated Balance Sheets.

⁽³⁾The fair value of the Company’s derivative liabilities after considering the effects of master netting arrangements, cash collateral held by the same counterparty and the fair value of net embedded derivatives was $1.4 billion and $1.5 billion as of June 30, 2017 and December 31, 2016, respectively. See Note 11 for additional information related to master netting arrangements and cash collateral.

⁽⁴⁾The fair value of the GMWB and GMAB embedded derivatives as of June 30, 2017 included $637 million of individual contracts in a liability position and $365 million of individual contracts in an asset position. The fair value of the GMWB and GMAB embedded derivatives as of December 31, 2016 included $880 million of individual contracts in a liability position and $266 million of individual contracts in an asset position.

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

As of June 30, 2017 and December 31, 2016, investment securities with a fair value of $141 million and $235 million, respectively, were received as collateral to meet contractual obligations under derivative contracts, of which $140 million and $118 million, respectively, may be sold, pledged or rehypothecated by the Company. As of June 30, 2017 and December 31, 2016, the Company had sold, pledged or rehypothecated $13 million and $19 million, respectively, of these securities. In addition, as of June 30, 2017 and December 31, 2016, non-cash collateral accepted was held in separate custodial accounts and was not included in the Company’s Consolidated Balance Sheets.

Derivatives Not Designated as Hedges

The following tables present a summary of the impact of derivatives not designated as hedging instruments, including embedded derivatives, on the Consolidated Statements of Operations:



	Net Investment Income			Banking and Deposit Interest Expense			Distribution Expenses		Interest Credited to Fixed Accounts			Benefits, Claims, Losses and Settlement Expenses			General and Administrative Expense
	(in millions)
Three Months Ended June 30, 2017
Interest rate contracts	$	(8	)	$	—		$	—	$	—		$	185		$	—
Equity contracts	1			1			8		13			(181		)	2
Credit contracts	—			—			—		—			(11		)	—
Foreign exchange contracts	—			—			1		—			(4		)	3
Other contracts	—			—			—		—			(73		)	—
GMWB and GMAB embedded derivatives	—			—			—		—			(84		)	—
IUL embedded derivatives	—			—			—		(12		)	—			—
SMC embedded derivatives	—			(1		)	—		—			—			—
Total gain (loss)	$	(7	)	$	—		$	9	$	1		$	(168	)	$	5



Six Months Ended June 30, 2017
Interest rate contracts	$	(7	)	$	—		$	—	$	—		$	110		$	—
Equity contracts	3			2			23		32			(597		)	5
Credit contracts	—			—			—		—			(19		)	—
Foreign exchange contracts	—			—			2		—			(28		)	4
Other contracts	—			—			—		—			(125		)	—
GMWB and GMAB embedded derivatives	—			—			—		—			342			—
IUL embedded derivatives	—			—			—		(19		)	—			—
SMC embedded derivatives	—			(2		)	—		—			—			—
Total gain (loss)	$	(4	)	$	—		$	25	$	13		$	(317	)	$	9



	Net Investment Income			Banking and Deposit Interest Expense			Distribution Expenses			Interest Credited to Fixed Accounts		Benefits, Claims, Losses and Settlement Expenses			General and Administrative Expense
	(in millions)
Three Months Ended June 30, 2016
Interest rate contracts	$	(20	)	$	—		$	—		$	—	$	449		$	—
Equity contracts	—			—			4			1		(96		)	—
Credit contracts	—			—			—			—		(15		)	—
Foreign exchange contracts	(2		)	—			(1		)	—		(19		)	6
Other contracts	—			—			—			—		1			—
GMWB and GMAB embedded derivatives	—			—			—			—		(450		)	—
IUL embedded derivatives	—			—			—			3		—			—
SMC embedded derivatives	—			(1		)	—			—		—			—
Total gain (loss)	$	(22	)	$	(1	)	$	3		$	4	$	(130	)	$	6



Six Months Ended June 30, 2016
Interest rate contracts	$	(60	)	$	—		$	—	$	—		$	1,204		$	—
Equity contracts	—			(1		)	2		(2		)	(161		)	1
Credit contracts	—			—			—		—			(31		)	—
Foreign exchange contracts	(2		)	—			2		—			(54		)	12
Other contracts	—			—			—		—			(8		)	—
GMWB and GMAB embedded derivatives	—			—			—		—			(1,114		)	—
IUL embedded derivatives	—			—			—		17			—			—
SMC embedded derivatives	—			—			—		—			—			—
Total gain (loss)	$	(62	)	$	(1	)	$	4	$	15		$	(164	)	$	13

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 GMAB and non-life contingent GMWB provisions are considered embedded derivatives, which 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. The Company economically hedges the exposure related to GMAB and non-life contingent GMWB provisions primarily using futures, options, interest rate swaptions, interest rate swaps, total return swaps and variance swaps.

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 as of June 30, 2017:



	Premiums Payable		Premiums Receivable
	(in millions)
2017⁽¹⁾	$	148	$	39
2018	231		131
2019	293		171
2020	207		100
2021	187		108
2022 - 2027	653		183
Total	$	1,719	$	732

⁽¹⁾2017 amounts represent the amounts payable and receivable for the period from July 1, 2017 to December 31, 2017.

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 futures, 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 either interest rate contracts or equity contracts. The Company’s macro hedge derivatives are included in Other contracts in the tables above.

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. The equity component of the EIA, IUL and stock market certificate product obligations are considered embedded derivatives, which 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 a means of economically hedging its obligations under the provisions of these products, the Company enters into index options and futures contracts.

The Company enters into futures and commodity swaps to manage its exposure to price risk arising from seed money investments in proprietary investment products. The Company enters into foreign currency forward contracts to economically hedge its exposure to certain foreign transactions. The Company enters into futures contracts to economically hedge its exposure related to compensation plans. In 2015, the Company entered into interest rate swaps to offset interest rate changes on unrealized gains or losses for certain investments.

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 and six months ended June 30, 2017 and 2016, 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 June 30, 2017 that the Company expects to reclassify to earnings within the next twelve months is $2 million, which consists of $2 million of pretax gains to be recorded as a reduction to interest and debt expense and $4 million of pretax losses to be recorded in net investment income. Currently, the longest period of time over which the Company is hedging exposure to the variability in future cash flows is 18 years and relates to forecasted debt interest payments. See Note 13 for a rollforward of net unrealized derivative gains (losses) included in AOCI related to cash flow hedges.

Fair Value Hedges

The Company entered into and designated as fair value hedges two interest rate swaps to convert senior notes due 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 June 30,				Six Months Ended June 30,
		2017		2016		2017		2016
		(in millions)
Interest rate contracts	Interest and debt expense	$	4	$	5	$	8	$	10

Net Investment Hedges

The Company entered into, and designated as net investment hedges in foreign operations, forward contracts to hedge a portion of the Company’s foreign currency exchange rate risk associated with its investment in Threadneedle. As the Company determined that the forward contracts are effective, the change in fair value of the derivatives is recognized in AOCI as part of the foreign currency translation adjustment. For the three months ended June 30, 2017 and 2016, the Company recognized a loss of $1 million and a gain of $19 million, respectively, in OCI. For the six months ended June 30, 2017 and 2016, the Company recognized a gain of $1 million and a gain of $19 million, respectively, in OCI.

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. As of June 30, 2017 and December 31, 2016, the aggregate fair value of derivative contracts in a net liability position containing such credit contingent provisions was $385 million and $254 million, respectively. The aggregate fair value of assets posted as collateral for such instruments as of June 30, 2017 and December 31, 2016 was $375 million and $246 million, respectively. If the credit contingent provisions of derivative contracts in a net liability position as of June 30, 2017 and December 31, 2016 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 $10 million and $8 million, respectively.