| 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 |
|
|