DERIVATIVE INSTRUMENTS

Types of Derivative Instruments and Derivative Strategies

Interest Rate Contracts

Interest rate swaps, options and futures are used by the Company to reduce risks from changes in interest rates, manage interest rate exposures arising from mismatches between assets and liabilities and to hedge against changes in their values it owns or anticipates acquiring or selling.

Swaps may be attributed to specific assets or liabilities or to a portfolio of assets or liabilities. Under interest rate swaps, the Company agrees with counterparties to exchange, at specified intervals, the difference between fixed-rate and floating-rate interest amounts calculated by reference to an agreed upon notional principal amount.

The Company also uses interest rate swaptions, caps, and floors to manage interest rate risk. A swaption is an option to enter into a swap with a forward starting effective date. The Company pays a premium for purchased swaptions and receives a premium for written swaptions. In an interest rate cap, the buyer receives payments at the end of each period in which the interest rate exceeds the agreed strike price. Similarly, in an interest rate floor, the buyer receives payments at the end of each period in which the interest rate is below the agreed strike price. Swaptions, caps and floors are included in interest rate options.

In standardized exchange-traded interest rate futures transactions, the Company purchases or sells a specified number of contracts, the values of which are determined by the daily market values of underlying referenced investments. The Company enters into exchange-traded futures with regulated futures commission’s merchants who are members of a trading exchange.

Equity Contracts

Equity options, total return swaps, and futures are used by the Company to manage its exposure to the equity markets which impacts the value of assets and liabilities it owns or anticipates acquiring or selling.

Equity index options are contracts which will settle in cash based on differentials in the underlying indices at the time of exercise and the strike price. The Company uses combinations of purchases and sales of equity index options to hedge the effects of adverse changes in equity indices within a predetermined range.

Total return swaps are contracts whereby the Company agrees with counterparties to exchange, at specified intervals, the difference between the return on an asset (or market index) and LIBOR plus an associated funding spread based on a notional amount. The Company generally uses total return swaps to hedge the effect of adverse changes in equity indices.

In standardized exchange-traded equity futures transactions, the Company purchases or sells a specified number of contracts, the values of which are determined by the daily market values of underlying referenced equity indices. The Company enters into exchange-traded futures with regulated futures commission’s merchants who are members of a trading exchange.

Foreign Exchange Contracts

Currency derivatives, including currency futures, options, forwards and swaps, are used by the Company to reduce risks from changes in currency exchange rates with respect to investments denominated in foreign currencies that the Company either holds or intends to acquire or sell, and to hedge the currency risk associated with net investments in foreign operations and anticipated earnings of its foreign operations.

Under currency forwards, the Company agrees with counterparties to deliver a specified amount of an identified currency at a specified future date. Typically, the price is agreed upon at the time of the contract and payment for such a contract is made at the specified future date. As noted above, the Company uses currency forwards to mitigate the impact of changes in currency exchange rates on U.S. dollar-equivalent earnings generated by certain of its non-U.S. businesses, primarily its international insurance and investment operations. The Company executes forward sales of the hedged currency in exchange for U.S. dollars at a specified exchange rate. The maturities of these forwards correspond with the future periods in which the non-U.S. dollar-denominated earnings are expected to be generated.

Under currency swaps, the Company agrees with counterparties to exchange, at specified intervals, the difference between one currency and another at an exchange rate and calculated by reference to an agreed principal amount. Generally, the principal amount of each currency is exchanged at the beginning and termination of the currency swap by each party.

Credit Contracts

The Company writes credit default swaps to gain exposure similar to investment in public fixed maturity cash instruments. With these derivatives the Company sells credit protection on a single name reference, or certain index reference, and in return receives a quarterly premium. This premium or credit spread generally corresponds to the difference between the yield on the referenced names (or an index’s referenced names) public fixed maturity cash instruments and swap rates, at the time the agreement is executed. If there is an event of default by the referenced name or one of the referenced names in the index, as defined by the agreement, then the Company is obligated to pay the referenced amount of the contract to the counterparty and receive in return the referenced defaulted security or similar security or (in the case of a credit default index) pay the referenced amount less the auction recovery rate. See credit derivatives written section for further discussion of guarantees. In addition to selling credit protection, the Company has purchased credit protection using credit derivatives in order to hedge specific credit exposures in the Company’s investment portfolio.

Other Contracts

TBAs. The Company uses TBA forward contracts to gain exposure to the investment risk and return of mortgage-backed securities. TBA transactions can help the Company enhance the return on its investment portfolio, and can provide a more liquid and cost effective method of achieving these goals than purchasing or selling individual mortgage-backed pools. Typically, the price is agreed upon at the time of the contract and payment for such a contract is made at a specified future date. Additionally, pursuant to the Company’s mortgage dollar roll program, TBAs or mortgage-backed securities are transferred to counterparties with a corresponding agreement to repurchase them at a future date. These transactions do not qualify as secured borrowings and are accounted for as derivatives.

Loan Commitments. In its mortgage operations, the Company enters into commitments to fund commercial mortgage loans at specified interest rates and other applicable terms within specified periods of time. These commitments are legally binding agreements to extend credit to a counterparty. Loan commitments for loans that will be held for sale are recognized as derivatives and recorded at fair value. The determination of the fair value of loan commitments accounted for as derivatives considers various factors including, among others, terms of the related loan, the intended exit strategy for the loans based upon either securitization valuation models or investor purchase commitments, prevailing interest rates, origination income or expense, and the value of service rights. Loan commitments that relate to the origination of mortgage loans that will be held for investment are not accounted for as derivatives and accordingly are not recognized in the Company’s financial statements. See Note 23 for additional information.

Embedded Derivatives. The Company sells variable annuity products, which may include guaranteed benefit features that are accounted for as embedded derivatives. These embedded derivatives are marked to market through “Realized investment gains (losses), net” based on the change in value of the underlying contractual guarantees, which are determined using valuation models. The Company maintains a portfolio of derivative instruments that is intended to offset certain risks related to the above products’ features. The derivatives may include, but are not limited to equity options, total return swaps, interest rate swaptions, caps, floors and other instruments.

Synthetic Guarantees. The Company sells synthetic Guaranteed Investment Contracts (“GICs”), through both full service and investment-only sales channels, to investment vehicles primarily used by qualified defined contribution pension plans. The synthetic GICs are issued in respect of assets that are owned by the trustees of such plans, who invest the assets according to the contract terms agreed to with the Company. The contracts establish participant balances and credit interest thereon. The participant balances are supported by the underlying assets. In connection with certain participant-initiated withdrawals, the contract guarantees that after all underlying assets are liquidated, any remaining participant balances will be paid by the Company. Under U.S. GAAP, these contracts are accounted for as derivatives and recorded at fair value.

Primary Risks Managed by Derivatives

The table below provides a summary of the gross notional amount and fair value of derivatives contracts by the primary underlying risks, excluding embedded derivatives and associated reinsurance recoverables. Many derivative instruments contain multiple underlyings. The fair value amounts below represent the gross fair value of derivative contracts prior to taking into account the netting effects of master netting agreements, cash collateral and NPR. This netting impact results in total derivative assets of $1,205 million and $1,367 million as of December 31, 2017 and 2016, respectively, and total derivative liabilities of $643 million and $345 million as of December 31, 2017 and 2016, respectively, reflected in the Consolidated Statements of Financial Position.



	December 31, 2017							December 31, 2016
Primary Underlying/ Instrument Type			Gross Fair Value							Gross Fair Value
	Notional		Assets		Liabilities			Notional		Assets		Liabilities

	(in millions)
Derivatives Designated as Hedge Accounting Instruments:
Interest Rate
Interest Rate Swaps	$	3,204	$	271	$	(88	)	$	1,117	$	17	$	(111	)
Foreign Currency
Foreign Currency Forwards	545		0		(8		)	167		3		(1		)
Currency/Interest Rate
Foreign Currency Swaps	17,732		766		(735		)	14,737		1,956		(54		)
Total Qualifying Hedges	$	21,481	$	1,037	$	(831	)	$	16,021	$	1,976	$	(166	)
Derivatives Not Qualifying as Hedge Accounting Instruments:
Interest Rate
Interest Rate Swaps	$	158,552	$	7,958	$	(3,509	)	$	162,131	$	8,969	$	(4,274	)
Interest Rate Futures	23,792		25		(1		)	31,183		55		(1		)
Interest Rate Options	18,456		167		(203		)	13,290		289		(132		)
Interest Rate Forwards	1,498		6		(2		)	321		0		(1		)
Foreign Currency
Foreign Currency Forwards	23,905		164		(254		)	21,042		372		(892		)
Foreign Currency Options	59		0		0			93		0		0
Currency/Interest Rate
Foreign Currency Swaps	13,777		822		(414		)	12,336		1,218		(311		)
Credit
Credit Default Swaps	1,314		21		(5		)	918		1		(25		)
Equity
Equity Futures	710		2		(2		)	1,371		0		(5		)
Equity Options	36,007		588		(364		)	12,020		102		(93		)
Total Return Swaps	15,558		17		(369		)	18,167		101		(390		)
Commodity
Commodity Futures	0		0		0			1		0		0
Synthetic GICs	77,290		0		(1		)	77,197		5		0
Total Non-Qualifying Derivatives	$	370,918	$	9,770	$	(5,124	)	$	350,070	$	11,112	$	(6,124	)
Total Derivatives(1)	$	392,399	$	10,807	$	(5,955	)	$	366,091	$	13,088	$	(6,290	)

__________


(1)	Excludes embedded derivatives and associated reinsurance recoverables which contain multiple underlyings. The fair value of these embedded derivatives was a net liability of $8,748 million and $8,252 million as of December 31, 2017, and 2016, respectively, primarily included in “Future policy benefits.”

Most of the Company’s derivatives do not qualify for hedge accounting for various reasons. For example: (i) derivatives that economically hedge embedded derivatives do not qualify for hedge accounting because changes in the fair value of the embedded derivatives are already recorded in net income; (ii) derivatives that are utilized as macro hedges of the Company’s exposure to various risks typically do not qualify for hedge accounting because they do not meet the criteria required under portfolio hedge accounting rules; and (iii) synthetic GICs, which are product standalone derivatives, do not qualify as hedging instruments under hedge accounting rules.

Offsetting Assets and Liabilities

The following table presents recognized derivative instruments (excluding embedded derivatives and associated reinsurance recoverables), and repurchase and reverse repurchase agreements that are offset in the Consolidated Statements of Financial Position, and/or are subject to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset in the Consolidated Statements of Financial Position.



	December 31, 2017
	Gross Amounts of Recognized Financial Instruments		Gross Amounts Offset in the Statements of Financial Position			Net Amounts Presented in the Statements of Financial Position		Financial Instruments/ Collateral(1)			Net Amount

	(in millions)
Offsetting of Financial Assets:
Derivatives(1)	$	10,710	$	(9,600	)	$	1,110	$	(625	)	$	485
Securities purchased under agreement to resell	240		0			240		(240		)	0
Total Assets	$	10,950	$	(9,600	)	$	1,350	$	(865	)	$	485
Offsetting of Financial Liabilities:
Derivatives(1)	$	5,948	$	(5,312	)	$	636	$	(588	)	$	48
Securities sold under agreement to repurchase	8,400		0			8,400		(8,400		)	0
Total Liabilities	$	14,348	$	(5,312	)	$	9,036	$	(8,988	)	$	48



	December 31, 2016
	Gross Amounts of Recognized Financial Instruments		Gross Amounts Offset in the Statements of Financial Position			Net Amounts Presented in the Statements of Financial Position		Financial Instruments/ Collateral(1)			Net Amount

	(in millions)
Offsetting of Financial Assets:
Derivatives(1)	$	12,987	$	(11,716	)	$	1,271	$	(399	)	$	872
Securities purchased under agreement to resell	1,016		0			1,016		(1,016		)	0
Total Assets	$	14,003	$	(11,716	)	$	2,287	$	(1,415	)	$	872
Offsetting of Financial Liabilities:
Derivatives(1)	$	6,281	$	(5,945	)	$	336	$	(299	)	$	37
Securities sold under agreement to repurchase	7,606		0			7,606		(7,606		)	0
Total Liabilities	$	13,887	$	(5,945	)	$	7,942	$	(7,905	)	$	37

__________


(1)	Amounts exclude the excess of collateral received/pledged from/to the counterparty.



	Year Ended December 31, 2017
	Realized Investment Gains (Losses)			Net Investment Income			Other Income			Interest Expense			Interest Credited To Policyholders’ Account Balances			AOCI(1)





	(in millions)
Derivatives Designated as Hedge Accounting Instruments:
Fair value hedges
Interest Rate	$	16		$	(19	)	$	0		$	0		$	(1	)	$	0
Currency	(6		)	0			0			0			0			0
Total fair value hedges	10			(19		)	0			0			(1		)	0
Cash flow hedges
Interest Rate	0			0			0			(3		)	0			7
Currency	0			0			0			0			0			(3		)
Currency/Interest Rate	0			189			(303		)	0			0			(1,359		)
Total cash flow hedges	0			189			(303		)	(3		)	0			(1,355		)
Net investment hedges
Currency	0			0			0			0			0			(9		)
Currency/Interest Rate	0			0			0			0			0			0
Total net investment hedges	0			0			0			0			0			(9		)
Derivatives Not Qualifying as Hedge Accounting Instruments:
Interest Rate	1,161			0			0			0			0			0
Currency	(340		)	0			0			0			0			0
Currency/Interest Rate	(250		)	0			(5		)	0			0			0
Credit	13			0			0			0			0			0
Equity	(2,498		)	0			0			0			0			0
Commodity	0			0			0			0			0			0
Embedded Derivatives	644			0			0			0			0			0
Total non-qualifying hedges	(1,270		)	0			(5		)	0			0			0
Total	$	(1,260	)	$	170		$	(308	)	$	(3	)	$	(1	)	$	(1,364	)



	Year Ended December 31, 2016
	Realized Investment Gains (Losses)			Net Investment Income			Other Income		Interest Expense			Interest Credited To Policyholders’ Account Balances		AOCI(1)

	(in millions)
Derivatives Designated as Hedge Accounting Instruments:
Fair value hedges
Interest Rate	$	26		$	(31	)	$	0	$	0		$	0	$	0
Currency	21			(1		)	0		0			0		0
Total fair value hedges	47			(32		)	0		0			0		0
Cash flow hedges
Interest Rate	0			0			0		(5		)	0		(1		)
Currency/Interest Rate	0			123			269		0			0		152
Total cash flow hedges	0			123			269		(5		)	0		151
Net investment hedges
Currency(2)	5			0			0		0			0		(5		)
Currency/Interest Rate	0			0			0		0			0		0
Total net investment hedges	5			0			0		0			0		(5		)
Derivatives Not Qualifying as Hedge Accounting Instruments:
Interest Rate	1,564			0			0		0			0		0
Currency	463			0			1		0			0		0
Currency/Interest Rate	10			0			3		0			0		0
Credit	32			0			0		0			0		0
Equity	(2,171		)	0			0		0			0		0
Commodity	(1		)	0			0		0			0		0
Embedded Derivatives	1,260			0			0		0			0		0
Total non-qualifying hedges	1,157			0			4		0			0		0
Total	$	1,209		$	91		$	273	$	(5	)	$	0	$	146



	Year Ended December 31, 2015
	Realized Investment Gains (Losses)			Net Investment Income			Other Income			Interest Expense			Interest Credited To Policyholders’ Account Balances		AOCI(1)





	(in millions)
Derivatives Designated as Hedge Accounting Instruments:
Fair value hedges
Interest Rate	$	29		$	(44	)	$	0		$	0		$	0	$	0
Currency	18			(1		)	0			0			0		0
Total fair value hedges	47			(45		)	0			0			0		0
Cash flow hedges
Interest Rate	0			0			0			(7		)	0		2
Currency/Interest Rate	0			75			146			0			0		957
Total cash flow hedges	0			75			146			(7		)	0		959
Net investment hedges
Currency	0			0			0			0			0		9
Currency/Interest Rate	0			0			0			0			0		31
Total net investment hedges	0			0			0			0			0		40
Derivatives Not Qualifying as Hedge Accounting Instruments:
Interest Rate	1,394			0			0			0			0		0
Currency	(124		)	0			(2		)	0			0		0
Currency/Interest Rate	563			0			7			0			0		0
Credit	(5		)	0			0			0			0		0
Equity	(591		)	0			0			0			0		0
Commodity	0			0			0			0			0		0
Embedded Derivatives	724			0			0			0			0		0
Total non-qualifying hedges	1,961			0			5			0			0		0
Total	$	2,008		$	30		$	151		$	(7	)	$	0	$	999

__________


(1)	Amounts deferred in AOCI.


(2)	Relates to the sale of equity method investments.

For the years ended December 31, 2017, 2016, and 2015, the ineffective portion of derivatives accounted for using hedge accounting were de minimis to the Company’s results of operations. Also, there were no material amounts reclassified into earnings relating to instances in which the Company discontinued cash flow hedge accounting because the forecasted transaction did not occur by the anticipated date or within the additional time period permitted by the authoritative guidance for the accounting for derivatives and hedging. In addition, there were no instances in which the Company discontinued fair value hedge accounting due to a hedged firm commitment no longer qualifying as a fair value hedge.

Presented below is a rollforward of current period cash flow hedges in AOCI before taxes:



	(in millions)
Balance, December 31, 2014	$	206
Net deferred gains (losses) on cash flow hedges from January 1 to December 31, 2015	1,199
Amount reclassified into current period earnings	(240		)
Balance, December 31, 2015	1,165
Net deferred gains (losses) on cash flow hedges from January 1 to December 31, 2016	602
Amount reclassified into current period earnings	(451		)
Balance, December 31, 2016	1,316
Net deferred gains (losses) on cash flow hedges from January 1 to December 31, 2017	(1,373		)
Amount reclassified into current period earnings	18
Balance, December 31, 2017	$	(39	)

The changes in fair value of cash flow hedges are deferred in AOCI and are included in “Net unrealized investment gains (losses)” in the Consolidated Statements of Comprehensive Income; these amounts are then reclassified to earnings when the hedged item affects earnings. Using December 31, 2017 values, it is estimated that a pre-tax gain of approximately $157 million will be reclassified from AOCI to earnings during the subsequent twelve months ending December 31, 2018, offset by amounts pertaining to the hedged items.

The Company’s exposure from the qualified cash flow hedges reflect variability of future cash flows in foreign currency amounts related to both the forecasted transactions and the receipt or payment of interest on existing financial instruments; as of December 31, 2017, the maximum length of time over which these cash flow hedges are outstanding were 5 years and 40 years, respectively.

For effective net investment hedges, the amounts, before applicable taxes, recorded in the cumulative translation adjustment account within AOCI were $526 million in 2017, $536 million in 2016, and $541 million in 2015, respectively.

Credit Derivatives

Credit derivatives, where the Company has written credit protection on a single name reference, had outstanding notional amounts of $114 million and $112 million as of December 31, 2017 and 2016, respectively. These credit derivatives are reported at fair value as an asset of $2 million and an asset of less than $1 million, as of December 31, 2017 and 2016, respectively. As of December 31, 2017, the notional amount of these credit derivatives had the following NAIC ratings: $36 million in NAIC 1; $62 million in NAIC 2; $5 million in NAIC 3; $2 million in NAIC 4; $5 million in NAIC 5 and $4 million in NAIC 6. The Company has also written credit protection on certain index references with notional amounts of $1,022 million and $50 million, reported at fair value as an asset of $18 million and fair value as a liability of less than $1 million as of December 31, 2017 and 2016, respectively. As of December 31, 2017, the notional amount of these credit derivatives had the following NAIC ratings: $52 million in NAIC 1; and $970 million in NAIC 4. NAIC designations are based on the lowest rated single name reference included in the index.

The Company’s maximum amount at risk under these credit derivatives equals the aforementioned notional amounts and assumes the value of the underlying referenced securities become worthless. These single name credit derivatives have maturities of less than 3 years, while the credit protection on the index references have maturities of less than 30 years. This excludes a credit derivative related to surplus notes issued by a subsidiary of Prudential Insurance.

The Company had a credit derivative that required the Company to make certain payments in the event of deterioration in the value of the surplus notes issued by a subsidiary of Prudential Insurance. A $12 million payment was made to terminate the credit derivative in September 2017. As of December 31, 2017 and 2016, the outstanding notional amount of this credit derivative was $0 million and $500 million, reported at fair value as a liability of $0 million and $17 million, respectively. No collateral was pledged in either period.

In addition to writing credit protection, the Company has purchased credit protection using credit derivatives in order to hedge specific credit exposures in the Company’s investment portfolio. As of December 31, 2017 and 2016, the Company had $178 million and $256 million of outstanding notional amounts, reported at fair value as a liability of $5 million and $8 million, respectively.