** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**The Registrant meets the conditions set forth in GeneralInstruction H (1)(a) and (b) of Form 10-Q and is thereforefiling this Form with the reduced disclosure format.**

 

**x        QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(d) OF**

**THE SECURITIES EXCHANGE ACT OF 1934**

**FORTHE QUARTERLY PERIOD ENDED MARCH 31, 2009**

 

**OR**

 

**o        TRANSITION REPORT PURSUANT TOSECTION 13 OR 15(d) OF**

**THE SECURITIES EXCHANGE ACT OF 1934**

 

**Commission file number: 000-31248**

 

**ALLSTATELIFE INSURANCE COMPANY**

(Exact name of registrant as specified in its charter)

 

| **Illinois**                             | ** ** | **36-2554642**                       |
|------------------------------------------|------------|--------------------------------------|
| (State of Incorporation)                 |       | (I.R.S. Employer Identification No.) |
|                                     |       |                                 |
| **3100  Sanders Road**                   | ** ** |                                 |
| **Northbrook,  Illinois**                |       | **60062**                            |
| (Address of principal executive offices) |       | (Zip code)                           |

 

**Registrant’s telephone number, including area code:  (847) 402-5000**

 

**Indicate by check mark whether the registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.**
| **Yes****x****    No****o** |
|--------------------------------------------|

** **

**Indicate by check mark whether the registrant hassubmitted electronically and posted on its corporate Web site, if any, everyInteractive Data File required to be submitted and posted pursuant to Rule 405of Regulation S-T (****§****232.405 of this chapter)during the preceding 12 months (or for such shorter period that the registrantwas required to submit and post such files). **
| **Yes****o****    No****o** |
|--------------------------------------------|

** **

**Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, a non-accelerated filer, or asmaller reporting company.  Seedefinitions of “large accelerated filer,” “accelerated filer,” and “smallerreporting company” in Rule 12b-2 of the Exchange Act.  (Check one):**

** **
| **Large accelerated filer****o** | ** ** | **Accelerated  filer****o** | ** ** | **Non-accelerated  filer****x** | ** ** | **Smaller  reporting company****o** |
|----------------------------------|------------|-----------------------------|------------|---------------------------------|------------|-------------------------------------|

**(Do not checkif a smaller reporting company)**

** **

**Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act). **
| **Yes****o****    No****x** |
|--------------------------------------------|

** **

**As of May 12, 2009, the registrant had 23,800 commonshares, $227 par value, outstanding, all of which are held by AllstateInsurance Company.**

 

 

 

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**ALLSTATELIFE INSURANCE COMPANY**

**INDEXTO QUARTERLY REPORT ON FORM 10-Q**

##### ***March 31, 2009***

 
| ** **       | ** **                                                                                                                   | **PAGE**   |
|------------------|------------------------------------------------------------------------------------------------------------------------------|------------|
| **PART I**  | **FINANCIAL  INFORMATION**                                                                                                   | ** ** |
|             |                                                                                                                         |       |
| Item 1.          | Financial Statements                                                                                                         |       |
|             |                                                                                                                         |       |
|             | Condensed Consolidated  Statements of Operations for the Three-Month Periods Ended March 31,  2009 and 2008 (unaudited) | 1          |
|             |                                                                                                                         |       |
|             | Condensed Consolidated  Statements of Financial Position as of March 31, 2009 (unaudited) and  December 31, 2008   | 2          |
|             |                                                                                                                         |       |
|             | Condensed Consolidated  Statements of Cash Flows for the Three-Month Periods Ended March 31,  2009 and 2008 (unaudited) | 3          |
|             |                                                                                                                         |       |
|             | Notes to Condensed  Consolidated Financial Statements (unaudited)                                                            | 4          |
|             |                                                                                                                         |       |
|             | Report of Independent  Registered Public Accounting Firm                                                                     | 24         |
|             |                                                                                                                         |       |
| Item 2.          | Management’s Discussion  and Analysis of Financial Condition and Results of Operations                                  | 25         |
|             |                                                                                                                         |       |
| Item 4.          | Controls and Procedures                                                                                                      | 68         |
|             |                                                                                                                         |       |
| **PART II** | **OTHER  INFORMATION**                                                                                                       | ** ** |
|             |                                                                                                                         |       |
| Item 1.          | Legal Proceedings                                                                                                            | 69         |
|             |                                                                                                                         |       |
| Item 1A.         | Risk Factors                                                                                                                 | 69         |
|             |                                                                                                                         |       |
| Item 6.          | Exhibits                                                                                                                     | 69         |

 

----

##### *** ***

##### ***PART I. FINANCIAL INFORMATION***

##### *** ***

**ITEM1. FINANCIAL STATEMENTS**

 

**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

 

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

** **

| ** **                                                    | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                                      | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| ** **                                                    | ** ** | **(Unaudited)**                        | ** ** |
| **Revenues**                                                  |       |                                   |       |   |   |
| Premiums                                                      |       | $                                      | 152        |   | $ | 140 |   |
| Contract charges                                              |       | 228                                    |       | 212 |   |
| Net investment income                                         |       | 797                                    |       | 992 |   |
| Realized capital gains and losses                             |       | (38                                    | )          | (428 | ) |
|                                                          |       | 1,139                                  |       | 916 |   |
|                                                          |       |                                   |       |   |   |
| **Costs and expenses**                                        |       |                                   |       |   |   |
| Contract benefits                                             |       | 334                                    |       | 341 |   |
| Interest credited to contractholder funds                     |       | 565                                    |       | 610 |   |
| Amortization of deferred policy acquisition costs             |       | 429                                    |       | 50 |   |
| Operating costs and expenses                                  |       | 89                                     |       | 87 |   |
| Restructuring and related charges                             |       | 17                                     |       | — |   |
| Interest expense                                              |       | 11                                     |       | 3 |   |
|                                                          |       | 1,445                                  |       | 1,091 |   |
|                                                          |       |                                   |       |   |   |
| Gain (loss) on disposition of operations                      |       | 3                                      |       | (9 | ) |
|                                                          |       |                                   |       |   |   |
| **Loss from operations before income tax expense  (benefit)** |       | (303                                   | )          | (184 | ) |
|                                                          |       |                                   |       |   |   |
| Income tax expense (benefit)                                  |       | 33                                     |       | (69 | ) |
|                                                          |       |                                   |       |   |   |
| **Net loss**                                                  |       | $                                      | (336       | ) | $ | (115 | ) |

 

See notes tocondensed consolidated financial statements.

 

1

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**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

 

**CONDENSEDCONSOLIDATED STATEMENTS OF FINANCIAL POSITION**

** **
| ** **                                                                                            | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                                                                            | ** ** | **2009**           | ** ** | **2008**              | ** ** |
| **($ in millions, except par value data)**                                                       | ** ** | **(Unaudited)**    | ** ** | ** **            | ** ** |
|                                                                                                  |       |               |       |                  |       |
| **Assets**                                                                                            |       |               |       |                  |       |
| Investments                                                                                           |       |               |       |                  |       |
| Fixed income securities, at fair value (amortized cost $47,767 and  $49,136)                          |       | $                  | 40,301     |                  | $          | 42,446 |   |
| Mortgage loans                                                                                        |       | 9,504              |       | 10,012                |       |
| Equity securities, at fair value (cost $78 and $106)                                                  |       | 61                 |       | 82                    |       |
| Limited partnership interests                                                                         |       | 1,057              |       | 1,187                 |       |
| Short-term, at fair value (amortized cost $4,600 and $3,855)                                          |       | 4,602              |       | 3,858                 |       |
| Policy loans                                                                                          |       | 811                |       | 813                   |       |
| Other                                                                                                 |       | 1,350              |       | 1,374                 |       |
|                                                                                                  |       |               |       |                  |       |
| Total investments                                                                                     |       | 57,686             |       | 59,772                |       |
|                                                                                                  |       |               |       |                  |       |
| Cash                                                                                                  |       | 284                |       | 93                    |       |
| Deferred policy acquisition costs                                                                     |       | 6,588              |       | 6,701                 |       |
| Reinsurance recoverables                                                                              |       | 4,226              |       | 3,923                 |       |
| Accrued investment income                                                                             |       | 556                |       | 542                   |       |
| Deferred income taxes                                                                                 |       | 1,262              |       | 1,382                 |       |
| Other assets                                                                                          |       | 948                |       | 1,294                 |       |
| Separate Accounts                                                                                     |       | 7,375              |       | 8,239                 |       |
|                                                                                                  |       |               |       |                  |       |
| **Total assets**                                                                                      |       | $                  | 78,925     |                  | $          | 81,946 |   |
|                                                                                                  |       |               |       |                  |       |
| **Liabilities**                                                                                       |       |               |       |                  |       |
| Contractholder funds                                                                                  |       | $                  | 54,876     |                  | $          | 56,780 |   |
| Reserve for life-contingent contract benefits                                                         |       | 12,047             |       | 12,256                |       |
| Unearned premiums                                                                                     |       | 30                 |       | 32                    |       |
| Payable to affiliates, net                                                                            |       | 114                |       | 142                   |       |
| Other liabilities and accrued expenses                                                                |       | 1,773              |       | 1,638                 |       |
| Surplus notes due to related parties                                                                  |       | 650                |       | 650                   |       |
| Separate Accounts                                                                                     |       | 7,375              |       | 8,239                 |       |
|                                                                                                  |       |               |       |                  |       |
| **Total liabilities**                                                                                 |       | 76,865             |       | 79,737                |       |
|                                                                                                  |       |               |       |                  |       |
| **Commitments and Contingent Liabilities (Note 7)**                                                   |       |               |       |                  |       |
|                                                                                                  |       |               |       |                  |       |
| **Shareholder’s Equity**                                                                         |       |               |       |                  |       |
| Redeemable preferred stock — series A, $100 par value, 1,500,000  shares authorized, none issued |       | —             |       | —                |       |
| Redeemable preferred stock — series B, $100 par value, 1,500,000  shares authorized, none issued |       | —             |       | —                |       |
| Common stock, $227 par value, 23,800 shares authorized and  outstanding                               |       | 5                  |       | 5                     |       |
| Additional capital paid-in                                                                            |       | 2,725              |       | 2,475                 |       |
| Retained income                                                                                       |       | 1,730              |       | 2,066                 |       |
| Accumulated other comprehensive loss:                                                                 |       |               |       |                  |       |
| Unrealized net capital gains and losses                                                               |       | (2,400             | )          | (2,337                | )          |
|                                                                                                  |       |               |       |                  |       |
| Total accumulated other comprehensive loss                                                            |       | (2,400             | )          | (2,337                | )          |
|                                                                                                  |       |               |       |                  |       |
| Total shareholder’s equity                                                                       |       | 2,060              |       | 2,209                 |       |
|                                                                                                  |       |               |       |                  |       |
| **Total liabilities and shareholder’s equity**                                                   |       | $                  | 78,925     |                  | $          | 81,946 |   |

 

See notes tocondensed consolidated financial statements.

 

2

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**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

** **

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

** **
| ** **                                                                       | ** ** | **Three months ended** | ** ** |
|----------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                       | ** ** | **March 31,**     | ** ** |
| **($ in millions)**                                                         | ** ** | **2009**               | ** ** | **2008** | ** ** |
| ** **                                                                       | ** ** | **(Unaudited)**        | ** ** |
| **Cash  flows from operating activities**                                        | ** ** | ** **             | ** ** | ** ** | ** ** |
| Net loss                                                                         |       | $                      | (336       | ) | $ | (115 | ) |
| Adjustments to reconcile net loss to net cash provided by operating  activities: |       |                   |       |   |   |
| Amortization and other non-cash items                                            |       | (101                   | )          | (79 | ) |
| Realized capital gains and losses                                                |       | 38                     |       | 428 |   |
| (Gain) loss on disposition of operations                                         |       | (3                     | )          | 9 |   |
| Interest credited to contractholder funds                                        |       | 565                    |       | 610 |   |
| Changes in:                                                                      |       |                   |       |   |   |
| Policy benefit and other insurance reserves                                      |       | (3                     | )          | (93 | ) |
| Unearned premiums                                                                |       | (1                     | )          | (2 | ) |
| Deferred policy acquisition costs                                                |       | 336                    |       | (85 | ) |
| Reinsurance recoverables, net                                                    |       | (134                   | )          | (46 | ) |
| Income taxes                                                                     |       | 565                    |       | (69 | ) |
| Other operating assets and liabilities                                           |       | (37                    | )          | (92 | ) |
| Net cash provided by operating activities                                        |       | 889                    |       | 466 |   |
|                                                                             |       |                   |       |   |   |
| **Cash flows from investing activities**                                         |       |                   |       |   |   |
| Proceeds from sales:                                                             |       |                   |       |   |   |
| Fixed income securities                                                          |       | 2,958                  |       | 4,205 |   |
| Equity securities                                                                |       | 5                      |       | 24 |   |
| Limited partnership interests                                                    |       | 14                     |       | 25 |   |
| Mortgage loans                                                                   |       | 12                     |       | — |   |
| Other investments                                                                |       | 12                     |       | 80 |   |
| Investment collections:                                                          |       |                   |       |   |   |
| Fixed income securities                                                          |       | 767                    |       | 579 |   |
| Mortgage loans                                                                   |       | 460                    |       | 127 |   |
| Other investments                                                                |       | 27                     |       | 25 |   |
| Investment purchases:                                                            |       |                   |       |   |   |
| Fixed income securities                                                          |       | (2,078                 | )          | (2,093 | ) |
| Equity securities                                                                |       | —                 |       | (53 | ) |
| Limited partnership interests                                                    |       | (55                    | )          | (106 | ) |
| Mortgage loans                                                                   |       | (10                    | )          | (344 | ) |
| Other investments                                                                |       | —                 |       | (19 | ) |
| Change in short-term investments, net                                            |       | (818                   | )          | (2,216 | ) |
| Change in other investments, net                                                 |       | 38                     |       | (132 | ) |
| Net cash provided by investing activities                                        |       | 1,332                  |       | 102 |   |
|                                                                             |       |                   |       |   |   |
| **Cash flows from financing activities**                                         |       |                   |       |   |   |
| Capital contribution                                                             |       | 250                    |       | — |   |
| Contractholder fund deposits                                                     |       | 1,020                  |       | 2,722 |   |
| Contractholder fund withdrawals                                                  |       | (3,300                 | )          | (3,325 | ) |
| Net cash used in financing activities                                            |       | (2,030                 | )          | (603 | ) |
| **Net increase (decrease) in cash**                                              |       | 191                    |       | (35 | ) |
| **Cash at beginning of the period**                                              |       | 93                     |       | 185 |   |
| **Cash at end of period**                                                        |       | $                      | 284        |   | $ | 150 |   |

 

See notes tocondensed consolidated financial statements.

 

3

----

 

**ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES**

**NOTESTO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

**1.   General**

 

**Basis ofpresentation**

 

The accompanyingcondensed consolidated financial statements include the accounts of AllstateLife Insurance Company (“ALIC”) and its wholly owned subsidiaries (collectivelyreferred to as the “Company”).  ALIC iswholly owned by Allstate Insurance Company (“AIC”), which is wholly owned byAllstate Insurance Holdings, LLC, a wholly owned subsidiary of The AllstateCorporation (the “Corporation”).

 

The condensedconsolidated financial statements and notes as of March 31, 2009, and forthe three-month periods ended March 31, 2009 and 2008 are unaudited.  The condensed consolidated financialstatements reflect all adjustments (consisting only of normal recurringaccruals), which are, in the opinion of management, necessary for the fairpresentation of the financial position, results of operations and cash flowsfor the interim periods.  These condensedconsolidated financial statements and notes should be read in conjunction withthe consolidated financial statements and notes thereto included in the Company’sAnnual Report on Form 10-K for the year ended December 31, 2008.  The results of operations for the interimperiods should not be considered indicative of results to be expected for thefull year.

 

To conform to the 2009presentation, certain amounts in the prior year condensed consolidatedfinancial statements and notes have been reclassified.

 

**Premiumsand Contract Charges**

 

The followingtable summarizes premiums and contract charges by product.

 
| ** **                                  | ** ** | **Three months ended** | ** ** |
|---------------------------------------------|------------|------------------------|------------|
| ** **                                  | ** ** | **March 31,**     | ** ** |
| **($ in millions)**                    | ** ** | **2009**               | ** ** | **2008** | ** ** |
| **Premiums**                                |       |                   |       |   |   |
| Traditional life insurance (1)              |       | $                      | 96         |   | $ | 89 |   |
| Immediate annuities with life contingencies |       | 34                     |       | 30 |   |
| Other                                       |       | 22                     |       | 21 |   |
| Total premiums                              |       | 152                    |       | 140 |   |
|                                        |       |                   |       |   |   |
| **Contract charges**                        |       |                   |       |   |   |
| Interest-sensitive life insurance (1)       |       | 216                    |       | 199 |   |
| Fixed annuities                             |       | 12                     |       | 13 |   |
| Total contract charges                      |       | 228                    |       | 212 |   |
| Total premiums and contract charges         |       | $                      | 380        |   | $ | 352 |   |

 

----

(1)      To conform tothe current period presentation, certain amounts in the prior period have beenreclassified.

 

**Adoptedaccounting standards**

 

*Statement of Financial Accounting Standards No. 157,Fair Value Measurements (“SFAS No. 157”)*

 

In September 2006,the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157,which redefines fair value as the price that would be received to sell an assetor paid to transfer a liability in an orderly transaction between marketparticipants at the measurement date, establishes a framework for measuringfair value in accounting principles generally accepted in the United States ofAmerica (“GAAP”), and expands disclosures about fair value measurements.  SFAS No. 157 establishes a three-levelhierarchy for fair value measurements based upon the nature of the inputs tothe valuation of an asset or liability. SFAS No. 157 applies where other accounting pronouncements requireor permit fair value measurements.  In February 2008,the FASB issued FASB Staff Position No. FAS 157-2, “Effective Date of FASBStatement No. 157” (“FSP FAS 157-2”), which permits the deferral ofthe effective date of SFAS No. 157 to fiscal years beginning after November 15,2008 for all non-financial assets and liabilities, except those that arerecognized or disclosed at fair value in the financial statements on arecurring basis.  The Company adopted theprovisions of SFAS No. 157 for financial assets and financial liabilitiesrecognized or disclosed at fair value on a recurring or non-recurring basis asof January 1, 2008.  Consistent withthe provisions of FSP FAS 157-2, the Company adopted SFAS No. 157 fornon-financial assets and

 

4

----

 

liabilities measured atfair value on a non-recurring basis on January 1, 2009.  In October 2008, the FASB issued FASBStaff Position No. FAS 157-3, “Determining the Fair Value of aFinancial Asset When the Market for That Asset Is Not Active” (“FSPFAS 157-3”), which clarifies the application of SFAS No. 157 in amarket that is not active.  The Companyadopted the provisions of FSP FAS 157-3 as of September 30,2008.  The adoption of SFAS No. 157and FSP FAS 157-3 did not have a material effect on the Company’s resultsof operations or financial position (see Note 4).

 

*SFAS No. 141(R), Business Combinations (“SFAS No. 141R”)*

 

In December 2007,the FASB issued SFAS No. 141R which replaces SFAS No. 141, “BusinessCombinations” (“SFAS No. 141”).  In April 2009,the FASB issued FSP No. 141(R)-1, “Accounting for Assets Acquired andLiabilities Assumed in a Business Combination That Arise from Contingencies” (“FSPFAS 141(R)-1”), which clarifies SFAS No. 141R by addressing applicationissues raised by prepares, auditors and the legal profession.  Among other things, SFAS No. 141R andthe related FSP broaden the scope of SFAS No. 141 to include alltransactions where an acquirer obtains control of one or more other businesses;retains the guidance to recognize intangible assets separately from goodwill;requires, with limited exceptions, that all assets acquired and liabilitiesassumed, including certain of those that arise from contingencies, be measuredat their acquisition date fair values; requires most acquisition andrestructuring-related costs to be expensed as incurred; requires that stepacquisitions, once control is acquired, be recorded at the full amounts of thefair values of the identifiable assets, liabilities and the noncontrollinginterest in the acquiree; and replaces the reduction of asset values and recognitionof negative goodwill with a requirement to recognize a gain in earnings.  The provisions of SFAS No. 141R and FSPFAS 141(R)-1 are effective for fiscal years beginning after December 15,2008 and are to be applied prospectively only. Early adoption is not permitted. The Company will apply the provisions of SFAS No. 141R to anybusiness combinations effective subsequent to January 1, 2009.

 

*SFAS No. 160, Noncontrolling Interests in ConsolidatedFinancial Statements - an amendment of ARB No. 51 (“SFAS No. 160”)*

 

In December 2007,the FASB issued SFAS No. 160 which clarifies that a noncontrollinginterest in a subsidiary is that portion of the subsidiary’s equity that isattributable to owners of the subsidiary other than its parent or parent’s affiliates.  Noncontrolling interests are required to bereported as equity in the consolidated financial statements and as such netincome will include amounts attributable to both the parent and thenoncontrolling interest with disclosure of the amounts attributable to each onthe face of the consolidated statements of operations if material.  SFAS No. 160 requires that all changesin a parent’s ownership interest in a subsidiary when control of the subsidiaryis retained, be accounted for as equity transactions.  In contrast, when control over a subsidiaryis relinquished and the subsidiary is deconsolidated, SFAS No. 160requires a parent to recognize a gain or loss in net income as well as providecertain associated expanded disclosures. SFAS No. 160 is effective as of the beginning of a reporting entity’sfirst fiscal year beginning after December 15, 2008.  SFAS No. 160 requires prospectiveapplication as of the beginning of the fiscal year in which the standard isinitially applied, except for the presentation and disclosure requirementswhich are to be applied retrospectively for all periods presented.  The adoption of SFAS No. 160 did nothave an effect on the Company’s results of operations or financial position.

 

*SFAS No. 161, Disclosures about Derivative Instrumentsand Hedging Activities - an amendment of FASB Statement No. 133 (“SFAS No. 161”)*

 

In March 2008, theFASB issued SFAS No. 161, which amends and expands the disclosurerequirements for derivatives currently accounted for in accordance with SFAS No. 133,“Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”).  The new disclosures are designed to enhancethe understanding of how and why an entity uses derivative instruments and howderivative instruments affect an entity’s financial position, results ofoperations, and cash flows.  The standardrequires, on a quarterly basis, quantitative disclosures about the potentialcash outflows associated with the triggering of credit-risk-contingentfeatures, if any; tabular disclosures about the classification and fair valueamounts of derivative instruments reported in the statement of financialposition; disclosure of the location and amount of gains and losses onderivative instruments reported in the statement of operations; and qualitativeinformation about how and why an entity uses derivative instruments and howderivative instruments and related hedged items affect the entity’s financialstatements.  SFAS No. 161 iseffective for fiscal periods beginning after November 15, 2008, and is tobe applied on a prospective basis only. SFAS No. 161 affects disclosures and therefore implementation hadno impact on the Company’s results of operations or financial position (seeNote 5).

 

5

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*Securities and Exchange Commission (“SEC”) Staff AccountingBulletin No. 109, Written Loan Commitments That are Recorded At Fair ValueThrough Earnings (“SAB 109”)*

 

In October 2007, theSEC issued SAB 109, a replacement of SAB 105, “Application of AccountingPrinciples to Loan Commitments”.  SAB 109is applicable to both loan commitments accounted for under SFAS No. 133,and other loan commitments for which the issuer elects fair value accountingunder SFAS No. 159, “The Fair Value Option for Financial Assets andFinancial Liabilities”.  SAB 109 statesthat the expected net future cash flows related to the servicing of a loanshould be included in the fair value measurement of a loan commitment accountedfor at fair value through earnings.  Theexpected net future cash flows associated with loan servicing should bedetermined in accordance with the guidance in SFAS No. 140, “Accountingfor Transfers and Servicing of Financial Assets and Extinguishments ofLiabilities”, as amended by SFAS No. 156, “Accounting for Servicing ofFinancial Assets”.  SAB 109 should beapplied on a prospective basis to loan commitments accounted for under SFAS No. 133that were issued or modified in fiscal quarters beginning after December 15,2007.  Earlier adoption was not permitted.  The adoption of SAB 109 did not have amaterial impact on the Company’s results of operations or financial position.

 

*SFAS No. 159, The Fair Value Option for FinancialAssets and Financial Liabilities - Including an amendment of FASB Statement No. 115(“SFAS No. 159”)*

 

In February 2007,the FASB issued SFAS No. 159 which provides reporting entities, on anongoing basis, an option to report selected financial assets, includinginvestment securities, and financial liabilities, including most insurancecontracts, at fair value through earnings. SFAS No. 159 establishes presentation and disclosure requirementsdesigned to facilitate comparisons between companies that choose differentmeasurement alternatives for similar types of financial assets and liabilities.  The standard also requires additionalinformation to aid financial statement users’ understanding of the impacts of areporting entity’s decision to use fair value on its earnings and requiresentities to display, on the face of the statement of financial position, thefair value of those assets and liabilities for which the reporting entity haschosen to measure at fair value.  SFAS No. 159was effective as of the beginning of a reporting entity’s first fiscal yearbeginning after November 15, 2007. The Company did not apply the fair value option to any existingfinancial assets or liabilities as of January 1, 2008 and did not elect toapply the option prospectively to any financial assets or liabilities acquiredsubsequent to the effective date. Consequently, the adoption of SFAS No. 159 had no impact on theCompany’s results of operations or financial position.

 

*FSP No. FIN 39-1, Amendment of FASB Interpretation No. 39(“FSP FIN 39-1”)*

 

In April 2007, theFASB issued FSP FIN 39-1, which amends FASB Interpretation No. 39, “Offsettingof Amounts Related to Certain Contracts”. FSP FIN 39-1 replaces the terms “conditional contracts” and “exchangecontracts” with the term “derivative instruments” and requires a reportingentity to offset fair value amounts recognized for the right to reclaim cashcollateral or the obligation to return cash collateral against fair valueamounts recognized for derivative instruments executed with the samecounterparty under the same master netting arrangement that have been offset inthe statement of financial position. FSP FIN 39-1 was effective for fiscalyears beginning after November 15, 2007, with early adoptionpermitted.  The adoption of FSPFIN 39-1 did not have a material impact on the Company’s results of operationsor financial position.

 

*FSP No. FAS 133-1 and FIN 45-4, Disclosures aboutCredit Derivatives and Certain Guarantees: An Amendment of FASB Statement No. 133and FASB Interpretation No. 45; and Clarification of the Effective Date ofFASB Statement No. 161 (“FSP FAS 133-1 and FIN 45-4”)*

 

In September 2008,the FASB issued FSP FAS 133-1 and FIN 45-4, which amends SFAS No. 133 “Accountingfor Derivative Instruments and Hedging Activities” (“SFAS No. 133”), andFIN 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees,Including Indirect Guarantees of Indebtedness of Others” (“FIN 45”), to bothenhance and synchronize the disclosure requirements of the two statements withrespect to the potential for adverse effects of changes in credit risk on thefinancial statements of the sellers of credit derivatives and certainguarantees.  SFAS No. 133 wasamended to require disclosures by sellers of credit derivatives, includingcredit derivatives embedded in a hybrid instrument.  FIN 45 was amended to require an additionaldisclosure about the current status of the payment/performance risk of aguarantee.  The FSP clarifies the FASB’sintent that the disclosures required by SFAS No. 161 should be providedfor any reporting period (annual or quarterly interim) beginning after November 15,2008.  The provisions of this FASB staffposition that amend SFAS No. 133 and FIN 45 are effective for reportingperiods ending after November 15, 2008, and the provisions that clarifythe effective

 

6

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date of SFAS No. 161are effective upon the adoption of that statement; therefore, the disclosurerequirements, which have no impact to the Company’s results of operations orfinancial position, were adopted at December 31, 2008.

 

*FSP No. EITF 99-20-1, Amendments to the ImpairmentGuidance of EITF Issue No. 99-20 (“FSP EITF 99-20-1”)*

 

In January 2009, theFASB issued FSP EITF 99-20-1, which amends FASB Emerging Issues Task Force (“EITF”)No. 99-20 “Recognition of Interest Income and Impairment on PurchasedBeneficial Interest and Beneficial Interests That Continue to Be Held by aTransferor or in Securitized Financial Assets,” (“EITF 99-20”), to align theimpairment guidance in EITF No. 99-20 with the impairment guidance andrelated implementation guidance in SFAS No. 115 “Accounting for CertainInvestments in Debt and Equity Securities”. The provisions of this FASB staff position are effective for reportingperiods ending after December 15, 2008. The adoption of FSP EITF 99-20-1 did not have a material effect on theresults of operations or financial position of the Company.

 

**Pending accounting standards**

 

*FSP No. FAS 115-2 and FAS 124-2, Recognition andPresentation of Other-Than-Temporary Impairments (“FSP FAS 115-2 and FAS 124-2”)*

 

In April 2009, theFASB issued FSP FAS 115-2 and FAS 124-2 which amends SFAS No. 115 andSFAS No. 124 “Accounting for Certain Investments Held by Not-for-ProfitOrganizations”, to provide recognition guidance for debt securities classifiedas available-for-sale and held-to-maturity and subject to other-than-temporaryimpairment (“OTTI”) guidance.  If thefair value of a debt security is less than its amortized cost basis at thereporting date, an entity shall assess whether the impairment is an OTTI.  FSP FAS 115-2 and FAS 124-2 definesthe situations under which an OTTI should be considered to have occurred.  When an entity intends to sell the securityor more likely than not it will be required to sell the security beforerecovery of its amortized cost basis, an OTTI is recognized in earnings.  When the entity does not expect to recoverthe entire amortized cost basis of the security even if it does not intend tosell the security, the entity must consider a number of factors and use itsbest estimate of the present value of cash flows expected to be collected fromthe debt security in order to determine whether a credit loss exists, and theperiod over which the debt security is expected to recover.  The amount of total OTTI related to the creditloss shall be recognized in earnings while the amount of the total OTTI relatedto other factors shall be recognized in other comprehensive income.  Both the statement of operations and thestatement of accumulated other comprehensive income are required to display theOTTI related to credit losses and the OTTI related to other factors on the faceof each statement.

 

FSP FAS 115-2 andFAS 124-2 expands the disclosure requirements of SFAS No. 115 (forboth debt and equity securities) and requires a more detailed, risk-orientedbreakdown of security types and related information, and requires the annualdisclosures to be made for interim periods. In addition, new disclosures are required to help users of financial statementsunderstand the significant inputs used in determining a credit loss as well asa rollforward of that amount each period. FSP FAS 115-2 and FAS 124-2 is effective for interim periodsending after June 15, 2009 with early adoption permitted in conjunctionwith the early adoption of FSP No. FAS 157-4, “Determining Fair Value Whenthe Volume and Level of Activity for the Asset or Liability Have SignificantlyDecreased and Identifying Transactions That Are Not Orderly” (“FSPFAS 157-4”).  The disclosures arenot required for earlier periods presented for comparative purposes.  FSP FAS 115-2 and FSP 124-2 shallbe applied to existing and new investments held by an entity as of thebeginning of the interim period in which it is adopted.  A cumulative effect adjustment to the openingbalance of retained earnings will be recognized for debt securities with anexisting OTTI at the beginning of the interim period in which the FSP isadopted.  The Company will adopt theprovisions of FSP FAS 115-2 and FAS 124-2 as of April 1,2009.  The specific requirements of theFSP applicable to the Company’s portfolio are being interpreted, studied andassessed.  The potential cumulativeeffect to retained income as of April 1, 2009 is not yet reliablyestimable since the Company is still assessing the requirements; however, theCompany expects that it will result in an increase to retained income, offsetby a decrease to accumulated other comprehensive income by the same amount.

 

*FSP FAS157-4, Determining Fair Value When the Volume and Level of Activity for the Assetor Liability Have Significantly Decreased and Identifying Transactions That AreNot Orderly (“FSP FAS 157-4”)*

 

In April 2009, theFASB issued FSP FAS 157-4, which amends SFAS No. 157, to provideadditional guidance for estimating fair value when the volume and level ofactivity for an asset or liability have significantly decreased. Guidance onidentifying circumstances that indicate a transaction is not orderly is alsoprovided.  If it is concluded

 

7

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that there has been asignificant decrease in the volume and level of market activity for an asset orliability in relation to normal market activity for an asset or liability,transactions or quoted prices may not be determinative of fair value, and furtheranalysis of the transactions or quoted prices may be needed.   A significant adjustment to the transactionsor quoted prices may be necessary to estimate fair value which may bedetermined based on the point within a range of fair value estimates that ismost representative of fair value under the current market conditions.  Determination of whether the transaction isorderly is based on the weight of the evidence. The disclosure requirements of SFAS No. 157 are increased sincedisclosures of the inputs and valuation technique(s) used to measure fairvalue and a discussion of changes in valuation techniques and related inputsduring the reporting period are required.

 

FSP FAS 157-4defines the disclosures required for major categories by SFAS No. 157 to bethe major security types as defined in FASB Statement No. 115.  FSP FAS 157-4 does not requiredisclosures for earlier periods presented for comparative purposes at initialadoption.  FSP FAS 157-4 iseffective for interim periods ending after June 15, 2009 with earlyadoption permitted but only in conjunction with the early adoption of FSPFAS 115-2 and FAS 124-2. Revisions resulting from a change in valuation technique or itsapplication shall be accounted for as a change in accounting estimate and disclosed,along with a quantification of the total effect of the change in valuationtechnique and related inputs, if practicable, by major category.  The Company will adopt the provisions of FSPFAS 157-4 as of April 1, 2009. Quantification of the estimated effects of the application of the FSPFAS 157-4 requirements will be based on the market conditions andportfolio holdings at the time of adoption and are therefore not yet reliablyestimable; however, the Company does not expect a material impact to itsresults of operations or financial position upon adoption.

 

*FSP No. FAS 107-1 and APB 28-1, InterimDisclosures about Fair Value of Financial Instruments (“FSP FAS   107-1 and APB 28-1”)*

 

In April 2009, theFASB issued FSP FAS 107-1 and APB 28-1 which amends FASB Statement No. 107,“Disclosures about Fair Value of Financial Instruments”, to require disclosuresabout fair value of financial instruments for interim reporting periods as wellas in annual financial statements; and amends Accounting Principles BoardOpinion No. 28, “Interim Financial Reporting”, to require thosedisclosures in summarized financial information at interim reportingperiods.  FSP FAS 107-1 andAPB 28-1 is effective for interim periods ending after June 15,2009.  The disclosures are not requiredfor earlier periods presented for comparative purposes and earlier adoption ispermitted in conjunction with the early adoption of FSP FAS 115-2 andFAS 124-2 and FSP FAS 157-4. The Company will adopt the provisions of FSP FAS 107-1 and APB 28-1for second quarter 2009.  FSPFAS 107-1 and APB 28-1 affects disclosures and thereforeimplementation will not impact the Company’s results of operations or financialposition.

 

**2.    Related Party Transactions**

 

**Capitalcontribution**

 

In March 2009,the Company received a capital contribution from AIC of $250 million, which waspaid in cash and recorded as additional capital paid-in on the CondensedConsolidated Statements of Financial Position.

 

**Reinsurancetransaction**

 

Effective January 1,2008, the Company’s coinsurance reinsurance agreement with its unconsolidatedaffiliate American Heritage Life Insurance Company (“AHL”), which went intoeffect in 2004, was amended to include the assumption by the Company of certainaccident and health insurance policies. In accordance with this amendment, the Company recorded cash of $16million, premium installment receivables of $5 million, DAC of $32 million,reserve for life-contingent contract benefits of $24 million and accruedliabilities of $2 million.  Since theCompany received assets in excess of net liabilities from an affiliate undercommon control, the Company recognized a gain of $27 million ($18 millionafter-tax), which was recorded as an increase to additional capital paid-in onthe Company’s Condensed Consolidated Statements of Financial Position.

 

8

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**3.    Supplemental Cash Flow Information**

 

Non-cash investmentexchanges and modifications, which primarily reflect refinancings of fixedincome securities and mergers completed with equity securities and limitedpartnerships, totaled $68 million for the three-month period ended March 31,2009.

 

Liabilitiesfor collateral received in conjunction with the Company’s securities lendingand over-the-counter (“OTC”) derivatives and for funds received from theCompany’s security repurchase business activities are reported in otherliabilities and accrued expenses or other investments in the CondensedConsolidated Statements of Financial Position. The accompanying cash flows are included in cash flows from operatingactivities in the Condensed Consolidated Statements of Cash Flows along withthe activities resulting from management of the proceeds, which are as follows:

 
| ** **                                                            | ** ** | **Three months ended** | ** ** |
|-----------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                            | ** ** | **March 31,**     | ** ** |
| **($ in millions)**                                         | ** ** | **2009**               | ** ** | **2008** | ** ** |
| **Net change in proceeds managed**                                    |       |                   |       |   |   |
| Net change in fixed income securities                                 |       | $                      | —     |   | $ | 93 |   |
| Net change in short-term investments                                  |       | 79                     |       | (652 | ) |
| Operating cash flow provided (used)                                   |       | $                      | 79         |   | $ | (559 | ) |
| ** **                                                            |       |                   |       |   |   |
| **Net change in liabilities**                                         |       |                   |       |   |   |
| Liabilities for collateral and security repurchase, beginning of year |       | $                      | (340       | ) | $ | (1,817 | ) |
| Liabilities for collateral and security repurchase, end of period     |       | (261                   | )          | (2,376 | ) |
| Operating cash flow (used) provided                                   |       | $                      | (79        | ) | $ | 559 |   |

 

**4.  Fair Value of Assets and Liabilities**

 

The Company adopted theprovisions of SFAS No. 157 as of January 1, 2008 for its financialassets and liabilities that are measured at fair value and as of January 1,2009 for its non-financial assets and liabilities measured at fair value on anon-recurring basis.  SFAS No. 157established a hierarchy for inputs used in determining fair value that maximizethe use of observable inputs and minimizes the use of unobservable inputs byrequiring that observable inputs be used when available.

 

Assets and liabilitiesrecorded on the Condensed Consolidated Statements of Financial Position at fairvalue are categorized in the fair value hierarchy based on the observability ofinputs to the valuation techniques as follows:

 

*Level 1**        *Assets and liabilities whose values are based onunadjusted quoted prices for identical assets or liabilities in an activemarket that the Company can access.

 

*Level 2***        **Assets and liabilities whose values are based on thefollowing:

 

a)  Quoted prices for similar assets or liabilitiesin active markets;

b)  Quoted prices for identical or similar assetsor liabilities in non-active markets; or

c)  Valuation models whose inputs are observable,directly or indirectly, for substantially the full term of the asset orliability.

 

*Level 3**        *Assets and liabilities whose values are based onprices or valuation techniques that require inputs that are both unobservableand significant to the overall fair value measurement.  These inputs reflect the Company’s estimatesof the assumptions that market participants would use in valuing the assets andliabilities.

 

The availability ofobservable inputs varies by instrument. In situations where fair value is based on internally developed pricingmodels or inputs that are unobservable in the market, the determination of fairvalue requires more judgment.  The degreeof judgment exercised by the Company in determining fair value is typicallygreatest for instruments categorized in Level 3.  In many instances, valuation inputs used tomeasure fair value fall into different levels of the fair valuehierarchy.  The category level in the fair value hierarchy is determinedbased on the lowest level input that is significant to the fair valuemeasurement in its entirety.  TheCompany uses prices and inputs that are current as of the measurement date,including during periods of market disruption. In periods of market disruption, the ability to observe prices andinputs may be reduced for many instruments. This condition could cause an instrument to be reclassified from Level 1to Level 2, or from Level 2 to Level 3.

 

9

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Certain assets are notcarried at fair value on a recurring basis, including investments such asmortgage loans, limited partnership interests, bank loans and policyloans.  Accordingly, such investments areonly included in the fair value hierarchy disclosure when the investment issubject to remeasurement at fair value after initial recognition and theresulting remeasurement is reflected in the condensed consolidated financialstatements.  In addition, equity optionsembedded in fixed income securities are not disclosed in the hierarchy withfree-standing derivatives as the embedded derivatives are presented with thehost contract in fixed income securities. As of March 31, 2009, 66.9% of total assets are measured at fairvalue and 1.4% of total liabilities are measured at fair value.

 

The following tablesummarizes the Company’s assets and liabilities measured at fair value on arecurring and non-recurring basis as of March 31, 2009:

 
| ** **                                | ** ** | **Quoted prices  in active  markets for  identical assets** | ** ** | **Significant  other  observable  inputs** | ** ** | **Significant  unobservable  inputs** | ** ** | **Counterparty  and cash  collateral** | ** ** | **Balance as of  March 31,** | ** ** |
|-------------------------------------------|------------|-------------------------------------------------------------|------------|--------------------------------------------|------------|---------------------------------------|------------|----------------------------------------|------------|-----------------------------------|------------|
| **($ in millions)**                  | ** ** | **(Level 1)**                                               | ** ** | **(Level 2)**                              | ** ** | **(Level 3)**                         | ** ** | **netting****(1)**                     | ** ** | **2009**                          | ** ** |
| **Assets:**                               | ** ** | ** **                                                  | ** ** | ** **                                 | ** ** | ** **                            | ** ** | ** **                             | ** ** | ** **                        | ** ** |
| Fixed income securities                   |       | $                                                           | 701        |                                       | $          | 26,145                                |       | $                                      | 13,455     |                              |       |   | $ | 40,301 |   |
| Equity securities                         |       | 1                                                           |       | 34                                         |       | 26                                    |       |                                   |       | 61                                |       |
| Short-term investments                    |       | 231                                                         |       | 4,371                                      |       | —                                |       |                                   |       | 4,602                             |       |
| Other investments:                        |       |                                                        |       |                                       |       |                                  |       |                                   |       |                              |       |
| Free-standing derivatives                 |       | —                                                      |       | 482                                        |       | 11                                    |       | $                                      | (323       | )                                 | 170        |   |
| Separate account assets                   |       | 7,375                                                       |       | —                                     |       | —                                |       |                                   |       | 7,375                             |       |
| Other assets                              |       | 1                                                           |       | —                                     |       | 3                                     |       |                                   |       | 4                                 |       |
| **Total recurring basis assets**          |       | 8,309                                                       |       | 31,032                                     |       | 13,495                                |       | (323                                   | )          | 52,513                            |       |
| Non-recurring basis (2)                   |       | —                                                      |       | —                                     |       | 299                                   |       |                                   |       | 299                               |       |
| **Total assets at fair value**            |       | $                                                           | 8,309      |                                       | $          | 31,032                                |       | $                                      | 13,794     |                              | $          | (323 | ) | $ | 52,812 |   |
| % of total assets at fair value           |       | 15.7                                                        | %          | 58.8                                       | %          | 26.1                                  | %          | (0.6                                   | )%         | 100.0                             | %          |
|                                      |       |                                                        |       |                                       |       |                                  |       |                                   |       |                              |       |
| **Liabilities:**                          |       |                                                        |       |                                       |       |                                  |       |                                   |       |                              |       |
| Contractholder funds:                     |       |                                                        |       |                                       |       |                                  |       |                                   |       |                              |       |
| Derivatives embedded in annuity contracts |       | $                                                           | —     |                                       | $          | (51                                   | )          | $                                      | (291       | )                                 |       |   | $ | (342 | ) |
| Other liabilities:                        |       |                                                        |       |                                       |       |                                  |       |                                   |       |                              |       |
| Free-standing derivatives                 |       | (1                                                          | )          | (914                                       | )          | (163                                  | )          | $                                      | 323        |                              | (755       | ) |
| **Total liabilities at fair value**       |       | $                                                           | (1         | )                                          | $          | (965                                  | )          | $                                      | (454       | )                                 | $          | 323 |   | $ | (1,097 | ) |
| % of total liabilities at fair value      |       | 0.1                                                         | %          | 88.0                                       | %          | 41.4                                  | %          | (29.5                                  | )%         | 100.0                             | %          |

 

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(1)        In accordance with FSP FIN39-1, the Company nets all fair value amounts recognized for derivativeinstruments and fair value amounts recognized for the right to reclaim cashcollateral or the obligation to return cash collateral executed with thesame counterparty under a master netting agreement.  At March 31,2009, the right to reclaim cash collateral was offset by securities held, andthere was no obligation to return collateral.

 

(2)        Includes $171 million ofmortgage loans, $118 million of limited partnership interests and $10 millionof other investments written-down to fair value in connection with recognizingother-then-temporary impairments.

 

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The following tablesummarizes the Company’s assets and liabilities measured at fair value on arecurring and non-recurring basis as of December 31, 2008:

 
| ** **                                | ** ** | **Quoted prices  in active  markets for  identical assets** | ** ** | **Significant  other  observable  inputs** | ** ** | **Significant  unobservable  inputs** | ** ** | **Counterparty  and cash  collateral** | ** ** | **Balance as of  December 31,** | ** ** |
|-------------------------------------------|------------|-------------------------------------------------------------|------------|--------------------------------------------|------------|---------------------------------------|------------|----------------------------------------|------------|--------------------------------------|------------|
| **($ in millions)**                  | ** ** | **(Level 1)**                                               | ** ** | **(Level 2)**                              | ** ** | **(Level 3)**                         | ** ** | **netting****(1)**                     | ** ** | **2008**                             | ** ** |
| **Assets:**                               | ** ** | ** **                                                  | ** ** | ** **                                 | ** ** | ** **                            | ** ** | ** **                             | ** ** | ** **                           | ** ** |
| Fixed income securities                   |       | $                                                           | 276        |                                       | $          | 28,037                                |       | $                                      | 14,133     |                                 |       |   | $ | 42,446 |   |
| Equity securities                         |       | 1                                                           |       | 54                                         |       | 27                                    |       |                                   |       | 82                                   |       |
| Short-term investments                    |       | 342                                                         |       | 3,516                                      |       | —                                |       |                                   |       | 3,858                                |       |
| Other investments:                        |       |                                                        |       |                                       |       |                                  |       |                                   |       |                                 |       |
| Free-standing derivatives                 |       | —                                                      |       | 605                                        |       | 13                                    |       | $                                      | (480       | )                                    | 138        |   |
| Separate account assets                   |       | 8,239                                                       |       | —                                     |       | —                                |       |                                   |       | 8,239                                |       |
| Other assets                              |       | (1                                                          | )          | —                                     |       | 1                                     |       |                                   |       | —                               |       |
| **Total recurring basis assets**          |       | 8,857                                                       |       | 32,212                                     |       | 14,174                                |       | (480                                   | )          | 54,763                               |       |
| Non-recurring basis (2)                   |       | —                                                      |       | —                                     |       | 244                                   |       |                                   |       | 244                                  |       |
| **Total assets at fair value**            |       | $                                                           | 8,857      |                                       | $          | 32,212                                |       | $                                      | 14,418     |                                 | $          | (480 | ) | $ | 55,007 |   |
| % of total assets at fair value           |       | 16.1                                                        | %          | 58.6                                       | %          | 26.2                                  | %          | (0.9                                   | )%         | 100.0                                | %          |
|                                      |       |                                                        |       |                                       |       |                                  |       |                                   |       |                                 |       |
| **Liabilities:**                          |       |                                                        |       |                                       |       |                                  |       |                                   |       |                                 |       |
| Contractholder funds:                     |       |                                                        |       |                                       |       |                                  |       |                                   |       |                                 |       |
| Derivatives embedded in annuity contracts |       | $                                                           | —     |                                       | $          | (37                                   | )          | $                                      | (265       | )                                    |       |   | $ | (302 | ) |
| Other liabilities:                        |       |                                                        |       |                                       |       |                                  |       |                                   |       |                                 |       |
| Free-standing derivatives                 |       | —                                                      |       | (1,118                                     | )          | (106                                  | )          | $                                      | 460        |                                 | (764       | ) |
| **Total liabilities at fair value**       |       | $                                                           | —     |                                       | $          | (1,155                                | )          | $                                      | (371       | )                                    | $          | 460 |   | $ | (1,066 | ) |
| % of total liabilities at fair value      |       | —                                                      | %          | 108.4                                      | %          | 34.8                                  | %          | (43.2                                  | )%         | 100.0                                | %          |

 

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(1)        In accordance with FSP FIN39-1, the Company nets all fair value amounts recognized for derivativeinstruments and fair value amounts recognized for the right to reclaim cashcollateral or the obligation to return cash collateral executed with thesame counterparty under a master netting agreement.  At December 31, 2008, the right toreclaim cash collateral was offset by securities held, and the obligation toreturn collateral was $20 million.

 

(2)        Includes $164 million ofmortgage loans, $70 million of limited partnership interests and $10 million ofother investments written-down to fair value in connection with recognizingother-then-temporary impairments.

 

As required by SFAS No. 157,when the inputs used to measure fair value fall within different levels of thehierarchy, the level within which the fair value measurement is categorized isbased on the lowest level input that is significant to the fair value measurementin its entirety.  Thus, a Level 3 fairvalue measurement may include inputs that are observable (Level 1 or Level 2)and unobservable (Level 3).

 

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The following tableprovides a summary of changes in fair value during the three months ended March 31,2009 of Level 3 assets and liabilities held at fair value on a recurringbasis.  Net transfers in and/or out ofLevel 3 are reported as having occurred at the beginning of the quarter thetransfer occurred; therefore, for all transfers into Level 3, all realized andchanges in unrealized gains and losses in the quarter of transfer are reflectedin the table below.

 
| ** **                                 | ** ** | ** **                                  | ** ** | **Total  realized and  unrealized gains (losses)  included in:** | ** ** | **Purchases,  sales,**                        | ** ** | ** **                            | ** ** | ** **                                      | ** ** | **Total  gains (losses)  included in  net income  for financial** | ** ** |
|--------------------------------------------|------------|---------------------------------------------|------------|------------------------------------------------------------------|------------|-----------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------------|------------|-------------------------------------------------------------------|------------|
| **($ in  millions)**                  | ** ** | **Balance  as of  December 31,  2008** | ** ** | **Net  income****(1)**                                           | ** ** | **OCI on  Statement of  Financial  Position** | ** ** | **issuances  and  settlements,  net** | ** ** | **Net  transfers in  and/or (out)  of Level 3** | ** ** | **Balance  as of  March 31,  2009**                          | ** ** | **instruments  still held at  March 31,  2009****(3)** | ** ** |
| **Assets**                                 |       |                                        |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Fixed income  securities                   |       | $                                           | 14,133     |                                                             | $          | (207                                          | )          | $                                     | (260       | )                                               | $          | (508                                                              | )          | $ | 297 |   | $ | 13,455 |   | $ | (193 | ) |
| Equity  securities                         |       | 27                                          |       | —                                                           |       | (1                                            | )          | —                                |       | —                                          |       | 26                                                                |       | — |   |
| Other  investments:                        |       |                                        |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Free-standing  derivatives, net            |       | (93                                         | )          | (9                                                               | )          | —                                        |       | (50                                   | )          | —                                          |       | (152                                                              | )(2)       | 8 |   |
| Other assets                               |       | 1                                           |       | 2                                                                |       | —                                        |       | —                                |       | —                                          |       | 3                                                                 |       | 2 |   |
| **Total  recurring Level 3 assets**        |       | $                                           | 14,068     |                                                             | $          | (214                                          | )          | $                                     | (261       | )                                               | $          | (558                                                              | )          | $ | 297 |   | $ | 13,332 |   | $ | (183 | ) |
|                                       |       |                                        |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| **Liabilities**                            |       |                                        |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Contractholder  funds:                     |       |                                        |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Derivatives  embedded in annuity contracts |       | $                                           | (265       | )                                                                | $          | (25                                           | )          | $                                     | —     |                                            | $          | (1                                                                | )          | $ | — |   | $ | (291 | ) | $ | (25 | ) |
| **Total  recurring Level 3 liabilities**   |       | $                                           | (265       | )                                                                | $          | (25                                           | )          | $                                     | —     |                                            | $          | (1                                                                | )          | $ | — |   | $ | (291 | ) | $ | (25 | ) |

 

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| (1)    | The  effect to net income totals $(239) million and is reported in the Condensed  Consolidated Statements of Operations as follows: $(249) million in realized  capital gains and losses, $36 million in net investment income,  $(1) million in interest credited to contractholder funds, and $(25)  million in contract benefits.                                                                              |
|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                                                                                                   |
| (2)    | Comprises  $11 million of assets and $(163) million of liabilities.                                                                                                                                                                                                                                                                                                                                                    |
|   |                                                                                                                                                                                                                                                                                                                                                                                                                   |
| (3)    | The  amounts represent gains and losses included in net income for the period of  time that the asset or liability was determined to be in Level 3. These gains  and losses total $(208) million and are reported in the Condensed  Consolidated Statements of Operations as follows: $(219) million in realized  capital gains and losses, $36 million in net investment income, $(25) million  in contract benefits. |

 

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The following tableprovides a summary of changes in fair value during the three months ended March 31,2008 of Level 3 assets and liabilities held at fair value on a recurringbasis.  Net transfers in and/or out ofLevel 3 are reported as having occurred at the beginning of the quarter thetransfer occurred; therefore, for all transfers into Level 3, all realized andchanges in unrealized gains and losses in the quarter of transfer are reflectedin the table below.

 
| ** **                                 | ** ** | ** **                                | ** ** | **Total  realized and  unrealized gains (losses)  included in:** | ** ** | **Purchases,  sales,**                        | ** ** | ** **                            | ** ** | ** **                                      | ** ** | **Total  gains (losses)  included in  net income  for financial** | ** ** |
|--------------------------------------------|------------|-------------------------------------------|------------|------------------------------------------------------------------|------------|-----------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------------|------------|-------------------------------------------------------------------|------------|
| **($ in  millions)**                  | ** ** | **Balance  as of  January 1,  2008** | ** ** | **Net  income****(1)**                                           | ** ** | **OCI on  Statement of  Financial  Position** | ** ** | **issuances  and  settlements,  net** | ** ** | **Net  transfers in  and/or (out)  of Level 3** | ** ** | **Balance  as of  March 31,  2008**                          | ** ** | **instruments  still held at  March 31,  2008****(3)** | ** ** |
| **Assets**                                 |       |                                      |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Fixed income  securities                   |       | $                                         | 18,830     |                                                             | $          | (159                                          | )          | $                                     | (741       | )                                               | $          | (357                                                              | )          | $ | 164 |   | $ | 17,737 |   | $ | (155 | ) |
| Equity  securities                         |       | 61                                        |       | (1                                                               | )          | (3                                            | )          | —                                |       | —                                          |       | 57                                                                |       | (1 | ) |
| Other  investments:                        |       |                                      |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Free-standing  derivatives, net            |       | (6                                        | )          | (31                                                              | )          | —                                        |       | 2                                     |       | —                                          |       | (35                                                               | )(2)       |  (18) |   |
| Other assets                               |       | 2                                         |       | —                                                           |       | —                                        |       | —                                |       |                                            |       | 2                                                                 |       | — |   |
| **Total  recurring Level 3 assets**        |       | $                                         | 18,887     |                                                             | $          | (191                                          | )          | $                                     | (744       | )                                               | $          | (355                                                              | )          | $ | 164 |   | $ | 17,761 |   | $ | (174 | ) |
| **Liabilities**                            |       |                                      |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Contractholder  funds:                     |       |                                      |       |                                                             |       |                                          |       |                                  |       |                                            |       |                                                              |       |   |   |
| Derivatives  embedded in annuity contracts |       | $                                         | 4          |                                                             | $          | (14                                           | )          | $                                     | —     |                                            | $          | —                                                            |       | $ | — |   | $ | (10 | ) | $ | (14 | ) |
| **Total  recurring Level 3 liabilities**   |       | $                                         | 4          |                                                             | $          | (14                                           | )          | $                                     | —     |                                            | $          | —                                                            |       | $ | — |   | $ | (10 | ) | $ | (14 | ) |

 

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(1)          The effect tonet income totals $(205) million and is reported in the Condensed ConsolidatedStatements of Operations as follows: $(200) million in realized capital gainsand losses, $12 million in net investment income, $(8) million in interestcredited to contractholder funds, and $(9) million in contract benefits.

 

(2)          Comprises $39million of assets and $(74) million of liabilities.

 

(3)          The amountsrepresent gains and losses included in net income for the period of time thatthe asset or liability was determined to be in Level 3.  These gains and losses total $(188) millionand are reported in the Condensed Consolidated Statements of Operations asfollows: $(185) million in realized capital gains and losses, $12 millionin net investment income, $(6) million in interest credited tocontractholder funds, and $(9) million in contract benefits.

 

**5.  Derivative Financial Instruments**

 

The Company primarilyuses derivatives for risk reduction and asset replication.  In addition, the Company has derivativesembedded in non-derivative “host” contracts, which are required to be separatedfrom the host contract and accounted for at fair value as derivativeinstruments.  With the exception ofnon-hedge derivatives used for asset replication and non-hedge embeddedderivatives, all of the Company’s derivatives are evaluated for their ongoingeffectiveness as either accounting hedge or non-hedge derivative financialinstruments on at least a quarterly basis. The Company does not use derivatives for trading purposes.  Non-hedge accounting is used for “portfolio”level hedging strategies where the terms of the individual hedged items do notmeet the strict homogeneity requirements prescribed in SFAS No. 133 topermit the application of SFAS No. 133’s hedge accounting model.

 

The Company uses derivativesto partially mitigate potential adverse impacts from future increases in creditspreads.  Credit default swaps are usedto mitigate the credit risk within the Company’s fixed income portfolios. TheCompany uses foreign currency swaps primarily to reduce the foreign currencyrisk associated with issuing foreign currency denominated funding agreementsand holding foreign currency denominated investments.

 

Asset-liabilitymanagement is a risk management strategy that is principally employed to balancethe respective interest-rate sensitivities of the Company’s assets andliabilities. Depending upon the attributes of the assets acquired andliabilities issued, derivative instruments such as interest rate swaps, caps,floors and futures are acquired to change the interest rate characteristics ofexisting assets and liabilities to ensure the relationship is maintained withinspecified ranges and to reduce exposure to rising or falling interest rates.The Company uses financial futures and interest rate swaps to hedge anticipatedasset purchases and liability issuances and financial futures and options forhedging the Company’s equity exposure contained in equity indexed annuityproduct contracts that offer equity returns to contractholders.  In addition, the Company uses interest rateswaps to hedge interest rate risk inherent in funding agreements.

 

13

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When derivatives meetspecific criteria, they may be designated as accounting hedges and accountedfor as fair value, cash flow, foreign currency fair value or foreign currencycash flow hedges.  The Company designatescertain of its interest rate and foreign currency swap contracts and certaininvestment risk transfer reinsurance agreements as fair value hedges when thehedging instrument is highly effective in offsetting the risk of changes in thefair value of the hedged item.  TheCompany designates certain of its foreign currency swap contracts as cash flowhedges when the hedging instrument is highly effective in offsetting theexposure of variations in cash flows for the hedged risk that could affect netincome.  Amounts are reclassified to netinvestment income as the hedged item affects net income.

 

Asset replication refersto the “synthetic” creation of assets through the use of derivatives andprimarily investment grade host bonds to replicate securities that are eitherunavailable in the cash markets or more economical to acquire in syntheticform.  The Company replicates fixedincome securities using a combination of a credit default swap and one or morehighly rated fixed income securities to synthetically replicate the economiccharacteristics of one or more cash market securities.  The Company’s primary embedded derivativesare conversion options in fixed income securities, which provide the Companywith the right to convert the instrument into a predetermined number of sharesof common stock; equity options in annuity product contracts, which provideequity returns to contractholders; and equity-indexed notes containing equitycall options, which provide a coupon payout that is determined using one ormore equity-based indices.

 

The notional amountsspecified in the contracts are used to calculate the exchange of contractualpayments under the agreements and are generally not representative of thepotential for gain or loss on these agreements. However, the notional amounts specified in selling protection creditdefault swaps represent the maximum amount of potential loss, assuming norecoveries.

 

Fair value, which isequal to the carrying value, is the estimated amount that the Company wouldreceive (pay) to terminate the derivative contracts at the reporting date.  The carrying value amounts for OTC free-standingderivatives have been further adjusted for the effects, if any, of legallyenforceable master netting agreements and are presented on a net basis in theCondensed Consolidated Statements of Financial Position in accordance with FASBInterpretation No. 39.  For certainexchange traded derivatives, the exchange requires margin deposits as well asdaily cash settlements of margin accounts. As of March 31, 2009, the Company pledged $17 million of securitiesin the form of margin deposits.

 

The net impact to pre-taxincome for derivatives includes valuation and settlements of derivatives whichare reported in net income.  For thosederivatives which qualify for fair value hedge accounting, net income includesthe changes in the fair value of the hedged risk, and therefore reflects anyhedging ineffectiveness.  For cash flowhedges, gains and losses amortized from accumulated other comprehensive incomeare reported in net income.  For embeddedderivatives in convertible fixed income securities and equity-indexed notes,accretion income related to the host instrument is reported in net income.

 

14

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The following tableprovides a summary of the volume and fair value positions of derivativeinstruments as well as their reporting location in the Condensed ConsolidatedStatements of Financial Position at March 31, 2009.

 
| ** **                                                        | ** ** | **Asset derivatives**      | ** ** |
|-------------------------------------------------------------------|------------|----------------------------|------------|
| ** **                                                        | ** ** | ** **                 | ** ** | **Volume****(1)** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **($ in millions, except number of contracts)**              | ** ** | **Balance sheet location** | ** ** | **Notional  amount** | ** ** | **Number  of  contracts** | ** ** | **Fair  value,  net** | ** ** | **Gross  asset** | ** ** | **Gross  liability** | ** ** |
| **Derivatives designated as accounting hedging  instruments**     |       |                       |       |   |   |   |   |   |   |   |   |   |   |
| Interest rate contracts                                           |       | Other  investments         |       | $ | 128 |   | n/a |   | $ | (11 | ) | $ | — |   | $ | (11 | ) |
| Foreign currency contracts                                        |       | Other  investments         |       | 72 |   | n/a |   | 6 |   | 6 |   | — |   |
| Total                                                             |       |                       |       | 200 |   | n/a |   | (5 | ) | 6 |   | (11 | ) |
|                                                              |       |                       |       |   |   |   |   |   |   |   |   |   |   |
| **Derivatives not designated as accounting hedging  instruments** |       |                       |       |   |   |   |   |   |   |   |   |   |   |
| Interest rate contracts                                           |       | Other  investments         |       | 439 |   | n/a |   | 31 |   | 36 |   | (5 | ) |
| Interest rate contracts                                           |       | Other  assets              |       | n/a |   | 222 |   | — |   | — |   | — |   |
| Equity and index contracts                                        |       | Other  investments         |       | 98 |   | 22,850 |   | 120 |   | 120 |   | — |   |
| Equity and index contracts                                        |       | Other  assets              |       | n/a |   | 1,098 |   | 1 |   | 1 |   | — |   |
| Foreign currency contracts                                        |       | Other  investments         |       | 90 |   | n/a |   | 8 |   | 8 |   | — |   |
| Embedded derivative financial instruments                         |       | Fixed  income securities   |       | 1,086 |   | n/a |   | 179 |   | 179 |   | — |   |
| Embedded derivative financial instruments                         |       | Other  assets              |       | 5 |   | n/a |   | 3 |   | 3 |   | — |   |
| Credit default contracts                                          |       | Other  investments         |       | 295 |   | n/a |   | 16 |   | 18 |   | (2 | ) |
| Other contracts                                                   |       | Other  investments         |       | 75 |   | n/a |   | — |   | — |   | — |   |
| Total                                                             |       |                       |       | 2,088 |   | 24,170 |   | 358 |   | 365 |   | (7 | ) |
|                                                              |       |                       |       |   |   |   |   |   |   |   |   |   |   |
| **Total derivative assets**                                       |       |                       |       | $ | 2,288 |   | 24,170 |   | $ | 353 |   | $ | 371 |   | $ | (18 | ) |

 
| ** **                                                        | ** ** | **Liability derivatives**                      | ** ** |
|-------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                        | ** ** | ** **                                     | ** ** | **Volume****(1)** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                        | ** ** | **Balance sheet location**                     | ** ** | **Notional  amount** | ** ** | **Number  of  contracts** | ** ** | **Fair  value,  net** | ** ** | **Gross  asset** | ** ** | **Gross  liability** | ** ** |
| **Derivatives designated as accounting hedging  instruments**     |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| Interest rate contracts                                           |       | Other  liabilities & accrued expenses |       | $ | 3,295 |   | n/a |   | $ | (428 | ) | $ | — |   | $ | (428 | ) |
| Foreign currency contracts                                        |       | Other  liabilities & accrued expenses |       | 196 |   | n/a |   | 14 |   | 21 |   | (7 | ) |
| Foreign currency and interest rate contracts                      |       | Other  liabilities & accrued expenses |       | 870 |   | n/a |   | 165 |   | 165 |   | — |   |
| Foreign currency and interest rate contracts                      |       | Contractholder  funds                          |       | n/a |   | n/a |   | 13 |   | 13 |   | — |   |
| Total                                                             |       |                                           |       | 4,361 |   | n/a |   | (236 | ) | 199 |   | (435 | ) |
|                                                              |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| **Derivatives not designated as accounting hedging  instruments** |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| Interest rate contracts                                           |       | Other  liabilities & accrued expenses |       | 9,579 |   | n/a |   | (366 | ) | 59 |   | (425 | ) |
| Interest rate contracts                                           |       | Other  liabilities & accrued expenses |       | n/a |   | 4,551 |   | — |   | — |   | — |   |
| Equity and index contracts                                        |       | Other  liabilities & accrued expenses |       | n/a |   | 23,223 |   | (64 | ) | — |   | (64 | ) |
| Foreign currency contracts                                        |       | Other  liabilities & accrued expenses |       | 14 |   | n/a |   | (1 | ) | — |   | (1 | ) |
| Embedded derivative financial instruments                         |       | Contactholder  funds                           |       | 5,832 |   | n/a |   | (341 | ) | — |   | (341 | ) |
| Credit default contracts                                          |       | Other  liabilities & accrued expenses |       | 1,243 |   | n/a |   | (88 | ) | 47 |   | (135 | ) |
| Total                                                             |       |                                           |       | 16,668 |   | 27,774 |   | (860 | ) | 106 |   | (966 | ) |
|                                                              |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| **Total derivative liabilities**                                  |       |                                           |       | $ | 21,029 |   | 27,774 |   | $ | (1,096 | ) | $ | 305 |   | $ | (1,401 | ) |
|                                                              |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| **Total derivatives**                                             |       |                                           |       | $ | 23,317 |   | 51,944 |   | $ | (743 | ) |   |   |   |   |

 

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(1)          Volume for OTCderivative contracts is represented by their notional amounts.  Volume for exchange traded derivatives isrepresented by the number of contracts which is the basis on which they are traded.  (n/a = not applicable)

 

15

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The following tableprovides a summary of the impacts of the Company’s foreign currency contractsin cash flow hedging relationships in the Condensed Consolidated Statements ofOperations and the Condensed Consolidated Statements of Financial Position forthe three month period ended March 31, 2009.  Amortization of net gains from accumulatedother comprehensive income related to cash flow hedges is expected to be $3million during the next twelve months.

 
| **($ in millions)**                                                                                                  | ** ** | ** **                         | ** ** |
|---------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                                                                                                | ** ** | ** **                         | ** ** |
| Location of gain reclassified from accumulated OCI into income  (effective portion)                                       |       | Net  investment income             |       |
|                                                                                                                      |       |                               |       |
| Amount of gain recognized in OCI on derivatives during the period  (effective portion)                                    |       | $                                  | 4          |   |   |
|                                                                                                                      |       |                               |       |   |   |
| Amount of gain recognized in OCI on derivatives during the term of  the hedging relationship (effective portion)          |       | $                                  | 20         |   |   |
|                                                                                                                      |       |                               |       |   |   |
| Amount of gain reclassified from accumulated OCI into income  (effective portion)                                         |       | $                                  | 1          |   |   |
|                                                                                                                      |       |                               |       |   |   |
| Location of gain recognized in income on derivative (ineffective  portion and amount excluded from effectiveness testing) |       | Realized  capital gains and losses |       |
|                                                                                                                      |       |                               |       |
| Amount of gain recognized in income on derivatives (ineffective  portion and amount excluded from effectiveness testing)  |       | $                                  | —     |   |   |

 

Thefollowing table presents gains and losses from valuation, settlement and hedgeineffectiveness reported on derivatives used in fair value hedgingrelationships and derivatives not designated as accounting hedging instrumentsin the Condensed Consolidated Statements of Operations for the three monthsended March 31, 2009.

 
| **($ in millions)**                                          | ** ** | **Net investment  income** | ** ** | **Realized  capital gains  and losses** | ** ** | **Contract  benefits** | ** ** | **Interest  credited to  contractholder  funds** | ** ** | **Total gain (loss)  recognized in  net income on  derivatives** | ** ** |
|-------------------------------------------------------------------|------------|----------------------------|------------|-----------------------------------------|------------|------------------------|------------|--------------------------------------------------|------------|------------------------------------------------------------------|------------|
| **Derivatives in fair value accounting hedging  relationships**   |       |                       |       |                                    |       |                   |       |                                             |       |                                                             |       |
| Interest rate contracts                                           |       | $                          | 7          |                                    | $          | 4                      |       | $                                                | —     |                                                             | $          | (12 | ) | $ | (1 | ) |
| Foreign currency and interest rate contracts                      |       | —                     |       | (1                                      | )          | —                 |       | (30                                              | )          | (31                                                              | )          |
| Subtotal                                                          |       | 7                          |       | 3                                       |       | —                 |       | (42                                              | )          | (32                                                              | )          |
|                                                              |       |                       |       |                                    |       |                   |       |                                             |       |                                                             |       |
| **Derivatives not designated as accounting hedging  instruments** |       |                       |       |                                    |       |                   |       |                                             |       |                                                             |       |
| Interest rate contracts                                           |       | —                     |       | 56                                      |       | —                 |       | —                                           |       | 56                                                               |       |
| Equity and index contracts                                        |       | —                     |       | 3                                       |       | —                 |       | (23                                              | )          | (20                                                              | )          |
| Embedded derivative financial instruments                         |       | —                     |       | (23                                     | )          | (23                    | )          | (14                                              | )          | (60                                                              | )          |
| Foreign currency contracts                                        |       | —                     |       | 1                                       |       | —                 |       | —                                           |       | 1                                                                |       |
| Credit default contracts                                          |       | —                     |       | 29                                      |       | —                 |       | —                                           |       | 29                                                               |       |
| Subtotal                                                          |       | —                     |       | 66                                      |       | (23                    | )          | (37                                              | )          | 6                                                                |       |
| Total                                                             |       | $                          | 7          |                                    | $          | 69                     |       | $                                                | (23        | )                                                                | $          | (79 | ) | $ | (26 | ) |

 

Thefollowing table provides a summary of the changes in fair value of the Company’sfair value hedging relationships in the Condensed Consolidated Statements ofOperations for the three month period ended March 31, 2009.

 

| ** **                                                              | ** ** | **Gain (loss) on derivatives** | ** ** | **Gain (loss) on hedged risk** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------------------|------------|--------------------------------|------------|
| ** **                                                              | ** ** | ** **                     | ** ** | **Foreign**                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| **($ in millions)**                                                | ** ** | **Interest**                   | ** ** | **currency &**        | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Location of gain or (loss) recognized  in net income on derivatives** | ** ** | **rate  contracts**            | ** ** | **interest rate  contracts**   | ** ** | **Contractholder  funds** | ** ** | **Investments** | ** ** |
| Interest credited to contractholder funds                               |       | $                              | (26        | )                              | $          | (35 | ) | $ | 61 |   | $ | — |   |
| Net investment income                                                   |       | 40                             |       | —                         |       | — |   | (40 | ) |
| Realized capital gains and losses                                       |       | 4                              |       | (1                             | )          | — |   | — |   |
| Total                                                                   |       | $                              | 18         |                           | $          | (36 | ) | $ | 61 |   | $ | (40 | ) |

 

The Company manages itsexposure to credit risk by utilizing highly rated counterparties, establishingrisk control limits, executing legally enforceable master netting agreements (“MNAs”)and obtaining collateral where appropriate. The Company uses master netting agreements for OTC derivativetransactions, including interest rate swap, foreign currency swap, interestrate cap, interest rate floor, credit default swap, forward and certain optionagreements (including swaptions).  Theseagreements permit either party to net payments due for transactions covered bythe agreements.  Under the provisions ofthe agreements, collateral is either pledged or obtained when certain predeterminedexposure limits are exceeded.  As of March 31,2009, the Company pledged $12 million in

 

16

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cash and $576 million insecurities to counterparties which includes $433 million of collateral postedunder MNAs for contracts containing credit-risk-contingent provisions that arein a liability position and $143 million of collateral posted under MNAs forcontracts without credit-risk-contingent liabilities.  The Company has not incurred any losses onderivative financial instruments due to counterparty nonperformance.  Other derivatives including futures andcertain option contracts are traded on organized exchanges, which requiremargin deposits and guarantee the execution of trades, thereby mitigating anypotential credit risk associated with transactions executed on organizedexchanges.

 

Counterparty creditexposure represents the Company’s potential loss if all of the counterpartiesconcurrently fail to perform under the contractual terms of the contracts andall collateral, if any, becomes worthless. This exposure is measured by the fair value of OTC free-standingderivative contracts with a positive fair value at the reporting date reducedby the effect, if any, of legally enforceable master netting agreements.

 

The following tablesummarizes the counterparty credit exposure by counterparty credit rating, asit relates to interest rate swap, foreign currency swap, interest rate cap,interest rate floor, credit default swap, forward and certain option agreements(including swaptions).

 
| ** **                                         | ** ** | **March 31, 2009**      | ** ** | **December 31, 2008**   | ** ** |
|----------------------------------------------------|------------|-----------------------------------|------------|-----------------------------------|------------|
| **($ in millions)  Rating ****(1)** | ** ** | **Number  of  counter-  parties** | ** ** | **Notional  amount ****(2)** | ** ** | **Credit  exposure ****(2)** | ** ** | **Exposure,  net of  collateral ****(2)** | ** ** | **Number  of  counter-  parties** | ** ** | **Notional  amount ****(2)** | ** ** | **Credit  exposure ****(2)** | ** ** | **Exposure,  net of  collateral ****(2)** | ** ** |
| AA-                                                |       | 1                                 |       | $                                 | 321        |   | $ | 13 |   | $ | 13 |   | 1 |   | $ | 236 |   | $ | 5 |   | $ | 5 |   |
| A+                                                 |       | 2                                 |       | 478                               |       | 11 |   | 11 |   | 2 |   | 242 |   | 8 |   | 8 |   |
| A                                                  |       | 2                                 |       | 157                               |       | 3 |   | 3 |   | 2 |   | 1,730 |   | 35 |   | 15 |   |
| A-                                                 |       | 1                                 |       | 166                               |       | 23 |   | 23 |   | 1 |   | 216 |   | 25 |   | 25 |   |
| Total                                              |       | 6                                 |       | $                                 | 1,122      |   | $ | 50 |   | $ | 50 |   | 6 |   | $ | 2,424 |   | $ | 73 |   | $ | 53 |   |

 

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(1)          Rating is the lower ofStandard & Poor’s (“S&P”) or Moody’s ratings.

 

(2)          Only OTC derivatives with anet positive fair value are included for each counterparty.

 

Market risk is the riskthat the Company will incur losses due to adverse changes in market rates andprices.  Market risk exists for all ofthe derivative financial instruments the Company currently holds, as theseinstruments may become less valuable due to adverse changes in market conditions.  To limit this risk, the Company’s seniormanagement has established risk control limits. In addition, changes in fair value of the derivative financialinstruments that the Company uses for risk management purposes are generallyoffset by the change in the fair value or cash flows of the hedged riskcomponent of the related assets, liabilities or forecasted transactions.

 

Certain of the Company’sderivative instruments contain credit-risk-contingent termination events,cross-default provisions and credit support annex agreements.  Credit-risk-contingent termination eventsallow the counterparties to terminate the derivative on certain dates if ALIC’sand Allstate Life Insurance Company of New York’s (“ALNY”) financial strengthcredit ratings by Moody’s or S&P fall below a certain level or in the eventALIC or ALNY are no longer rated by both Moody’s and S&P.  Credit-risk-contingent cross-defaultprovisions allow the counterparties to terminate the derivative instruments ifthe Company defaults by pre-determined threshold amounts on certain debtinstruments.  Credit-risk-contingentcredit support annex agreements specify the amount of collateral the Companymust post to counterparties based on ALIC’s and ALNY’s financial strengthcredit ratings by Moody’s or S&P, or in the event ALIC or ALNY are nolonger rated by both Moody’s and S&P.

 

The following summarizesthe fair value of derivative instruments with termination, cross-default orcollateral credit-risk-contingent features that are in a liability position asof March 31, 2009, as well as the fair value of assets and collateral thatare netted against the liability in accordance with provisions within legallyenforceable MNAs.

 

17

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| **($ in millions)**                                                                                                         | ** ** | ** ** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|
|                                                                                                                                  |       |       |       |
| Gross liability fair value of contracts containing  credit-risk-contingent features                                                   |       | $          | 857        |   |
| Gross asset fair value of contracts containing credit-risk-contingent  features and subject to MNAs                                   |       | (317       | )          |
| Collateral posted under MNAs for contracts containing  credit-risk-contingent features                                                |       | (433       | )          |
| Maximum amount of additional exposure for contracts with  credit-risk-contingent features if all features were triggered concurrently |       | $          | 107        |   |

 

**Creditderivatives – selling protection**

 

Credit default swaps(“CDS”) are utilized for selling credit protection against a specified creditevent.  A credit default swap is aderivative instrument, representing an agreement between two parties toexchange the credit risk of a specified entity (or a group of entities), or anindex based on the credit risk of a group of entities (all commonly referred toas the “reference entity” or a portfolio of “reference entities”), for aperiodic premium.  In selling protection,CDS are used to replicate fixed income securities and to complement the cashmarket when credit exposure to certain issuers is not available or when thederivative alternative is less expensive than the cash market alternative.  Credit risk includes both default risk andmarket value exposure due to spread widening. CDS typically have a five-yearterm.

 

The following table showsthe CDS notional amounts by credit rating and fair value of protection sold asof March 31, 2009:

 

| ** **                      | ** ** | **Notional amount  credit rating underlying notional** | ** ** | ** ** | ** ** |
|---------------------------------|------------|----------------------------------------------------------------------------|------------|------------|------------|
| **($ in millions)**   | ** ** | **AA**                                                                     | ** ** | **A**      | ** ** | **BBB** | ** ** | **BB and  lower** | ** ** | **Total** | ** ** | **Fair  value** | ** ** |
| **Single name**                 |       |                                                                       |       |       |       |   |   |   |   |   |   |   |   |
| Investment grade corporate debt |       | $                                                                          | 10         |       | $          | 76 |   | $ | 95 |   | $ | 5 |   | $ | 186 |   | $ | (11 | ) |
| Municipal                       |       | 25                                                                         |       | —     |       | — |   | — |   | 25 |   | (11 | ) |
| Sovereign                       |       | —                                                                     |       | —     |       | 20 |   | 5 |   | 25 |   | (1 | ) |
| Subtotal                        |       | 35                                                                         |       | 76         |       | 115 |   | 10 |   | 236 |   | (23 | ) |
| **First-to-default**            |       |                                                                       |       |       |       |   |   |   |   |   |   |   |   |
| Investment grade corporate debt |       | —                                                                     |       | 45         |       | 45 |   | — |   | 90 |   | (7 | ) |
| Municipal                       |       | 120                                                                        |       | 35         |       | — |   | — |   | 155 |   | (46 | ) |
| Subtotal                        |       | 120                                                                        |       | 80         |       | 45 |   | — |   | 245 |   | (53 | ) |
| **Index**                       |       |                                                                       |       |       |       |   |   |   |   |   |   |   |   |
| Investment grade corporate debt |       | —                                                                     |       | —     |       | — |   | 65 |   | 65 |   | (52 | ) |
| **Total**                       |       | $                                                                          | 155        |       | $          | 156 |   | $ | 160 |   | $ | 75 |   | $ | 546 |   | $ | (128 | ) |

 

In selling protectionwith CDS, the Company sells credit protection on an identified single name, abasket of names in a first-to-default (“FTD”) structure or credit derivative index(“CDX”) that is generally investment grade, and in return receives periodicpremiums through expiration or termination of the agreement.  With single name CDS, this premium or creditspread generally corresponds to the difference between the yield on thereferenced entity’s public fixed maturity cash instruments and swap rates, atthe time the agreement is executed.  WithFTD baskets, because of the additional credit risk inherent in a basket ofnamed credits, the premium generally corresponds to a high proportion of thesum of the credit spreads of the names in the basket and the correlationbetween the names.  CDX index is utilized totake a position on multiple (generally 125) reference entities.  Credit events are typically defined as bankruptcy, failureto pay, or restructuring, depending on the nature of the reference credit.  If a credit event occurs, the Company settleswith the counterparty, either through physical settlement or cash settlement.  In a physical settlement, a reference assetis delivered by the buyer of protection to the Company, in exchange for cashpayment at par, while in a cash settlement, the Company pays the differencebetween par and the prescribed value of the reference asset.  When a credit event occurs in a single name orFTD basket (for FTD, the first credit event occurring for any one name in thebasket), the contract terminates at time of settlement.  For CDX index, the reference entity’s nameincurring the credit event is removed from the index while the contract continuesuntil expiration.  The maximum payout ona CDS is the contract notional amount.  Aphysical settlement may afford the Company with recovery rights as the newowner of the asset.

 

18

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The Company monitors riskassociated with credit derivatives through individual name credit limits atboth a credit derivative and a combined cash instrument/credit derivativelevel.  The ratings of individual namesfor which protection has been sold are also monitored.

 

**6.  Reinsurance**

 

The effects ofreinsurance on premiums and contract charges are as follows:

 
| ** **                                        | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------------|------------|--------------------------------------------------|------------|
| **($ in millions)**                     | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| ** **                                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| **Premiums and contract charges**                 |       |                                             |       |   |   |
| Direct                                            |       | $                                                | 545        |   | $ | 559 |   |
| Assumed                                           |       |                                             |       |   |   |
| Affiliate                                         |       | 25                                               |       | 15 |   |
| Non-affiliate                                     |       | 5                                                |       | 6 |   |
| Ceded—non-affiliate                          |       | (195                                             | )          | (228 | ) |
|                                              |       |                                             |       |   |   |
| Premiums and contract charges, net of reinsurance |       | $                                                | 380        |   | $ | 352 |   |

 

The effects ofreinsurance on contract benefits are as follows:

 
| ** **                            | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------|------------|--------------------------------------------------|------------|
| **($ in millions)**         | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| ** **                            | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| **Contract benefits**                 |       |                                             |       |   |   |
| Direct                                |       | $                                                | 759        |   | $ | 495 |   |
| Assumed                               |       |                                             |       |   |   |
| Affiliate                             |       | 15                                               |       | 9 |   |
| Non-affiliate                         |       | 8                                                |       | 6 |   |
| Ceded—non-affiliate              |       | (448                                             | )          | (169 | ) |
|                                  |       |                                             |       |   |   |
| Contract benefits, net of reinsurance |       | $                                                | 334        |   | $ | 341 |   |

 

The effects of reinsuranceon interest credited to contractholder funds are as follows:

 
| ** **                                                    | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------------------------|------------|--------------------------------------------------|------------|
| **($ in millions)**                                 | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| ** **                                                    | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| **Interest credited to contractholder funds**                 |       |                                             |       |   |   |
| Direct                                                        |       | $                                                | 566        |   | $ | 613 |   |
| Assumed                                                       |       |                                             |       |   |   |
| Affiliate                                                     |       | 3                                                |       | 3 |   |
| Non-affiliate                                                 |       | 3                                                |       | 4 |   |
| Ceded—non-affiliate                                      |       | (7                                               | )          | (10 | ) |
|                                                          |       |                                             |       |   |   |
| Interest credited to contractholder funds, net of reinsurance |       | $                                                | 565        |   | $ | 610 |   |

 

19

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**7.    Guarantees and Contingent Liabilities**

 

**Guarantyfunds**

 

Under state insuranceguaranty fund laws, insurers doing business in a state can be assessed, up toprescribed limits, for certain obligations of insolvent insurance companies topolicyholders and claimants.  Amountsassessed to each company are typically related to its proportion of businesswritten in each state.  The Company’spolicy is to accrue a guaranty fund assessment when the entity for which theinsolvency relates has been declared financially insolvent by a court ofcompetent jurisdiction and, in certain states, that is also a final order ofliquidation, and the amount of loss is reasonably estimable.

 

The New York LiquidationBureau (“the Bureau”) has publicly reported that Executive Life InsuranceCompany of New York (“Executive Life”) is currently under its jurisdiction aspart of a 1992 court-ordered rehabilitation plan and may only be able to meetfuture obligations of its annuity contacts for the next fifteen years. However,Executive Life does not have a liquidity problem at this time, and an order ofliquidation has not been sought by the Bureau. The shortfall was estimated by the Bureau to be $1.27 billion at October 29,2008.

 

If Executive Life were tobe declared insolvent in the future, the Company may have exposure to guarantyfund assessments.  The Company’s exposurewill ultimately depend on the level of guaranty fund system participation, aswell as the viability of a plan of the Bureau to obtain voluntarycontributions, primarily from the original insurance companies that acquiredstructured settlement annuity contracts from Executive Life.  Under current law, the Company may be allowedto recoup a portion of the amount of any additional guaranty fund assessment inperiods subsequent to the recognition of the assessment by offsetting futurepremium taxes.  The Company’s New Yorkmarket share was approximately 4.1% in 2007 based on industry annuity premium.

 

**Guarantees**

 

The Company owns certainfixed income securities that obligate the Company to exchange credit risk or toforfeit principal due, depending on the nature or occurrence of specifiedcredit events for the referenced entities. In the event all such specified credit events were to occur, theCompany’s maximum amount at risk on these fixed income securities, as measuredby the amount of the aggregate initial investment was $195 million at March 31,2009.  The obligations associated withthese fixed income securities expire at various dates during the next sixyears.

 

Related to the disposalthrough reinsurance of substantially all of our variable annuity business toPrudential Financial, Inc. and its subsidiary in 2006, the Company hasagreed to indemnify Prudential for certain pre-closing contingent liabilities(including extra-contractual liabilities of the Company and liabilitiesspecifically excluded from the transaction) that the Company has agreed toretain.  In addition, the Company willindemnify Prudential for certain post-closing liabilities that may arise fromthe acts of the Company and its agents, including in connection with theCompany’s provision of transition services. The Reinsurance Agreements contain no limitations or indemnificationswith regard to insurance risk transfer, and transferred all of the future risksand responsibilities for performance on the underlying variable annuitycontracts to Prudential, including those related to benefit guarantees, inaccordance with the provisions of SFAS No. 113 “Accounting and Reportingfor Reinsurance of Short-Duration and Long-Duration Contracts”.  Management does not believe this agreementwill have a material adverse effect on results of operations, cash flows orfinancial position of the Company.

 

In the normal course ofbusiness, the Company provides standard indemnifications to contractualcounterparties in connection with numerous transactions, including acquisitionsand divestitures.  The types ofindemnifications typically provided include indemnifications for breaches ofrepresentations and warranties, taxes and certain other liabilities, such asthird party lawsuits.  Theindemnification clauses are often standard contractual terms and are enteredinto in the normal course of business based on an assessment that the risk ofloss would be remote.  The terms of theindemnifications vary in duration and nature. In many cases, the maximum obligation is not explicitly stated and thecontingencies triggering the obligation to indemnify have not occurred and arenot expected to occur.  Consequently, themaximum amount of the obligation under such indemnifications is notdeterminable.  Historically, the Companyhas not made any material payments pursuant to these obligations.

 

The aggregate liabilitybalance related to all guarantees was not material as of March 31, 2009.

 

**Regulation**

 

The Company is subject tochanging social, economic and regulatory conditions.  From time to time, regulatory authorities orlegislative bodies seek to impose additional regulations regarding agent andbroker compensation and otherwise expand overall regulation of insuranceproducts and the insurance industry.  Theultimate changes and eventual effects of these initiatives on the Company’sbusiness, if any, are uncertain.

 

20

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**Legaland regulatory proceedings and inquiries**

 

***Background***

 

The Company and certainaffiliates are involved in a number of lawsuits, regulatory inquiries, andother legal proceedings arising out of various aspects of its business.  As background to the “Proceedings”sub-section below, please note the following:

 

·             These matters raise difficult and complicated factualand legal issues and are subject to many uncertainties and complexities,including, the underlying facts of each matter; novel legal issues; variationsbetween jurisdictions in which matters are being litigated, heard, orinvestigated; differences in applicable laws and judicial interpretations; thelength of time before many of these matters might be resolved by settlement,through litigation or otherwise; the fact that some of the lawsuits areputative class actions in which a class has not been certified and in which thepurported class may not be clearly defined; the fact that some of the lawsuitsinvolve multi-state class actions in which the applicable law(s) for theclaims at issue is in dispute and therefore unclear; and the currentchallenging legal environment faced by large corporations and insurancecompanies.

 

·             The outcome of these matters may also beaffected by decisions, verdicts, and settlements, and the timing of suchdecisions, verdicts and settlements, in other individual and class actionlawsuits that involve the Company, other insurers, or other entities and byother legal, governmental, and regulatory actions that involve the Company,other insurers or other entities.

 

·             In the lawsuits, plaintiffs seek avariety of remedies including equitable relief in the form of injunctive andother remedies and monetary relief in the form of contractual andextra-contractual damages.  In somecases, the monetary damages sought include punitive damages.  Often specific information about the reliefsought, such as the amount of damages, is not available because plaintiffs havenot requested specific relief in their pleadings.  In Allstate’s experience, when specificmonetary demands are made in pleadings, they bear little relation to theultimate loss, if any, to the Company.

 

·                  In connection with regulatory examinations andproceedings, government authorities may seek various forms of relief, includingpenalties, restitution and changes in business practices.  The Company may not be advised of the natureand extent of relief sought until the final stages of the examination orproceeding.

 

·             For the reasons specified above, it is often notpossible to make meaningful estimates of the amount or range of loss that couldresult from the matters described below in the “Proceedings” subsection.  The Company reviews these matters on anon-going basis and follows the provisions of SFAS No. 5, “Accounting forContingencies”, when making accrual and disclosure decisions.  When assessing reasonably possible andprobable outcomes, the Company bases its decisions on its assessment of theultimate outcome following all appeals.

 

·             Due to the complexity and scope of thematters disclosed in the “Proceedings” subsection below and the manyuncertainties that exist, the ultimate outcome of these matters cannot bereasonably predicted.  In the event of anunfavorable outcome in one or more of these matters, the ultimate liability maybe in excess of amounts currently reserved, if any, and may be material to theCompany’s operating results or cash flows for a particular quarterly or annualperiod.  However, based on informationcurrently known to it, management believes that the ultimate outcome of allmatters described below as they are resolved over time is not likely to have amaterial adverse effect on the financial position of the Company.

 

***Proceedings***

 

Legal proceedingsinvolving Allstate agencies and AIC may impact the Company, even when theCompany is not directly involved, because the Company sells its productsthrough a variety of distribution channels including Allstate agencies.  Consequently, information about the moresignificant of these proceedings is provided in the following paragraph.

 

AIC is defending certainmatters relating to its agency program reorganization announced in 1999.  These matters are in various stages ofdevelopment.

 

21

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·   These matters include a lawsuit filed in2001 by the U.S. Equal Employment Opportunity Commission (“EEOC”) allegingretaliation under federal civil rights laws (the “EEOC I” suit) and a classaction filed in 2001 by former employee agents alleging retaliation and agediscrimination under the Age Discrimination in Employment Act (“ADEA”), breachof contract and ERISA violations (the “Romero I” suit).  In 2004, in the consolidated EEOC I andRomero I litigation, the trial court issued a memorandum and order that, amongother things, certified classes of agents, including a mandatory class ofagents who had signed a release, for purposes of effecting the court’sdeclaratory judgment that the release is voidable at the option of the releasesigner.  The court also ordered that anagent who voids the release must return to AIC “any and all benefits receivedby the [agent] in exchange for signing the release.”  The court also stated that, “on theundisputed facts of record, there is no basis for claims of agediscrimination.”  The EEOC and plaintiffshave asked the court to clarify and/or reconsider its memorandum and order andin January 2007, the judge denied their request.  In June 2007, the court granted AIC’smotions for summary judgment.  Followingplaintiffs’ filing of a notice of appeal, the Third Circuit issued an order in December 2007stating that the notice of appeal was not taken from a final order within themeaning of the federal law and thus not appealable at this time.  In March 2008, the Third Circuit decidedthat the appeal should not summarily be dismissed and that the question ofwhether the matter is appealable at this time will be addressed by the Courtalong with the merits of the appeal.

 

·   The EEOC also filed another lawsuit in2004 alleging age discrimination with respect to a policy limiting the rehireof agents affected by the agency program reorganization (the “EEOC II”suit).  In EEOC II, in 2006, the courtgranted partial summary judgment to the EEOC. Although the court did not determine that AIC was liable for agediscrimination under the ADEA, it determined that the rehire policy resulted ina disparate impact, reserving for trial the determination on whether AIC hadreasonable factors other than age to support the rehire policy.  AIC’s interlocutory appeal from the partialsummary judgment was granted.  In June 2008,the Eighth Circuit Court of Appeals affirmed summary judgment in the EEOC’sfavor.  In September 2008, the Courtof Appeals granted AIC’s petition for rehearing *en banc*and vacated its earlier decision affirming the trialcourt’s grant of summary judgment in favor of the EEOC.  The Court of Appeals then dismissed theappeal, determining that it lacked jurisdiction to consider the appeal at thisstage in the litigation.

 

·    A putative nationwide class action hasalso been filed by former employee agents alleging various violations of ERISA,including a worker classification issue. These plaintiffs are challenging certain amendments to the AgentsPension Plan and are seeking to have exclusive agent independent contractorstreated as employees for benefit purposes. This matter was dismissed with prejudice by the trial court, was thesubject of further proceedings on appeal, and was reversed and remanded to thetrial court in 2005.  In June 2007,the court granted AIC’s motion to dismiss the case.  Following plaintiffs’ filing of a notice ofappeal, the Third Circuit issued an order in December 2007 stating thatthe notice of appeal was not taken from a final order within the meaning of thefederal law and thus not appealable at this time.   In March 2008, the Third Circuitdecided that the appeal should not summarily be dismissed and that the questionof whether the matter is appealable at this time will be addressed by the Courtalong with the merits of the appeal.

 

In all of these variousmatters, plaintiffs seek compensatory and punitive damages, and equitablerelief.  AIC has been vigorouslydefending these lawsuits and other matters related to its agency programreorganization.

 

***Other Matters***

 

Various other legal,governmental, and regulatory actions, including state market conduct exams, andother governmental and regulatory inquiries are currently pending that involvethe Company and specific aspects of its conduct of business. Like other membersof the insurance industry, the Company is the target of a number of classaction lawsuits and other types of proceedings, some of which involve claimsfor substantial or indeterminate amounts. These actions are based on a variety of issues and target a range of theCompany’s practices.  The outcome ofthese disputes is currently unpredictable.

 

One or more of thesematters could have an adverse effect on the Company’s operating results or cashflows for a particular quarterly or annual period.  However, based on information currently knownto it, management believes that the ultimate outcome of all matters describedin this “Other Matters” subsection, in excess of amounts currently reserved, ifany, as they are resolved over time is not likely to have a material effect onthe operating results, cash flows or financial position of the Company.

 

22

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**8.  Income Taxes**

 

A reconciliation of thestatutory federal income tax rate to the effective income tax rate on incomefrom operations for the three months ended March 31 is as follows:

 
| **($ in millions)**                 | ** ** | **2009** | ** ** | **2008** | ** ** |
|-----------------------------------------------|------------|----------|------------|----------|------------|
|                                          |       |     |       |     |       |   |   |   |   |
| Statutory federal income tax rate - (benefit) |       | $        | (106.0     | )        | (35.0      | )% | $ | (64.1 | ) | (35.0 | )% |
| Dividends received deduction                  |       | (2.8     | )          | (1.0     | )          | (4.0 | ) | (2.2 | ) |
| Other                                         |       | (0.3     | )          | —   |       | (0.4 | ) | (0.2 | ) |
| Valuation allowance                           |       | 142.0    |       | 46.9     |       | — |   | — |   |
| Effective income tax rate - expense (benefit) |       | $        | 32.9       |     | 10.9       | % | $ | (68.5 | ) | (37.4 | )% |

 

The valuation allowancefor deferred tax assets increased by $139 million during the first quarter to$148 million at March 31, 2009 from $9 million at December 31, 2008,primarily due to investment write-downs which were not currently deductible fortax purposes.  The increase of $139million includes an increase of $142 million that is recorded as income taxexpense on the Condensed Consolidated Statements of Operations, partiallyoffset by a decrease of $3 million that is included as a component ofaccumulated other comprehensive income on the Condensed Consolidated Statementsof Financial Position.  Althoughrealization is not assured, management believes it is more likely than not thatthe deferred tax assets, net of valuation allowances, will be realized based onthe Company’s assessment that the deductions ultimately recognized for taxpurposes will be fully utilized.

 

**9.    Other Comprehensive Loss**

 

The components of othercomprehensive loss on a pre-tax and after-tax basis are as follows:

 
| ** **                                                                             | ** ** | **Three months ended March 31,** | ** ** |
|----------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                             | ** ** | **2009**                                             | ** ** | **2008** | ** ** |
| **($ in millions)**                                                          | ** ** | **Pre-tax**                                          | ** ** | **Tax** | ** ** | **After-  tax** | ** ** | **Pre-tax** | ** ** | **Tax** | ** ** | **After-  tax** | ** ** |
|                                                                                   |       |                                                 |       |   |   |   |   |   |   |   |   |   |   |
| Unrealized holding gains and losses arising during the period, net of  related offsets |       | $                                                    | 18         |   | $ | (4 | ) | $ | 14 |   | $ | (799 | ) | $ | 279 |   | $ | (520 | ) |
| Less: reclassification adjustment of realized capital gains and  losses                |       | 119                                                  |       | (42 | ) | 77 |   | (183 | ) | 64 |   | (119 | ) |
| Unrealized net capital gains and losses                                                |       | (101                                                 | )          | 38 |   | (63 | ) | (616 | ) | 215 |   | (401 | ) |
| Other comprehensive loss                                                               |       | $                                                    | (101       | ) | $ | 38 |   | (63 | ) | $ | (616 | ) | $ | 215 |   | (401 | ) |
|                                                                                   |       |                                                 |       |   |   |   |   |   |   |   |   |   |   |
| Net loss                                                                               |       |                                                 |       |   |   | (336 | ) |   |   |   |   | (115 | ) |
| Comprehensive loss                                                                     |       |                                                 |       |   |   | $ | (399 | ) |   |   |   |   | $ | (516 | ) |

 

23

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**REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

 

To the Board of Directorsand Shareholder of

Allstate Life InsuranceCompany

Northbrook, Illinois

 

We have reviewed theaccompanying condensed consolidated statement of financial position of AllstateLife Insurance Company and subsidiaries (the “Company”), an affiliate of TheAllstate Corporation, as of March 31, 2009, and the related condensedconsolidated statements of operations, and cash flows for the three-monthperiods ended March 31, 2009 and 2008. These interim financial statements are the responsibility of the Company’smanagement.

 

We conducted our reviewsin accordance with the standards of the Public Company Accounting OversightBoard (United States).  A review ofinterim financial information consists principally of applying analyticalprocedures and making inquiries of persons responsible for financial andaccounting matters.  It is substantiallyless in scope than an audit conducted in accordance with the standards of thePublic Company Accounting Oversight Board (United States), the objective ofwhich is the expression of an opinion regarding the financial statements takenas a whole.  Accordingly, we do notexpress such an opinion.

 

Based on our reviews, weare not aware of any material modifications that should be made to suchcondensed consolidated interim financial statements for them to be inconformity with accounting principles generally accepted in the United Statesof America.

 

We have previouslyaudited, in accordance with the standards of the Public Company AccountingOversight Board (United States), the consolidated statement of financialposition of Allstate Life Insurance Company and subsidiaries as of December 31,2008, and the related consolidated statements of operations and comprehensiveincome, shareholder’s equity, and cash flows for the year then ended (notpresented herein); and in our report dated March 17, 2009, which reportincludes an explanatory paragraph relating to a change in the Company’s methodof accounting for uncertainty in income taxes and accounting for deferredacquisition costs associated with internal replacements in 2007, we expressedan unqualified opinion on those consolidated financial statements.  In our opinion, the information set forth inthe accompanying condensed consolidated statement of financial position as of December 31,2008 is fairly stated, in all material respects, in relation to theconsolidated statement of financial position from which it has been derived.

 

 

/s/ Deloitte &Touche LLP

 

Chicago, Illinois

May 11, 2009

 

24

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**Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS****OF OPERATIONS FOR THE THREE-MONTHPERIODS ENDED MARCH 31, 2009 AND 2008**

 

**OVERVIEW**

 

The following discussionhighlights significant factors influencing the condensed consolidated financialposition and results of operations of Allstate Life Insurance Company (referredto in this document as “we”, “our”, “us”, or the “Company”). It should be readin conjunction with the condensed consolidated financial statements and notesthereto found under Part I. Item 1. contained herein, and with thediscussion, analysis, consolidated financial statements and notes thereto in Part I.Item 1. and Part II. Item 7. and Item 8. of the Allstate Life InsuranceCompany Annual Report on Form 10-K for 2008.  We operate as a single segment entity basedon the manner in which we use financial information to evaluate businessperformance and determine the allocation of resources.

 

**HIGHLIGHTS**

 

**·****    **Net loss was $336 million in the firstquarter of 2009 compared to $115 million for the same period of 2008.

**·****    **During the first quarter of 2009, acharge totaling $323 million pre-tax ($210 million after-tax) was recorded foraccelerated amortization of deferred policy acquisition costs (“DAC”) anddeferred sales inducement costs (“DSI”) related to our annual comprehensivereview of the DAC and DSI balances and assumptions for our interest-sensitivelife, annuities and other investment contracts. This compares to DAC and DSI amortization deceleration (credit toincome) of $23 million in the first quarter of 2008.

**·****    **Net realized capital losses totaled $38million in the first quarter of 2009 compared to $428 million in the firstquarter of 2008.

**·****    **Income tax expense for the first quarterof 2009 includes expense of $142 million attributable to an increase in thevaluation allowance relating to the deferred tax asset on capital losses.

**·****    **Investments as of March 31, 2009decreased 3.5% to $57.69 billion from $59.77 billion as of December 31,2008 and net investment income decreased 19.7% to $797 million in the firstquarter of 2009 from $992 million in the same period of 2008.

**·****    **Contractholder fund deposits for thefirst quarter of 2009 reflected deposits on individual products of $957 millionand no deposits on institutional products compared to deposits on individualand institutional products of $1.03 billion and $1.66 billion, respectively,for the same period of 2008.

**·****    **Recognized restructuring charges of $17million in the first quarter of 2009 in connection with our initiative to loweroperating expenses, with targeted annual savings of $90 million beginning in2011.

 

25

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***OPERATIONS***

* *

        Summarized financial data is presented in thefollowing table.

 
| ** **                                | ** ** | **Three months ended  March 31,** | ** ** |
|-------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                  | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| **Revenues**                              | ** ** | ** **                             | ** ** | ** ** | ** ** |
| Premiums                                  |       | $                                      | 152        |   | $ | 140 |   |
| Contract charges                          |       | 228                                    |       | 212 |   |
| Net investment income                     |       | 797                                    |       | 992 |   |
| Realized capital gains and losses         |       | (38                                    | )          | (428 | ) |
| Total revenues                            |       | 1,139                                  |       | 916 |   |
|                                      |       |                                   |       |   |   |
| **Costs and expenses**                    |       |                                   |       |   |   |
| Contract benefits                         |       | (334                                   | )          | (341 | ) |
| Interest credited to contractholder funds |       | (565                                   | )          | (610 | ) |
| Amortization of DAC                       |       | (429                                   | )          | (50 | ) |
| Operating costs and expenses              |       | (89                                    | )          | (87 | ) |
| Restructuring and related charges         |       | (17                                    | )          | — |   |
| Interest expense                          |       | (11                                    | )          | (3 | ) |
| Total costs and expenses                  |       | (1,445                                 | )          | (1,091 | ) |
|                                      |       |                                   |       |   |   |
| Gain (loss) on disposition of operations  |       | 3                                      |       | (9 | ) |
| Income tax (expense) benefit              |       | (33                                    | )          | 69 |   |
| Net loss                                  |       | $                                      | (336       | ) | $ | (115 | ) |
|                                      |       |                                   |       |   |   |
| Investments at March 31              |       | $                                      | 57,686     |   | $ | 71,218 |   |

 

*Netloss* in the firstquarter of 2009 of $336 million compared to $115 million in the same period of2008.  The increase in the net loss of$221 million was primarily the result of DAC and DSI amortization accelerationfor changes in assumptions, lower investment spread and an increase in thevaluation allowance relating to the deferred tax asset on capital losses,partially offset by lower realized capital losses.

 

**Analysisof Revenues**Totalrevenues increased 24.3% or $223 million in the first quarter of 2009 comparedto the same period of 2008 due to lower net realized capital losses and higherpremiums and contract charges, partially offset by lower net investment income.

 

*Premiums*****represent revenues generated from traditional lifeinsurance, immediate annuities with life contingencies, and accident, healthand other insurance products that have significant mortality or morbidity risk.

 

*Contractcharges* arerevenues generated from interest-sensitive and variable life insurance andfixed annuities for which deposits are classified as contractholder funds orseparate account liabilities.  Contractcharges are assessed against the contractholder account values for maintenance,administration, cost of insurance and surrender prior to contractuallyspecified dates.  As a result, changes incontractholder funds are considered in the evaluation of growth and asindicators of future levels of revenues.

 

26

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The followingtable summarizes premiums and contract charges by product.

 
| ** **                                  | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                    | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| **Premiums**                                |       |                                   |       |   |   |
| Traditional life insurance (1)              |       | $                                      | 96         |   | $ | 89 |   |
| Immediate annuities with life contingencies |       | 34                                     |       | 30 |   |
| Accident, health and other                  |       | 22                                     |       | 21 |   |
| **Total premiums**                          |       | 152                                    |       | 140 |   |
|                                        |       |                                   |       |   |   |
| **Contract charges**                        |       |                                   |       |   |   |
| Interest-sensitive life insurance (1)       |       | 216                                    |       | 199 |   |
| Fixed annuities                             |       | 12                                     |       | 13 |   |
| **Total contract charges**(2)               |       | 228                                    |       | 212 |   |
|                                        |       |                                   |       |   |   |
| **Total premiums and contract charges**     |       | $                                      | 380        |   | $ | 352 |   |

 

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(1)          To conform tothe current period presentation, certain amounts in the prior period have beenreclassified.

 

(2)          Total contractcharges for the first quarter of 2009 and 2008 include contract charges relatedto the cost of insurance totaling $150 million and $134 million, respectively.

 

Total premiumsincreased 8.6% in the first quarter of 2009 compared to the same period of 2008due to higher sales of traditional life insurance and immediate annuities withlife contingencies.

 

Total contractcharges increased 7.5% in the first quarter of 2009 compared to the same periodof 2008 due primarily to higher contract charges on interest-sensitive lifeinsurance products resulting from increased contract charge rates and, to alesser extent, growth of policies in force.

 

27

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*Contractholderfunds*representinterest-bearing liabilities arising from the sale of individual andinstitutional products, such as interest-sensitive life insurance, fixedannuities, and funding agreements. The balance of contractholder funds is equalto the cumulative deposits received and interest credited to the contractholderless cumulative contract maturities, benefits, surrenders, withdrawals andcontract charges for mortality or administrative expenses.  The following table shows the changes incontractholder funds.

 
| ** **                                                    | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                                      | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| **Contractholder funds, beginning balance**                   |       | $                                      | 56,780     |   | $ | 60,464 |   |
|                                                          |       |                                   |       |   |   |
| **Deposits**                                                  |       |                                   |       |   |   |
| Fixed annuities                                               |       | 635                                    |       | 686 |   |
| Institutional products (funding agreements)                   |       | —                                 |       | 1,660 |   |
| Interest-sensitive life insurance                             |       | 322                                    |       | 340 |   |
| Total deposits                                                |       | 957                                    |       | 2,686 |   |
|                                                          |       |                                   |       |   |   |
| **Interest credited**                                         |       | 518                                    |       | 611 |   |
|                                                          |       |                                   |       |   |   |
| **Maturities, benefits, withdrawals and other  adjustments**  |       |                                   |       |   |   |
| Maturities and retirements of institutional products          |       | (1,951                                 | )          | (1,887 | ) |
| Benefits                                                      |       | (431                                   | )          | (461 | ) |
| Surrenders and partial withdrawals                            |       | (921                                   | )          | (983 | ) |
| Contract charges                                              |       | (206                                   | )          | (197 | ) |
| Net transfers from separate accounts                          |       | 4                                      |       | 5 |   |
| Fair value hedge adjustments for institutional products       |       | (48                                    | )          | 66 |   |
| Other adjustments (1)                                         |       | 174                                    |       | (113 | ) |
| Total maturities, benefits, withdrawals and other adjustments |       | (3,379                                 | )          | (3,570 | ) |
| **Contractholder funds, ending balance**                      |       | $                                      | 54,876     |   | $ | 60,191 |   |

 
|     |
|-----|
| (1) | The  table above illustrates the changes in contractholder funds, which are  presented gross of reinsurance recoverables on the Condensed Consolidated  Statements of Financial Position. The table above is intended to supplement  our discussion and analysis of revenues, which are presented net of  reinsurance on the Condensed Consolidated Statements of Operations. As a  result, the net change in contractholder funds associated with products  reinsured to third parties is reflected as a component of the other  adjustments line. |

 

Contractholder fundsdecreased 3.4% and 0.5% in the first quarter of 2009 and 2008,respectively.  Average contractholderfunds decreased 7.5% in the first quarter of 2009 compared to the same periodof 2008.

 

Contractholder depositsdecreased 64.4% in the first quarter of 2009 compared to the same period of2008 due to the absence of issuances of institutional products in the firstquarter of 2009 compared to $1.66 billion in the first quarter of 2008.  Sales of our institutional products vary fromperiod to period based on management’s assessment of market conditions,investor demand and operational priorities such as our current focus onreducing our concentration in spread based products.  Deposits on fixed annuities decreased 7.4% inthe first quarter of 2009 compared to the same period of 2008 due to pricingactions relating to our efforts to improve returns on new business and reduceour concentration in spread based products as well as highly competitive marketconditions.

 

Maturities andretirements of institutional products increased 3.4% or $64 million to $1.95billion in the first quarter of 2009 from $1.89 billion in the same period inthe prior year.  During the first quarterof 2009 and 2008, we retired $1.36 billion and $1.25 billion, respectively, ofextendible institutional market obligations for which investors had elected tonon-extend their maturity date.  All ofour outstanding extendible institutional market contracts, which totaled $89million as of March 31, 2009, have non-extended and become due by July 31,2009.   We have accumulated, and expectto maintain, short-term and other maturing investments to fund the retirementof these obligations.

 

Surrenders andpartial withdrawals on deferred fixed annuities and interest-sensitive lifeinsurance products decreased 6.3% to $921 million in the first quarter of 2009from $983 million in the same period of 2008 due to lower surrenders andpartial withdrawals on fixed annuities, partially offset by higher surrendersand partial withdrawals on interest-sensitive life insurance products.  Surrenders and partial withdrawals ondeferred fixed annuities decreased 8.1% to $805 million in the first quarter of2009 from $876 million in the first quarter of 2008.  The annualized surrender and partialwithdrawal rate on deferred fixed annuities and interest-sensitive lifeinsurance products, based on the beginning of period contractholder funds, was8.8% in the first quarter of 2009 compared to

 

28

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9.4% in the first quarterof 2008.  The annualized surrender andpartial withdrawal rate on deferred fixed annuities, based on the beginning ofperiod contractholder funds, was 9.8% in the first quarter of 2009 compared to10.6% in the first quarter of 2008.

 

*Netinvestment income*decreased 19.7% or $195 million to $797 million in the first quarter of 2009compared to $992 million in the same period of 2008.  For further discussion of net investmentincome, see the Investments section of the MD&A.

 

*Netrealized capital gains and losses* reflected net losses of $38 million and $428 millionin the first quarters of 2009 and 2008, respectively.  For further discussion of realized capitalgains and losses, see the Investments section of the MD&A.

 

**Analysisof Costs and Expenses** Total costs and expenses increased 32.4% or $354 million in the firstquarter of 2009 compared with the same period of 2008 due to higheramortization of DAC, higher interest expense, and restructuring and relatedcharges, partially offset by lower interest credited to contractholder fundsand contract benefits.

 

*Contractbenefits*decreased 2.1% or $7 million in the first quarter of 2009 compared to the sameperiod of 2008 due to improved mortality experience on annuities and lifeinsurance products.

 

We analyze our mortalityand morbidity results using the difference between premiums and contractcharges earned for the cost of insurance and contract benefits excluding theportion related to the implied interest on immediate annuities with lifecontingencies (“benefit spread”).  This impliedinterest totaled $139 million in both the first quarter of 2009 and 2008.  The benefit spread by product group isdisclosed in the following table.

 
| ** **               | ** ** | **Three months ended  March 31,** | ** ** |
|--------------------------|------------|----------------------------------------|------------|
| **($ in millions)** | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Life insurance           |       | $                                      | 109        |   | $ | 90 |   |
| Annuities                |       | (2                                     | )          | (18 | ) |
| Total benefit spread     |       | $                                      | 107        |   | $ | 72 |   |

 

Benefit spreadincreased 48.6% in the first quarter of 2009 compared to the same period of2008 due primarily to improved mortality experience on annuities and lifeinsurance products and increased contract charges on interest-sensitive lifeinsurance contracts for the cost of insurance.

 

*Interestcredited to contractholder funds* decreased 7.4% or $45 million in the first quarter of2009 compared to the same period of 2008 due primarily to a decline in averagecontractholder funds, partially offset by the acceleration of amortization ofDSI due to changes in assumptions.  Theacceleration of amortization of DSI due to changes in assumptions increasedinterest credited to contractholder funds by $38 million in the first quarterof 2009 compared to amortization deceleration which decreased interest creditedto contractholder funds by $1 million in the first quarter of 2008.

 

In order toanalyze the impact of net investment income and interest credited to contractholderson net income, we monitor the difference between net investment income and thesum of interest credited to contractholder funds and the implied interest onimmediate annuities with life contingencies, which is included as a componentof contract benefits on the Condensed Consolidated Statements of Operations (“investmentspread”).

 

The investmentspread by product group is shown in the following table.

 
| ** **                                              | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                                | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Annuities                                               |       | $                                      | 17         |   | $ | 115 |   |
| Life insurance                                          |       | (1                                     | )          | 15 |   |
| Institutional products                                  |       | 17                                     |       | 27 |   |
| Net investment income on investments supporting capital |       | 60                                     |       | 86 |   |
| Total investment spread                                 |       | $                                      | 93         |   | $ | 243 |   |

 

29

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Investment spreaddeclined 61.7% in the first quarter of 2009 compared to the same period of 2008due primarily to a decrease in investment spread on annuities resulting fromlower net investment income, reduced business in force and the acceleration ofamortization of DSI due to changes in assumptions, partially offset by lowerinterest crediting rates.

 

To further analyzeinvestment spreads, the following table summarizes the weighted averageinvestment yield on assets supporting product liabilities and capital, interestcrediting rates and investment spreads for the three months ended March 31.

 
| ** **                                                          | ** ** | **Weighted average  investment yield** | ** ** | **Weighted average  interest crediting rate** | ** ** | **Weighted average  investment spreads** | ** ** |
|---------------------------------------------------------------------|------------|----------------------------------------|------------|-----------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                          | ** ** | **2009**                               | ** ** | **2008**                                      | ** ** | **2009**                                 | ** ** | **2008** | ** ** | **2009** | ** ** | **2008** | ** ** |
| Interest-sensitive life insurance                                   |       | 5.4                                    | %          | 6.2                                           | %          | 4.7                                      | %          | 4.6 | % | 0.7 | % | 1.6 | % |
| Deferred fixed annuities                                            |       | 5.1                                    |       | 5.7                                           |       | 3.7                                      |       | 3.7 |   | 1.4 |   | 2.0 |   |
| Immediate fixed annuities with and without life contingencies       |       | 6.3                                    |       | 6.9                                           |       | 6.4                                      |       | 6.5 |   | (0.1 | ) | 0.4 |   |
| Institutional products                                              |       | 3.3                                    |       | 5.2                                           |       | 2.1                                      |       | 4.1 |   | 1.2 |   | 1.1 |   |
| Investments supporting capital, traditional life and other products |       | 4.0                                    |       | 6.2                                           |       | N/A                                      |       | N/A |   | N/A |   | N/A |   |

 

The followingtable summarizes our product liabilities and indicates the account value ofthose contracts and policies in which an investment spread is generated.

 
| ** **                                                      | ** ** | **March 31,** | ** ** |
|-----------------------------------------------------------------|------------|--------------------|------------|
| **($ in millions)**                                        | ** ** | **2009**           | ** ** | **2008** | ** ** |
| Immediate fixed annuities with life contingencies               |       | $                  | 8,363      |   | $ | 8,303 |   |
| Other life contingent contracts and other                       |       | 3,684              |       | 4,301 |   |
| Reserve for life-contingent contract benefits                   |       | $                  | 12,047     |   | $ | 12,604 |   |
|                                                            |       |               |       |   |   |
| Interest-sensitive life insurance                               |       | $                  | 9,401      |   | $ | 9,014 |   |
| Deferred fixed annuities                                        |       | 33,524             |       | 33,838 |   |
| Immediate fixed annuities without life contingencies            |       | 3,881              |       | 3,879 |   |
| Institutional products                                          |       | 7,078              |       | 12,884 |   |
| Market value adjustments related to fair value hedges and other |       | 992                |       | 576 |   |
| Contractholder funds                                            |       | $                  | 54,876     |   | $ | 60,191 |   |

 

*Amortizationof DAC* increased$379 million in the first quarter of 2009 compared to the same period of2008.  The increase in the first quarterof 2009 was primarily attributable to amortization acceleration for changes inassumptions for our annuities and other investment contracts and an unfavorablechange in (amortization) accretion relating to realized capital gains andlosses.  The components of amortizationof DAC are summarized in the following table.

 
| ** **                                                                                                        | ** ** | **Three months ended  March 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                                                                                          | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Amortization of DAC before amortization relating to realized capital  gains and losses and changes in assumptions |       | $                                      | (124       | ) | $ | (127 | ) |
| Amortization (acceleration) deceleration for changes in assumptions  (“DAC unlocking”)                  |       | (278                                   | )          | 23 |   |
| (Amortization) accretion relating to realized capital gains and  losses (1)                                       |       | (27                                    | )          | 54 |   |
| Total amortization of DAC                                                                                         |       | $                                      | (429       | ) | $ | (50 | ) |

 

----

(1)    The impact of realizedcapital gains and losses on amortization of DAC is dependent upon therelationship between the assets that give rise to the gain or loss and theproduct liability supported by the assets. Fluctuations result from changes in the impact of realized capital gainsand losses on actual and expected gross profits.

 

30

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Duringthe first quarter of 2009, we completed our annual comprehensive review of theprofitability of investment products to determine DAC balances for ourinterest-sensitive life, annuities and other investment contracts.  The review covered assumptions for investmentreturns, including capital gains and losses, interest crediting rates topolicyholders, the effect of any hedges, persistency, mortality and expenses inall product lines.  This review resultedin an acceleration of DAC amortization (charge to income) of $278 millionpre-tax.  $289 million related to fixedannuities, including $210 million attributable to market value adjustedannuities, and $18 million related to variable life insurance.  Partially offsetting these amounts wasamortization deceleration (credit to income) for interest-sensitive lifeinsurance of $29 million.  The principalassumption impacting estimated future gross profits and the related DACamortization was an increase in the level of expected realized capital lossesin 2009 and 2010.  This resulted in themajority of the market value adjusted annuity DAC balance being reduced to zerosince the product is estimated to have no gross profits.  Market value adjusted annuity DAC will not berecapitalized while there are no estimated gross profits.  Reduced estimated future gross profits fortraditional fixed annuities and variable life insurance resulted in acceleratedDAC amortization.  For our interest-sensitivelife insurance products, the amortization deceleration was due to higherestimated future gross profits due to a favorable change in our mortalityassumptions, partially offset by increased expected capital losses

 

Inthe first quarter of 2008, our annual comprehensive review of the profitabilityof investment products resulted in the deceleration of DAC amortization (creditto income) for changes in assumptions of $23 million, including $17 millionrelated to fixed annuities and $6 million related to interest-sensitive andvariable life insurance.  The firstquarter 2008 net amortization deceleration of $17 million on fixed annuitieswas due primarily to higher than expected investment spreads partially offsetby increased expenses.  The first quarter2008 net amortization deceleration of $6 million on interest-sensitive andvariable life insurance products was due to higher than expected benefitspreads partially offset by increased expenses.

 

Thefollowing table provides the effect on DAC amortization of changes inassumptions relating to the gross profit components of investment margin,benefit margin and expense margin.

 
| ** **                      | ** ** | **Three months ended  March 31,** | ** ** |
|---------------------------------|------------|--------------------------------------------------|------------|
| **($ in millions)**   | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| Investment margin               |       | $                                                | (399       | ) | $ | 49 |   |
| Benefit margin                  |       | 128                                              |       | 35 |   |
| Expense margin                  |       | (7                                               | )          | (61 | ) |
| Net (acceleration) deceleration |       | $                                                | (278       | ) | $ | 23 |   |

 

*Operating costs and expenses* increased 2.3% in the first quarter of 2009compared to the same periods of 2008. The following table summarizes operating costs and expenses.

 
| ** **                         | ** ** | **Three months ended  March 31,** | ** ** |
|------------------------------------|------------|--------------------------------------------------|------------|
| **($ in millions)**      | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| Non-deferrable acquisition costs   |       | $                                                | 22         |   | $ | 21 |   |
| Other operating costs and expenses |       | 67                                               |       | 66 |   |
| Total operating costs and expenses |       | $                                                | 89         |   | $ | 87 |   |
|                               |       |                                             |       |   |   |
| Restructuring and related charges  |       | $                                                | 17         |   | $ | — |   |

 

Otheroperating costs and expenses increased $1 million in the first quarter of 2009compared to the same period of 2008 due primarily to the absence in the currentyear period of a servicing fee paid by Prudential Financial Inc. for ourservicing of variable annuity business that we reinsured to them during atransition period that ended in the second quarter of 2008, partially offset bylower spending on growth initiatives.

 

During the first quarter of 2009, restructuring andrelated charges of $17 million were recorded in connection with our previouslyannounced plan to improve efficiency and narrow our focus of productofferings.  In accordance with this plan,among other actions, we continue to anticipate the reduction of approximately1,000 workforce positions through a combination of attrition and positionelimination in 2009 and 2010.  Thisreduction reflects approximately 30% of our work force at the time the plan wasinitiated.  As of April 30, 2009,320 workforce positions have been involuntarily terminated pursuant to ourrestructuring plan.  These reductions inworkforce positions combined with other actions completed as of April 30,2009 reflect approximately 55% of our targeted savings.

 

31

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*Income tax expense* of $33 million was recognized for the firstquarter of 2009 compared to an income tax benefit of $69 million in the sameperiod of 2008.  Income tax expense forthe first quarter of 2009 includes expense of $142 million attributable to anincrease in the valuation allowance relating to the deferred tax asset oncapital losses.  For further discussionof changes in this valuation allowance see the Deferred Taxes section of theMD&A.

 

**INVESTMENT HIGHLIGHTS**

 

·                  Investmentsas of March 31, 2009 totaled $57.69 billion, a decrease of 3.5% from$59.77 billion as of December 31, 2008.

·                  Net investment income was $797 million in thefirst quarter of 2009, a decrease of 19.7% from $992 million in the firstquarter of 2008.

·                  Netrealized capital losses were $38 million in the first quarter of 2009 comparedto net realized capital losses of $428 million in the first quarter of 2008.

·                Unrealized net capital losses totaled $7.46billion as of March 31, 2009, compared to unrealized net capital losses of$6.70 billion as of December 31, 2008.

·                  Duringthe first quarter of 2009, our fixed income portfolio continued to generatesignificant cash flows totaling $1.34 billion which is available to takeadvantage of market opportunities and manage liabilities.

 

**INVESTMENTS**

 

We continue to make progress on strategic risk mitigation effortstoward reducing portfolio risk and overall exposure to commercial real estate.

 

·                  Commercial real estate exposure was reducedby $941 million primarily through targeted dispositions and principalrepayments from borrowers.

·                  Thecredit component of the macro hedge program gained $30 million and helped tooffset a portion of the decline in fixed income valuations reflected in othercomprehensive income resulting from spread widening in certain sectors.

·                  Through ongoing asset liability managementpractices, we reduced the duration gap between our fixed income portfolio andour liabilities to lessen our exposure to increases in interest rates.

 

The composition of theinvestment portfolio at March 31, 2009 is presented in the table below.

 
| **($ in millions)**     | ** ** | **Investments** | ** ** | **Percent  to total** | ** ** |
|-----------------------------------|------------|-----------------|------------|----------------------------|------------|
| Fixed income securities (1)       |       | $               | 40,301     |                       | 69.9       | % |
| Mortgage loans                    |       | 9,504           |       | 16.5                       |       |
| Equity securities (2)             |       | 61              |       | 0.1                        |       |
| Limited partnership interests (3) |       | 1,057           |       | 1.8                        |       |
| Short-term (4)                    |       | 4,602           |       | 8.0                        |       |
| Policy loans                      |       | 811             |       | 1.4                        |       |
| Other                             |       | 1,350           |       | 2.3                        |       |
| Total                             |       | $               | 57,686     |                       | 100.0      | % |

 

----

(1)          Fixed income securities are carried at fair value.  Amortized cost basis for these securities was$47.77 billion.

(2)          Equity securities are carried at fair value.  Cost basis for these securities was $78million.

(3)          We have commitments to invest in additional limited partnershipinterests totaling $992 million.

(4)          Short-term investments are carried at fair value.  Amortized cost basis for these investmentswas $4.60 billion.

 

Total investments decreasedto $57.69 billion at March 31, 2009, from $59.77 billion at December 31,2008, due primarily to net reductions in contractholder obligations of $1.90billion primarily from maturities and retirements of institutional products andan increase in unrealized net capital losses of $764 million.

 

Total investments atamortized cost related to collateral received in connection with securitieslending business activities and collateral posted by counterparties related toderivative transactions decreased to $261 million at

 

32

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March 31, 2009, from $340 million at December 31,2008.  These investments are included asa component of short-term investments.

 

*Fixed income securities* are listed in the table below.

 
| **($ in millions)**                             | ** ** | **Fair value at  March 31, 2009** | ** ** | **Percent to  total  investments** | ** ** | **Fair value at  December 31, 2008** | ** ** | **Percent to  total  investments** | ** ** |
|-----------------------------------------------------------|------------|-------------------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------------------------|------------|-----------------------------------------|------------|
| U.S. government and agencies                              |       | $                                                     | 2,981      |                                    | 5.2        | %                                                        | $          | 3,687                                   |       | 6.2 | % |
| Municipal                                                 |       | 3,384                                                 |       | 5.9                                     |       | 3,308                                                    |       | 5.5                                     |       |
| Corporate                                                 |       | 23,699                                                |       | 41.1                                    |       | 24,269                                                   |       | 40.6                                    |       |
| Foreign government                                        |       | 1,806                                                 |       | 3.1                                     |       | 2,100                                                    |       | 3.5                                     |       |
| Mortgage-backed securities (“MBS”)              |       | 2,756                                                 |       | 4.8                                     |       | 2,719                                                    |       | 4.6                                     |       |
| Commercial mortgage-backed securities  (“CMBS”) |       | 3,534                                                 |       | 6.1                                     |       | 3,730                                                    |       | 6.2                                     |       |
| Asset-backed securities (“ABS”)                 |       | 2,132                                                 |       | 3.7                                     |       | 2,623                                                    |       | 4.4                                     |       |
| Redeemable preferred stock                                |       | 9                                                     |       | —                                  |       | 10                                                       |       | —                                  |       |
| Total fixed income securities                             |       | $                                                     | 40,301     |                                    | 69.9       | %                                                        | $          | 42,446                                  |       | 71.0 | % |

 

At March 31, 2009,94.6% of the fixed income securities portfolio was rated investment grade,which is defined as a security having a rating from the National Association ofInsurance Commissioners (“NAIC”) of 1 or 2; a rating of Aaa, Aa, A or Baa fromMoody’s, a rating of AAA, AA, A or BBB from Standard and Poor’s (“S&P’s”),Fitch or Dominion or a rating of aaa, aa, a or bbb from A.M. Best; or acomparable internal rating if an externally provided rating is not available.

 

33

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*Municipal Bonds* are summarized in the table below by Moody’sequivalent rating as of March 31, 2009.

 
| ** **         | ** ** | **Par  value** | ** ** | **Amortized  cost** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair value  as a percent of  amortized cost** | ** ** |
|--------------------|------------|----------------|------------|---------------------|------------|-----------------|------------|-----------------------------|------------|--------------------------------------------------------------------------|------------|
| Non - zero-coupon: | ** ** | ** **     | ** ** | ** **          | ** ** | ** **      | ** ** | ** **                  | ** ** | ** **                                                               | ** ** |
| Rating             | ** ** | ** **     | ** ** | ** **          | ** ** | ** **      | ** ** | ** **                  | ** ** | ** **                                                               | ** ** |
| Aaa                |       | $              | 625        |                | $          | 628             |       | $                           | 567        |                                                                     | $          | (61 | ) | 90.3 | % |
| Aa                 |       | 846            |       | 834                 |       | 776             |       | (58                         | )          | 93.0                                                                     |       |
| A                  |       | 616            |       | 614                 |       | 575             |       | (39                         | )          | 93.6                                                                     |       |
| Baa                |       | 489            |       | 493                 |       | 432             |       | (61                         | )          | 87.6                                                                     |       |
| Ba or lower        |       | 72             |       | 74                  |       | 43              |       | (31                         | )          | 58.1                                                                     |       |
| Subtotal (1)       |       | $              | 2,648      |                | $          | 2,643           |       | $                           | 2,393      |                                                                     | $          | (250 | ) | 90.5 |   |
|               |       |           |       |                |       |            |       |                        |       |                                                                     |       |
| Zero-coupon:       |       |           |       |                |       |            |       |                        |       |                                                                     |       |
| Rating             |       |           |       |                |       |            |       |                        |       |                                                                     |       |
| Aaa                |       | $              | 78         |                | $          | 27              |       | $                           | 22         |                                                                     | $          | (5 | ) | 81.5 |   |
| Aa                 |       | 936            |       | 385                 |       | 319             |       | (66                         | )          | 82.9                                                                     |       |
| A                  |       | 976            |       | 439                 |       | 359             |       | (80                         | )          | 81.8                                                                     |       |
| Baa                |       | 3,469          |       | 490                 |       | 291             |       | (199                        | )          | 59.4                                                                     |       |
| Subtotal           |       | $              | 5,459      |                | $          | 1,341           |       | $                           | 991        |                                                                     | $          | (350 | ) | 73.9 |   |
| Total:             | ** ** | ** **     | ** ** | ** **          | ** ** | ** **      | ** ** | ** **                  | ** ** | ** **                                                               | ** ** |
| Aaa                |       | $              | 703        |                | $          | 655             |       | $                           | 589        |                                                                     | $          | (66 | ) | 89.9 |   |
| Aa                 |       | 1,782          |       | 1,219               |       | 1,095           |       | (124                        | )          | 89.8                                                                     |       |
| A (2)              |       | 1,592          |       | 1,053               |       | 934             |       | (119                        | )          | 88.7                                                                     |       |
| Baa (2) (3)   |       | 3,958          |       | 983                 |       | 723             |       | (260                        | )          | 73.6                                                                     |       |
| Ba or lower (3)    |       | 72             |       | 74                  |       | 43              |       | (31                         | )          | 58.1                                                                     |       |
| Total              |       | $              | 8,107      |                | $          | 3,984           |       | $                           | 3,384      |                                                                     | $          | (600 | ) | 84.9 |   |

 

----

(1) Includes auctionrate securities (“ARS”) with par value of $715 million, amortized cost of $715million, fair value of $624 million and unrealized capital losses of $91million.  For a more detailed discussionon ARS, see the Allstate Life Insurance Company Annual Report on Form 10-Kfor 2008.

 

(2) Includespre-refunded municipals with fair values of $21 million of A and $3 million ofBaa at March 31, 2009.  Pre-refundedmunicipals are generally escrowed by Aaa rated securities, such as U.S.government or governmental agency securities.

 

(3) On April 13,2009, one of the bond insurers, Ambac Assurance Corporation, was downgraded byMoody’s from a rating of Baa to Ba.  Weestimate that this will impact the classification of the Moody’s equivalentrating for approximately $143 million of fair value of insured municipal bonds.

 

Theunrealized net capital loss of $600 million at March 31, 2009 in ourmunicipal bond portfolio is driven primarily by higher yields, includingwidening credit spreads, since the time of initial purchase.

 

*Corporate bonds* as of March 31, 2009, included $11.40billion of non-hybrid, publicly-traded corporate bonds, $11.20 billion ofnon-hybrid, privately placed corporate bonds, and $1.10 billion of hybridsecurities.  $11.80 billion or 49.8%of the portfolio consisted of non-hybrid and hybrid privately placedsecurities, compared to $12.36 billion or 50.9% at December 31, 2008.* *Privatelyplaced securities primarily consist of corporate issued senior debt securitiesthat are in unregistered form or are directly negotiated with theborrower.  Privately placed corporatesecurities are rated by the NAIC in instances when information is provided tothem.  Approximately 39.4% of theprivately placed corporate securities in our portfolio are rated by anindependent rating agency.

 

34

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The following table summarizes the corporate fixed income portfolio byMoody’s equivalent rating as of March 31, 2009.

 
| ** **                    | ** ** | **Corporate-public** | ** ** |
|-------------------------------|------------|----------------------|------------|
| ** **                    | ** ** | **Non-hybrid**       | ** ** | **Hybrid** | ** ** | **Total** | ** ** |
| **($ in millions)** | ** ** | **Fair  value**      | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| Rating                        | ** ** | ** **           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Aaa                           |       | $                    | 738        |   | $ | 9 |   | $ | — |   | $ | — |   | $ | 738 |   | $ | 9 |   |
| Aa                            |       | 683                  |       | (16 | ) | 70 |   | 2 |   | 753 |   | (14 | ) |
| A                             |       | 3,753                |       | (135 | ) | 176 |   | (135 | ) | 3,929 |   | (270 | ) |
| Baa                           |       | 5,510                |       | (548 | ) | 208 |   | (256 | ) | 5,718 |   | (804 | ) |
| Ba or lower                   |       | 712                  |       | (193 | ) | 47 |   | (67 | ) | 759 |   | (260 | ) |
| Total                         |       | $                    | 11,396     |   | $ | (883 | ) | $ | 501 |   | $ | (456 | ) | $ | 11,897 |   | $ | (1,339 | ) |

 
| ** **  | ** ** | **Corporate-privately placed securities** | ** ** |
|-------------|------------|-----------------------------------------------------|------------|
| ** **  | ** ** | **Non-hybrid**                                      | ** ** | **Hybrid** | ** ** | **Total** | ** ** |
| ** **  | ** ** | **Fair  value**                                     | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| Rating      | ** ** | ** **                                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Aaa         |       | $                                                   | 422        |   | $ | 17 |   | $ | — |   | $ | — |   | $ | 422 |   | $ | 17 |   |
| Aa          |       | 836                                                 |       | (25 | ) | 36 |   | (15 | ) | 872 |   | (40 | ) |
| A           |       | 3,065                                               |       | (143 | ) | 370 |   | (318 | ) | 3,435 |   | (461 | ) |
| Baa         |       | 5,794                                               |       | (744 | ) | 125 |   | (218 | ) | 5,919 |   | (962 | ) |
| Ba or lower |       | 1,086                                               |       | (268 | ) | 68 |   | (180 | ) | 1,154 |   | (448 | ) |
| Total       |       | $                                                   | 11,203     |   | $ | (1,163 | ) | $ | 599 |   | $ | (731 | ) | $ | 11,802 |   | $ | (1,894 | ) |

 
| ** **  | ** ** | **Total Corporate** | ** ** |
|-------------|------------|--------------------------|------------|
| ** **  | ** ** | **Non-hybrid**           | ** ** | **Hybrid** | ** ** | **Total** | ** ** |
| ** **  | ** ** | **Fair  value**          | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| Rating      | ** ** | ** **               | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Aaa         |       | $                        | 1,160      |   | $ | 26 |   | $ | — |   | $ | — |   | $ | 1,160 |   | $ | 26 |   |
| Aa          |       | 1,519                    |       | (41 | ) | 106 |   | (13 | ) | 1,625 |   | (54 | ) |
| A           |       | 6,818                    |       | (278 | ) | 546 |   | (453 | ) | 7,364 |   | (731 | ) |
| Baa         |       | 11,304                   |       | (1,292 | ) | 333 |   | (474 | ) | 11,637 |   | (1,766 | ) |
| Ba or lower |       | 1,798                    |       | (461 | ) | 115 |   | (247 | ) | 1,913 |   | (708 | ) |
| Total       |       | $                        | 22,599     |   | $ | (2,046 | ) | $ | 1,100 |   | $ | (1,187 | ) | $ | 23,699 |   | $ | (3,233 | ) |

 

Theunrealized net capital loss of $3.23 billion at March 31, 2009 was drivenprimarily by widening credit spreads since the time of initial purchaseresulting from deteriorating macro economic conditions and continued creditmarket deterioration.  This particularlyaffected our non-hybrid Baa and lower rated corporate bond holdings,contributing to $1.75 billion of the unrealized net capital loss.  The other significant driver of unrealizednet capital losses in our corporate bond portfolio was from hybrid securities,contributing $1.19 billion of the unrealized loss.  While these securities are generally issuedby highly rated financial institutions, they have structural features whichmake them more sensitive to credit market deterioration.  Specifically, features allowing coupondeferral and the extension of call dates have severely impacted prices as theglobal financial system undergoes significant stress.

 

35

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Thefollowing table shows additional details of our hybrid securities reported incorporate fixed income securities as of March 31, 2009.

 
| ** **                    | ** ** | **United Kingdom  (“UK”)** | ** ** | **Europe (non-UK)**    | ** ** | **Asia/Australia** | ** ** | **North America**      | ** ** | **Total**       | ** ** |
|-------------------------------|------------|-------------------------------------------|------------|-----------------------------|------------|--------------------|------------|-----------------------------|------------|-----------------|------------|
| **($ in millions)** | ** ** | **Fair  value**                           | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value**    | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| Tier 2:                       | ** ** | ** **                                | ** ** | ** **                  | ** ** | ** **         | ** ** | ** **                  | ** ** | ** **      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Public                        |       | $                                         | 55         |                        | $          | (25                | )          | $                           | 98         |            | $          | (10 | ) | $ | 15 |   | $ | (2 | ) | $ | — |   | $ | — |   | $ | 168 |   | $ | (37 | ) |
| Privately placed  securities  |       | 4                                         |       | (7                          | )          | 50                 |       | (5                          | )          | 86              |       | (14 | ) | — |   | — |   | 140 |   | (26 | ) |
| Subtotal                      |       | 59                                        |       | (32                         | )          | 148                |       | (15                         | )          | 101             |       | (16 | ) | — |   | — |   | 308 |   | (63 | ) |
| Tier 1:                       |       |                                      |       |                        |       |               |       |                        |       |            |       |   |   |   |   |   |   |   |   |   |   |
| Public                        |       | 48                                        |       | (61                         | )          | 45                 |       | (98                         | )          | 17              |       | (8 | ) | 223 |   | (252 | ) | 333 |   | (419 | ) |
| Privately placed  securities  |       | 40                                        |       | (118                        | )          | 178                |       | (291                        | )          | 139             |       | (139 | ) | 102 |   | (157 | ) | 459 |   | (705 | ) |
| Subtotal                      |       | 88                                        |       | (179                        | )          | 223                |       | (389                        | )          | 156             |       | (147 | ) | 325 |   | (409 | ) | 792 |   | (1,124 | ) |
| Total hybrids:                |       |                                      |       |                        |       |               |       |                        |       |            |       |   |   |   |   |   |   |   |   |   |   |
| Public                        |       | 103                                       |       | (86                         | )          | 143                |       | (108                        | )          | 32              |       | (10 | ) | 223 |   | (252 | ) | 501 |   | (456 | ) |
| Privately placed  securities  |       | 44                                        |       | (125                        | )          | 228                |       | (296                        | )          | 225             |       | (153 | ) | 102 |   | (157 | ) | 599 |   | (731 | ) |
| Total                         |       | $                                         | 147        |                        | $          | (211               | )          | $                           | 371        |            | $          | (404 | ) | $ | 257 |   | $ | (163 | ) | $ | 325 |   | $ | (409 | ) | $ | 1,100 |   | $ | (1,187 | ) |

 

*Collateralized MBS, CMBS and ABS securities* are detailed in the following table by Moody’sequivalent rating as of March 31, 2009.

 
| **($ in millions)**                                                           | ** ** | **Fair value** | ** ** | **Percent to total  investments** | ** ** | **Aaa** | ** ** | **Aa** | ** ** | **A**  | ** ** | **Baa ****(2)** | ** ** | **Ba or  Lower ****(2)** | ** ** |
|-----------------------------------------------------------------------------------------|------------|----------------|------------|---------------------------------------------|------------|---------|------------|--------|------------|--------|------------|----------------------|------------|------------------------------------|------------|
| **MBS**                                                                                 |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| U.S. government sponsored entities (“U.S. Agency”)                            |       | $              | 1,984      |                                        | 3.4        | %       | 100.0      | %      | —     |   | —     |                 | —     |                               | —     |   |
| Prime residential mortgage-backed securities (“Prime”)                        |       | 501            |       | 0.9                                         |       | 89.6    |       | 6.4    | %          | 1.8    | %          | 2.2                  | %          | —                             |       |
| Alt-A residential mortgage-backed securities (“Alt-A”)                        |       | 271            |       | 0.5                                         |       | 52.0    |       | 1.5    |       | 0.4    |       | 13.3                 |       | 32.8                               | %          |
| Total MBS                                                                               |       | $              | 2,756      |                                        | 4.8        | %       |       |   |       |   |       |                 |       |                               |       |   |
|                                                                                    |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| **CMBS**                                                                                |       | $              | 3,534      |                                        | 6.1        | %       | 85.9       |   | 6.6        |   | 5.9        |                 | 1.2        |                               | 0.4        |   |
|                                                                                    |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| **ABS**                                                                                 |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| Asset-backed residential mortgage-backed securities (“ABS RMBS”)  non-insured |       | $              | 826        |                                        | 1.4        |    | 18.2       |   | 36.3       |   | 11.6       |                 | 8.1        |                               | 25.8       |   |
| ABS RMBS insured                                                                        |       | 188            |       | 0.3                                         |       | —  |       | 16.5   |       | 3.2    |       | 27.1                 |       | 53.2                               |       |
| Total ABS RMBS                                                                          |       | 1,014          |       | 1.7                                         |       | 14.8    |       | 32.6   |       | 10.1   |       | 11.6                 |       | 30.9                               |       |
|                                                                                    |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| Other collateralized debt obligations (“other CDO”):                          |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| Cash flow collateralized loan obligations (“CLO”)                             |       | 401            |       | 0.7                                         |       | 60.1    |       | 20.7   |       | 0.8    |       | 10.2                 |       | 8.2                                |       |
| Synthetic CDO                                                                           |       | 31             |       | 0.1                                         |       | 9.7     |       | 19.4   |       | — |       | 29.0                 |       | 41.9                               |       |
| Trust preferred CDO                                                                     |       | 57             |       | 0.1                                         |       | —  |       | 1.8    |       | 17.5   |       | —               |       | 80.7                               |       |
| Market value CDO                                                                        |       | 18             |       | —                                      |       | —  |       | 22.2   |       | 11.1   |       | 5.6                  |       | 61.1                               |       |
| Project finance CDO                                                                     |       | 36             |       | 0.1                                         |       | —  |       | 27.8   |       | 52.8   |       | 19.4                 |       | —                             |       |
| CDOs that invest in other CDOs (“CDO squared”)                                |       | 3              |       | —                                      |       | —  |       | — |       | — |       | —               |       | 100.0                              |       |
| Collateralized bond obligations                                                         |       | 21             |       | —                                      |       | —  |       | — |       | — |       | 57.1                 |       | 42.9                               |       |
| Other CLO                                                                               |       | 40             |       | 0.1                                         |       | 100.0   |       | — |       | — |       | —               |       | —                             |       |
| Total other CDO                                                                         |       | 607            |       | 1.1                                         |       | 46.8    |       | 17.1   |       | 5.6    |       | 11.5                 |       | 19.0                               |       |
|                                                                                    |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| Other asset-backed securities (“other ABS”):                                  |       |           |       |                                        |       |    |       |   |       |   |       |                 |       |                               |       |
| Auto                                                                                    |       | 90             |       | 0.2                                         |       | 27.8    |       | 35.6   |       | 13.3   |       | 23.3                 |       | —                             |       |
| Credit card                                                                             |       | 79             |       | 0.1                                         |       | 35.4    |       | — |       | 44.3   |       | 20.3                 |       | —                             |       |
| Student loan                                                                            |       | 9              |       | —                                      |       | 100.0   |       | — |       | — |       | —               |       | —                             |       |
| Other                                                                                   |       | 333            |       | 0.6                                         |       | 16.5    |       | 13.5   |       | 18.0   |       | 38.8                 |       | 13.2                               |       |
| Total other ABS (1)                                                                     |       | 511            |       | 0.9                                         |       | 22.9    |       | 15.1   |       | 20.9   |       | 32.5                 |       | 8.6                                |       |
| Total ABS                                                                               |       | $              | 2,132      |                                        | 3.7        | %       |       |   |       |   |       |                 |       |                               |       |   |

 

----

(1) 29.4% of otherasset-backed securities that are rated Aaa, Aa, A and Baa were insured by fourbond insurers.

 

(2) On April 13,2009, one of the bond insurers, Ambac Assurance Corporation, was downgraded byMoody’s from a rating of Baa to Ba.  Weestimate that this will impact the classification of the Moody’s equivalentrating for approximately $84 million of carrying value of insured ABS RMBS.

 

36

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Duringthe first quarter of 2009, certain financial sectors continued to experiencedepressed prices due to market and liquidity disruptions.  We experienced this illiquidity anddisruption in certain of our MBS, CMBS and ABS fixed income securities,particularly in our Prime, Alt-A, CMBS, ABS RMBS and other CDO portfolios.  These portfolios totaled $5.93 billion, or10.3% of our total investments at March 31, 2009.  Other securities markets, including certainother asset-backed and real estate-backed securities markets, also experiencedilliquidity, but to a lesser degree.

 

Wedetermine the fair values of securities comprising the illiquid portfolios byobtaining information from an independent third-party valuation serviceprovider and brokers.  We confirmed thereasonableness of the fair value of these portfolios as of March 31, 2009by analyzing available market information including, but not limited to,collateral quality, anticipated cash flows, credit enhancements, default rates,loss severities, securities’ relative position within their respective capitalstructures, and credit ratings from statistical rating agencies.

 

Thefollowing table summarizes our illiquid portfolios as of March 31, 2009.

 
| **($ in millions)** | ** ** | **Par  value ****(1)** | ** ** | **Amortized  cost ****(1) (2)** | ** ** | **Amortized cost  as a percent  of par value** | ** ** | **Fair  value** | ** ** | **Fair value as  a percent of  par value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
|-------------------------------|------------|-----------------------------|------------|-------------------------------------------|------------|-------------------------------------------------------------------------|------------|-----------------|------------|---------------------------------------------------------------------|------------|-----------------------------|------------|
| **MBS**                       |       |                        |       |                                      |       |                                                                    |       |            |       |                                                                |       |                        |       |
| Prime                         |       | $                           | 643        |                                      | $          | 637                                                                     |       | 99.1            | %          | $                                                                   | 501        |                        | 77.9       | % | $ | (136 | ) |
| Alt-A                         |       | 489                         |       | 407                                       |       | 83.2                                                                    |       | 271             |       | 55.4                                                                |       | (136                        | )          |
|                          |       |                        |       |                                      |       |                                                                    |       |            |       |                                                                |       |                        |       |
| **CMBS**                      |       | 5,742                       |       | 5,567                                     |       | 97.0                                                                    |       | 3,534           |       | 61.5                                                                |       | (2,033                      | )          |
|                          |       |                        |       |                                      |       |                                                                    |       |            |       |                                                                |       |                        |       |
| **ABS**                       |       |                        |       |                                      |       |                                                                    |       |            |       |                                                                |       |                        |       |
| ABS RMBS                      |       | 2,426                       |       | 1,964                                     |       | 81.0                                                                    |       | 1,014           |       | 41.8                                                                |       | (950                        | )          |
| Other CDO                     |       | 2,177                       |       | 1,710                                     |       | 78.5                                                                    |       | 607             |       | 27.9                                                                |       | (1,103                      | )          |
| Total                         |       | $                           | 11,477     |                                      | $          | 10,285                                                                  |       | 89.6            |       | $                                                                   | 5,927      |                        | 51.6       |   | $ | (4,358 | ) |
|                               |            |                             |            |                                           |            |                                                                         |            |                 |            |                                                                     |            |                             |            |  |  |  |  |  |  |

 

----

(1) The difference between par value andamortized cost of $1.19 billion is primarily attributable to write-downs.  Both amounts have been reduced by principalpayments.

 

(2) Amortized cost includes other-than-temporaryimpairment charges, as applicable.

 

Thefollowing table presents realized capital gains and losses and principaltransactions relating to our illiquid portfolios for the three months ended March 31,2009.

 
| ** **                    | ** ** | **Realized capital gains and losses** | ** ** | **Principal transactions** | ** ** |
|-------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------|------------|
| **($ in millions)** | ** ** | **Sales**                                                 | ** ** | **Impairment  write-downs**     | ** ** | **Change in intent  write-downs** | ** ** | **Sales** | ** ** | **Principal  received** | ** ** |
| **MBS**                       |       |                                                      |       |                            |       |   |   |   |   |   |   |
| Prime                         |       | $                                                         | —     |                            | $          | — |   | $ | — |   | $ | 8 |   | $ | 18 |   |
| Alt-A                         |       | 3                                                         |       | (8                              | )          | (1 | ) | 12 |   | 7 |   |
|                          |       |                                                      |       |                            |       |   |   |   |   |   |   |
| **CMBS**                      |       | (13                                                       | )          | (2                              | )          | (7 | ) | 78 |   | 26 |   |
|                          |       |                                                      |       |                            |       |   |   |   |   |   |   |
| **ABS**                       |       |                                                      |       |                            |       |   |   |   |   |   |   |
| ABS RMBS                      |       | —                                                    |       | (5                              | )          | (6 | ) | 3 |   | 54 |   |
| Other CDO                     |       | (3                                                        | )          | (130                            | )          | — |   | 2 |   | 2 |   |
| Total                         |       | $                                                         | (13        | )                               | $          | (145 | ) | $ | (14 | ) | $ | 103 |   | $ | 107 |   |

 

37

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Securitiesincluded in our illiquid portfolios with a fair value less than 70% ofamortized cost as of March 31, 2009 are shown in the following table.

 
| **($ in millions)** | ** ** | **Fair  value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
|-------------------------------|------------|-----------------|------------|-----------------------------|------------|
| **MBS**                       |       |            |       |                        |       |
| Prime                         |       | $               | 76         |                        | $          | (71 | ) |
| Alt-A                         |       | 104             |       | (106                        | )          |
|                          |       |            |       |                        |       |
| **CMBS**                      |       | 719             |       | (1,685                      | )          |
|                          |       |            |       |                        |       |
| **ABS**                       |       |            |       |                        |       |
| ABS RMBS                      |       | 626             |       | (868                        | )          |
| Other CDO                     |       | 355             |       | (1,058                      | )          |
| Total                         |       | $               | 1,880      |                        | $          | (3,788 | ) |

 

Wecontinue to believe that the unrealized losses on these securities are notpredictive of the ultimate performance of the underlying collateral.  In the absence of further deterioration inthe collateral relative to our positions in the securities’ respective capitalstructures, which could be other than temporary, the unrealized losses shouldreverse over the remaining lives of the securities.

 

The cash flows of the underlying mortgages or collateral for MBS, CMBSand ABS are generally applied in a pre-determined order and are designed sothat each security issued qualifies for a specific original rating.  The security issue is typically referred toas the “class”.  For example, the “senior”portion or “top” of the capital structure which would originally qualify for arating of Aaa is referred to as the “Aaa class” and typically has priority inreceiving the principal repayments on the underlying mortgages.  In a sequential structure, underlyingcollateral principal repayments are directed to the most senior rated Aaa classin the structure until paid in full, after which principal repayments aredirected to the next most senior Aaa class in the structure until it is paid infull.  Senior Aaa classes generally shareany losses from the underlying collateral on a pro-rata basis after losses areabsorbed by classes with lower original ratings including other “junior” or “subordinate”Aaa securities.  For certain senior Aaaclasses of CMBS, the losses may be shared pro-rata.  The underlying mortgages have fixed interestrates, variable interest rates (such as adjustable rate mortgages (“ARM”)), orare hybrid, meaning that they contain features of both fixed and variable ratemortgages.

 

*MBS* totaled $2.76 billion, with 96.0% rated investment grade, at March 31,2009.  The MBS portfolio is subject tointerest rate risk since price volatility and the ultimate realized yield areaffected by the rate of prepayment of the underlying mortgages.  The credit risk associated with our MBS ismitigated due to the fact that 72.0% of the portfolio consists of securitiesthat were issued by, or have underlying collateral that is guaranteed by, U.S.government agencies.

 

*Prime* are collateralized by residential mortgage loans issued to primeborrowers.  The following table shows ourPrime portfolio as of March 31, 2009 by vintage year, based upon ourparticipation in the capital structure.

 
| **($ in millions)**                           | ** ** | **Vintage year** | ** ** | ** ** | ** ** | ** ** | ** ** | ** **   | ** ** |
|---------------------------------------------------------|------------|-----------------------|------------|------------|------------|------------|------------|--------------|------------|
| **Capital structure  classification ****(1)** | ** ** | **2007**              | ** ** | **2006**   | ** ** | **2005**   | ** ** | **Pre-2005** | ** ** | **Fair  value** | ** ** | **Amortized  cost ****(2)** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| ** **                                              | ** ** | ** **            | ** ** | ** ** | ** ** | ** ** | ** ** | ** **   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Aaa – Fixed rate                                   |       | $                     | 69         |       | $          | 23         |       | $            | 76         |   | $ | 256 |   | $ | 424 |   | $ | 519 |   | $ | (95 | ) |
| Aaa – Hybrid                                       |       | —                |       | —     |       | 41         |       | 29           |       | 70 |   | 110 |   | (40 | ) |
| Aa – Fixed rate                                    |       | —                |       | —     |       | —     |       | 7            |       | 7 |   | 8 |   | (1 | ) |
| Total                                                   |       | $                     | 69         |       | $          | 23         |       | $            | 117        |   | $ | 292 |   | $ | 501 |   | $ | 637 |   | $ | (136 | ) |

 

----

(1) Capitalstructure classification reflects original ratings which may not be consistentwith current ratings due to downgrades.

 

(2) Amortizedcost includes other-than-temporary impairment charges, as applicable.

 

38

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*Alt-A* can be issued by trusts backed by poolsof residential mortgages with either fixed or variable interest rates.  The mortgage pools can include residentialmortgage loans issued to borrowers with stronger credit profiles than sub-primeborrowers, but who do not qualify for prime financing terms due to highloan-to-value ratios or limited supporting documentation.  As of March 31, 2009, $239 million ofthe Alt-A were fixed rate and $32 million were variable rate.

 

The following table showsour Alt-A portfolio at March 31, 2009 by vintage year, based upon ourparticipation in the capital structure.

 
| **($ in millions)**                     | ** ** | **Vintage year** | ** ** | ** ** | ** ** | ** ** | ** ** | ** **     | ** ** |
|----------------------------------------------|------------|------------------|------------|------------|------------|------------|------------|----------------|------------|
| **Capital structure  classification****(1)** | ** ** | **2007**         | ** ** | **2006**   | ** ** | **2005**   | ** ** | **Pre-  2005** | ** ** | **Fair  value** | ** ** | **Amortized cost****(2)** | ** ** | **Unrealized gain/(loss)** | ** ** |
| Aaa — Fixed rate                        |       | $                | 26         |       | $          | 16         |       | $              | 66         |   | $ | 123 |   | $ | 231 |   | $ | 338 |   | $ | (107 | ) |
| Aaa — Hybrid                            |       | —           |       | 13         |       | 6          |       | 5              |       | 24 |   | 47 |   | (23 | ) |
| Aaa — Option adjustable rate mortgage   |       | —           |       | —     |       | —     |       | —         |       | — |   | 2 |   | (2 | ) |
| Aa — Fixed rate                         |       | —           |       | 5          |       | 3          |       | —         |       | 8 |   | 8 |   | — |   |
| Aa — Option adjustable rate mortgage    |       | —           |       | —     |       | 1          |       | 7              |       | 8 |   | 12 |   | (4 | ) |
| Total                                        |       | $                | 26         |       | $          | 34         |       | $              | 76         |   | $ | 135 |   | $ | 271 |   | $ | 407 |   | $ | (136 | ) |

 

----

(1) Capitalstructure classification reflects original ratings which may not be consistentwith current ratings due to downgrades.

 

(2) Amortized costincludes other-than-temporary impairment charges, as applicable.

 

*CMBS* totaled $3.53 billion, with 99.3% ratedinvestment grade, at March 31, 2009. The CMBS portfolio is subject to credit risk, but unlike otherstructured securities, is generally not subject to prepayment risk due toprotections within the underlying commercial mortgages whereby borrowers areeffectively restricted from prepaying their mortgages due to changes ininterest rates.  Of the CMBS investments,94.0% are traditional conduit transactions collateralized by pools ofcommercial mortgages, broadly diversified across property types andgeographical area.  The remainderconsists of non-traditional CMBS such as large loan pools and single borrowertransactions.

 

39

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The followingtable shows our CMBS portfolio, excluding commercial real estate collateralizeddebt obligations (“CRE CDO”), at March 31, 2009 by vintage year, basedupon our participation in the capital structure.

 
| **($ in millions)**                      | ** ** | ** **     | ** ** | ** **                  | ** ** | ** **       | ** ** | ** **                  | ** ** |
|-----------------------------------------------|------------|----------------|------------|-----------------------------|------------|------------------|------------|-----------------------------|------------|
| **Capital structure   classification****(1)** | ** ** | **Par  value** | ** ** | **Amortized   cost****(2)** | ** ** | **Fair   value** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| Aaa                                           |       |           |       |                        |       |             |       |                        |       |
| 2007:                                         |       |           |       |                        |       |             |       |                        |       |
| Super senior (3)                              |       | $              | 373        |                        | $          | 369              |       | $                           | 260        |   | $ | (109 | ) |
| Mezzanine senior (4)                          |       | 129            |       | 122                         |       | 53               |       | (69                         | )          |
| Subordinated senior (5)                       |       | 532            |       | 501                         |       | 129              |       | (372                        | )          |
| Other (6)                                     |       | 96             |       | 99                          |       | 31               |       | (68                         | )          |
| Subtotal                                      |       | 1,130          |       | 1,091                       |       | 473              |       | (618                        | )          |
| 2006:                                         |       |           |       |                        |       |             |       |                        |       |
| Super senior (3)                              |       | 78             |       | 77                          |       | 59               |       | (18                         | )          |
| Mezzanine senior (4)                          |       | 81             |       | 77                          |       | 38               |       | (39                         | )          |
| Subordinated senior (5)                       |       | 314            |       | 301                         |       | 78               |       | (223                        | )          |
| Other (6)                                     |       | 77             |       | 78                          |       | 42               |       | (36                         | )          |
| Subtotal                                      |       | 550            |       | 533                         |       | 217              |       | (316                        | )          |
| 2005:                                         |       |           |       |                        |       |             |       |                        |       |
| Super senior (3)                              |       | 282            |       | 285                         |       | 241              |       | (44                         | )          |
| Mezzanine senior (4)                          |       | 22             |       | 22                          |       | 11               |       | (11                         | )          |
| Subordinated senior (5)                       |       | 108            |       | 114                         |       | 47               |       | (67                         | )          |
| Other (6)                                     |       | 118            |       | 118                         |       | 75               |       | (43                         | )          |
| Subtotal                                      |       | 530            |       | 539                         |       | 374              |       | (165                        | )          |
| Pre-2005 (7):                                 |       | 2,019          |       | 2,044                       |       | 1,843            |       | (201                        | )          |
| Aaa total                                     |       | 4,229          |       | 4,207                       |       | 2,907            |       | (1,300                      | )          |
|                                          |       |           |       |                        |       |             |       |                        |       |
| Aa                                            |       | 1,086          |       | 1,148                       |       | 467              |       | (681                        | )          |
| A                                             |       | 338            |       | 206                         |       | 154              |       | (52                         | )          |
| Baa                                           |       | 30             |       | 3                           |       | 3                |       | —                      |       |
| Total CMBS                                    |       | $              | 5,683      |                        | $          | 5,564            |       | $                           | 3,531      |   | $ | (2,033 | ) |

 

----

| (1)    | Capital  structure classification reflects original ratings which may not be  consistent with current ratings due to upgrades and downgrades.                                                                                                                                                |
|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                         |
| (2)    | Amortized  cost includes other-than-temporary impairment charges, as applicable.                                                                                                                                                                                                             |
|   |                                                                                                                                                                                                                                                                                         |
| (3)    | Most  senior of the Aaa rated tranches, typically has a high level of credit  enhancement of approximately 30%, meaning actual losses in the deal have to  reach 30% before incurring a first dollar loss.                                                                                   |
|   |                                                                                                                                                                                                                                                                                         |
| (4)    | Middle  Aaa rated tranche, typically having credit enhancement of approximately 20%,  are subordinate only to the Super senior bonds.                                                                                                                                                        |
|   |                                                                                                                                                                                                                                                                                         |
| (5)    | Lowest  Aaa rated tranche, typically with credit enhancement in the low teens. This  bond is subordinate to the Super senior and Mezzanine senior tranches, but  still senior to all tranches rated below Aaa.                                                                               |
|   |                                                                                                                                                                                                                                                                                         |
| (6)    | Includes  Aaa bonds that were originated in 2005 through 2007 that do not fall into the  categories above. These are non-traditional CMBS bonds that did not have a  Aaa Senior-type breakdown.                                                                                              |
|   |                                                                                                                                                                                                                                                                                         |
| (7)    | Prior  to 2005, the Aaa bonds in a transaction were generally not divided into Super  senior, Mezzanine senior, or Subordinated senior (with the exception of a few  deals structured very late in 2004); therefore all 2004 and prior Aaa-rated  securities are grouped into this category. |

 

The unrealized netcapital loss of $2.03 billion at March 31, 2009 on our CMBS portfolio wasa result of widening of credit spreads due to deteriorating macro economicconditions and continued credit market deterioration.  Credit spread widening since the time ofinitial purchase occurred in all rating classes but was particularly evident inour subordinated senior Aaa and lower rated securities.  These holdings accounted for $1.54 billion,or 75.8%, of the unrealized net capital loss. Our analysis suggests that the vast majority of our CMBS portfolio iswell insulated from a severe rise in commercial mortgage default rates.

 

40

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*ABS* totaled $2.13 billion, with 81.5% ratedinvestment grade, at March 31, 2009. Credit risk is managed by monitoring the performance of thecollateral.  In addition, many of thesecurities in the ABS portfolio are credit enhanced with features such asover-collateralization, subordinated structures, reserve funds, guaranteesand/or insurance.  A portion of the ABSportfolio is also subject to interest rate risk since ultimate realized yieldsare affected by the rate of prepayment of the underlying assets.

 

ABS RMBS includessecurities that are collateralized by mortgage loans issued to borrowers thatcannot qualify for Prime or Alt-A financing terms due in part to weak orlimited credit history.  It also includessecurities that are collateralized by certain second lien mortgages regardlessof the borrower’s credit history.  $763million or 75.5% of the ABS RMBS portfolio consisted of securities that wereissued during 2005, 2006 and 2007.  At March 31,2009, 13.1% of securities issued during 2005, 2006 and 2007 were rated Aaa,25.6% rated Aa, 9.5% rated A, 12.2% rated Baa and 39.6% rated Ba or lower.

 

The followingtable presents additional information about our ABS RMBS portfolio including asummary by first and second lien collateral at March 31, 2009.

 
| **($ in millions)** | ** ** | **Fair value** | ** ** | **Percent to  total  investments** | ** ** |
|--------------------------|------------|----------------|------------|------------------------------------|------------|
| First lien:              |       |           |       |                               |       |
| Fixed rate (1)           |       | $              | 311        |                               | 0.5        | % |
| Variable rate (1)        |       | 540            |       | 0.9                                |       |
| Total first lien (2)     |       | 851            |       | 1.4                                |       |
| Second lien:             |       |           |       |                               |       |
| Insured                  |       | 120            |       | 0.2                                |       |
| Other                    |       | 43             |       | 0.1                                |       |
| Total second lien (3)    |       | 163            |       | 0.3                                |       |
| Total ABS RMBS           |       | $              | 1,014      |                               | 1.7        | % |

 

----

| (1)    | Fixed  rate and variable rate refer to the primary interest rate characteristics of  the underlying mortgages at the time of issuance.     |
|--------|--------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                       |
| (2)    | The  credit ratings of the first lien ABS RMBS were 15.0% Aaa, 37.9% Aa, 11.5% A,  10.3% Baa and 25.3% Ba or lower at March 31, 2009. |
|   |                                                                                                                                       |
| (3)    | The  credit ratings of the second lien ABS RMBS were 13.5% Aaa, 5.5% Aa, 2.5% A,  18.4% Baa and 60.1% Ba or lower at March 31, 2009.  |

 

The following tableincludes first lien non-insured ABS RMBS by vintage year and the interest ratecharacteristics of the underlying mortgage product.

 
| ** **               | ** ** | **Fair value**     | ** ** | ** **      | ** ** | ** ** | ** ** |
|--------------------------|------------|--------------------|------------|-----------------|------------|------------|------------|
| **($ in millions)** | ** ** | **Variable  rate** | ** ** | **Fixed  rate** | ** ** | **Total**  | ** ** | **Amortized  cost****(1)** | ** ** | **Unrealized  gain/(loss)** | ** ** |
| 2007                     |       | $                  | 59         |            | $          | 123        |       | $ | 182 |   | $ | 413 |   | $ | (231 | ) |
| 2006                     |       | 162                |       | 80              |       | 242        |       | 365 |   | (123 | ) |
| 2005                     |       | 133                |       | 30              |       | 163        |       | 312 |   | (149 | ) |
| Pre-2005                 |       | 165                |       | 31              |       | 196        |       | 309 |   | (113 | ) |
| Total                    |       | $                  | 519        |            | $          | 264        |       | $ | 783 |   | $ | 1,399 |   | $ | (616 | ) |

 

----

(1) Amortized costincludes other-than-temporary impairment charges, as applicable.

 

We also own $39 millionof second lien ABS RMBS non-insured securities, representing 60.0% of amortizedcost; $11 million, or 28.2%, of this portfolio are 2006 and 2007 vintageyears.  Together with the first liennon-insured ABS RMBS in the table above, this comprises our $822 million ofnon-insured ABS RMBS.

 

41

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At March 31,2009, $188 million or 18.6% of the total ABS RMBS securities are insured byfour bond insurers and 46.8% of these insured securities were rated investmentgrade.  The following table shows ourinsured ABS RMBS portfolio at March 31, 2009 by vintage year for the firstlien and second lien collateral.

 
| ** **                 | ** ** | **Vintage year** | ** ** | **Fair** | ** ** | **Amortized** | ** ** | **Unrealized** | ** ** |
|----------------------------|------------|------------------|------------|----------|------------|---------------|------------|----------------|------------|
| **($ in millions)**   | ** ** | **2007**         | ** ** | **2006** | ** ** | **2005**      | ** ** | **Pre-2005**   | ** ** | **value** | ** ** | **cost****(1)** | ** ** | **gain/(loss)** | ** ** |
| First lien                 |       | $                | 24         |     | $          | 7             |       | $              | 29         |   | $ | 8 |   | $ | 68 |   | $ | 111 |   | $ | (43 | ) |
| Second lien                |       | 54               |       | 43       |       | 3             |       | 20             |       | 120 |   | 381 |   | (261 | ) |
| Total insured ABS RMBS (2) |       | $                | 78         |     | $          | 50            |       | $              | 32         |   | $ | 28 |   | $ | 188 |   | $ | 492 |   | $ | (304 | ) |

 

----

(1) Amortized costincludes other-than-temporary impairment charges, as applicable.

 

(2) The evaluationfor other-than-temporary impairment through our portfolio monitoring processconsiders the current claims paying resources of the individual bond insurers.

 

Other CDO totaled $607million, with 81.0% rated investment grade, at March 31, 2009.  Other CDO consist primarily of obligationssecured by high yield and investment grade corporate credits including cashflow CLO, synthetic CDO, trust preferred CDO, market value CDO, project financeCDO, CDO squared, collateralized bond obligations and other CLO.

 

The following tablepresents realized and unrealized capital gains and losses on our other CDOportfolio for the three months ended March 31, 2009.

 
| ** **                      | ** ** | **Realized capital gains  and losses****(1)** | ** ** | ** **                  | ** ** |
|---------------------------------|------------|-----------------------------------------------|------------|-----------------------------|------------|
| **($ in millions)**        | ** ** | **Sales**                                     | ** ** | **Impairment  write-downs** | ** ** | **Unrealized gain/(loss)** | ** ** |
| **Other CDO**                   |       |                                          |       |                        |       |   |   |
| Cash flow CLO                   |       | $                                             | —     |                        | $          | (28 | ) | $ | (751 | ) |
| Synthetic CDO                   |       | (4                                            | )          | —                      |       | (161 | ) |
| Trust preferred CDO             |       | —                                        |       | (17                         | )          | (88 | ) |
| Market value CDO                |       | 1                                             |       | (11                         | )          | (60 | ) |
| Project finance CDO             |       | —                                        |       | —                      |       | (37 | ) |
| CDO squared                     |       | —                                        |       | (74                         | )          | — |   |
| Collateralized bond obligations |       | —                                        |       | —                      |       | (6 | ) |
| Other CLO                       |       | —                                        |       | —                      |       | — |   |
| Total                           |       | $                                             | (3         | )                           | $          | (130 | ) | $ | (1,103 | ) |

 

----

(1) During the first quarter of 2009, there wereno change in intent write-downs.

 

Cash flow CLO arestructures where the underlying assets are primarily comprised of belowinvestment grade senior secured corporate loans.  The collateral is actively managed by externalmanagers that monitor the collateral performance.  The underlying investments are welldiversified across industries and among issuers. A transaction will typicallyissue notes with various capital structure class (i.e. Aaa, Aa, A, etc.) aswell as equity-like tranches.  Ingeneral, these securities are structured with overcollaterization (“OC”) ratiosand performance is impacted by downgrades, defaults and recoveries of theunderlying assets within the structures. Downgrades of underlying assets, along with increased defaults reduce OCratios over time.  A violation of thesenior OC test, usually at the Aaa level, could result in an event of defaultof the structure.  This would give thecontrolling class certain rights which could include diverting cash flows orliquidating the underlying portfolio to pay off the senior liabilities.  The following table shows our cash flow CLOportfolio at March 31, 2009 by vintage year, based upon our participationin the capital structure.

 
| **($ in millions)**                     | ** ** | **Vintage year** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|----------------------------------------------|------------|------------------|------------|------------|------------|------------|------------|------------|------------|
| **Capital structure  classification****(1)** | ** ** | **2008**         | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** | **Pre-2005** | ** ** | **Fair  value** | ** ** | **Amortized  cost****(2)** | ** ** | **Unrealized gain/(loss)** | ** ** |
| Aaa                                          |       | $                | —     |       | $          | —     |       | $          | 54         |   | $ | 53 |   | $ | 134 |   | $ | 241 |   | $ | 349 |   | $ | (108 | ) |
| Aa                                           |       | 2                |       | 31         |       | 37         |       | 5          |       | 8 |   | 83 |   | 296 |   | (213 | ) |
| A                                            |       | —           |       | 12         |       | 10         |       | 9          |       | 13 |   | 44 |   | 454 |   | (410 | ) |
| Baa                                          |       | —           |       | —     |       | 4          |       | 2          |       | 26 |   | 32 |   | 52 |   | (20 | ) |
| Ba or below                                  |       | —           |       | 1          |       | —     |       | —     |       | — |   | 1 |   | 1 |   | — |   |
| Total                                        |       | $                | 2          |       | $          | 44         |       | $          | 105        |   | $ | 69 |   | $ | 181 |   | $ | 401 |   | $ | 1,152 |   | $ | (751 | ) |

 

----

(1) Capitalstructure classification reflects original ratings which may not be consistentwith current ratings due to downgrades.

 

(2) Amortized costincludes other-than-temporary impairment charges, as applicable.

 

42

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Synthetic CDO primarilyconsist of a portfolio of corporate credit default swaps (“CDS”) which arecollateralized by Aaa rated LIBOR-based securities (i.e. “fully funded”synthetic CDO).  Our synthetic CDOcollateral primarily is actively managed by an external manager monitoring theCDS selection and performance.  Thefollowing table shows our synthetic CDO at March 31, 2009 by vintage year,based upon our participation in the capital structure.

 
| **($ in millions)**  | ** ** | ** **       | ** ** | ** ** | ** ** | ** **    | ** ** | ** **      | ** ** | ** **      | ** ** |
|---------------------------|------------|------------------|------------|------------|------------|---------------|------------|-----------------|------------|-----------------|------------|
| **Capital structure**     | ** ** | **Vintage year** | ** ** | **Fair**   | ** ** | **Amortized** | ** ** | **Unrealized**  | ** ** |
| **classification****(1)** | ** ** | **2007**         | ** ** | **2006**   | ** ** | **value**     | ** ** | **cost****(2)** | ** ** | **gain/(loss)** | ** ** |
| Aaa                       |       | $                | 14         |       | $          | —        |       | $               | 14         |            | $          | 85 |   | $ | (71 | ) |
| Aa                        |       | 1                |       | 16         |       | 17            |       | 107             |       | (90             | )          |
| Total                     |       | $                | 15         |       | $          | 16            |       | $               | 31         |            | $          | 192 |   | $ | (161 | ) |
|                           |            |                  |            |            |            |               |            |                 |            |                 |            |  |  |  |  |  |  |

 

----

| (1)    | Capital  structure classification reflects original ratings which may not be  consistent with current ratings due to downgrades. |
|--------|----------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                             |
| (2)    | Amortized  cost includes other-than-temporary impairment charges, as applicable.                                                 |

 

*Mortgageloans*    Ourmortgage loan portfolio was $9.50 billion at March 31, 2009 andcomprised primarily loans secured by first mortgages on developed commercialreal estate.  Geographical and propertytype diversification are key considerations used to manage our exposure.  The portfolio is diversified across severalproperty types.  Our exposure to anymetropolitan area is also highly diversified, with the largest exposure notexceeding 9% of the portfolio.  Theaverage debt service coverage ratio represents the amount of cash flows fromthe property available by the borrower to meet its principal and interestpayment obligations.  The average debtservice coverage ratio of the portfolio as of March 31, 2009 was 1.8, andonly 4.0% of the mortgage loan portfolio had a debt service coverage ratiounder 1.0.

 

In the first quarter of2009, $153 million of commercial mortgage loans were contractuallydue.  Of these, 32% were paid as due, 28%were extended generally for less than one year and 40% are in the process ofrefinancing or restructuring negotiations. In addition, $268 million that were not contractually due in the firstquarter of 2009 were paid in full.  Wecurrently have $23 million of loans in the process of foreclosure and we areaggressively pursing workout solutions for these loans, which includesrefinancing, extensions and sales.

 

The net carrying value ofimpaired loans at March 31, 2009 and December 31, 2008 was$314 million and $159 million, respectively.  We recognized $28 million of realizedcapital losses related to valuation allowances on mortgage loans for thequarter ended March 31, 2009.  Totalvaluation allowances of $31 million were held at March 31, 2009.  Realized capital losses due to changes inintent to hold mortgage loans to maturity totaled $6 million for thequarter ended March 31, 2009.

 

*Limitedpartnership interests* consist of investments in private equity/debt funds, real estate fundsand hedge funds.  The overall limitedpartnership interests portfolio is well diversified across a number of metricsincluding fund sponsors, vintage years, strategies, geography (includinginternational), and company/property types. The following table presents information about our limited partnershipinterests as of March 31, 2009.

 
| **($ in millions)**                      | ** ** | **Private  equity/ debt  funds** | ** ** | **Real estate  funds** | ** ** | **Hedge  funds** | ** ** | **Total** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|------------------------|------------|------------------|------------|-----------|------------|
| Cost method of accounting (“Cost”)  |       | $                                | 365        |                   | $          | 141              |       | $         | —     |   | $ | 506 |   |
| Equity method of accounting (“EMA”) |       | 317                              |       | 179                    |       | 55               |       | 551       |       |
| Total                                         |       | $                                | 682        |                   | $          | 320              |       | $         | 55         |   | $ | 1,057 |   |
|                                          |       |                             |       |                   |       |             |       |      |       |
| Number of sponsors                            |       | 70                               |       | 30                     |       | 1                |       |      |       |
| Number of individual funds                    |       | 109                              |       | 57                     |       | 2                |       |      |       |
| Largest exposure to single fund               |       | $                                | 22         |                   | $          | 26               |       | $         | 35         |   |   |   |

 

Our aggregate limitedpartnership exposure represented 1.8% and 2.0% of total invested assets as of March 31,2009 and December 31, 2008, respectively.

 

43

----

 

The following table showsthe results from our limited partnership interests by fund type and accountingclassification.

 
| ** **                 | ** ** | **Three months ended  March 31,** | ** ** |
|----------------------------|------------|--------------------------------------------------|------------|
| ** **                 | ** ** | **2009**                                         | ** ** | **2008** | ** ** |
| ** **                 | ** ** | ** **                                       | ** ** | ** ** | ** ** | **Total** | ** ** | **Impairment** | ** ** | ** ** | ** ** | ** ** | ** ** | **Total** | ** ** | **Impairment** | ** ** |
| ** **                 | ** ** | **Cost**                                         | ** ** | **EMA ****(1)** | ** ** | ** income** | ** ** | **write-downs ****(2)** | ** ** | **Cost** | ** ** | **EMA ****(1)** | ** ** | **income** | ** ** | **write-downs ****(2)** | ** ** |
| Private equity/ debt funds |       | $                                                | 2          |   | $ | (33 | ) | $ | (31 | ) | $ | (37 | ) | $ | 8 |   | $ | 14 |   | $ | 22 |   | $ | (3 | ) |
| Real estate funds          |       | —                                           |       | (43 | ) | (43 | ) | (57 | ) | 1 |   | 3 |   | 4 |   | — |   |
| Hedge funds                |       | —                                           |       | (1 | ) | (1 | ) | — |   | — |   | (2 | ) | (2 | ) | — |   |
| Total                      |       | $                                                | 2          |   | $ | (77 | ) | $ | (75 | ) | $ | (94 | ) | $ | 9 |   | $ | 15 |   | $ | 24 |   | $ | (3 | ) |

 

----

| (1)    | Beginning  in the fourth quarter of 2008, income from EMA LP is reported in realized  capital gains and losses. EMA LP income for periods prior to the fourth  quarter of 2008 is reported in net investment income.                                                                                                                            |
|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                            |
| (2)    | Impairment  write-downs related to cost limited partnerships (“cost LP”) were $89 million  and $3 million in the first quarter of 2009 and 2008, respectively.  Impairment write-downs related to EMA LP were $5 million in the first quarter  of 2009. There were no impairment write-downs on EMA LP in the first quarter  of 2008. |

 

Loss from limitedpartnership interests, excluding impairment write-downs, was $75 million forthe first quarter of 2009 versus income of $24 million for the first quarter of2008.  The loss from limited partnershipinterests in the first quarter of 2009 compared to income in the first quarterof 2008 is primarily related to losses from partnerships accounted for underthe equity method of accounting resulting from reduced valuations on the netasset value of the partnerships.  Incomeon EMA LP is recognized on a delay due to the availability of the relatedfinancial statements.  The recognition ofincome on hedge funds is primarily on a one-month delay and the incomerecognition on private equity/debt funds and real estate funds are generally ona three-month delay as of March 31, 2009. Limited partnership interests accounted for under the cost method ofaccounting recognize income only upon cash distributions by the partnership.

 

To determine if another-than-temporary impairment has occurred related to a cost LP, we evaluatewhether an impairment indicator has occurred in the period that may have asignificant adverse effect on the carrying value of the investment.  Impairment indicators may include: actualrecent cash flows received being significantly less than expected cash flows;reduced valuations based on financing completed at a lower value; completedsale of a material underlying investment at a price significantly lower thanexpected; significantly reduced valuation of partnership holdings or any otherrecent adverse events since the last financial statements received that mightaffect the fair value of the investee’s capital.

 

*CDS* are utilized for both buying and sellingcredit protection against a specified credit event.  As of March 31, 2009, the notional amountand fair value of our buying protection CDS were $992 million and $57 million,respectively.  For further details on ourselling protection CDS balances, see Note 5 of the condensed consolidatedfinancial statements.

 

44

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**Unrealizednet capital losses**totaled $7.46 billion as of March 31, 2009, compared to unrealized netcapital losses of $6.70 billion as of December 31, 2008 as a result ofwidening credit spreads on certain fixed income securities, increasingrisk-free interest rates and realized capital gains through sales, partiallyoffset by realized capital losses on impairment or change in intentwrite-downs.  The following tablepresents unrealized net capital gains and losses, pre-tax and after-tax.

 
| **($ in millions)**                           | ** ** | **March 31, 2009** | ** ** | **December 31, 2008** | ** ** |
|----------------------------------------------------|------------|-------------------------|------------|----------------------------|------------|
| U.S. government and agencies                       |       | $                       | 459        |                       | $          | 895 |   |
| Municipal                                          |       | (600                    | )          | (668                       | )          |
| Corporate                                          |       | (3,233                  | )          | (3,147                     | )          |
| Foreign government                                 |       | 348                     |       | 448                        |       |
| MBS                                                |       | (197                    | )          | (204                       | )          |
| CMBS                                               |       | (2,033                  | )          | (1,982                     | )          |
| ABS                                                |       | (2,203                  | )          | (2,026                     | )          |
| Redeemable preferred stock                         |       | (7                      | )          | (6                         | )          |
| Fixed income securities                            |       | (7,466                  | )          | (6,690                     | )          |
| Equity securities                                  |       | (17                     | )          | (24                        | )          |
| Short-term investments                             |       | 2                       |       | 3                          |       |
| Derivatives                                        |       | 20                      |       | 14                         |       |
| Unrealized net gains and losses, pre-tax           |       | (7,461                  | )          | (6,697                     | )          |
| Amounts recognized for:                            |       |                    |       |                       |       |
| Insurance reserves (1)                             |       | —                  |       | (378                       | )          |
| DAC and DSI (2)                                    |       | 3,778                   |       | 3,493                      |       |
| Amounts recognized                                 |       | 3,778                   |       | 3,115                      |       |
|                                               |       |                    |       |                       |       |
| Deferred income taxes                              |       | 1,283                   |       | 1,245                      |       |
| Unrealized net capital gains and losses, after-tax |       | $                       | (2,400     | )                          | $          | (2,337 | ) |

 

----

| (1)    | The  insurance reserves adjustment represents the amount by which the reserve  balance would increase if the net unrealized gains in the applicable product  portfolios were realized and reinvested at current lower interest rates,  resulting in a premium deficiency. Although we evaluate premium deficiencies  on the combined performance of our life insurance and immediate annuities  with life contingencies, the adjustment primarily relates to structured  settlement annuities with life contingencies, in addition to annuity buy-outs  and certain payout annuities with life contingencies. The insurance reserves  adjustment changed to zero as of March 31, 2009 due to the applicable  product portfolios now being in an aggregate net unrealized loss position.  The change in the unrealized balance resulted from realizing prior unrealized  gains upon the sale of certain securities issued or guaranteed by the U.S. government  in the first quarter of 2009. |
|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
| (2)    | The  DAC and DSI adjustment represents the amount by which the amortization of DAC  and DSI would increase or decrease if the unrealized gains or losses in the  respective product portfolios were realized. Recapitalization of the DAC and  DSI balances is limited to the originally deferred costs plus interest.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |

 

The net unrealized lossfor the fixed income portfolio totaled $7.47 billion, comprised of $1.33billion of gross unrealized gains and $8.80 billion of gross unrealized lossesat March 31, 2009.  This is comparedto a net unrealized loss for the fixed income portfolio totaling $6.69 billion,comprised of $1.92 billion of gross unrealized gains and $8.61 billion of grossunrealized losses at December 31, 2008.

 

45

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Gross unrealizedgains and losses as of March 31, 2009 on fixed income securities by type andsector are provided in the table below.

 
| ** **                                 | ** ** | ** **       | ** ** | ** **    | ** ** | ** **           | ** ** | ** ** | ** ** | ** **     | ** ** | **Amortized**      | ** ** | ** **            | ** ** |
|--------------------------------------------|------------|------------------|------------|---------------|------------|----------------------|------------|------------|------------|----------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                 | ** ** | ** **       | ** ** | ** **    | ** ** | ** **           | ** ** | ** ** | ** ** | ** **     | ** ** | **cost as a**      | ** ** | **Fair value**        | ** ** |
| ** **                                 | ** ** | **Par**          | ** ** | **Amortized** | ** ** | **Gross unrealized** | ** ** | **Fair**   | ** ** | **percent of** | ** ** | **as a percent**   | ** ** |
| **($ in millions)**                   | ** ** | **value****(1)** | ** ** | **cost**      | ** ** | **Gains**            | ** ** | **Losses** | ** ** | **value**      | ** ** | **par value** | ** ** | **of par value** | ** ** |
| Corporate:                                 |       |             |       |          |       |                 |       |       |       |           |       |               |       |                  |       |
| Banking                                    |       | $                | 4,034      |          | $          | 3,776                |       | $          | 26         |           | $          | (1,234             | )          | $                     | 2,568      |   | 93.6 | % | 63.7 | % |
| Financial services                         |       | 3,046            |       | 2,782         |       | 15                   |       | (531       | )          | 2,266          |       | 91.3               |       | 74.4                  |       |
| Utilities                                  |       | 4,879            |       | 4,875         |       | 128                  |       | (343       | )          | 4,660          |       | 99.9               |       | 95.5                  |       |
| Consumer goods (cyclical and non-cyclical) |       | 4,149            |       | 4,118         |       | 48                   |       | (337       | )          | 3,829          |       | 99.3               |       | 92.3                  |       |
| Other                                      |       | 1,561            |       | 1,343         |       | 17                   |       | (255       | )          | 1,105          |       | 86.0               |       | 70.8                  |       |
| Capital goods                              |       | 2,792            |       | 2,773         |       | 45                   |       | (254       | )          | 2,564          |       | 99.3               |       | 91.8                  |       |
| Basic industry                             |       | 1,429            |       | 1,435         |       | 10                   |       | (165       | )          | 1,280          |       | 100.4              |       | 89.6                  |       |
| Transportation                             |       | 1,497            |       | 1,512         |       | 21                   |       | (162       | )          | 1,371          |       | 101.0              |       | 91.6                  |       |
| Energy                                     |       | 1,425            |       | 1,433         |       | 16                   |       | (124       | )          | 1,325          |       | 100.6              |       | 93.0                  |       |
| Communications                             |       | 1,526            |       | 1,498         |       | 20                   |       | (124       | )          | 1,394          |       | 98.2               |       | 91.3                  |       |
| Technology                                 |       | 691              |       | 696           |       | 6                    |       | (59        | )          | 643            |       | 100.7              |       | 93.1                  |       |
| FDIC guaranteed                            |       | 688              |       | 691           |       | 3                    |       | —     |       | 694            |       | 100.4              |       | 100.9                 |       |
| Total corporate fixed income portfolio     |       | 27,717           |       | 26,932        |       | 355                  |       | (3,588     | )          | 23,699         |       | 97.2               |       | 85.5                  |       |
|                                       |       |             |       |          |       |                 |       |       |       |           |       |               |       |                  |       |
| ABS                                        |       | 5,396            |       | 4,335         |       | 5                    |       | (2,208     | )          | 2,132          |       | 80.3               |       | 39.5                  |       |
| CMBS                                       |       | 5,742            |       | 5,567         |       | 15                   |       | (2,048     | )          | 3,534          |       | 97.0               |       | 61.5                  |       |
| Municipal                                  |       | 8,107            |       | 3,984         |       | 32                   |       | (632       | )          | 3,384          |       | 49.1               |       | 41.7                  |       |
| MBS                                        |       | 3,044            |       | 2,953         |       | 80                   |       | (277       | )          | 2,756          |       | 97.0               |       | 90.5                  |       |
| Foreign government                         |       | 2,242            |       | 1,458         |       | 389                  |       | (41        | )          | 1,806          |       | 65.0               |       | 80.6                  |       |
| Redeemable preferred stock                 |       | 15               |       | 16            |       | —               |       | (7         | )          | 9              |       | 106.7              |       | 60.0                  |       |
| U.S. government and agencies               |       | 3,496            |       | 2,522         |       | 459                  |       | —     |       | 2,981          |       | 72.1               |       | 85.3                  |       |
| Total fixed income securities              |       | $                | 55,759     |          | $          | 47,767               |       | $          | 1,335      |           | $          | (8,801             | )          | $                     | 40,301     |   | 85.7 |   | 72.3 |   |

 

----

 (1) Included in parvalue are zero-coupon securities that are generally purchased at a deepdiscount to the par value that is received at maturity.  These included corporate, municipal, foreigngovernment and U.S. government and agencies zero-coupon securities with parvalue of $1.02 billion, $5.46 billion, $1.68 billion and $2.56 billion,respectively.

 

Thebanking, financial services, utilities and consumer goods sectors had thehighest concentration of gross unrealized losses in our corporate fixed incomesecurities portfolio at March 31, 2009. The gross unrealized losses in these sectors were generally the resultof widening credit spreads since the time of initial purchase.  As of March 31, 2009, $3.01 billion or83.8% of the gross unrealized losses in the corporate fixed income portfolioand $4.20 billion or 80.6% of the gross unrealized losses in the remainingfixed income securities related to securities rated investment grade.

 

For fixed incomesecurities, 70.6% of the gross unrealized losses at March 31, 2009 werefrom $4.29 billion of securities with a fair value below 70% of amortized cost,or 10.6% of our fixed income portfolio. The percentage of fair value to amortized cost for fixed incomesecurities with gross unrealized losses at March 31, 2009 are shown in thefollowing table.

 
| **($ in millions)**                                   | ** ** | **Par  value****(1)** | ** ** | **Amortized cost** | ** ** | **Unrealized  gain/(loss)** | ** ** | **Fair  value****(3)** | ** ** | **Percent to  total fixed  income  securities** | ** ** |
|------------------------------------------------------------|------------|-----------------------|------------|--------------------|------------|-----------------------------|------------|------------------------|------------|-------------------------------------------------|------------|
| > 80% of amortized cost                                 |       | $                     | 19,488     |               | $          | 18,761                      |       | $                      | (1,544     | )                                               | $          | 17,217 |   | 42.7 | % |
| 70% to 80% of amortized cost                               |       | 4,412                 |       | 4,245              |       | (1,040                      | )          | 3,205                  |       | 8.0                                             |       |
| < 70% of amortized cost (2)                             |       | 15,265                |       | 10,503             |       | (6,217                      | )          | 4,286                  |       | 10.6                                            |       |
| Gross unrealized losses on fixed income securities         |       | 39,165                |       | 33,509             |       | (8,801                      | )          | 24,708                 |       | 61.3                                            |       |
| Gross unrealized gains on fixed income securities          |       | 16,594                |       | 14,258             |       | 1,335                       |       | 15,593                 |       | 38.7                                            |       |
| Net unrealized gains and losses on fixed income securities |       | $                     | 55,759     |               | $          | 47,767                      |       | $                      | (7,466     | )                                               | $          | 40,301 |   | 100.0 | % |

 

----

(1) Included in parvalue are $5.46 billion of zero-coupon securities as of March 31, 2009that are generally purchased at a deep discount to the par value that isreceived at maturity.

 

(2)  Illiquid portfoliosrepresent $3.79 billion of net unrealized losses and $1.88 billion of fairvalue as of March 31, 2009.

 

(3)  Illiquid portfoliosrepresent $4.36 billion of net unrealized losses and $5.93 billion of fairvalue as of March 31, 2009.

 

46

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The followingtable presents gross unrealized losses by type of fixed income security with afair value below 70% of amortized cost at March 31, 2009.

 
| **($ in millions)**      | ** ** | **Fair value** | ** ** | **Gross unrealized  losses** | ** ** |
|-------------------------------|------------|----------------|------------|------------------------------|------------|
| Corporate                     |       | 2,006          |       | (2,006                       | )          |
| ABS                           |       | 1,058          |       | (2,004                       | )          |
| CMBS                          |       | 719            |       | (1,685                       | )          |
| Municipal                     |       | 311            |       | (337                         | )          |
| MBS                           |       | 180            |       | (176                         | )          |
| Redeemable preferred stock    |       | 9              |       | (7                           | )          |
| Foreign government            |       | 3              |       | (2                           | )          |
| Total fixed income securities |       | $              | 4,286      |                         | $          | (6,217 | ) |
|                               |            |                |            |                              |            |  |  |

 

We continue tobelieve that the unrealized losses on these securities are not predictive ofthe ultimate performance.  The unrealizedlosses should reverse over the remaining lives of the securities.  As of March 31, 2009, we have the intentand ability to hold these securities to recovery.  Our ability to hold to recovery is substantiallyenhanced by our liquidity position, which cushions us from the need toliquidate securities with significant unrealized losses to meet cashobligations.  During the first quarter of2009, our fixed income securities portfolio provided approximately $1.34billion in principal and interest cash flows, of which substantially all havebeen received in accordance with the contractual terms.

 

The net unrealized lossfor the equity portfolio totaled $17 million as March 31, 2009 and wasentirely comprised of unrealized losses. This is compared to a net unrealizedloss for the equity portfolio totaling $24 million, comprised of $1 million ofunrealized gains and $25 million of unrealized losses at December 31,2008.  Within the equity portfolio, thelosses were primarily concentrated in the banking, financial services, realestate and consumer goods sectors.  Theunrealized losses in these sectors were company and sector specific.

 

We have a comprehensive portfolio monitoring processto identify and evaluate, on a case-by-case basis, fixed income and equitysecurities whose carrying value may be other-than-temporarily impaired.  The process includes a quarterly review ofall securities using a screening process to identify situations where the fairvalue, compared to amortized cost for fixed income securities and cost forequity securities, is below established thresholds for certain time periods, orwhich are identified through other monitoring criteria such as ratings, ratingsdowngrades or payment defaults.  Thesecurities identified, in addition to other securities for which we may have aconcern, are evaluated based on facts and circumstances for inclusion on ourwatch-list.  All investments in anunrealized loss position at March 31, 2009 were included in our portfoliomonitoring process for determining whether declines in value were other thantemporary.

 

We also conduct a portfolio review to recognizeimpairment on securities in an unrealized loss position for which we do nothave the intent and ability to hold until recovery as a result of approvedprograms involving the disposition of investments for reasons such as negativedevelopments that would change the view of long term investors and their intentto continue to hold the investment, subsequent credit deterioration of anissuer or holding, subsequent further deterioration of capital markets (i.e.debt and equity) and of economic conditions, subsequent further deteriorationin the financial services and real estate industries, changes in duration,revisions to strategic asset allocations, liquidity needs, unanticipatedfederal income tax situations involving capital gains and capital losscarrybacks and carryforwards with specific expiration dates, investment riskmitigation actions, and other new facts and circumstances that would cause achange in our previous intent to hold a security to recovery or maturity.

 

47

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The following tablesummarizes fixed income and equity securities in a gross unrealized lossposition according to significance, aging and investment grade classification.

 
| ** **                                                                                                                                                        | ** ** | **March 31,  2009** | ** ** | **December 31,  2008**  | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|------------------------------|------------|
| ** **                                                                                                                                                        | ** ** | **Fixed  income**        | ** ** | ** **                   | ** ** | ** ** | ** ** | **Fixed  income** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **($ in millions, except number of   issues)**                                                                                                               | ** ** | **Investment  grade**    | ** ** | **Below  investment  grade** | ** ** | **Equity** | ** ** | **Total** | ** ** | **Investment  grade** | ** ** | **Below  investment  grade** | ** ** | **Equity** | ** ** | **Total** | ** ** |
|                                                                                                                                                              |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Category (I):  Unrealized loss less than 20% of cost (1)                                                                                                     |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of issues                                                                                                                                                  |       | 1,646                    |       | 141                          |       | 6 |   | 1,793 |   | 1,933 |   | 113 |   | 4 |   | 2,050 |   |
| Fair value                                                                                                                                                        |       | $                        | 16,418     |                         | $          | 771 |   | $ | 21 |   | $ | 17,210 |   | $ | 18,433 |   | $ | 622 |   | $ | 31 |   | $ | 19,086 |   |
| Unrealized                                                                                                                                                        |       | $                        | (1,442     | )                            | $          | (96 | ) | $ | (4 | ) | $ | (1,542 | ) | $ | (1,627 | ) | $ | (82 | ) | $ | (3 | ) | $ | (1,712 | ) |
|                                                                                                                                                              |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Category (II):  Unrealized loss greater than or equal to 20% of cost for a period of less  than 6 consecutive months (1)                                          |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of issues                                                                                                                                                  |       | 734                      |       | 181                          |       | 4 |   | 919 |   | 853 |   | 183 |   | 35 |   | 1,071 |   |
| Fair value                                                                                                                                                        |       | $                        | 5,536      |                         | $          | 823 |   | $ | 22 |   | $ | 6,381 |   | $ | 6,346 |   | $ | 802 |   | $ | 24 |   | $ | 7,172 |   |
| Unrealized                                                                                                                                                        |       | $                        | (3,659     | )                            | $          | (636 | ) | $ | (11 | ) | $ | (4,306 | ) | $ | (4,442 | ) | $ | (553 | ) | $ | (22 | ) | $ | (5,017 | ) |
|                                                                                                                                                              |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Category (III):  Unrealized loss greater than or equal to 20% of cost for a period of 6 or  more consecutive months, but less than 12 consecutive months (1) |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of issues                                                                                                                                                  |       | 172                      |       | 41                           |       | 2 |   | 215 |   | 193 |   | 19 |   | — |   | 212 |   |
| Fair value                                                                                                                                                        |       | $                        | 676        |                         | $          | 158 |   | $ | 1 |   | $ | 835 |   | $ | 783 |   | $ | 79 |   | $ | — |   | $ | 862 |   |
| Unrealized                                                                                                                                                        |       | $                        | (1,281     | )                            | $          | (373 | ) | $ | (2 | ) | $ | (1,656 | ) | $ | (1,579 | ) | $ | (139 | ) | $ | — |   | $ | (1,718 | ) |
|                                                                                                                                                              |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Category (IV):  Unrealized loss greater than or equal to 20% of cost for 12 or more consecutive  months (1)                                                       |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Number of issues                                                                                                                                                  |       | 101                      |       | 41                           |       | — |   | 142 |   | 33 |   | 4 |   | — |   | 37 |   |
| Fair value                                                                                                                                                        |       | $                        | 227        |                         | $          | 99 |   | $ | — |   | $ | 326 |   | $ | 66 |   | $ | 7 |   | $ | — |   | $ | 73 |   |
| Unrealized                                                                                                                                                        |       | $                        | (828       | )                            | $          | (486 | ) | $ | — |   | $ | (1,314 | ) | $ | (176 | ) | $ | (13 | ) | $ | — |   | $ | (189 | ) |
|                                                                                                                                                              |       |                     |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total number of issues                                                                                                                                            |       | 2,653                    |       | 404                          |       | 12 |   | 3,069 |   | 3,012 |   | 319 |   | 39 |   | 3,370 |   |
| Total fair value  (2)                                                                                                                                             |       | $                        | 22,857     |                         | $          | 1,851 |   | $ | 44 |   | $ | 24,752 |   | $ | 25,628 |   | $ | 1,510 |   | $ | 55 |   | $ | 27,193 |   |
| Total unrealized  losses                                                                                                                                          |       | $                        | (7,210     | )                            | $          | (1,591 | ) | $ | (17 | ) | $ | (8,818 | ) | $ | (7,824 | ) | $ | (787 | ) | $ | (25 | ) | $ | (8,636 | ) |

 

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(1)         For fixed income securities,cost represents amortized cost.

 

(2)        At March 31, 2009, 92.5%of the fixed income securities portfolio was rated investment grade compared to94.4% at December 31, 2008.

 

The largest individualunrealized loss was $11million for category (I), $65 million for category (II),$32 million for category (III), and $40 million for category (IV) as of March 31,2009.

 

Categories (I) and (II) havegenerally been adversely affected by overall economic conditions includinginterest rate increases and the market’s evaluation of certain sectors.  The degree to which and/or length of timethat the securities have been in an unrealized loss position does not suggestthat these securities pose a high risk of being other-than-temporarily impaired.

 

Categories (III) and(IV) have historically been adversely affected by industry and issuespecific, or issuer specific conditions. All of the securities in these categories are monitored forother-than-temporary impairment.

 

At March 31, 2009,Category (III) for fixed income was comprised primarily of $247 million ofcorporate bonds, $223 million of ABS RMBS, $159 million of CMBS, $67 million ofcash flow CLO and $36 million of trust preferred CDO, for a total of $732million with unrealized losses of $329 million, $547 million, $315 million,$252 million and $74 million, respectively, for a total of $1.52 billion ofunrealized losses.  No other securitytype individually represents more than $24 million of fair value within thiscategory.

 

At March 31,2009, Category (IV) for below investment grade fixed income securities wascomprised primarily of $47 million of ABS RMBS, $17 million of cash flow CLO,$15 million of corporate bonds and $10 million of Alt-A for a total of $89million with unrealized losses of $167 million, $189 million, $38 million and$15 million, respectively, for a total of $409 million of unrealizedlosses.  No other security typeindividually represents more than $10 million of fair value within thiscategory.

 

48

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We continue to believethat the unrealized losses on these securities are not predictive of theultimate performance.

 

Whenever ourinitial analysis indicates that a fixed income security’s unrealized loss of20% or more for at least 36 months or any equity security’s unrealized loss of20% or more for at least 12 months is temporary, additional evaluations andmanagement approvals are required to substantiate that a write-down is notappropriate.  As of March 31, 2009,no securities met these criteria.

 

We also monitor thequality of our fixed income and bank loan portfolios by categorizing certaininvestments as “problem”, “restructured” or “potential problem.”  Problem fixed income securities and bankloans are in default with respect to principal or interest and/or areinvestments issued by companies that have gone into bankruptcy subsequent toour acquisition or loan.  Restructuredfixed income and bank loan investments have rates and terms that are notconsistent with market rates or terms prevailing at the time of therestructuring.  Potential problem fixedincome or bank loan investments are current with respect to contractualprincipal and/or interest, but because of other facts and circumstances, wehave concerns regarding the borrower’s ability to pay future principal andinterest according to the original terms, which causes us to believe theseinvestments may be classified as problem or restructured in the future.

 

The followingtable summarizes problem, restructured and potential problem fixed incomesecurities and bank loans, which are reported in other investments.

 
| ** **                             | ** ** | **March 31, 2009**    | ** ** |
|----------------------------------------|------------|----------------------------|------------|
| **($ in millions)**               | ** ** | **Par  value****(1)**      | ** ** | **Amortized  cost ****(1)** | ** ** | **Amortized  cost as a  percent of  par value** | ** ** | **Fair   value** | ** ** | **Fair value as  a percent of  par value** | ** ** | **Percent of  total fixed  income and  bank loan  portfolios** | ** ** |
| Restructured                           |       | $                          | 67         |   | $ | 53 |   | 79.1 | % | $ | 49 |   | 73.1 | % | 0.1 | % |
| Problem                                |       | 1,001                      |       | 187 |   | 18.7 |   | 176 |   | 17.6 |   | 0.4 |   |
| Potential problem                      |       | 1,455                      |       | 726 |   | 49.9 |   | 432 |   | 29.7 |   | 1.1 |   |
| Total net carrying value               |       | $                          | 2,523      |   | $ | 966 |   | 38.3 |   | $ | 657 |   | 26.0 |   | 1.6 |   |
| Cumulative write- downs recognized (2) |       |                       |       | $ | 1,309 |   |   |   |   |   |   |   |   |   |
|                                   |       |                       |       |   |   |   |   |   |   |   |   |   |   |
| ** **                             | ** ** | **December 31, 2008** | ** ** |
| ** **                             | ** ** | **Par  value****(1)**      | ** ** | **Amortized  cost ****(1)** | ** ** | **Amortized  cost as a  percent of  par value** | ** ** | **Fair   value** | ** ** | **Fair value as  a percent of  par value** | ** ** | **Percent of  total fixed  income and  bank loan  portfolios** | ** ** |
| Restructured                           |       | $                          | 71         |   | $ | 57 |   | 80.3 | % | $ | 57 |   | 80.3 | % | 0.1 | % |
| Problem                                |       | 837                        |       | 188 |   | 22.5 |   | 147 |   | 17.6 |   | 0.3 |   |
| Potential problem                      |       | 1,194                      |       | 432 |   | 36.2 |   | 297 |   | 24.9 |   | 0.7 |   |
| Total net carrying value               |       | $                          | 2,102      |   | $ | 677 |   | 32.2 |   | $ | 501 |   | 23.8 |   | 1.1 |   |
| Cumulative write- downs recognized (2) |       |                       |       | $ | 1,294 |   |   |   |   |   |   |   |   |   |

 

----

(1)         The difference between parvalue and amortized cost of $1.56 billion at March 31, 2009 and $1.43billion at December 31, 2008 is primarily attributable to write-downs.  Par value has been reduced by principalpayments.

 

(2)         Cumulative write-downsrecognized only reflects impairment write-downs related to investments withinthe problem, potential problem and restructured categories.

 

At March 31,2009, amortized cost for the problem category was $187 million and wascomprised of $119 million of corporates (primarily privately placed) and $38million of bank loans.  Also includedwere $15 million of other CDO, $12 million of ABS RMBS, $2 million of other ABSand $1 million of Alt-A.  The decrease of $1 million over December 31,2008 is attributable to the sale of corporates, partially offset by theaddition of fixed income and bank loan holdings that either are in default withrespect to principal or interest and/or are investments issued by companiesthat went into bankruptcy during the period. The amortized cost of problem investments with a fair value less than70% of amortized cost totaled $28 million, with unrealized losses of $16million and fair value of $12 million.

 

49

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At March 31,2009, amortized cost for the potential problem category was $726 million andwas comprised of $75 million of Alt-A, $186 million of other CDO, $61 millionof ABS RMBS, $18 million of other ABS and $7 million of CMBS.  Also included were $288 million of corporates(primarily privately placed), $28 million of municipal bonds, $14 million offoreign government holdings and $49 million of bank loans.  The increase over December 31, 2008 isprimarily attributable to the additions of corporates (primarily privatelyplaced), bank loans and other CDO.  Theamortized cost of potential problem investments with a fair value less than 70%of amortized cost totaled $426 million, with unrealized losses of $279 millionand fair value of $147 million.

 

We evaluated each ofthese investments through our portfolio monitoring process at March 31,2009 and recorded write-downs when appropriate. We further concluded that any remaining unrealized losses on these investmentswere temporary in nature and that we have the intent and ability to hold thesecurities until recovery.

 

**NetInvestment Income**The following table presents net investment income.

 
| ** **                        | ** ** | **Three months ended  March 31,** | ** ** |
|-----------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**          | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Fixed income securities           |       | $                                      | 681        |   | $ | 826 |   |
| Mortgage loans                    |       | 134                                    |       | 146 |   |
| Equity securities                 |       | 1                                      |       | 1 |   |
| Limited partnership interests     |       | 2                                      |       | 24 |   |
| Short-term                        |       | 7                                      |       | 16 |   |
| Other                             |       | (6                                     | )          | 20 |   |
| Investment income, before expense |       | 819                                    |       | 1,033 |   |
| Investment expense                |       | (22                                    | )          | (41 | ) |
| Net investment income (1)         |       | $                                      | 797        |   | $ | 992 |   |

 

----

(1)    Beginning in the fourthquarter of 2008, income from EMA LP is reported in realized capital gains andlosses.  EMA LP income for periods priorto the fourth quarter of 2008 is reported in net investment income.  The amount of EMA LP income included in netinvestment income was $15 million in the first quarter of 2008.

 

Net investmentincome decreased 19.7% or $195 million to $797 million in the first quarter of2009 compared to $992 million in the same period of 2008.  This decline was primarily due to lowerinvestment yields on floating rate securities, increased short-term balancesreflecting liquidity management activities, lower investment balances and lowerincome from limited partnership interests.

 

During the first quarterof 2009, our fixed income portfolio continued to generate significant cashflows from maturities, principal and interest receipts totaling $1.34 billionwhich was consistent with amounts due. These cash flows will be available to take advantage of marketopportunities and manage liabilities.

 

Total investment expensesdecreased $19 million in the first quarter of 2009 compared to the firstquarter of 2008.  The decrease wasprimarily due to lower expenses associated with a lower amount of collateralreceived in connection with securities lending transactions.  The average amount of collateral held inconnection with securities lending was $296 million in the first quarter of2009 compared to approximately $2.10 billion in the first quarter of 2008, as aresult of actions to reduce our securities lending balances.

 

50

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**NetRealized Capital Gains and Losses**The following table presents the components ofrealized capital gains and losses and the related tax effect.

 
| ** **                                   | ** ** | **Three months ended  March 31,** | ** ** |
|----------------------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**                     | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Sales (1)                                    |       | $                                      | 358        |   | $ | (43 | ) |
| Impairment write-downs (2)                   |       | (352                                   | )          | (204 | ) |
| Change in intent write-downs (1) (3)    |       | (32                                    | )          | (24 | ) |
| Valuation of derivative instruments          |       | 83                                     |       | (202 | ) |
| Settlements of derivative instruments        |       | (18                                    | )          | 45 |   |
| EMA LP income (4)                            |       | (77                                    | )          | — |   |
| Realized capital gains and losses, pre-tax   |       | (38                                    | )          | (428 | ) |
| Income tax (expense) benefit (5)             |       | (129                                   | )          | 150 |   |
| Realized capital gains and losses, after-tax |       | $                                      | (167       | ) | $ | (278 | ) |

 

----

(1)    To conform to the currentperiod presentation, certain amounts in the prior period have beenreclassified.

(2)    Impairment write-downsreflect issue specific other-than-temporary declines in fair value, includinginstances where we could not reasonably assert that the recovery period wouldbe temporary.

(3)    Change in intent write-downsreflect instances where we cannot assert a positive intent to hold untilrecovery.

(4)    Beginning in the fourthquarter of 2008, income from EMA LP is reported in realized capital gains andlosses.  EMA LP income for periods priorto the fourth quarter of 2008 is reported in net investment income.

(5)    Income tax expense for thefirst quarter of 2009 includes expense of $142 million attributable to anincrease in the valuation allowance relating to the deferred tax asset onrealized capital losses.  For a furtherdiscussion of changes in this valuation allowance, see the Deferred Taxessection of the MD&A.

 

*Sales*generated $358million of net realized gains for the three months ended March 31, 2009and were primarily due to $277 million of gains on sales of governmentalsecurities.

 

*Impairmentwrite-downs* arepresented in the following table.

 
| ** **                    | ** ** | **Three months ended  March 31,** | ** ** |
|-------------------------------|------------|----------------------------------------|------------|
| **($ in millions)**      | ** ** | **2009**                               | ** ** | **2008** | ** ** |
| Fixed income securities       |       | $                                      | (189       | ) | $ | (197 | ) |
| Mortgage loans                |       | (28                                    | )          | — |   |
| Equity securities             |       | (19                                    | )          | (1 | ) |
| Limited partnership interests |       | (94                                    | )          | (3 | ) |
| Other investments             |       | (22                                    | )          | (3 | ) |
| Total impairment write-downs  |       | $                                      | (352       | ) | $ | (204 | ) |

 

$93 million or49.2% of the fixed income security write-downs for the three months ended March 31,2009 related to impaired securities that were performing in line withanticipated or contractual cash flows but were written down primarily becauseof expected deterioration in the performance of the underlying collateral orour assessment of the probability of future default.  As of March 31, 2009, there have been nodefaults or defaults impacting classes lower in the capital structure.  $36 million of the fixed income securitywrite-downs for the three months ended March 31, 2009 related tosecurities experiencing a significant departure from anticipated cash flows;however, we believe they retain economic value. $60 million related to securities for which future cash flows are veryuncertain.  Equity securities were writtendown primarily due to the length of time and extent fair value was below cost,considering our assessment of the financial condition, near-term and long-termprospects of the issuer, including relevant industry conditions and trends.  Limited partnership impairment write-downsrelated primarily to cost LP which experienced significant declines inportfolio valuations and we could not assert the recovery period would betemporary.

 

51

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Impairment write-downs onthese investments are presented in the following table.  Notwithstanding our intent and ability tohold these securities with impairment write-downs, we concluded that we couldnot reasonably assert that the recovery period would be temporary.

 
| **($ in millions)**                                                     | ** ** | **Three months ended  March 31, 2009** | ** ** |
|------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| **Performing in accordance with anticipated or  contractual cash flows**     | ** ** | ** **                                  | ** ** |
| Alt–A                                                                   |       |                                        |       |
| No defaults in underlying collateral                                         |       | $                                           | (7         | ) |
| Defaults lower in capital structure                                          |       | (1                                          | )          |
|                                                                         |       | (8                                          | )          |
| CMBS                                                                         |       | (2                                          | )          |
| CLO                                                                          |       | (59                                         | )          |
| Foreign government bonds                                                     |       | (17                                         | )          |
| Corporate                                                                    |       |                                        |       |
| Consumer discretionary                                                       |       | (7                                          | )          |
| Subtotal                                                                     |       | (7                                          | )          |
| Subtotal performing in accordance with anticipated or actual cash  flows (1) |       | (93                                         | )          |
|                                                                         |       |                                        |       |
| **Departure from anticipated or contractual cash  flows**                    |       |                                        |       |
| Future cash flows expected —                                            |       |                                        |       |
| ABS RMBS                                                                     |       | (4                                          | )          |
| ABS other                                                                    |       | (1                                          | )          |
| CLO                                                                          |       | (11                                         | )          |
| Corporate                                                                    |       |                                        |       |
| Entertainment                                                                |       | (20                                         | )          |
| Subtotal expected future cash flows (2)                                      |       | (36                                         | )          |
| Future cash flows very uncertain -                                           |       |                                        |       |
| CLO                                                                          |       | (60                                         | )          |
| Subtotal very uncertain future cash flows                                    |       | (60                                         | )          |
| **Total fixed income securities****(3)**                                     |       | $                                           | (189       | ) |
| **Total commercial mortgage write-downs**                                    |       | $                                           | (28        | ) |
| **Total equity securities**                                                  |       | $                                           | (19        | ) |
| **Total limited partnership interests**                                      |       | $                                           | (94        | ) |
| **Total other investments**                                                  |       | $                                           | (22        | ) |

 

----

(1)     Written downprimarily because of expected deterioration in the performance of theunderlying collateral or our assessment of the probability of futuredefault.  As of March 31, 2009, forthe securities with direct interest in the lender, there have been nodefaults.  For securities supported bycollateral, there have been no defaults or defaults that have occurred inclasses lower in the capital structure.

(2)      Experienced asignificant departure from anticipated residual cash flows.  While these fixed income security write-downswere valued at a significant discount to cost, we believe these securitiesretain economic value.

(3)      Impairmentwrite-downs on our illiquid portfolios were $145 million for the three monthsended March 31, 2009.

 

*Changein intent write-downs* totaling $32 million for the three months ended March 31, 2009included $20 million for fixed income securities, $6 million for equitysecurities and $6 million for mortgage loans compared to $22 million for fixedincome securities, $1 million for equity securities and $1 million for mortgageloans for the same period of the prior year. The change in intent write-downs in the first quarter of 2009 were aresult of our risk mitigation and return optimization programs and ongoingcomprehensive reviews of our portfolios resulting in write-downs of individuallyidentified securities.

 

52

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Investments forwhich we had changed our intent to hold to recovery totaled $403 million and$774 million as of March 31, 2009 and December 31, 2008,respectively.  The primary drivers of thechange were as follows:

 

·                 $22 million in additions of individuallyidentified fixed income securities as a result of ongoing reviews of ourportfolios.

·                 We sold approximately $134 million,recognizing net capital gains of $2 million. The sales included approximately $40 million from risk mitigation andreturn optimization programs which recognized $12 million in net realizedcapital losses.

·                 We re-designated approximately $197million of investments to intent to hold to recovery due to our inability todispose of them for values equal to or greater than our view of their intrinsicvalue.  Of these assets $37 million wererelated to risk mitigation and return optimization programs and $160 millionwere related to individual identification.

·                 Valuation adjustments and other charges,including change in intent write-downs totaled $64 million.

 

*Valuationand settlement of derivative instruments*net realized capital gains totaling $65 million forthe three months ended March 31, 2009 included $83 million of gains on thevaluation of derivative instruments and $18 million of losses on the settlementof derivative instruments.  For the threemonths ended March 31, 2008, net realized capital losses on the valuationand settlement of derivative instruments totaled $157 million.

 

At March 31, 2009,our securities with embedded options totaled $833 million and decreased in fairvalue from December 31, 2008 by $139 million, comprised of realizedcapital losses on valuation of $23 million, net sales activity of $78 million,and unrealized net capital losses reported in other comprehensive income (“OCI”)of $38 million for the host securities. Net unrealized capital losses were further increased by $1 million dueto amortization and impairment write-downs on the host securities.  The change in fair value of embedded optionsis bifurcated from the host securities, separately valued and reported inrealized capital gains and losses, while the change in value of the hostsecurities is reported in OCI.  Total amortizedcost exceeded total fair value by $40 million at March 31, 2009.  Valuation gains and losses are converted intocash for securities with embedded options upon our election to sell thesesecurities.  In the event the economicvalue of the options is not realized, we will recover the par value if held tomaturity unless the issuer of the note defaults.  Total par value exceeded fair value by $253million at March 31, 2009.

 

A changing interest rateenvironment will drive changes in our portfolio duration targets at a tacticallevel.  A duration target and range isestablished with an economic view of liabilities relative to a long-terminvestment portfolio view.  Tacticalduration management is accomplished through both cash market transactionsincluding new purchases and derivative activities that generate realized gainsand losses.  As a component of ourapproach to managing portfolio duration, realized gains and losses on certainderivative instruments are most appropriately considered in conjunction with theunrealized gains and losses on the fixed income portfolio.  This approach mitigates the impacts ofgeneral interest rate changes to the overall financial condition of theCompany.

 

53

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The table below presents the realizedcapital gains and losses (pre-tax) on the valuation and settlement ofderivative instruments shown by underlying exposure and derivative strategy.

 
| ** **                                              | ** ** | **Three  months ended March 31,** | ** ** | ** **      | ** ** |
|---------------------------------------------------------|------------|-----------------------------------|------------|-----------------|------------|
| ** **                                              | ** ** | **2009**                          | ** ** | **2008**        | ** ** | **2009  Explanations** | ** ** |
| **($ in millions)**                                | ** ** | **Valuation**                     | ** ** | **Settlements** | ** ** | **Total** | ** ** | **Total** | ** ** | ** ** | ** ** |
| **Risk  Reduction**                                     |       |                              |       | ** **      |       |   |   |   |   |   |   |
| Duration  gap management                                |       | $                                 | 82         |            | $          | (8 | ) | $ | 74 |   | $ | (38 | ) | Interest rate caps, floors and swaps are used to  balance interest-rate sensitivities of assets and liabilities. The contracts  settle based on differences between current market rates and a contractually  specified fixed rate through expiration. The contracts can be terminated and  settled at anytime with a minimal additional cost. The loss on caps and  floors would be limited to the amount of unrecognized premium of $3 million.  The change in valuation reflects the changing value of expected futures  settlements from changing interest rates, which may vary over the period of  the contracts. The 2009 YTD gains, resulting from increasing interest rates,  are offset in net unrealized capital gains and losses in OCI to the extent it  relates to changes in risk-free rates. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Anticipatory  hedging                                   |       | (5                                | )          | (11             | )          | (16 | ) | 37 |   | Futures are used to protect investment spread from  interest rate changes during mismatches in the timing of cash flows between  product sales and the related investment activity. The futures contracts are  exchange traded, daily cash settled and can be exited at any time for minimal  additional cost. If the cash flow mismatches are such that a positive net  investment position is being hedged, there is an offset for the related  investments unrealized loss in OCI. The 2009 YTD losses reflect increases in  risk—free interest rates on a net long position as liability issuances  exceeded asset acquisitions. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Hedging of  interest rate exposure in annuity contracts |       | (2                                | )          | —          |       | (2 | ) | (10 | ) | Value of expected future settlements on interest rate  caps and the associated value of future credited interest, which is  reportable in future periods when incurred, decreased due to decreases in  volatility. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Hedging  unrealized gains on equity indexed notes       |       | —                            |       | 3               |       | 3 |   | — |   |   |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Hedge  ineffectiveness                                  |       | (1                                | )          | —          |       | (1 | ) | (16 | ) | The hedge ineffectiveness of $(1) million  includes $22 million in realized capital losses on swaps that were offset by  $21 million in realized capital gains on the hedged risk. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Foreign currency  contracts                             |       | —                            |       | 1               |       | 1 |   | (3 | ) |   |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Credit risk  reduction                                  |       | 39                                |       | (4              | )          | 35 |   | — |   | Valuation gain is the result of widening credit  spreads on referenced credit entities. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| Other                                                   |       | —                            |       | —          |       | — |   | (1 | ) |   |   |
| **Total  Risk reduction**                               |       | $                                 | 113        |            | $          | (19 | ) | $ | 94 |   | $ | (31 | ) |   |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| **Income  generation**                                  |       |                              |       |            |       |   |   |   |   |   |   |
| Asset replication  — credit exposure               |       | $                                 | (7         | )               | $          | 1 |   | $ | (6 | ) | $ | (15 | ) | The 2009 YTD changes in valuation are due to the  widening credit spreads on referenced credit entities, and would only be  converted to cash upon disposition, which can be done at any time, or if the  credit event specified in the contract occurs. As of March 31, 2009, we  had $546 million of notional outstanding. For a further discussion on CDS,  see Note 5 of the condensed consolidated financial statements and the CDS  section of the Investment section of the MD&A. |   |
|                                                    |       |                              |       |            |       |   |   |   |   |   |   |
| **Accounting**                                          |       |                              |       |            |       |   |   |   |   |   |   |
| Equity indexed  notes                                   |       | $                                 | (26        | )               | $          | — |   | $ | (26 | ) | $ | (86 | ) | Equity—indexed notes are fixed income securities that  contain embedded options. The changes in valuation of the embedded equity  indexed call options are reported in realized capital gains and losses. The  results generally track the performance of underlying equity indices.  Valuation gains and losses are converted into cash upon sale or maturity. In  the event the economic value of the options is not realized, we will recover  the par value of the host fixed income security if held to maturity unless  the issuer of the note defaults. Par value exceeded fair value by $219  million at March 31, 2009. Equity-indexed notes are subject to our  comprehensive portfolio monitoring and watchlist processes to identify and  evaluate when the carrying value may be other-than-temporarily impaired. The  following table compares the March 31, 2009 and December 31, 2008  holdings, respectively. |   |

 
|   |                                           |       |                     |       |                                  |       |                                                 |       |                        |       |
|--------|------------------------------------------------|------------|--------------------------|------------|---------------------------------------|------------|------------------------------------------------------|------------|-----------------------------|------------|
|   | **($ in millions)**                       | ** ** | **March 31,  2009** | ** ** | **Change   in fair  value** | ** ** | **Change due  to net sale  activity** | ** ** | **December 31,  2008** | ** ** |
|   | Par value                                      |       | $                        | 725        |                                  | $          | —                                               |       | $                           | (75        | ) | $ | 800 |   |
|   | Amortized cost of  host contract               |       | $                        | 460        |                                  | $          | 5                                                    |       | $                           | (31        | ) | $ | 486 |   |
|   | Fair value of  equity—indexed call option |       | 87                       |       | (26                                   | )          | (19                                                  | )          | 132                         |       |
|   | Total amortized  cost                          |       | $                        | 547        |                                  | $          | (21                                                  | )          | $                           | (50        | ) | $ | 618 |   |
|   | Total Fair value                               |       | $                        | 506        |                                  | $          | (66                                                  | )          | $                           | (61        | ) | $ | 633 |   |
|   | Unrealized  gain/(loss)                        |       | $                        | (41        | )                                     | $          | (45                                                  | )          | $                           | (11        | ) | $ | 15 |   |

 

54

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| ** **                                     | ** ** | **Three  months ended March 31,** | ** ** | ** **      | ** ** |
|------------------------------------------------|------------|-----------------------------------|------------|-----------------|------------|
| ** **                                     | ** ** | **2009**                          | ** ** | **2008**        | ** ** | **2009  Explanations** | ** ** |
| **($ in millions)**                       | ** ** | **Valuation**                     | ** ** | **Settlements** | ** ** | **Total** | ** ** | **Total** | ** ** | ** ** | ** ** |
| Conversion  options in fixed income securities |       | 3                                 |       | —          |       | 3 |   | (25 | ) | Convertible bonds are fixed income securities that  contain embedded options. Changes in valuation of the embedded option are  reported in realized capital gains and losses. The results generally track  the performance of underlying equities. Valuation gains and losses are  converted into cash upon our election to sell these securities. In the event  the economic value of the options is not realized, we will recover the par  value of the host fixed income security if held to maturity unless the issuer  of the note defaults. Par value exceeded fair value by $34 million at March 31,  2009. Convertible bonds are subject to our comprehensive portfolio monitoring  and watchlist processes to identify and evaluate when the carrying value may  be other-than-temporarily impaired. As a result of this process, three issues  were written-down during the first quarter of 2009. The following table  compares the March 31, 2009 and December 31, 2008 holdings,  respectively. |   |

 
|   |                             |       |                     |       |                                  |       |                                             |       |                        |       |   |
|--------|----------------------------------|------------|--------------------------|------------|---------------------------------------|------------|--------------------------------------------------|------------|-----------------------------|------------|--------|
|   | **($ in millions)**    | ** ** | **March 31,  2009** | ** ** | **Change   in fair  value** | ** ** | **Change due  to  net sale  Activity** | ** ** | **December 31,  2008** | ** ** |
|   | Par value                        |       | $                        | 361        |                                  | $          | —                                           |       | $                           | (17        | )      | $ | 378 |   |
|   | Amortized cost of  host contract |       | $                        | 234        |                                  | $          | (4                                               | )          | $                           | (9         | )      | $ | 247 |   |
|   | Fair value of  conversion option |       | 92                       |       | 3                                     |       | (1                                               | )          | 90                          |       |
|   | Total amortized  cost            |       | $                        | 326        |                                  | $          | (1                                               | )          | $                           | (10        | )      | $ | 337 |   |
|   | Total Fair value                 |       | $                        | 327        |                                  | $          | 5                                                |       | $                           | (17        | )      | $ | 339 |   |
|   | Unrealized  gain/(loss)          |       | $                        | 1          |                                  | $          | 6                                                |       | $                           | (7         | )      | $ | 2 |   |

 
| **Total  accounting** |   | $      | (23    | )      | $      | — |   | $      | (23    | )      | $      | (111 | ) |   |   |
|-----------------------|--------|--------|--------|--------|--------|--------|--------|--------|--------|--------|--------|------|---|--------|--------|
| ** **            |   |   |   |   |   |   |   |   |   |   |   |
| **Total**             |   | $      | 83     |   | $      | (18    | )      | $      | 65     | (1)    | $      | (157 | ) |   |   |

 

----

(1)Does not include$4 million of derivative gains related to the termination of a fair value hedgewhich is included in sales and reported with the hedged risk.

 

Includedin the table above are net realized capital gains on the valuation andsettlement of derivative instruments related to credit spread risk hedging fromour risk mitigation and return optimization programs totaling $30 million forthe first quarter of 2009.

 

55

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**Fair Value of Assets andLiabilities**

 

We employ independentthird-party valuation service providers, broker quotes and internal pricingmethods to determine fair values, which provide a single quote or price foreach financial instrument.  We obtain orcalculate only one quote or price per instrument.

 

Fair value is the pricethat would be received to sell an asset or paid to transfer a liability in anorderly transaction between market participants at the measurement date.  For the majority of the Company’s financialassets, all significant inputs are based on market observable data andsignificant management judgment does not affect the periodic determination offair value.  The determination of fairvalue using discounted cash flow models involves management judgment whensignificant model inputs are not based on market observable data.  However, where market observable data isavailable, it takes precedence, and as a result, no range of reasonably likelyinputs exists, from which the basis of a sensitivity analysis could beconstructed.

 

There are two situationswhere discounted cash flow models are used, each of which utilizes asignificant input that is not market observable.  In the first situation, internal models useinternally assigned credit ratings as inputs in the valuation of privatelyplaced securities.  Our internal ratingsare developed at a more finite level than NAIC ratings (e.g., an NAIC rating of1 includes securities rated triple, double and single A by a nationallyrecognized statistical rating organization (“NRSRO”)).  We believe these internal ratings provide fora more reliable estimate of fair value since we can more precisely match theseratings to other market observable valuation inputs, such as credit andliquidity spreads, for performing these valuations.  The second situation where a discounted cashflow model utilizes a significant input that is not market observable relatesto the determination of fair value for our ARS backed by student loans.  The assumption is the anticipated dateliquidity will return to this market (i.e., when auction failures willcease).  Determination of this assumptionallows for matching to market observable inputs when performing thesevaluations.

 

The following table displaysthe sensitivity of reasonably likely changes in these assumptions as of March 31,2009.  The selection of thesehypothetical scenarios should not be construed as an indication that it wouldbe reasonably likely that all securities would be similarly affected or as ourprediction of future events, but only as an illustration of the estimatedpotential proportional effect of alternative assumptions.

 
| **($ in millions)**                                                                        | ** ** | ** ** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|------------|------------|
| **Privately placed securities with internally  assigned credit ratings**                             |       | $          | 7,610      |   |
| **Percentage change in fair value resulting from:**                                                  |       |       |       |
| Increase in internal ratings one rating notch                                                        |       | 2.2        | %          |
| Decrease in internal ratings one rating notch                                                        |       | (4.4       | )%         |
|                                                                                                 |       |       |       |
| **ARS backed by student loans at fair value**                                                        |       | $          | 624        |   |
| **Percentage change in fair value resulting from:**                                                  |       |       |       |
| Decrease in assumption by five months for the anticipated date  liquidity will return to this market |       | 1.6        | %          |
| Increase in assumption by five months for the anticipated date  liquidity will return to this market |       | (1.6       | )%         |
|                                                                                                 |       |       |       |

 

56

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Thefollowing table provides additional details regarding Level 1, 2 and 3 assetsand liabilities by their classification in the Condensed Consolidated Statementof Financial Position at March 31, 2009. For further discussion of Level 1, 2 and 3 assets and liabilities, seeNote 4 of the condensed consolidated financial statements.

 
| **($ in millions)**                  | ** ** | **Quoted prices in  active markets  for identical  assets  (Level 1)** | ** ** | **Significant  other  observable  inputs  (Level 2)** | ** ** | **Significant  unobservable  inputs  (Level 3)** | ** ** | **Counterparty  and cash  collateral  netting ****(1)** | ** ** | **Balance as of  March 31, 2009** | ** ** |
|------------------------------------------------|------------|-------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-------------------------------------------------------|------------|-------------------------------------------------------------------|------------|-------------------------------------------------------|------------|
| **Assets**                                     |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Fixed income securities:                       |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| U.S. government and agencies                   |       | $                                                                                               | 701        |                                                       | $          | 2,280                                                 |       | $                                                                 | —     |                                                  |       |   | $ | 2,981 |   |
| Municipal                                      |       | —                                                                                          |       | 2,751                                                      |       | 9                                                     |       |                                                              |       | 2,760                                                 |       |
| Municipal - ARS                                |       | —                                                                                          |       | —                                                     |       | 624                                                   |       |                                                              |       | 624                                                   |       |
| Corporate - public                             |       | —                                                                                          |       | 11,480                                                     |       | 417                                                   |       |                                                              |       | 11,897                                                |       |
| Corporate privately placed securities          |       | —                                                                                          |       | 2,723                                                      |       | 9,079                                                 |       |                                                              |       | 11,802                                                |       |
| Foreign government                             |       | —                                                                                          |       | 1,806                                                      |       | —                                                |       |                                                              |       | 1,806                                                 |       |
| MBS                                            |       | —                                                                                          |       | 2,220                                                      |       | 265                                                   |       |                                                              |       | 2,485                                                 |       |
| Alt-A                                          |       | —                                                                                          |       | —                                                     |       | 271                                                   |       |                                                              |       | 271                                                   |       |
| CMBS                                           |       | —                                                                                          |       | 2,815                                                      |       | 719                                                   |       |                                                              |       | 3,534                                                 |       |
| ABS RMBS                                       |       | —                                                                                          |       | —                                                     |       | 1,014                                                 |       |                                                              |       | 1,014                                                 |       |
| Other CDO                                      |       | —                                                                                          |       | —                                                     |       | 607                                                   |       |                                                              |       | 607                                                   |       |
| ABS - Credit card, auto and student loans      |       | —                                                                                          |       | 62                                                         |       | 116                                                   |       |                                                              |       | 178                                                   |       |
| Other ABS                                      |       | —                                                                                          |       | —                                                     |       | 333                                                   |       |                                                              |       | 333                                                   |       |
| Preferred stock                                |       | —                                                                                          |       | 8                                                          |       | 1                                                     |       |                                                              |       | 9                                                     |       |
| Total fixed income securities                  |       | 701                                                                                             |       | 26,145                                                     |       | 13,455                                                |       |                                                              |       | 40,301                                                |       |
| Equity securities:                             |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| U.S equities                                   |       | 1                                                                                               |       | —                                                     |       | 12                                                    |       |                                                              |       | 13                                                    |       |
| International equities                         |       | —                                                                                          |       | 6                                                          |       | 12                                                    |       |                                                              |       | 18                                                    |       |
| Other                                          |       | —                                                                                          |       | 28                                                         |       | 2                                                     |       |                                                              |       | 30                                                    |       |
| Total equity securities                        |       | 1                                                                                               |       | 34                                                         |       | 26                                                    |       |                                                              |       | 61                                                    |       |
| Short-term investments:                        |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Commercial paper and other                     |       | —                                                                                          |       | 4,371                                                      |       | —                                                |       |                                                              |       | 4,371                                                 |       |
| Money market funds                             |       | 231                                                                                             |       | —                                                     |       | —                                                |       |                                                              |       | 231                                                   |       |
| Total short-term investments                   |       | 231                                                                                             |       | 4,371                                                      |       | —                                                |       |                                                              |       | 4,602                                                 |       |
| Other investments:                             |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Free-standing derivatives                      |       | —                                                                                          |       | 482                                                        |       | 11                                                    |       | $                                                                 | (323       | )                                                     | 170        |   |
| Total other investments                        |       | —                                                                                          |       | 482                                                        |       | 11                                                    |       | (323                                                              | )          | 170                                                   |       |
| Separate account assets                        |       | 7,375                                                                                           |       | —                                                     |       | —                                                |       |                                                              |       | 7,375                                                 |       |
| Other assets                                   |       | 1                                                                                               |       | —                                                     |       | 3                                                     |       |                                                              |       | 4                                                     |       |
| **Total recurring basis assets**               |       | 8,309                                                                                           |       | 31,032                                                     |       | 13,495                                                |       | (323                                                              | )          | 52,513                                                |       |
| Non-recurring basis (2)                        |       | —                                                                                          |       | —                                                     |       | 299                                                   |       |                                                              |       | 299                                                   |       |
| **Total assets at fair value**                 |       | $                                                                                               | 8,309      |                                                       | $          | 31,032                                                |       | $                                                                 | 13,794     |                                                  | $          | (323 | ) | $ | 52,812 |   |
| % of total assets at fair value                |       | 15.7                                                                                            | %          | 58.8                                                       | %          | 26.1                                                  | %          | (0.6                                                              | )%         | 100.0                                                 | %          |
|                                           |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| **Liabilities**                                |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Contractholder funds:                          |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Derivatives embedded in annuity contracts      |       | $                                                                                               | —     |                                                       | $          | (51                                                   | )          | $                                                                 | (291       | )                                                     |       |   | $ | (342 | ) |
| Other liabilities:                             |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                  |       |
| Free-standing derivatives                      |       | (1                                                                                              | )          | (914                                                       | )          | (163                                                  | )          | $                                                                 | 323        |                                                  | (755       | ) |
| **Total liabilities at fair value**            |       | $                                                                                               | (1         | )                                                          | $          | (965                                                  | )          | $                                                                 | (454       | )                                                     | $          | 323 |   | $ | (1,097 | ) |
| % of total financial liabilities at fair value |       | 0.1                                                                                             | %          | 88.0                                                       | %          | 41.4                                                  | %          | (29.5                                                             | )%         | 100.0                                                 | %          |

 

----

(1)In accordancewith Financial Accounting Standards Board (“FASB”) Staff Position No. FIN39-1,*Amendment of FASB Interpretation No. 39*,we net all fair value amounts recognized for derivative instruments and fairvalue amounts recognized for the right to reclaim cash collateral or theobligation to return cash collateral executed with the samecounterparty under a master netting agreement.  At March 31,2009, the right to reclaim cash collateral was offset by securities held, andthere was no obligation to return collateral.

 

(2)Includes $171million of mortgage loans, $118 million of limited partnership interests and$10 million of other investments written-down to fair value in connection withrecognizing other-than-temporary impairments.

 

57

----

 

The following tableprovides additional details regarding Level 1, 2 and 3 assets and liabilitiesby their classification as of December 31, 2008.

 
| **($ in millions)**             | ** ** | **Quoted prices in  active markets  for identical  assets  (Level 1)** | ** ** | **Significant  other  observable  inputs  (Level 2)** | ** ** | **Significant  unobservable  inputs  (Level 3)** | ** ** | **Counterparty  and cash  collateral  netting ****(1)** | ** ** | **Balance as of  December 31, 2008** | ** ** |
|-------------------------------------------|------------|-------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-------------------------------------------------------|------------|-------------------------------------------------------------------|------------|----------------------------------------------------------|------------|
| **Assets**                                |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Fixed income securities:                  |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| U.S. government and agencies              |       | $                                                                                               | 276        |                                                       | $          | 3,411                                                 |       | $                                                                 | —     |                                                     |       |   | $ | 3,687 |   |
| Municipal                                 |       | —                                                                                          |       | 2,605                                                      |       | 50                                                    |       |                                                              |       | 2,655                                                    |       |
| Municipal - ARS                           |       | —                                                                                          |       | —                                                     |       | 653                                                   |       |                                                              |       | 653                                                      |       |
| Corporate - public                        |       | —                                                                                          |       | 11,460                                                     |       | 449                                                   |       |                                                              |       | 11,909                                                   |       |
| Corporate privately placed securities     |       | —                                                                                          |       | 2,942                                                      |       | 9,418                                                 |       |                                                              |       | 12,360                                                   |       |
| Foreign government                        |       | —                                                                                          |       | 2,100                                                      |       | —                                                |       |                                                              |       | 2,100                                                    |       |
| MBS                                       |       | —                                                                                          |       | 2,162                                                      |       | 242                                                   |       |                                                              |       | 2,404                                                    |       |
| Alt-A                                     |       | —                                                                                          |       | —                                                     |       | 315                                                   |       |                                                              |       | 315                                                      |       |
| CMBS                                      |       | —                                                                                          |       | 3,320                                                      |       | 410                                                   |       |                                                              |       | 3,730                                                    |       |
| ABS RMBS                                  |       | —                                                                                          |       | —                                                     |       | 1,254                                                 |       |                                                              |       | 1,254                                                    |       |
| Other CDO                                 |       | —                                                                                          |       | —                                                     |       | 752                                                   |       |                                                              |       | 752                                                      |       |
| ABS - Credit card, auto and student loans |       | —                                                                                          |       | 28                                                         |       | 187                                                   |       |                                                              |       | 215                                                      |       |
| Other ABS                                 |       | —                                                                                          |       | —                                                     |       | 402                                                   |       |                                                              |       | 402                                                      |       |
| Preferred stock                           |       | —                                                                                          |       | 9                                                          |       | 1                                                     |       |                                                              |       | 10                                                       |       |
| Total fixed income securities             |       | 276                                                                                             |       | 28,037                                                     |       | 14,133                                                |       |                                                              |       | 42,446                                                   |       |
| Equity securities:                        |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| U.S. equities                             |       | 1                                                                                               |       | —                                                     |       | 15                                                    |       |                                                              |       | 16                                                       |       |
| International equities                    |       | —                                                                                          |       | 11                                                         |       | 11                                                    |       |                                                              |       | 22                                                       |       |
| Other                                     |       | —                                                                                          |       | 43                                                         |       | 1                                                     |       |                                                              |       | 44                                                       |       |
| Total equity securities                   |       | 1                                                                                               |       | 54                                                         |       | 27                                                    |       |                                                              |       | 82                                                       |       |
| Short-term investments:                   |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Commercial paper and other                |       | —                                                                                          |       | 3,516                                                      |       | —                                                |       |                                                              |       | 3,516                                                    |       |
| Money market funds                        |       | 342                                                                                             |       | —                                                     |       | —                                                |       |                                                              |       | 342                                                      |       |
| Total short-term investments              |       | 342                                                                                             |       | 3,516                                                      |       | —                                                |       |                                                              |       | 3,858                                                    |       |
| Other investments:                        |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Free-standing derivatives                 |       | —                                                                                          |       | 605                                                        |       | 13                                                    |       | $                                                                 | (480       | )                                                        | 138        |   |
| Total other investments                   |       | —                                                                                          |       | 605                                                        |       | 13                                                    |       | (480                                                              | )          | 138                                                      |       |
| Separate account assets                   |       | 8,239                                                                                           |       | —                                                     |       | —                                                |       |                                                              |       | 8,239                                                    |       |
| Other assets                              |       | (1                                                                                              | )          | —                                                     |       | 1                                                     |       |                                                              |       | —                                                   |       |
| **Total recurring basis assets**          |       | 8,857                                                                                           |       | 32,212                                                     |       | 14,174                                                |       | (480                                                              | )          | 54,763                                                   |       |
| Non-recurring basis (2)                   |       | —                                                                                          |       | —                                                     |       | 244                                                   |       |                                                              |       | 244                                                      |       |
| **Total assets at fair value**            |       | $                                                                                               | 8,857      |                                                       | $          | 32,212                                                |       | $                                                                 | 14,418     |                                                     | $          | (480 | ) | $ | 55,007 |   |
| % of total financial assets               |       | 16.1                                                                                            | %          | 58.6                                                       | %          | 26.2                                                  | %          | (0.9                                                              | )%         | 100.0                                                    | %          |
|                                      |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| **Liabilities**                           |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Contractholder funds:                     |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Derivatives embedded in annuity contracts |       | $                                                                                               | —     |                                                       | $          | (37                                                   | )          | $                                                                 | (265       | )                                                        |       |   | $ | (302 | ) |
| Other liabilities:                        |       |                                                                                            |       |                                                       |       |                                                  |       |                                                              |       |                                                     |       |
| Free-standing derivatives                 |       | —                                                                                          |       | (1,118                                                     | )          | (106                                                  | )          | $                                                                 | 460        |                                                     | (764       | ) |
| **Total liabilities at fair value**       |       | $                                                                                               | —     |                                                       | $          | (1,155                                                | )          | $                                                                 | (371       | )                                                        | $          | 460 |   | $ | (1,066 | ) |
| % of total financial liabilities          |       | —                                                                                          | %          | 108.4                                                      | %          | 34.8                                                  | %          | (43.2                                                             | )%         | 100.0                                                    | %          |

 

----

(1)In accordancewith Financial Accounting Standards Board (“FASB”) Staff Position No. FIN39-1,*Amendment of FASB Interpretation No. 39*,we net all fair value amounts recognized for derivative instruments and fairvalue amounts recognized for the right to reclaim cash collateral or theobligation to return cash collateral executed with the samecounterparty under a master netting agreement.  At December 31,2008, the right to reclaim cash collateral was offset by securities held, andthe obligation to return collateral was $20 million.

 

(2)Includes $164million of mortgage loans, $70 million of limited partnership interests and $10million of other investments written-down to fair value in connection withrecognizing other-than-temporary impairments.

 

58

----

 

The following tableprovides a summary of changes in fair value during the three-month period endedMarch 31, 2009 of Level 3 assets and liabilities held at fair value on arecurring basis.

 
| ** **                                | ** ** | ** **                  | ** ** | ** **                                       | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | ** **                   | ** ** | **Total  gains (losses)  included in** | ** ** |
|-------------------------------------------|------------|-----------------------------|------------|--------------------------------------------------|------------|-----------------------|------------|---------------------------|------------|--------------------------|------------|------------------------------|------------|--------------------------------------------------|------------|
| ** **                                | ** ** | ** **                  | ** ** | **Total realized and unrealized** | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | **Net income for** | ** ** |
| ** **                                | ** ** | ** **                  | ** ** | **gains (losses) included in:**   | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | **financial**                | ** ** |
| ** **                                | ** ** | ** **                  | ** ** | ** **                                       | ** ** | **OCI on**       | ** ** | **Purchases,**            | ** ** | **Net**                  | ** ** | ** **                   | ** ** | **instruments**                                  | ** ** |
| ** **                                | ** ** | **Balance as of** | ** ** | ** **                                       | ** ** | **Statement of** | ** ** | **sales, issuances** | ** ** | **transfers in**    | ** ** | **Balance as of**  | ** ** | **still held at**                      | ** ** |
| ** **                                | ** ** | **December 31,**       | ** ** | ** **                                       | ** ** | **Financial**         | ** ** | **and settlements,** | ** ** | **and/or (out)**    | ** ** | **March 31,**           | ** ** | **March 31,**                               | ** ** |
| **($ in millions)**             | ** ** | **2008**                    | ** ** | **Net income ****(1)**                 | ** ** | **Position**          | ** ** | **net**                   | ** ** | **of Level 3** | ** ** | **2009**                     | ** ** | **2009 ****(3)**                            | ** ** |
| **Assets**                                |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Fixed income securities:                  |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Municipal                                 |       | $                           | 50         |                                             | $          | —                |       | $                         | —     |                     | $          | (1                           | )          | $                                                | (40        | ) | $ | 9 |   | $ | — |   |
| Municipal - ARS                           |       | 653                         |       | —                                           |       | (19                   | )          | (6                        | )          | (4                       | )          | 624                          |       | —                                           |       |
| Corporate - public                        |       | 449                         |       | (17                                              | )          | (5                    | )          | (10                       | )          | —                   |       | 417                          |       | (16                                              | )          |
| Corporate privately placed securities     |       | 9,418                       |       | (35                                              | )          | 61                    |       | (314                      | )          | (51                      | )          | 9,079                        |       | (32                                              | )          |
| MBS                                       |       | 242                         |       | —                                           |       | (5                    | )          | 28                        |       | —                   |       | 265                          |       | —                                           |       |
| Alt-A                                     |       | 315                         |       | (6                                               | )          | (19                   | )          | (19                       | )          | —                   |       | 271                          |       | (9                                               | )          |
| CMBS                                      |       | 410                         |       | (32                                              | )          | (82                   | )          | (15                       | )          | 438                      |       | 719                          |       | (16                                              | )          |
| ABS RMBS                                  |       | 1,254                       |       | 12                                               |       | (195                  | )          | (57                       | )          | —                   |       | 1,014                        |       | 10                                               |       |
| Other CDO                                 |       | 752                         |       | (130                                             | )          | (7                    | )          | (4                        | )          | (4                       | )          | 607                          |       | (130                                             | )          |
| ABS - Credit card, auto and student loans |       | 187                         |       | —                                           |       | —                |       | (29                       | )          | (42                      | )          | 116                          |       | —                                           |       |
| Other ABS                                 |       | 402                         |       | 1                                                |       | 11                    |       | (81                       | )          | —                   |       | 333                          |       | —                                           |       |
| Preferred stock                           |       | 1                           |       | —                                           |       | —                |       | —                    |       | —                   |       | 1                            |       | —                                           |       |
| Total fixed income securities             |       | 14,133                      |       | (207                                             | )          | (260                  | )          | (508                      | )          | 297                      |       | 13,455                       |       | (193                                             | )          |
| Equity securities                         |       | 27                          |       | —                                           |       | (1                    | )          | —                    |       | —                   |       | 26                           |       | —                                           |       |
| Other investments:                        |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Free-standing derivatives, net            |       | (93                         | )          | (9                                               | )          | —                |       | (50                       | )          | —                   |       | (152                         | )(2)       | 8                                                |       |
| Other assets                              |       | 1                           |       | 2                                                |       | —                |       | —                    |       | —                   |       | 3                            |       | 2                                                |       |
| **Total recurring Level 3 assets**        |       | $                           | 14,068     |                                             | $          | (214                  | )          | $                         | (261       | )                        | $          | (558                         | )          | $                                                | 297        |   | $ | 13,332 |   | $ | (183 | ) |
|                                      |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| **Liabilities**                           |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Contractholder funds:                     |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Derivatives embedded in annuity contracts |       | $                           | (265       | )                                                | $          | (25                   | )          | $                         | —     |                     | $          | (1                           | )          | $                                                | —     |   | $ | (291 | ) | $ | (25 | ) |
| **Total recurring Level 3 liabilities**   |       | $                           | (265       | )                                                | $          | (25                   | )          | $                         | —     |                     | $          | (1                           | )          | $                                                | —     |   | $ | (291 | ) | $ | (25 | ) |

 

----

(1)The effect tonet income totals $(239) million and is reported in the Condensed ConsolidatedStatements of Operations as follows: $(249) million in realized capitalgains and losses; $36 million in net investment income; $(1) million ininterest credited to contractholder funds; and $(25) million in life andannuity contract benefits.

 

(2)Comprises $11million of assets and $(163) million of liabilities.

 

(3)The amountsrepresent gains and losses included in net income for the period of time thatthe asset or liability was determined to be in Level 3.  These gains and losses total $(208) millionand are reported in the Condensed Consolidated Statements of Operations as follows:$(219) million in realized capital gains and losses; $36 million in netinvestment income; and $(25) million in life and annuity contract benefits.

 

59

----

 

The following tableprovides a summary of changes in fair value during the three-month period endedMarch 31, 2008 of Level 3 assets and liabilities held at fair value on arecurring basis at.

 
| ** **                                 | ** ** | ** **                  | ** ** | ** **                                       | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | ** **                   | ** ** | **Total  gains (losses)  included in** | ** ** |
|--------------------------------------------|------------|-----------------------------|------------|--------------------------------------------------|------------|-----------------------|------------|---------------------------|------------|--------------------------|------------|------------------------------|------------|--------------------------------------------------|------------|
| ** **                                 | ** ** | ** **                  | ** ** | **Total realized and unrealized** | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | **Net income for** | ** ** |
| ** **                                 | ** ** | ** **                  | ** ** | **gains (losses) included in:**   | ** ** | ** **            | ** ** | ** **                | ** ** | ** **               | ** ** | **financial**                | ** ** |
| ** **                                 | ** ** | ** **                  | ** ** | ** **                                       | ** ** | **OCI on**       | ** ** | **Purchases,**            | ** ** | **Net**                  | ** ** | ** **                   | ** ** | **instruments**                                  | ** ** |
| ** **                                 | ** ** | **Balance as of** | ** ** | ** **                                       | ** ** | **Statement of** | ** ** | **sales, issuances** | ** ** | **transfers in**    | ** ** | **Balance as of**  | ** ** | **still held at**                      | ** ** |
| ** **                                 | ** ** | **January 1,**         | ** ** | ** **                                       | ** ** | **Financial**         | ** ** | **and settlements,** | ** ** | **and/or (out)**    | ** ** | **March 31,**           | ** ** | **March 31,**                               | ** ** |
| **($ in millions)**              | ** ** | **2008**                    | ** ** | **Net income ****(1)**                 | ** ** | **Position**          | ** ** | **net**                   | ** ** | **of Level 3** | ** ** | **2008**                     | ** ** | **2008 ****(3)**                            | ** ** |
| **Assets**                                 |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Fixed income  securities:                  |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Municipal                                  |       | $                           | 68         |                                             | $          | —                |       | $                         | (1         | )                        | $          | (20                          | )          | $                                                | (6         | ) | $ | 41 |   | $ | — |   |
| Municipal - ARS                            |       | 163                         |       | —                                           |       | —                |       | 9                         |       | —                   |       | 172                          |       | —                                           |       |
| Corporate -  public                        |       | 747                         |       | (33                                              | )          | 1                     |       | (12                       | )          | 31                       |       | 734                          |       | (41                                              | )          |
| Corporate  privately placed securities     |       | 11,098                      |       | 20                                               |       | (31                   | )          | (71                       | )          | 139                      |       | 11,155                       |       | 14                                               |       |
| Foreign  government                        |       | —                      |       | —                                           |       | —                |       | —                    |       | —                   |       | —                       |       | —                                           |       |
| MBS                                        |       | 28                          |       | (1                                               | )          | —                |       | (14                       | )          | —                   |       | 13                           |       | —                                           |       |
| Alt-A                                      |       | 588                         |       | (39                                              | )          | (47                   | )          | (16                       | )          | —                   |       | 486                          |       | (39                                              | )          |
| CMBS                                       |       | 790                         |       | 2                                                |       | (152                  | )          | (13                       | )          | —                   |       | 627                          |       | 5                                                |       |
| ABS RMBS                                   |       | 2,418                       |       | (98                                              | )          | (220                  | )          | (83                       | )          | —                   |       | 2,017                        |       | (81                                              | )          |
| Other CDO                                  |       | 1,961                       |       | —                                           |       | (255                  | )          | (10                       | )          | —                   |       | 1,696                        |       | (1                                               | )          |
| ABS - Credit  card, auto and student loans |       | 249                         |       | —                                           |       | (8                    | )          | (1                        | )          | 17                       |       | 257                          |       | —                                           |       |
| Other ABS                                  |       | 720                         |       | (10                                              | )          | (28                   | )          | (126                      | )          | (17                      | )          | 539                          |       | (12                                              | )          |
| Preferred stock                            |       | —                      |       | —                                           |       | —                |       | —                    |       | —                   |       | —                       |       | —                                           |       |
| Total fixed  income securities             |       | 18,830                      |       | (159                                             | )          | (741                  | )          | (357                      | )          | 164                      |       | 17,737                       |       | (155                                             | )          |
| Equity  securities                         |       | 61                          |       | (1                                               | )          | (3                    | )          | —                    |       | —                   |       | 57                           |       | (1                                               | )          |
| Other  investments:                        |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Free-standing  derivatives, net            |       | (6                          | )          | (31                                              | )          | —                |       | 2                         |       | —                   |       | (35                          | )(2)       | (18                                              | )          |
| Other assets                               |       | 2                           |       | —                                           |       | —                |       | —                    |       | —                   |       | 2                            |       | —                                           |       |
| **Total  recurring Level 3 assets**        |       | $                           | 18,887     |                                             | $          | (191                  | )          | $                         | (744       | )                        | $          | (355                         | )          | $                                                | 164        |   | $ | 17,761 |   | $ | (174 | ) |
|                                       |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| **Liabilities**                            |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Contractholder  funds:                     |       |                        |       |                                             |       |                  |       |                      |       |                     |       |                         |       |                                             |       |
| Derivatives  embedded in annuity contracts |       | $                           | 4          |                                             | $          | (14                   | )          | $                         | —     |                     | $          | —                       |       | $                                                | —     |   | $ | (10 | ) | $ | (14 | ) |
| **Total  recurring Level 3 liabilities**   |       | $                           | 4          |                                             | $          | (14                   | )          | $                         | —     |                     | $          | —                       |       | $                                                | —     |   | $ | (10 | ) | $ | (14 | ) |

 

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(1)The effect tonet income totals $(205) million and is reported in the Condensed ConsolidatedStatements of Operations as follows: $(200) million in realized capitalgains and losses; $12 million in net investment income; $(8) million ininterest credited to contractholder funds; and $(9) million in life andannuity contract benefits.

 

(2)Comprises $39million of assets and $(74) million of liabilities.

 

(3)The amountsrepresent gains and losses included in net income for the period of time that theasset or liability was determined to be in Level 3.  These gains and losses total $(188) millionand are reported in the Condensed Consolidated Statements of Operations asfollows: $(185) million in realized capital gains and losses; $12 millionin net investment income; $(6) million in interest credited tocontractholder funds; and $(9) million in life and annuity contractbenefits.

 

Net transfers in and/or out of Level 3 arereported as having occurred at the beginning of the quarter the transfer occurred;therefore, for all transfers into Level 3, all realized and changes inunrealized gains and losses in the quarter of transfer are reflected in thetable above.

 

We have two different situations where wehave classified investments as Level 3. The first is where quotes continue to be received from independentthird-party valuation service providers, as all significant inputs are marketobservable, but there has been a significant decrease in the volume and levelof activity for the asset when compared to normal market activity such that thedegree of market observability has declined to a point where categorization asa Level 3 measurement is considered appropriate.  Among the indicators we consider indetermining whether a significant decrease in the volume and level of activityfor a specific asset has occurred include the following:

 

·      Levelof new issuances in the primary market;

·      Tradingvolume in the secondary market;

·      Levelof credit spreads over historical levels;

 

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·      Bid-ask spread, and

·      Price consensus among market participants and sources.

 

When transferringthese securities into Level 3 due to a significant decrease in the volume andlevel of activity, we do not change the source of fair value estimates or modifythe estimates received from independent third-party valuation serviceproviders.  Accordingly, for securitiesincluded within this group, there was no change in fair value for a change inmodel resulting in a gain or loss.

 

The secondsituation where we have classified securities in Level 3 is where specificinputs to our fair value estimation models which are considered significant arenot market observable.  This has occurredin three principal categories.  The firstis for certain of our privately placed securities for which we utilizeinternally developed ratings.  The secondis broker quotes.  Privately placedsecurities valued using internally developed ratings and securities valuedusing broker quotes were assigned to Level 3 when we initially assigned thehierarchy in the first quarter of 2008. The third is our ARS backed by student loans for which a principalassumption, the anticipated date liquidity will return to this market, is notmarket observable.

 

Transfers intoLevel 3 involving a change in valuation method during the year ended December 31,2008 included ARS in the second quarter of 2008 when our independentthird-party valuation service provider could no longer provide quotes due tothe failure of auctions caused by the absence of institutional investors andbroker-dealers participating in this market. We migrated from the use of market prices for completed transactions toa discounted cash flow model which resulted in the recognition of an unrealizedcapital loss of $21 million as of June 30, 2008.  In addition, transfers into Level 3 ofindividual instruments occur when a specific input is not market observablesuch as situations where a fair value quote is not provided by our independentthird-party valuation service provider and as a result the price is stale orhas been replaced with a broker quote resulting in the security beingclassified as Level 3.  A quote utilizingthe new pricing source is not available as of the prior period, and any gainsor losses related to the change in valuation source for individual securities,while included in the table above, are not ascertainable and are notsignificant.

 

Due to the reducedavailability of actual market prices or relevant market observable inputs as aresult of the decrease in liquidity that has been experienced in the market,all ABS RMBS and Alt-A and certain ABS, certain ARS backed by student loans andcertain CMBS are categorized as Level 3. Transfers into and out of Level 3 during the three months ended March 31,2009 are attributable to a change in the availability of market observableinformation for individual securities within the respective categories.

 

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The followingtable presents fair value as a percent of amortized cost for Level 3investments at March 31, 2009.

 
| **($ in millions)**                  | ** ** | **Fair  value** | ** ** | **Fair value  as a percent of  par value** | ** ** | **Fair value  as a percent of  amortized cost** | ** ** |
|-------------------------------------------|------------|-----------------|------------|--------------------------------------------|------------|-------------------------------------------------|------------|
| Fixed income securities:                  |       |            |       |                                       |       |                                            |       |
| Municipal                                 |       | $               | 9          |                                       | 100.0      | %                                               | 100.0      | % |
| Municipal - ARS                           |       | 624             |       | 87.3                                       |       | 87.3                                            |       |
| Corporate - public                        |       | 417             |       | 70.0                                       |       | 90.1                                            |       |
| Corporate privately placed securities     |       | 9,079           |       | 86.9                                       |       | 91.4                                            |       |
| MBS                                       |       | 265             |       | 72.6                                       |       | 73.2                                            |       |
| Alt-A                                     |       | 271             |       | 55.4                                       |       | 66.6                                            |       |
| CMBS                                      |       | 719             |       | 28.0                                       |       | 30.4                                            |       |
| ABS RMBS                                  |       | 1,014           |       | 41.8                                       |       | 51.6                                            |       |
| Other CDO                                 |       | 607             |       | 27.9                                       |       | 35.5                                            |       |
| ABS - Credit card, auto and student loans |       | 116             |       | 72.5                                       |       | 81.1                                            |       |
| Other ABS                                 |       | 333             |       | 58.5                                       |       | 73.5                                            |       |
| Preferred stock                           |       | 1               |       | 100.0                                      |       | 100.0                                           |       |
| Total fixed income securities             |       | 13,455          |       | 65.5                                       |       | 72.7                                            |       |
| Equity securities:                        |       |            |       |                                       |       |                                            |       |
| U.S. equities                             |       | 12              |       | N/A                                        |       | 85.7                                            |       |
| International equities                    |       | 12              |       | N/A                                        |       | 85.7                                            |       |
| Other                                     |       | 2               |       | N/A                                        |       | 100.0                                           |       |
| Total equity securities                   |       | 26              |       | N/A                                        |       | 86.7                                            |       |
| Other investments:                        |       |            |       |                                       |       |                                            |       |
| Free-standing derivatives                 |       | 11              |       | N/A                                        |       | 100.0                                           |       |
| Total other investments                   |       | 11              |       | N/A                                        |       | 100.0                                           |       |
| Subtotal recurring Level 3 investments    |       | 13,492          |       | 65.7                                       |       | 72.7                                            |       |
| Non-recurring basis                       |       | 299             |       | N/A                                        |       | 100.0                                           |       |
| **Total Level 3 investments**             |       | $               | 13,791     |                                       | 67.2       |                                            | 73.1       |   |

 

Non-recurring investmentsinclude certain mortgage loans, limited partnership interests and otherinvestments remeasured at fair value due to our change in intent write-downsand other-than-temporary impairments at March 31, 2009.

 

**DEFERREDTAXES**

 

 We evaluate whether a valuation allowance forour deferred tax assets is required each reporting period.  A valuation allowance is established if,based on the weight of available evidence, it is more likely than not that someportion or all of the deferred income tax asset will not be realized.  In determining whether a valuation allowanceis needed, all available evidence is considered.  This includes the potential for capital andordinary loss carryback, future reversals of existing taxable temporarydifferences, tax planning strategies and future taxable income exclusive ofreversing temporary differences.

 

With respect to ourevaluation of the need for a valuation allowance related to the deferred taxasset on unrealized losses on fixed income securities, we rely on our assertionthat we have the intent and ability to hold the securities to recovery.  As a result, the unrealized losses on thesesecurities would not be expected to materialize and no valuation allowance onthe associated deferred tax asset is needed.

 

With respect toour evaluation of the need for a valuation allowance related to other capitallosses that have not yet been recognized for tax purposes, we utilize prudentand feasible tax planning strategies. These include strategies that optimize the ability to carry back capitallosses as well as the ability to offset future capital losses with capitalgains that could be recognized for tax purposes.

 

The total deferredtax valuation allowance is $148 million at March 31, 2009 compared to $9million at December 31, 2008.  Thisdeferred tax valuation allowance relates to the deferred tax asset on capitallosses that 

 

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have not yet beenrecognized for tax purposes.  Theincrease of $139 million during the first quarter of 2009 includes $142 millionthat is recorded as income tax expense on the Condensed Consolidated Statementsof Operations, partially offset by a decrease in the valuation allowance of $3million that was recorded as an increase to accumulated other comprehensiveincome on the Condensed Consolidated Statements of Financial Position as of March 31,2009.  The increase in the valuationallowance of $142 million resulted from investment write-downs that are notcurrently deductible for tax purposes.

 

**CAPITALRESOURCES AND LIQUIDITY HIGHLIGHTS**

 
| · | Shareholder’s equity as  of March 31, 2009 was $2.06 billion, a decrease of 6.7% from $2.21  billion as of December 31, 2008.                                                                              |
|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · | The Allstate  Corporation (the “Corporation”) has at the parent holding company level $3.35  billion of deployable invested assets at March 31, 2009 compared to  $3.64 billion at December 31, 2008. |
| · | As of March 31,  2009, ALIC statutory surplus is approximately $3.4 billion compared to $3.2  billion at December 31, 2008.                                                                                     |
| · | At March 31, 2009,  we held 15.3% of our total cash and investment portfolio, or $8.88 billion,  in cash and other liquid investments that are saleable within one quarter.                                          |
| · | In March 2009, the  Corporation and Allstate Insurance Company (“AIC”) completed a previously  approved capital contribution of $250 million of cash to ALIC.                                              |
| · | Interest payments on  our 7.00% Surplus Notes due 2028 which have an outstanding principal amount  of $400 million and are held by AIC, have been deferred until 2010.                                                    |

 

**CAPITALRESOURCES AND LIQUIDITY**

 

**CapitalResources** consistof shareholder’s equity and surplus notes due to related parties, representingfunds deployed or available to be deployed to support business operations.  The following table summarizes our capitalresources.

 
| **($ in millions)**                                     | ** ** | **March 31, 2009** | ** ** | **December 31, 2008** | ** ** |
|--------------------------------------------------------------|------------|-------------------------|------------|----------------------------|------------|
| Common stock, additional capital paid-in and retained income |       | $                       | 4,460      |                       | $          | 4,546 |   |
| Accumulated other comprehensive loss                         |       | (2,400                  | )          | (2,337                     | )          |
| Total shareholder’s equity                              |       | 2,060                   |       | 2,209                      |       |
| Debt/surplus notes                                           |       | 650                     |       | 650                        |       |
| Total capital resources                                      |       | $                       | 2,710      |                       | $          | 2,859 |   |

 

*Shareholder’sequity* decreasedin the first three months of 2009 due to a net loss and increased netunrealized capital losses, partially offset by a capital contribution from AICof $250 million.

 

**Financial Ratings and Strength **Our ratings are influenced by many factors includingour operating and financial performance, asset quality, liquidity,asset/liability management, overall portfolio mix, financial leverage (i.e.,debt), exposure to risks, the current level of operating leverage, AIC’sratings and other factors.

 

On February 2,2009, A.M. Best affirmed our A+ financial strength rating.  On January 29, 2009, S&P downgradedour financial strength rating to AA- from AA. The outlook for the rating remained negative.  On January 29, 2009, Moody’s downgradedour financial strength rating to A1 from Aa3. The outlook for the rating was revised to stable from negative.

 

Effective May 8,2008, the Company, AIC and the Corporation entered into a one-year Amended andRestated Intercompany Liquidity Agreement (“Liquidity Agreement”) replacing theIntercompany Liquidity Agreement between the Company and AIC dated January 1,2008.  The Liquidity Agreement allows forshort-term advances of funds to be made between parties for liquidity and othergeneral corporate purposes.  It shall beautomatically renewed for subsequent one-year terms unless terminated by theparties.  The Liquidity Agreement doesnot establish a commitment to advance funds on the part of either party.  The Company and AIC each serve as a lenderand borrower and the Corporation serves only as a lender.  The Company also has a capital supportagreement with AIC effective December 14, 2007.  Under the capital support agreement, AIC iscommitted to provide capital to the Company to allow for profitable growthwhile maintaining an adequate capital level. The maximum amount of potential funding under the intercompany liquidityand capital support agreements is $1.00 billion.

 

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In addition to theLiquidity Agreement, the Company also has an intercompany loan agreement withthe Corporation.  The amount ofintercompany loans available to the Company is at the discretion of theCorporation.  The maximum amount of loansthe Corporation will have outstanding to all its eligible subsidiaries at anygiven point in time is limited to $1.00 billion.  The Corporation may use commercial paperborrowings, bank lines of credit and repurchase agreements to fund intercompanyborrowings.

 

ALIC and its lifeinsurance subsidiaries prepare their statutory-basis financial statements inconformity with accounting practices prescribed or permitted by the insurancedepartment of the applicable state of domicile. Statutory surplus is a measure that is often used as a basis fordetermining dividend paying capacity, operating leverage and premium growthcapacity, and it is also reviewed by rating agencies in determining theirratings.  As of March 31, 2009, ALIC’sstatutory surplus is approximately $3.4 billion compared to $3.2 billion at December 31,2008.

 

**LiquiditySources and Uses**

 

We actively manage ourfinancial position and liquidity levels in light of changing market, economic,and business conditions.  In anticipationof continued volatility and illiquidity in the financial markets, we continueto take the following actions to enhance our economic and liquidity positionpending a return to normal capital market conditions.

 
| · | Managing our exposure  to our largest tail risk exposure, interest rate risk, through active  management of our investment and product portfolios, including risk  mitigation through hedging.                                                                                                                                                                                                                                                                                                                       |
|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · | Accumulating higher than  our long-term targeted levels of cash and short-term investments from asset  sales, principal and interest receipts, calls, maturities and other cash  inflows from our investment portfolio.

Reducing our securities  lending program to $278 million as of March 31, 2009 from $364 million  as of December 31, 2008 and $2.30 billion as of March 31, 2008. By  reducing the securities lending program, we gained additional direct access  to our liquid investments. |
| · |

 

We believe thatthese actions will provide us with a greater level of flexibility necessary tooperate in the current market environment. If market conditions warrant, we may take additional actions to enhanceour liquidity position including:

 
| · | Continued retention of  portfolio cash flows including approximately $6.88 billion of expected  inflows from upcoming maturities, calls and prepayments on fixed income  securities, mortgage loans and bank loans, and interest receipts on  investments over the next twelve months. Expected interest receipts include  amounts related to floating rate investments for which the interest rate  fluctuates in accordance with market interest rates. Our expectation is based  on market interest rates as of March 31, 2009. Further, these expected  portfolio cash flows are based on investments as of March 31, 2009 and  were determined without regard to increases in the portfolio for reasons such  as the reinvestment of portfolio cash flows or decreases due to reductions in  outstanding contractholder funds obligations. |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · | The sale of fixed  income securities (government, municipal and investment grade corporate  bonds) with unrealized capital gains at March 31, 2009.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |

 

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With a focus onpreserving capital, we consider investments which are convertible to cashwithout generating significant additional net realized capital losses asliquidity sources.  The following tablepresents cash and short-term positions convertible to cash, and certain otherliquid investments meeting this criteria.

 
| **($ in millions)**                                                       | ** ** | **As of  March 31, 2009** | ** ** |
|--------------------------------------------------------------------------------|------------|--------------------------------|------------|
| Cash and short-term positions convertible to cash available same  day/next day |       | $                              | 3,032      |   |
| Other highly liquid investments (1)                                            |       | 2,346                          |       |
| Other liquid investments (2)                                                   |       | 3,504                          |       |
| Total liquid                                                                   |       | $                              | 8,882      |   |
|                                                                           |       |                           |       |
| Percent of total consolidated cash and investments                             |       | 15.3                           | %          |

 

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(1) Other highly liquidinvestments are defined as assets that are generally saleable within one week,and primarily include U.S. government and agencies bonds of $1.30 billion,short-term investments of $334 million, corporate bonds of $306 million, agencypass through securities of $240 million and foreign sovereign securities of$118 million.  The amounts shown in thetable above represent the amount of our holdings in these assets, excluding anyholdings with restrictions.

 

(2) Otherliquid investments are defined as assets that are saleable within one quarter,and primarily include corporate bonds of $1.04 billion, short-term investmentsof $1.00 billion, U.S. government and agencies bonds of $502 million, agencypass through securities of $361 million and foreign sovereign securities of$177 million.  The amounts shown in thetable above represent the amount that we believe could be sold during the secondquarter of 2009, excluding any holdings with restrictions.

 

The above analysisidentifies our access to internal sources of liquidity.  We believe we have sufficient liquidity toaddress current planned needs from investments other than those for which wehave asserted the intent to hold until recovery combined with targeted sales ofcertain products.  Additionally, we haveexisting intercompany agreements in place that facilitate liquidity management.

 

To increase new money forinvesting, we completed actions to accelerate refunds from the overpayment of2008 estimated taxes as well as the carryback of 2008 ordinary losses.  This resulted in tax refunds received duringthe first quarter of 2009 of $500 million.

 

*AllstateParent Company Capital Capacity*****The Corporation has at the parent holdingcompany level $3.35 billion of deployable invested assets at March 31,2009.  These assets include highly liquidsecurities that are generally saleable within one week totaling $2.10 billion,additional liquid investments that are saleable within one quarter totaling$883 million, and $368 million of investments that trade in illiquidmarkets.  This provides funds for theparent company’s relatively low fixed charges, estimated at $650 million forthe next twelve months, and $750 million of debt maturing in December 2009,to the extent not refinanced prior to maturity.

 

In March 2009, theCorporation and AIC completed a previously approved capital contribution of$250 million of cash to ALIC.  Thiscapital contribution was funded by a dividend of $250 million paid to theCorporation in cash by Kennett Capital Holdings, LLC, a wholly owned subsidiaryof the Corporation.

 

In addition to theCapital Support Agreement and Liquidity Agreement, which provide a maximumamount of potential funding under each agreement of $1.00 billion, the Companyalso has access to additional borrowing to support liquidity through theCorporation as follows:

 
| · | A commercial paper  facility with a borrowing limit of $1.00 billion to cover short-term cash  needs. As of March 31, 2009, there were no balances outstanding and  therefore the remaining borrowing capacity was $1.00 billion; however, the  outstanding balance can fluctuate daily.                                                                                                                                                                                                                                                                                                                                                                                             |
|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · | A primary credit  facility is available for short-term liquidity requirements and backs the  commercial paper facility. The $1.00 billion unsecured revolving credit  facility has an initial term of five years expiring in 2012 with two optional  one-year extensions that can be exercised at the end of any of the remaining  anniversary years of the facility upon approval of existing or replacement  lenders providing more than two-thirds of the commitments to lend. The  program is fully subscribed among 11 lenders with the largest commitment  being $185 million. The commitments of the lenders are several and no lender  is responsible for any other lender’s |

 

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|   | commitment if such  lender fails to make a loan under the facility. None of the borrowing  capacity under this credit facility has been utilized. This facility contains  an increase provision that would allow up to an additional $500 million of  borrowing provided the increased portion could be fully syndicated at a later  date among existing or new lenders. This facility has a financial covenant  requiring that the Corporation not exceed a 37.5% debt to capital resources  ratio as defined in the agreement. This ratio at March 31, 2009 was  21.1%. Although the right to borrow under the facility is not subject to a  minimum rating requirement, the costs of maintaining the facility and  borrowing under it are based on the ratings of the Corporation’s senior,  unsecured, nonguaranteed long-term debt. There were no borrowings under this  line of credit during the first three months of 2009. The total amount  outstanding at any point in time under the combination of the commercial  paper program and the credit facility cannot exceed the amount that can be  borrowed under the credit facility. |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| · | A universal shelf  registration statement was filed by the Corporation with the Securities and  Exchange Commission in May 2009. The Corporation can use the current  shelf registration to issue an unspecified amount of debt securities, common  stock (including 364 million shares of treasury stock as of March 31,  2009), preferred stock, depositary shares, warrants, stock purchase  contracts, stock purchase units and securities of subsidiaries. The specific  terms of any securities issued under this registration statement will be  provided in the applicable prospectus supplements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |

 

*Liquidity Exposure*** **Contractholder funds as of March 31, 2009 were$54.88 billion.  The following tablesummarizes contractholder funds by their contractual withdrawal provisions at March 31,2009.

 
| **($ in millions)**                                | ** ** | ** ** | ** ** | **Percent to  Total** | ** ** |
|---------------------------------------------------------|------------|------------|------------|-----------------------|------------|
| Not subject to discretionary withdrawal                 |       | $          | 11,416     |                  | 20.8       | % |
| Subject to discretionary withdrawal with adjustments:   |       |       |       |                  |       |
| Specified surrender charges (1)                         |       | 24,902     |       | 45.4                  |       |
| Market value adjustments (2)                            |       | 9,584      |       | 17.5                  |       |
| Subject to discretionary withdrawal without adjustments |       | 8,974      |       | 16.3                  |       |
| Total contractholder funds (3)                          |       | $          | 54,876     |                  | 100.0      | % |

 
|        |
|--------|
| (1)    | Includes  $10.78 billion of liabilities with a contractual surrender charge of less  than 5% of the account balance. |
|   |   |
| (2)    | $8.01  billion of the contracts with market value adjusted surrenders have a 30-45  day period during which there is no surrender charge or market value  adjustment. |
|   |   |
| (3)    | Includes  $1.64 billion of contractholder funds on variable annuities reinsured to  Prudential effective June 1, 2006. |

 

While we are able toquantify remaining scheduled maturities for our institutional products of $1.34billion in 2009, anticipating retail product surrenders is less precise.  Retail life and annuity products may besurrendered by customers for a variety of reasons.  Reasons unique to individual customers includea current or unexpected need for cash or a change in life insurance coverageneeds.  Other key factors that may impactthe likelihood of customer surrender include the level of the contractsurrender charge, the length of time the contract has been in force,distribution channel, market interest rates, equity market conditions andpotential tax implications.  In addition,the propensity for retail life insurance policies to lapse is lower than it isfor fixed annuities because of the need for the insured to be re-underwrittenupon policy replacement.  Surrenders andpartial withdrawals for our retail annuities decreased 8.1% in the firstquarter of 2009 compared to the same period of 2008.  The annualized surrender and partialwithdrawal rate on deferred annuities and interest-sensitive life insurance,based on the beginning of year contractholder funds, was 8.8% and 9.4% for thethree months ended of 2009 and 2008, respectively.  We strive to promptly pay customers whorequest cash surrenders, however, statutory regulations generally provide up tosix months in most states to fulfill surrender requests.

 

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Our institutionalproducts are primarily funding agreements backing medium-term notes.  As of March 31, 2009, totalinstitutional products outstanding were $7.02 billion.  The following table presents the remainingscheduled maturities for our institutional products outstanding as of March 31,2009.

 
| **($ in millions)** | ** ** | ** ** | ** ** |
|--------------------------|------------|------------|------------|
|                     |       |       |       |
| 2009                     |       | $          | 1,339      |   |
| 2010                     |       | 3,049      |       |
| 2011                     |       | 760        |       |
| 2012                     |       | 40         |       |
| 2013                     |       | 1,750      |       |
| 2016                     |       | 85         |       |
|                     |       | $          | 7,023      |   |

 

Our asset-liabilitymanagement practices limit the differences between the cash flows generated byour investment portfolio and the expected cash flow requirements of our lifeinsurance, annuity and institutional product obligations.

 

*CashFlows*  As reflected in our Condensed ConsolidatedStatements of Cash Flows, higher operating cash flows in the first three monthsof 2009 compared to the first three months of 2008 were primarily related toincome tax refunds received in the first quarter of 2009 in connection with ouractions to accelerate refunds from the overpayment of 2008 estimated taxes aswell as the carryback of 2008 ordinary losses to prior tax years.  The favorable impact of these tax refunds waspartially offset by lower net investment income.

 

Cash flows provided byinvesting activities increased in the first three months of 2009 compared tothe first three months of 2008, primarily due to reductions of short-terminvestments to fund reductions in contractholder funds, partially offset byhigher operating cash flows.

 

Higher cash flows used infinancing activities in the first three months of 2009 compared to the firstthree months of 2008 were primarily due to the absence of issuances ofinstitutional products in the first quarter of 2009 compared to $1.66 billionin the first quarter of 2008.

 

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***Item 4.Controls and Procedures***

* *

*Evaluationof Disclosure Controls and Procedures. *We maintain disclosure controls andprocedures as defined in Rule 13a-15(e) and 15d-15(e) under theSecurities Exchange Act of 1934.  Underthe supervision and with the participation of our management, including ourprincipal executive officer and principal financial officer, we conducted anevaluation of the effectiveness of our disclosure controls and procedures as ofthe end of the period covered by this report. Based upon this evaluation, the principal executive officer and theprincipal financial officer concluded that our disclosure controls andprocedures are effective in providing reasonable assurance that materialinformation required to be disclosed in our reports filed with or submitted tothe Securities and Exchange Commission under the Securities Exchange Act ismade known to management, including the principal executive officer and theprincipal financial officer, as appropriate to allow timely decisions regardingrequired disclosure.

 

*Changesin Internal Control over Financial Reporting. *During thefiscal quarter ended March 31, 2009, there have been no changes in ourinternal control over financial reporting that have materially affected, or arereasonably likely to materially affect, our internal control over financialreporting.

 

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**PART II.  OTHER INFORMATION**

 

**Item 1.****   ****Legal Proceedings**

 

Information required forthis Part II, Item 1 is incorporated by reference to the discussion underthe heading “Regulation” and under the heading “Legal and regulatoryproceedings and inquiries” in Note 7 of the condensed consolidated financialstatements in Part I, Item 1 of this Form 10-Q.

 

**Item 1A.  Risk Factors**

 

This document contains “forward-lookingstatements” that anticipate results based on our estimates, assumptions andplans that are subject to uncertainty. These statements are made subject to the safe-harbor provisions of thePrivate Securities Litigation Reform Act of 1995.  We assume no obligation to update anyforward-looking statements as a result of new information or future events ordevelopments.

 

These forward-lookingstatements do not relate strictly to historical or current facts and may beidentified by their use of words like “plans,” “seeks,” “expects,” “will,” “should,”“anticipates,” “estimates,” “intends,” “believes,” “likely,” “targets” andother words with similar meanings.  Thesestatements may address, among other things, our strategy for growth, productdevelopment, regulatory approvals, market position, expenses, financialresults, litigation and reserves.  Webelieve that these statements are based on reasonable estimates, assumptionsand plans.  However, if the estimates,assumptions or plans underlying the forward-looking statements prove inaccurateor if other risks or uncertainties arise, actual results could differmaterially from those communicated in these forward-looking statements.  Risk factors which could cause actual resultsto differ materially from those suggested by such forward-looking statementsinclude but are not limited to those discussed or identified in this document(including the risks described below), in our public filings with theSecurities and Exchange Commission, and those incorporated by reference in Part I,Item 1A of the Allstate Life Insurance Company Annual Report on Form 10-Kfor 2008.

 

**A largescale pandemic, the continued threat of terrorism, and ongoing military actionsmay adversely affect the level of claim losses we incur and the value of ourinvestment portfolio**

 

A global pandemic and thecontinued threat of terrorism, both within the United States and abroad, andongoing military and other actions and heightened security measures in responseto these types of threats, may cause significant volatility and losses fromdeclines in the equity markets and from interest rate changes in the UnitedStates, Europe and elsewhere, and result in loss of life, disruptions tocommerce and reduced economic activity. Some of the assets in our investment portfolio may be adversely affectedby declines in the equity markets and reduced economic activity caused by aglobal pandemic or the continued threat of terrorism.  We seek to mitigate the potential impact ofterrorism on our commercial mortgage portfolio by limiting geographicalconcentrations in key metropolitan areas and by requiring terrorism insuranceto the extent that it is commercially available.  Additionally, in the event that a globalpandemic or a terrorist act occurs, we could be adversely affected, dependingon the nature of the event.

 

**Item 6.  Exhibits**

 

(a)           Exhibits

 

An Exhibit Indexhas been filed as part of this report on page E-1.

 

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**SIGNATURE**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|              | Allstate Life Insurance  Company                             |
|-------------------|--------------------------------------------------------------|
|              | (Registrant)                                                 |
|              |                                                         |
|              |                                                         |
| May 12, 2009 |                                                         |
|              | By                                                           | /s/ Samuel H. Pilch |
|              | Samuel H. Pilch                                              |
|              | (chiefaccountingofficeranddulyauthorizedofficerofRegistrant) |

 

70

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| **Exhibit No.** | ** ** | **Description**                                                                                                                                |
|----------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                                                                                                                                           |
| 15                   |       | Acknowledgment of  awareness from Deloitte & Touche LLP, datedMay 11, 2009, concerning unaudited  interim financial information. |
|                 |       |                                                                                                                                           |
| 31(i)                |       | Rule 13a-14(a) Certification  of Principal Executive Officer                                                                         |
|                 |       |                                                                                                                                           |
| 31(i)                |       | Rule 13a-14(a) Certification  of Principal Financial Officer                                                                         |
|                 |       |                                                                                                                                           |
| 32                   |       | Section 1350  Certifications                                                                                                              |

 

E-1

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