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Fair Value of Financial Instruments | 3 Months Ended
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Mar. 31, 2012
Fair Value of Financial Instruments |
| 4. | Fair Value of Financial Instruments
The following table presents the level within the fair value hierarchy at which the Company’s financial assets and financial liabilities are measured on a recurring basis as of March 31, 2012:
(Amounts in Thousands) |  | Total |  |  | Level 1 |  |  | Level 2 |  |  | Level 3 |
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
U.S. treasury securities |  | $ | 52,791 |  |  | $ | 52,791 |  |  | $ | — |  |  | $ | — |
U.S. government agencies |  |  | 60,604 |  |  |  | — |  |  |  | 60,604 |  |  |  | — |
Municipal bonds |  |  | 269,050 |  |  |  | — |  |  |  | 269,050 |  |  |  | — |
Corporate bonds and other bonds: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Finance |  |  | 641,283 |  |  |  | — |  |  |  | 641,283 |  |  |  | — |
Industrial |  |  | 188,378 |  |  |  | — |  |  |  | 188,378 |  |  |  | — |
Utilities |  |  | 39,554 |  |  |  | — |  |  |  | 39,554 |  |  |  | — |
Commercial mortgage backed securities |  |  | 29,873 |  |  |  | — |  |  |  | 29,873 |  |  |  | — |
Residential mortgage backed securities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Agency backed |  |  | 395,974 |  |  |  | — |  |  |  | 395,974 |  |  |  | — |
Non-agency backed |  |  | 7,515 |  |  |  | — |  |  |  | 7,515 |  |  |  | — |
Equity securities |  |  | 30,752 |  |  |  | 30,752 |  |  |  | — |  |  |  | — |
Short term investments |  |  | 84,571 |  |  |  | 84,571 |  |  |  | — |  |  |  | — |
Other investments |  |  | 14,865 |  |  |  | — |  |  |  | — |  |  |  | 14,865 |
Life settlement contracts |  |  | 142,575 |  |  |  | — |  |  |  | — |  |  |  | 142,575 |
|  | $ | 1,957,785 |  |  | $ | 168,114 |  |  | $ | 1,632,231 |  |  | $ | 157,440 |
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Equity securities sold but not yet purchased, market |  | $ | 87 |  |  | $ | 87 |  |  | $ | — |  |  | $ | — |
Fixed maturity securities sold but not yet purchased, market |  |  | 54,420 |  |  |  | — |  |  |  | 54,420 |  |  |  | — |
Securities sold under agreements to repurchase, at contract value |  |  | 200,915 |  |  |  | — |  |  |  | 200,915 |  |  |  | — |
Life settlement contract profit commission |  |  | 12,050 |  |  |  | — |  |  |  | — |  |  |  | 12,050 |
Derivatives |  |  | 3,595 |  |  |  | — |  |  |  | — |  |  |  | 3,595 |
|  | $ | 271,067 |  |  | $ | 87 |  |  | $ | 255,335 |  |  | $ | 15,645 |
The Company classifies its financial assets and liabilities in the fair value hierarchy based on the lowest level input that is significant to the fair value measurement. This classification requires judgment in assessing the market and pricing methodologies for a particular security. The fair value hierarchy includes the following three levels: Level 1 – Valuations are based on unadjusted quoted market prices in active markets for identical financial assets or liabilities; Level 2 – Valuations of financial assets and liabilities are based on prices obtained from third party pricing services, dealer quotations of the bid price using observable inputs, or through consensus pricing of a pricing service; and Level 3 – Valuations are based on unobservable inputs for assets and liabilities where there is little or no market activity. Management’s assumptions are used in internal valuation pricing models to determine the fair value of financial assets or liabilities. For additional discussion regarding techniques used to value the Company’s investment portfolio, refer to Note 2. “Significant Accounting Policies” in Item 8. “Financial Statements and Supplementary Data” in its 2011 Form 10-K. The following table provides a summary of changes in fair value of the Company’s Level 3 financial assets and liabilities for the three months ended March 31, 2012 and 2011:
(Amounts in Thousands) |  | Balance as of December 31, 2011 |  |  | Net income |  |  | Other comprehensive income |  |  | Purchases and issuances |  |  | Sales and settlements |  |  | Net transfers into (out of) Level 3 |  |  | Balance as of March 31, 2012 |
Other investments |  | $ | 14,588 |  |  | $ | (3,949 | ) |  | $ | 4,535 |  |  | $ | 70 |  |  | $ | (379 | ) |  | $ | — |  |  | $ | 14,865 |
Life settlement contracts |  |  | 131,387 |  |  |  | 7,961 |  |  |  | — |  |  |  | 3,227 |  |  |  | — |  |  |  | — |  |  |  | 142,575 |
Life settlement contract profit commission |  |  | (12,022 | ) |  |  | (28 | ) |  |  | — |  |  |  | — |  |  |  | — |  |  |  | — |  |  |  | (12,050 | )
Derivatives |  |  | (3,508 | ) |  |  | — |  |  |  | (87 | ) |  |  | — |  |  |  | — |  |  |  | — |  |  |  | (3,595 | )
Total |  | $ | 130.445 |  |  | $ | 3,984 |  |  | $ | 4,448 |  |  | $ | 3,297 |  |  | $ | (379 | ) |  | $ | — |  |  | $ | 141,795 |
(Amounts in Thousands) |  | Balance as of December 31, 2010 |  |  | Net income |  |  | Other comprehensive income |  |  | Purchases and issuances |  |  | Sales and settlements |  |  | Net transfers into (out of) Level 3 |  |  | Balance as of March 31, 2011 |
Other investments |  | $ | 21,514 |  |  | $ | 661 |  |  | $ | 498 |  |  | $ | 80 |  |  | $ | (241 | ) |  | $ | — |  |  | $ | 22,512 |
Life settlement contracts |  |  | 22,155 |  |  |  | 24,120 |  |  |  | — |  |  |  | 17,411 |  |  |  | — |  |  |  | — |  |  |  | 63,686 |
Life settlement contract profit commission |  |  | (4,711 | ) |  |  | (878 | ) |  |  | — |  |  |  | — |  |  |  | — |  |  |  | — |  |  |  | (5,589 | )
Total |  | $ | 38,958 |  |  | $ | 23,903 |  |  | $ | 498 |  |  | $ | 17,491 |  |  | $ | (241 | ) |  | $ | — |  |  | $ | 80,609 |
The Company had no transfers between levels during the three months ended March 31, 2012 and 2011. The Company uses the following methods and assumptions in estimating its fair value disclosures for financial instruments:
| · | Equity and Fixed Income Investments: Fair value disclosures for these investments are disclosed above in this note. The carrying values of cash, short term investments and investment income accrued approximate their fair values;
| · | Premiums Receivable: The carrying values reported in the accompanying balance sheets for these financial instruments approximate their fair values due to the short term nature of the asset;
| · | Subordinated Debentures and Debt: The carrying values reported in the accompanying balance sheets for these financial instruments approximate fair value. Fair value was estimated using projected cash flows, discounted at rates currently being offered for similar notes.
| · | Other investments. The Company has less than one percent of its investment portfolio in limited partnerships or hedge funds where the fair value estimate is determined by a fund manager based on recent filings, operating results, balance sheet stability, growth and other business and market sector fundamentals. Due to the significant unobservable inputs in these valuations, the Company includes the estimate in the amount disclosed in Level 3 hierarchy. The Company has determined that its investments in these securities are not material to its financial position or results of operations.
| · | Derivatives. The Company estimates fair value using information provided by the portfolio manager for interest rate swaps and credit default swaps and the counterparty for contracts for differences and classifies each as Level 3 hierarchy.
The fair value of life settlement contracts is based on information available to the Company at the end of the reporting period. The Company considers the following factors in its fair value estimates: cost at date of purchase, recent purchases and sales of similar investments, financial standing of the issuer, and changes in economic conditions affecting the issuer, maintenance cost, premiums, benefits, standard actuarially developed mortality tables and industry life expectancy reports. The fair value of a life insurance policy is estimated using present value calculations based on the data specific to each individual life insurance policy. The following summarizes data utilized in estimating the fair value of the portfolio of life insurance policies for the three months ended March 31, 2012 and December 31, 2011:
|  | March 31, 2012 |  |  | December 31, 2011 |
Average age of insured |  |  | 77 |  |  |  | 77 |
Average life expectancy, months (1) |  |  | 155 |  |  |  | 155 |
Average face amount per policy |  | $ | 6,635,000 |  |  | $ | 6,703,000 |
Fair value discount rate |  |  | 7.5 | % |  |  | 7.5 | %
| (1) | Mortality rates: standard life expectancy as adjusted for insured’s specific circumstances
These assumptions are, by their nature, inherently uncertain and the effect of changes in estimates may be significant. The fair value measurements used in estimating the present value calculation are derived from valuation techniques generally used in the industry that include inputs for the asset that are not based on observable market data. The extent to which the fair value could reasonable vary in the near term has been quantified by evaluating the effect of changes in significant underlying assumptions used to estimate the fair value amount. If the life expectancies were increased or decreased by 4 months and the discount factors were increased or decreased by 1% while all other variables are held constant, the carrying value of the investment in life insurance policies would increase or (decrease) by the unaudited amounts summarized below for the three months ended March 31, 2012 and December 31, 2011:
|  | Change in life expectancy |
|  | Plus 4 Months |  |  | Minus 4 Months |
Investment in life policies: |  |  |  |  |  |  |  |
March 31, 2012 |  | $ | (21,335 | ) |  | $ | 23, 702 |
December 31, 2011 |  | $ | (18,778 | ) |  | $ | 20,785 |
|  | Change in discount rate |
|  | Plus 1% |  |  | Minus 1% |
Investment in life policies: |  |  |  |  |  |  |  |
March 31, 2012 |  | $ | (15,266 | ) |  | $ | 17,495 |
December 31, 2011 |  | $ | (13,802 | ) |  | $ | 15,804 |

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- Definition The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information. + References Reference 1: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 820 -SubTopic 10 -Section 50 -Paragraph 5 -URI http://asc.fasb.org/extlink&oid=6925170&loc=d3e19296-110258 Reference 2: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 159 -Paragraph 17-22, 27, 28 -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 3: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 825 -SubTopic 10 -Section 50 -Paragraph 10 -URI http://asc.fasb.org/extlink&oid=6947722&loc=d3e13433-108611 Reference 4: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 107 -Paragraph 15C, 15D -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 5: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 825 -SubTopic 10 -Section 50 -Paragraph 28 -URI http://asc.fasb.org/extlink&oid=6957238&loc=d3e14064-108612 Reference 6: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 825 -SubTopic 10 -Section 50 -Paragraph 16 -URI http://asc.fasb.org/extlink&oid=6947722&loc=d3e13504-108611 Reference 7: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 107 -Paragraph 15A -Subparagraph a-d -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 8: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 825 -SubTopic 10 -Section 50 -Paragraph 21 -URI http://asc.fasb.org/extlink&oid=6947722&loc=d3e13537-108611 Reference 9: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 133 -Paragraph 44A, 44B -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 10: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 820 -SubTopic 10 -Section 50 -Paragraph 2 -URI http://asc.fasb.org/extlink&oid=6925170&loc=d3e19207-110258 Reference 11: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 825 -SubTopic 10 -Section 50 -Paragraph 30 -URI http://asc.fasb.org/extlink&oid=6957238&loc=d3e14172-108612 Reference 12: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 107 -Paragraph 3, 10, 14, 15 -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 13: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 107 -Paragraph 15B -Subparagraph a, b -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. Reference 14: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Statement of Financial Accounting Standard (FAS) -Number 157 -Paragraph 32, 33, 34 -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. + Details
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