The following table sets forth selected consolidated financial data of the Company as of and for the years ended December 31, 2004, 2003, 2002, 2001 and 2000. These selected financial and other data should be read in conjunction with the Consolidated Financial Statements and related notes and with “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.
(4) The combined ratio is the sum of the loss and loss expense ratio and the underwriting and administrative expense ratio.
The following is a discussion of our results of operations, financial condition, and liquidity and capital resources as of and for the year ended December 31, 2004. This discussion should be read in conjunction with our Consolidated Financial Statements and related notes presented on pages to of this Form 10-K.
ACE Limited (ACE) is the Bermuda-based holding company of the ACE Group of Companies, incorporated with limited liability under the Cayman Islands Companies Law. We created our business office in Bermuda in 1985 when we initially incorporated the Company and we continue to maintain our corporate headquarters in Bermuda. Through our various operating subsidiaries, we provide a broad range of insurance and reinsurance products to businesses and individuals worldwide through operations in the U.S. and more than 50 other countries. Our long-term business strategy focuses on sustained growth in book value achieved through a combination of underwriting and investment income. By doing so, we provide value to our clients and shareholders through the utilization of our substantial capital base in the insurance and reinsurance markets.
During the fourth quarter of 2004, we increased our reserve for asbestos, environmental and other run-off claims by $465 million, which resulted in an after-tax charge to net income of $302 million. The net additions comprised asbestos and environmental (A&E) reserve increases of $554 million including the provision for bad debts of $95 million and favorable prior period development of $89 million in other run-off reserves. For more information, refer to the section entitled “Asbestos and Environmental and Other Run-off Liabilities”. We are closely following developments on possible legislation to move all U.S. asbestos bodily injury claims to a federal trust for compensation in accordance with an established set of medical criteria
ACE, its subsidiaries and affiliates have received forty-three subpoenas, interrogatories, civil investigative demands, and letters of inquiry in connection with the pending investigations of insurance industry practices. These inquiries have been issued by Attorneys General of Connecticut, the District of Columbia, Florida, Massachusetts, Minnesota, New York, Ohio, Pennsylvania, Texas, and West Virginia and Departments of Insurance or other regulatory authorities in California, Florida, Illinois, Maryland, Michigan, Minnesota, New York, North Carolina, Pennsylvania, and Texas.
ACE has also received subpoenas from the office of the NYAG and the SEC which seek information relating to non-traditional or loss mitigation insurance products. ACE is cooperating and will continue to cooperate with the NYAG and the SEC.
In January 2005, the Connecticut Attorney General (the “CTAG”) filed a civil suit against a subsidiary of ACE in Connecticut state court under the Connecticut Unfair Trade Practices Act. The CTAG’s suit alleges that an ACE subsidiary made an unauthorized and undisclosed payment to a broker who placed a portfolio of state workers’ compensation cases with ACE and seeks restitution to the state and payment of punitive damages. ACE believes that it has not violated any law or duty to the state and intends to file a motion to dismiss the action.
The Judicial Panel on Multidistrict Litigation (JPML) consolidated these cases, as well as other putative class actions in which no ACE entity is named as a party in the District of New Jersey. In each of the actions in which they have been served, the obligation of the ACE entities to answer the complaints has been, or will be, stayed until after a consolidated complaint has been filed. In each of these cases, the plaintiff alleges that insurers, including certain ACE entities, and brokers conspired to increase premiums and allocate customers through the use of “B” quotes and contingent commissions. Although the causes of action in the petitions somewhat vary, Plaintiffs allege causes of action under the Federal Racketeer Influenced and Corrupt Organization Act (RICO), federal antitrust law, state antitrust law, state consumer-protection laws, and state common law (breach of fiduciary duty and misrepresentation). In each of the cases, the plaintiff has sought unspecified compensatory damages and reimbursement of expenses, including legal fees.
ACE USA and ACE INA have been named in a state court class action: Palm Tree Computer Systems, Inc. et al. v. ACE USA et al. (Case No. 05-CA-373-16-W; Circuit Court, Seminole County, Florida) (filed February 5, 2005). The allegations are similar
Illinois Union Insurance Company, an ACE subsidiary, has been named in a state court class action: Van Emden Management Corporation v. Marsh & McLennan Companies, Inc., et al. (Case No. 05-0066A; Superior Court of Massachusetts) (filed January 13, 2005). The allegations are similar to the allegations in the federal class actions identified above. Plaintiffs assert causes of action under Massachusetts’ antitrust statute and Massachusetts’ consumer protection statute. Plaintiffs also assert a conspiracy cause of action and seek an injunction. Plaintiff has sought unspecified compensatory damages and reimbursement of expenses, including legal fees.
ACE has been named in the following four putative securities class action suits: John Mahaney, Jr. v. ACE Limited, et al. (Case No. 04 CV 07696; S.D.N.Y) (filed October 18, 2004); Steven Burda v. ACE Limited, et al.; (Case No. 04 CV 833; S.D.N.Y.) (filed October 21, 2004); Thomas E. Barton v. ACE Limited, et al.; (Case No. 04 CV 8683; S.D.N.Y.) (filed November 1, 2004); and Friends of Ariel Center for Policy Research v. ACE Limited, et al. (Case No. 04 CV 04907; E.D. Pa.) (filed October 19, 2004). Evan G. Greenberg, ACE’s President and Chief Executive Officer, Brian Duperreault, ACE’s Chairman and former Chief Executive Officer, and Philip V. Bancroft, ACE’s Chief Financial Officer were also named as defendants in each of these suits. In addition, Dominic J. Frederico, ACE’s former Vice Chairman and former President and Chief Operating Officer, and Christopher Z. Marshall, ACE’s former Chief Financial Officer, were named as defendants in the Burda action. On January 3, 2005, the Burda and Barton actions were consolidated for all purposes into the Mahaney action. In December 2004, the defendants filed a motion with the JPML seeking consolidation of the cases for pretrial purposes in the Eastern District of Pennsylvania. That motion is currently pending, and no plaintiffs have yet filed a brief stating a position on consolidation and transfer. The plaintiffs in these cases assert claims solely under Section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”), Rule 10b-5 promulgated thereunder, and Section 20(a) of the Exchange Act (control person liability). The plaintiffs allege that ACE’s public statements and securities filings should have revealed that insurers, including certain ACE entities, and brokers conspired to increase premiums and allocate customers through the use of “B” quotes and contingent commissions and that ACE’s revenue and earnings were inflated by premiums which it may have to forfeit by fines or judgments.
On December 6, 2004, Goss International Corporation filed a “Verified Petition for Discovery” in Illinois state court naming several respondents, including ACE, Illinois Union Insurance Co., a subsidiary of ACE, five other insurance companies, Marsh and Marsh Inc. This petition was filed under an Illinois Supreme Court rule which purports to allow a person to engage in discovery for the sole purpose of identifying one who may be responsible in damages in anticipation of filing a complaint. Goss claims that it has used Marsh as its broker, and that Marsh presented quotes to Goss from each of the insurance company respondents. ACE has not been served in this action, though no assurance can be given that it will not be served. Goss and the other defendants, including Illinois Union Insurance Co., have negotiated an agreed briefing schedule pertaining to Goss’s request for pre-suit discovery. If it is served, ACE intends to vigorously oppose the request for pre-suit discovery.
All of these suits merely seek compensatory damages without specifying an amount. As a result, ACE cannot at this time estimate its potential costs related to these legal matters and accordingly no liability for compensatory damages has been established in the Consolidated Financial Statements. However, we have recorded expenses for legal fees of $11.5 million in connection with these matters. In the opinion of ACE’s management, ACE’s ultimate liability for these matters is not likely to have a material adverse effect on ACE’s consolidated financial condition, although it is possible that the effect could be material to ACE’s consolidated results of operations for an individual reporting period.
We have exposure to catastrophic event risks from global insurance and reinsurance writings of property and workers’ compensation and, to a lesser extent, marine, aviation and energy. This potential loss accumulation, caused by either man-made (for example, terrorism, aviation) or natural perils (for example, hurricane, earthquake) is addressed using several different approaches. First, we have established a series of Product Boards to ensure that geographic, product and client exposures are appropriate and meet both account level and portfolio limit guidelines adopted by the Boards. Second, we have a standardized modeling approach across ACE that utilizes a third-party probabilistic catastrophe simulation software package. Each unit with catastrophe exposure is required to model, price and manage its catastrophe risk using the software. The software allows the aggregation of risk within and across business units. In addition, we maintain minimum data quality standards that must be met in order to quote and bind business. The aggregation of risk across units, products, perils and geography is performed across ACE on a quarterly basis to provide an overall assessment of risk and the results reviewed by senior management each quarter. Management maintains a prudent level of risk through a series of related accumulation thresholds that cap the net retention from single or multiple events; the probability of exhaustion of core catastrophe reinsurance programs, and the net catastrophe loss relative to tangible capital. Third, where the risk / return economics are effective, reinsurance is purchased from reinsurers of appropriate quality and security to protect the business unit level from accumulations arising either within product, peril or business unit or across a combination thereof such that the aggregate risk from a catastrophe loss is appropriate to the unit’s capital structure. Despite the above controls there remains uncertainty about the characteristics, timing and extent of insured loss given the nature of catastrophes.
During 2004, we incurred net catastrophe-related losses of $499 million, primarily associated with hurricanes which struck the Caribbean and the U.S. and, to a lesser extent, typhoons which impacted Asia. We believe that the nature and amount of this loss was consistent with our exposure management guidelines discussed above. The following table shows the impact of the catastrophe loss charges on each of our operating segments for the year ended December 31, 2004.
* Includes pre-tax loss of $23 million related to deterioration in our initial estimates for the third-quarter hurricanes.
The above information is based on currently available information derived from modeling techniques, industry assessments of exposure and claims information obtained from our clients and brokers. Actual losses from these events may vary materially from our estimates due to the inherent uncertainties in making such determinations resulting from several factors, including the potential inaccuracies and inadequacies in the data provided by clients and brokers, the modeling techniques and the application of such techniques, as well as the high frequency of recent catastrophes and the effects of any resultant demand surge on claims activity.
Pursuant to the completion of the IPO, we received proceeds, net of related offering costs, of approximately $835 million and a return of capital of $200 million from Assured Guaranty, which were used to support our property and casualty (P&C) business and strengthen our balance sheet capital position. Also, in the fourth quarter of 2004, we accrued $5.4 million related to the 338(h)(10) tax election entered into with Assured Guaranty as part of the IPO transaction (as discussed below). This amount, net of tax, reduced the previously disclosed loss on sale and is recorded in realized gains (losses). Inclusive of the fourth quarter gain, the transaction resulted in a pre-tax loss of $1.3 million, that reduces net realized gains in the consolidated statement of operations, and an after-tax loss of $14.6 million. Additionally, in the second quarter we recognized compensation expense of $7.5 million in connection with the settlement of ACE stock awards held by the employees of Assured Guaranty. These expenses are reflected in “Other (income) expense” within the consolidated statement of operations.
In conjunction with the IPO, our tax basis in the stock of Assured Guaranty and the tax basis of certain of Assured Guaranty’s tangible and intangible assets were increased to fair value. The increased tax basis should result in additional tax deductions available to Assured Guaranty over a period of approximately 15 years. To the extent Assured Guaranty generates taxable income sufficient to realize the additional tax deductions, our tax sharing agreement with Assured Guaranty provides that it will be required to pay us the amount of tax savings actually realized, excluding the effect of any loss carrybacks. We do not recognize for accounting purposes the benefit of the savings associated with Assured Guaranty’s asset step-up until the amounts are accruable, based on actual taxable income of the relevant Assured Guaranty entities due to the uncertainty of realization.
In connection with the IPO, we have entered into reinsurance agreements with Assured Guaranty in order to retain the insurance liabilities of certain run-off businesses, including trade credit and residual value insurance. At their inception, these contracts had no effect on our net income. Additionally, we have entered into a number of agreements with Assured Guaranty that will govern certain aspects of the relationship after this offering, including service agreements under which we will provide certain services to Assured Guaranty for a period of time.
As an insurance and reinsurance company, we are required, under GAAP, to establish loss reserves for the estimated unpaid portion of the ultimate liability for losses and loss expenses under the terms of our policies and agreements with our insured and reinsured customers. These reserves include estimates for both claims that have been reported and those that have been incurred but not reported (IBNR), and include estimates of expenses associated with processing and settling these claims. At December 31 2004, the unpaid losses and loss expense reserve was $31.5 billion. We do not discount our loss reserves, except for net loss and loss expense reserves of $157 million representing structured settlements for which the timing and amount of future claim payments are reliably determinable. The process of establishing reserves for property and casualty claims can be complex and is subject to considerable variability as it requires the use of informed estimates and judgments. These estimates and judgments are based on numerous factors, and may be revised as additional experience and other data become available and are reviewed, as new or improved methodologies are developed or as current laws change. We have actuarial staff in each of our operating segments who analyze insurance reserves and regularly evaluate the levels of loss reserves, taking into consideration factors that may impact the ultimate loss reserves. The potential for variation in loss reserves is impacted by numerous factors, which we explain below.
We estimate loss reserves for all of the insurance and reinsurance business that we write. In most cases, we do not have all the necessary information to determine the ultimate settlement value for a claim at the time we are required to accrue for the loss. As a result, historical experience and other statistical information are used to estimate the ultimate cost of the loss, depending on the type of business. To determine carried reserves for a particular line of business, we may perform one or more reserving methods to estimate ultimate losses and loss expenses and use the results to select a single point estimate. These methods may include, but are not necessarily limited to, extrapolations of our historical reported and paid loss data, application of industry loss development patterns to our reported or paid losses, expected loss ratios developed by management, or historical industry loss ratios. Underlying judgments and assumptions that may be incorporated into these actuarial methods include, but are not necessarily limited to, adjustments to historical data used in models to exclude aberrations in claims data such as catastrophes that are typically analyzed separately, application of tail factors used to project ultimate claims from historical loss experience when there are several data points to use, adjustments to actuarial models and related data for known business changes, such as changes in claims covered under insurance contracts, and the effect of recent or pending litigation on future claim settlements.
The process of determining a single best estimate by product, when more than one estimate is developed in the course of the actuarial review, may be performed in several ways. However, the objective of such process, which is consistently applied to all product lines, is to determine a single best estimate that we believe represents a better estimate than any other. Such estimate is viewed to support the most likely outcome of ultimate loss settlements and is determined based on several factors, including but not limited to, the extent of historical data and reliance on such data within the underlying reserve methodology, historical accuracy of loss estimates compared with actual loss experience for the product line or comparable product lines, and nature and extent of underlying assumptions. Depending on the facts and circumstances of each product line, the determination of a single best estimate may be accomplished by selecting a single point estimate when one estimate is determined to reflect a “better” estimate than the other point estimates or using a probability weighted average approach when more than one estimate is viewed to be reasonable. For example, an actuary may select loss reserves developed using an incurred loss development approach instead of a paid loss development approach as the best estimate when reported losses are viewed to be more credible indicators of ultimate loss estimates compared with paid losses. The actuaries’ evaluation process to determine a best estimate involves collaboration with underwriting, claims and finance departments and culminates with the input of reserve committees. Each reserve committee includes the participation of the business unit’s actuary, financial management and executive management and has the responsibility for finalizing and approving the point estimate to be used as our best estimate. Reserves are further reviewed by ACE’s Chief Actuary and senior management.
believe, however, that while our recorded reserves are reasonable and represent management’s best estimate for each individual study, based on known events, our total recorded loss reserves at December 31, 2004, are unlikely to vary by more than ten percent of the recorded amounts, either positively or negatively, based on actual claims emergence over the last several years, excluding A&E development. Historically, including A&E reserve charges, our reserves have developed in excess of ten percent of recorded amounts. See the “Analysis of Losses and Loss Expense Development” for a summary of historical volatility between estimated loss reserves and ultimate loss settlements.
While we perform annual loss reserve studies for all product lines, the timing of such studies vary throughout the year. Additionally, for each product line, we review the emergence of actual losses relative to expectations used in reserving each quarter. If warranted from findings in loss emergence tests, we will accelerate the timing of our product line reserve studies.
The “Unpaid losses and loss expenses” section below includes a discussion of our reserve-setting procedures by segment. The following is discussion of specific reserving considerations by type of claim:
• The inherent uncertainty of the length of paid and reporting development patterns;
At December 31, 2004, approximately 74 percent, or $12.7 billion of our net reserves (68 percent excluding A&E reserves) relate to long-tail business. The estimation of unpaid losses and loss expense reserves can also be affected by the layer at which a particular contract or set of contracts is written. In the case of direct insurance, where the insurer is taking on risk in the lower value end of the particular contract, the experience will tend to be more frequency driven. These lines of business allow for more traditional actuarial methods to be used in determining loss reserve levels, as it is customary to have more historical experience to rely upon. In the case of excess of loss contracts, the experience will tend to be more of a severity nature, as only a significant loss will enter the layer. For structured or unique contracts, most common to the financial solutions business and to a lesser extent our reinsurance business, traditional actuarial methods for setting loss reserves (such as loss development triangles), have to be tempered with an analysis of each contract’s terms, original pricing information, subsequent internal and external analyses of the ongoing contracts, market exposures and history, and qualitative input from claims managers.
Included in our liabilities for losses and loss expenses are liabilities for asbestos, environmental and latent injury damage claims and expenses (A&E). These claims are principally related to claims arising from remediation costs associated with hazardous waste sites and bodily-injury claims related to exposure to asbestos products and environmental hazards. The estimation of these liabilities is particularly sensitive to the recent legal environment, including specific settlements that may be used as precedents to settle future claims.
In January 2005, we announced net additions to our A&E and other run-off reserves of $364 million exclusive of the provision for bad debts of $95 million. The net additions comprised A&E reserve increases of $453 million and favorable prior period development of $89 million in other run-off reserves. In addition, ACE Overseas General had gross and net A&E additions of $6 million resulting in a total A&E charge of $459 million for 2004. Our A&E reserves, and our range of estimates are not discounted and do not reflect any anticipated changes in the legal, social or economic environment, or any benefit from future legislative reforms. Accordingly, our A&E reserves make no allowance for future state or federal asbestos reforms, such as those currently being contemplated. The majority of our reserve increase in the fourth quarter of 2004 arose with the strengthening of a core group of major accounts impacted by changes in the asbestos industry landscape. In particular, our estimates of future liability were impacted by the continued negative effect of bankruptcies and an increase in defense costs to litigate cases.
There are many complex variables that we consider when estimating the reserves for our inventory of asbestos accounts and these variables may directly impact the predicted outcome. We believe the most significant variables relating to our A&E reserves include assumptions regarding multiple recoveries by claimants against various defendants; the ability of a claimant to bring a claim in a state in which they have no residency or exposure; the ability of a policyholder to claim the right to non-products coverage; whether high-level excess policies have the potential to be accessed given the policyholders claim trends and liability situation; payments to unimpaired claimants and the potential liability of peripheral defendants. Based on the policies, the facts, the law and a careful analysis of the impact that these risk factors will likely have on any given account, we estimate the potential liability for indemnity, policyholder defense costs and coverage litigation expense.
Reinsurance recoverable includes the balances due to us from reinsurance companies for paid and unpaid losses and loss expenses, based on contracts in force, and are presented net of a reserve for uncollectible reinsurance - determined based upon a review of the financial condition of the reinsurers and other factors. We determine the reinsurance recoverable on unpaid losses and loss expenses using actuarial estimates as well as a determination of our ability to cede unpaid losses and loss expenses under existing reinsurance contracts.
The recognition of reinsurance recoverable requires two key judgments. The first judgment involves our estimation of the amount of gross IBNR to be ceded to reinsurers. Ceded IBNR is generally developed as part of our loss reserving process and consequently, its estimation is subject to similar risks and uncertainties as the estimation of gross IBNR (see Critical Accounting Estimate - Unpaid losses and loss expenses). The second judgment involves our estimate of the amount of the reinsurance recoverable balance that we will ultimately be unable to recover from related reinsurers due to insolvency, contractual dispute, or for other reasons. Amounts estimated to be uncollectible are reflected in a bad debt provision that reduces the reinsurance recoverable balance and shareholders’ equity. Changes in the bad debt provision are reflected in net income. At December 31, 2004, the reinsurance recoverable balance includes $15 billion of reinsurance recoverable on unpaid losses and loss expenses, less a provision for bad debts of $619 million. The net unpaid recoverables consist of ceded IBNR of $8.2 billion and ceded case reserves of $6.1 billion. Also included are $1.2 billion of reinsurance recoverable on paid loss and loss adjustment expenses, less a provision for bad debts of $309 million.
To estimate the bad debt provision, the reinsurance recoverable must first be determined for each reinsurer. This determination is based on a process rather than an estimate, although an element of judgment must be applied. As part of this process, ceded IBNR is allocated by reinsurance agreement, and then by reinsurer, because ceded IBNR is not generally calculated on an agreement-by-agreement basis. The allocations are generally based on premiums ceded under reinsurance agreements, as adjusted for actual loss experience and historical relationships between gross and ceded losses.
If actual experience varies materially from historical experience, including that used to determine ceded premium, the allocation of reinsurance recoverable by reinsurer will change. While such change is unlikely to result in a large percentage change in the bad debt provision, it could, nevertheless, have a material effect on our net income in the period recorded.
Generally, we use a default analysis to estimate uncollectible reinsurance. The primary components of the default analysis are reinsurance recoverable balances by reinsurer, net of collateral, and default factors used to determine the portion of a reinsurer’s balance deemed uncollectible. The definition of collateral for this purpose requires some judgment and is generally limited to assets held in trust, letters of credit, and liabilities held by us with the same legal entity for which we believe there is a right of offset. Default factors require considerable judgment and are determined using the current rating, or rating equivalent, of each reinsurer as well as other key considerations and assumptions. The more significant considerations include, but are not necessarily limited to, the following:
• for balances recoverable from reinsurers that are both unrated by a major rating agency and for which management is unable to determine a credible rating equivalent based on a parent, affiliate, peer company, or internal analysis, additional judgment is required to determine a reasonable default factor. Such default factors are based on either an assessment of the creditworthiness of the particular entity, industry benchmarks, or other factors as considered appropriate; and
Additional information on reinsurance recoverable can be found in the section entitled, “Reinsurance”.
ii) for those securities to be assessed, whether we have the ability and intent to hold the security through an expected recovery period, absent a significant change in facts that is expected to have a material adverse effect on either the financial markets or the financial position of the issuer.
Because our investment portfolio is the largest component of consolidated assets and a multiple of shareholders’ equity, adverse changes in economic conditions subsequent to the balance sheet date could result in other than temporary impairments that are material to our financial condition and operating results. Such economic changes could arise from overall changes in the financial markets or specific changes to industries, companies, or foreign governments in which we maintain relatively large investment holdings. More information regarding our process for reviewing our portfolio for possible impairments can be found in the section entitled “Net Realized Gains (Losses)”.
Our exposure to interest rate risk is concentrated in our fixed income portfolio. An increase in interest rates of 50 basis points applied instantly across the yield curve would have resulted in a decrease in the market value of the fixed income portfolio of approximately $400 million at December 31, 2004. An immediate time horizon was used as this presents the worst case scenario.
At December 31, 2004, our net deferred tax asset was $1.2 billion, including $228 million relating to net operating loss carryforwards of $652 million, which will expire in the years 2021-2022 and foreign tax credits of $431 million of which $50 million will expire in the years 2011-2014. The remaining $381 million of foreign tax credits are currently deferred. (See Note 16 of the Consolidated Financial Statements for more information). Based on our current expectations of future taxable income we estimate that we will utilize all net operating loss carryforwards within the next one to two years. At each balance sheet date, management assesses the need to establish a valuation allowance that reduces deferred tax assets when it is more likely than not that all, or some portion, of the deferred tax assets will not be realized. The valuation allowance is based on all available information including projections of future taxable income from each tax-paying component in each tax jurisdiction, principally derived from business plans and available tax planning strategies. Projections of future taxable income incorporate several assumptions of future business and operations that are apt to differ from actual experience. If, in the future, our assumptions and estimates that resulted in our forecast of future taxable income for each tax-paying component proves to be incorrect, an additional valuation allowance could become necessary. This could have a material adverse effect on our financial condition, results of operations and liquidity. At December 31, 2004, the valuation allowance of $89.6 million (including $28.5 million with respect to foreign tax credits) reflects management’s assessment that it is more likely than not that a portion of the deferred tax asset will not be realized due to the inability of certain foreign subsidiaries to generate sufficient taxable income or the inability to utilize foreign tax credits.
FAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (FAS 133) establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for
hedging activities. FAS 133 requires that all derivatives be recognized as either assets or liabilities on the consolidated balance sheet and be measured at fair value, with changes in fair value reflected in our net income. We maintain investments in derivative instruments such as futures, options, interest rate swaps and foreign currency forward contracts primarily to manage duration and foreign currency exposure, enhance our portfolio yield or obtain an exposure to a particular financial market. In addition, as part of our investing activities, we purchase “to be announced mortgage backed securities” (TBAs), which we treat as derivatives for reporting purposes. Open derivatives as of the balance sheet date are reported at fair value based on market quotes or valuations provided to us by third party investment managers using market data.
The financial statements and supplementary data required by Regulation S-X are included in this report on Form 10-K commencing on page.