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Derivative Instruments
 6 Months Ended
Jun. 30, 2013
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Derivative Instruments and Hedging Activities Disclosure [Text Block]
Derivative Instruments
We recognize all derivative instruments as assets or liabilities in the consolidated balance sheets at fair value. None of our derivatives qualify for hedge accounting, thus, any change in the fair value of the derivatives is recognized immediately in the consolidated statements of operations. The fair value of our derivative instruments, including derivative instruments embedded in fixed index annuity contracts, presented in the consolidated balance sheets are as follows:
 
June 30,
2013
 
December 31,
2012
 
(Dollars in thousands)
Assets
 
 
 
Derivative instruments
 
 
 
Call options
$
629,135

 
$
415,258

Other assets
 
 
 
2015 notes hedges
71,400

 
43,105

Interest rate caps
5,565

 
3,247

Interest rate swap
274

 
—

 
$
706,374

 
$
461,610

Liabilities
 
 
 
Policy benefit reserves - annuity products
 
 
 
Fixed index annuities - embedded derivatives
$
3,747,052

 
$
3,337,556

Other liabilities
 
 
 
2015 notes embedded derivatives
71,400

 
43,105

Interest rate swap
—

 
4,261

 
$
3,818,452

 
$
3,384,922


The changes in fair value of derivatives included in the unaudited consolidated statements of operations are as follows:
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2013
 
2012
 
2013
 
2012
 
(Dollars in thousands)
Change in fair value of derivatives:
 
 
 
 
 
 
 
Call options
$
58,200

 
$
(122,241
)
 
$
402,854

 
$
119,279

2015 notes hedges
197

 
(24,163
)
 
28,295

 
(7,412
)
Interest rate swap
3,802

 
(4,038
)
 
4,535

 
(3,148
)
Interest rate caps
1,841

 
(405
)
 
2,318

 
(405
)
 
$
64,040

 
$
(150,847
)
 
$
438,002

 
$
108,314

Change in fair value of embedded derivatives:
 
 
 
 
 
 
 
2015 notes embedded derivatives
$
197

 
$
(24,163
)
 
$
28,295

 
$
(7,412
)
Fixed index annuities
(408,606
)
 
(56,826
)
 
(73,432
)
 
285,489

 
$
(408,409
)
 
$
(80,989
)
 
$
(45,137
)
 
$
278,077


We have fixed index annuity products that guarantee the return of principal to the policyholder and credit interest based on a percentage of the gain in a specified market index. When fixed index annuity deposits are received, a portion of the deposit is used to purchase derivatives consisting of call options on the applicable market indices to fund the index credits due to fixed index annuity policyholders. Substantially all such call options are one year options purchased to match the funding requirements of the underlying policies. The call options are marked to fair value with the change in fair value included as a component of revenues. The change in fair value of derivatives includes the gains or losses recognized at the expiration of the option term or upon early termination and the changes in fair value for open positions. On the respective anniversary dates of the index policies, the index used to compute the annual index credit is reset and we purchase new one-year call options to fund the next annual index credit. We manage the cost of these purchases through the terms of our fixed index annuities, which permit us to change caps, participation rates, and/or asset fees, subject to guaranteed minimums on each policy's anniversary date. By adjusting caps, participation rates, or asset fees, we can generally manage option costs except in cases where the contractual features would prevent further modifications.
Our strategy attempts to mitigate any potential risk of loss under these agreements through a regular monitoring process which evaluates the program's effectiveness. We do not purchase call options that would require payment or collateral to another institution and our call options do not contain counterparty credit-risk-related contingent features. We are exposed to risk of loss in the event of nonperformance by the counterparties and, accordingly, we purchase our option contracts from multiple counterparties and evaluate the creditworthiness of all counterparties prior to purchase of the contracts. All of these options have been purchased from nationally recognized financial institutions with a Standard and Poor's credit rating of A- or higher at the time of purchase and the maximum credit exposure to any single counterparty is subject to concentration limits. We also have credit support agreements that allow us to request the counterparty to provide collateral to us when the fair value of our exposure to the counterparty exceeds specified amounts.
The notional amount and fair value of our call options by counterparty and each counterparty's current credit rating are as follows:
 
 
 
 
 
 
June 30, 2013
 
December 31, 2012
Counterparty
 
Credit Rating
(S&P)
 
Credit Rating (Moody's)
 
Notional
Amount
 
Fair Value
 
Notional
Amount
 
Fair Value
 
 
 
 
 
 
(Dollars in thousands)
Bank of America
 
A
 
A3
 
$
1,075,595

 
$
39,162

 
$
568,786

 
$
16,533

Barclays
 
A
 
A2
 
3,617,125

 
131,476

 
3,463,777

 
103,929

BNP Paribas
 
A+
 
A2
 
1,895,967

 
68,448

 
2,207,097

 
60,301

Citibank, N.A.
 
A
 
A3
 
1,501,845

 
64,812

 
2,878,588

 
67,592

Credit Suisse
 
A
 
A1
 
2,922,641

 
78,855

 
936,625

 
21,518

Deutsche Bank
 
A
 
A2
 
874,245

 
42,587

 
886,688

 
20,787

HSBC
 
AA-
 
A1
 
301,678

 
14,010

 
295,520

 
6,539

J.P. Morgan
 
A+
 
Aa3
 
643,078

 
20,635

 
735,016

 
21,940

Morgan Stanley
 
A-
 
Baa1
 
1,961,040

 
70,329

 
1,590,505

 
40,113

Wells Fargo
 
AA-
 
Aa3
 
2,374,518

 
98,821

 
2,060,903

 
56,006

 
 
 
 
 
 
$
17,167,732

 
$
629,135

 
$
15,623,505

 
$
415,258


As of June 30, 2013 and December 31, 2012, we held $572.2 million and $328.7 million, respectively, of cash and cash equivalents and other securities from counterparties for derivative collateral, which is included in other liabilities on our consolidated balance sheets. This derivative collateral limits the maximum amount of economic loss due to credit risk that we would incur if parties to the call options failed completely to perform according to the terms of the contracts to $78.4 million and $93.7 million at June 30, 2013 and December 31, 2012, respectively.
The future annual index credits on our fixed index annuities are treated as a "series of embedded derivatives" over the expected life of the applicable contract. We do not purchase call options to fund the index liabilities which may arise after the next policy anniversary date. We must value both the call options and the related forward embedded options in the policies at fair value.
We entered into an interest rate swap and interest rate caps to manage interest rate risk associated with the floating rate component on certain of our subordinated debentures. See note 10 in our Annual Report on Form 10-K for the year ended December 31, 2012 for more information on our subordinated debentures. The terms of the interest rate swap provide that we pay a fixed rate of interest and receive a floating rate of interest. The terms of the interest rate caps limit the three month London Interbank Offered Rate to 2.50%. The interest rate swap and caps are not effective hedges under accounting guidance for derivative instruments and hedging activities. Therefore, we record the interest rate swap and caps at fair value and any net cash payments received or paid are included in the change in fair value of derivatives in the unaudited consolidated statements of operations.
Details regarding the interest rate swap are as follows:
 
 
Notional
 
 
 
Pay
 
 
 
June 30, 2013
 
December 31, 2012
Maturity Date
 
Amount
 
Receive Rate
 
Rate
 
Counterparty
 
Fair Value
 
Fair Value
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
March 15, 2021
 
$
85,500

 
*LIBOR
 
2.415
%
 
SunTrust
 
$
274

 
$
(4,261
)

___________________________________
* - three month London Interbank Offered Rate
Details regarding the interest rate caps are as follows:
 
 
Notional
 
 
 
Cap
 
 
 
June 30, 2013
 
December 31, 2012
Maturity Date
 
Amount
 
Floating Rate
 
Rate
 
Counterparty
 
Fair Value
 
Fair Value
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
July 7, 2021
 
$
40,000

 
*LIBOR
 
2.50
%
 
SunTrust
 
$
2,804

 
$
1,634

July 8, 2021
 
12,000

 
*LIBOR
 
2.50
%
 
SunTrust
 
841

 
490

July 29, 2021
 
27,000

 
*LIBOR
 
2.50
%
 
SunTrust
 
1,920

 
1,123

 
 
$
79,000

 
 
 
 
 
 
 
$
5,565

 
$
3,247

___________________________________
* - three month London Interbank Offered Rate
The interest rate swap has a forward starting date beginning in March 2014 and converts floating rates to fixed rates for seven years. The interest rate caps have a forward starting date beginning in July 2014 and cap our interest rates for seven years. As of June 30, 2013, we held $6.4 million of cash and cash equivalents from the counterparty for derivative collateral related to the swap and caps, which is included in other liabilities on our consolidated balance sheets.