The following is a reconciliation of total AHL shareholders’ equity to total adjusted AHL common shareholders’ equity, which is used in calculating adjusted operating ROE and adjusted book value per common share:
The following is a reconciliation of average AHL shareholders’ equity to average adjusted AHL common shareholders’ equity, which is used in calculating adjusted operating ROE:
The following is a reconciliation of Class A common shares outstanding to its corresponding non-GAAP measure, adjusted operating common shares outstanding:
Once phase 1 is completed, we expect to revisit the scope of our plan and to establish milestones based upon the nature and extent of our exposure to LIBOR. We will also conduct a more thorough analysis of the legal, accounting, tax and other risks associated with the exposure areas that we have identified. Thereafter, we will evaluate methods to mitigate the risk of the transition, including evaluating the adequacy of fallback provisions, if any, included in our existing contracts. Concurrent with phase 1 and throughout the execution of our plan, we will evaluate the new contracts into which we enter for exposure to LIBOR, and for those contracts with LIBOR exposure, we will negotiate adequate fallback provisions or negotiate for the inclusion of an alternative rate.
We operate in highly competitive markets. We face a variety of large and small industry participants, including diversified financial institutions and insurance and reinsurance companies. These companies compete in one form or another for the growing pool of retirement assets driven by a number of external factors such as the continued aging of the population and the reduction in safety nets provided by governments and private employers. In the markets in which we operate, scale and the ability to provide value-added services and build long-term relationships are important factors to compete effectively. We believe that our leading presence in the retirement market, diverse range of capabilities and broad distribution network uniquely position us to effectively serve consumers’ increasing demand for retirement solutions, particularly in the FIA market.
According to LIMRA, total fixed annuity market sales in the United States were $109.1 billion for the nine months ended September 30, 2019, a 13.9% increase from the same time period in 2018. In the total fixed annuity market, for the nine months ended September 30, 2019 (the most recent period for which specific market share data is available), we were the 5th largest company based on sales of $5.6 billion, translating to a 5.2% market share. For the nine months ended September 30, 2018, we had sales of $5.5 billion, translating to a 5.8% market share.
Change in Fair Values of Derivatives and Embedded Derivatives - FIAs, Net of Offsets-Consists of impacts related to the fair value accounting for derivatives hedging the FIA index credits and the related embedded derivative liability fluctuations from period to period. The index reserve is measured at fair value for the current period and all periods beyond the current policyholder index term. However, the FIA hedging derivatives are purchased to hedge only the current index period. Upon policyholder renewal at the end of the period, new FIA hedging derivatives are purchased to align with the new term. The difference in duration between the FIA hedging derivatives and the index credit reserves creates a timing difference in earnings. This timing difference of the FIA hedging derivatives and index credit reserves is included as a non-operating adjustment, net of offsets related to DAC, DSI, and VOBA amortization and changes to rider reserves.
Stock Compensation Expense-Consists of stock compensation expenses associated with our share incentive plans, excluding our long-term incentive plan, which are not related to our underlying profitability drivers and fluctuate from time to time due to the structure of our plans.
Bargain Purchase Gain-Consists of adjustments to net income available to AHL common shareholders as they are not related to our underlying profitability drivers.
Income Tax (Expense) Benefit - Non-operating-Consists of the income tax effect of non-operating adjustments and is computed by applying the appropriate jurisdiction’s tax rate to the non-operating adjustments that are subject to income tax.
We consider these non-operating adjustments to be meaningful adjustments to net income available to AHL common shareholders for the reasons discussed in greater detail above. Accordingly, we believe using a measure which excludes the impact of these items is useful in analyzing our business performance and the trends in our results of operations. Together with net income available to AHL common shareholders, we believe adjusted operating income available to common shareholders provides a meaningful financial metric that helps investors understand our underlying results and profitability. Adjusted operating income available to common shareholders should not be used as a substitute for net income available to AHL common shareholders.
Adjusted operating earnings per common share, weighted average common shares outstanding - adjusted operating and adjusted book value per common share are non-GAAP measures used to evaluate our financial performance and financial condition. The non-GAAP measures adjust the number of shares included in the corresponding GAAP measures to reflect the conversion or settlement of all shares and other stock-based awards outstanding. We believe using these measures represents an economic view of our share counts and provides a simplified and consistent view of our outstanding shares. Adjusted operating earnings per common share is calculated as the adjusted operating income available to common shareholders, over the weighted average common shares outstanding - adjusted operating. Adjusted book value per common share is calculated as the adjusted AHL common shareholders’ equity divided by the adjusted operating common shares outstanding. Our Class B common shares are economically equivalent to Class A common shares and can be converted to Class A common shares on a one-for-one basis at any time. Our Class M common shares are in the legal form of shares but economically function as options as they are convertible into Class A shares after vesting and payment of the conversion price. In calculating Class A diluted earnings per share on a GAAP basis, we are required to apply sequencing rules to determine the dilutive impacts, if any, of our Class B common shares, Class M common shares and any other stock-based awards. To the extent our Class B common shares, Class M common shares and/or any other stock-based awards are not dilutive, after considering the dilutive effects of the more dilutive securities in the sequence, they are excluded. Weighted average common shares outstanding - adjusted operating and adjusted operating common shares outstanding assume conversion or settlement of all outstanding items that are able to be converted to or settled in Class A common shares, including the impacts of Class B common shares on a one-for-one basis, the impacts of all Class M common shares net of the conversion price and any other stock-based awards, but excluding any awards for which the exercise or conversion price exceeds the market value of our Class A common shares on the applicable measurement date. For certain historical periods, Class M shares were not included due to issuance restrictions which were contingent upon our IPO. Adjusted operating earnings per common share, weighted average common shares outstanding - adjusted operating and adjusted book value per common share should not be used as a substitute for basic earnings per share - Class A common shares, basic weighted average common shares outstanding - Class A or book value per common share. However, we believe the adjustments to the shares and equity are significant to gaining an understanding of our overall results of operations and financial condition.
Net investment spread is a key measurement of the profitability of our Retirement Services segment. Net investment spread measures our investment performance less the total cost of our liabilities. Net investment earned rate is a key measure of our investment performance, while cost of funds is a key measure of the cost of our policyholder benefits and liabilities. Investment margin on our deferred annuities measures our investment performance less the cost of crediting for our deferred annuities, which make up a significant portion of our reserve liabilities.
Net investment earned rate is a non-GAAP measure we use to evaluate the performance of our net invested assets that does not correspond to GAAP net investment income. Net investment earned rate is computed as the income from our net invested assets divided by the average net invested assets for the relevant period. To enhance the ability to analyze these measures across periods, interim periods are annualized. The adjustments to arrive at our net investment earned rate add alternative investment gains and losses, gains and losses related to trading securities for CLOs, net VIE impacts (revenues, expenses and noncontrolling interest) and the change in fair value of reinsurance assets. We include the income and assets supporting our change in fair value of reinsurance assets by evaluating the underlying investments of the funds withheld at interest receivables and we include the net investment income from those underlying investments which does not correspond to the GAAP presentation of change in fair value of reinsurance assets. We exclude the income and assets supporting business that we have exited through ceded reinsurance including funds withheld agreements. We believe the adjustments for reinsurance provide a net investment earned rate on the assets for which we have economic exposure.
Cost of funds includes liability costs related to cost of crediting on both deferred annuities and institutional products as well as other liability costs. Cost of funds is computed as the total liability costs divided by the average net invested assets for the relevant period. To enhance the ability to analyze these measures across periods, interim periods are annualized.
Net investment earned rate, cost of funds, net investment spread and investment margin on deferred annuities are non-GAAP measures we use to evaluate the profitability of our business. We believe these metrics are useful in analyzing the trends of our business operations, profitability and pricing discipline. While we believe each of these metrics are meaningful financial metrics and enhance our understanding of the underlying profitability drivers of our business, they should not be used as a substitute for net investment income, interest sensitive contract benefits or total benefits and expenses presented under GAAP.
In managing our business, we analyze net invested assets, which does not correspond to total investments, including investments in related parties, as disclosed in our consolidated financial statements and notes thereto. Net invested assets represents the investments that directly back our net reserve liabilities as well as surplus assets. Net invested assets is used in the computation of net investment earned rate, which allows us to analyze the profitability of our investment portfolio. Net invested assets includes (a) total investments on the consolidated balance sheets with AFS securities at cost or amortized cost, excluding derivatives, (b) cash and cash equivalents and restricted cash, (c) investments in related parties, (d) accrued investment income, (e) the consolidated VIE assets, liabilities and noncontrolling interest, (f) net investment payables and receivables and (g) policy loans ceded (which offset the direct policy loans in total investments). Net invested assets also excludes assets associated with funds withheld liabilities related to business exited through reinsurance agreements and derivative collateral (offsetting the related cash positions). We include the underlying investments supporting our assumed funds withheld and modco agreements in our net invested assets calculation in order to match the assets with the income received. We believe the adjustments for reinsurance provide a view of the assets for which we have economic exposure. Net invested assets includes our proportionate share of ACRA investments, based on our economic ownership, but does not include the proportionate share of investments associated with the noncontrolling interest. Our net invested assets are averaged over the number of quarters in the relevant period to compute our net investment earned rate for such period. While we believe net invested assets is a meaningful financial metric and enhances our understanding of the underlying drivers of our investment portfolio, it should not be used as a substitute for total investments, including related parties, presented under GAAP.
Net income available to AHL common shareholders increased by $1.1 billion, or 103%, to $2.1 billion in 2019 from $1.1 billion in 2018. ROE increased to 19.7% in 2019 from 12.1% in 2018. The increase in net income available to AHL common shareholders was driven by an increase in revenues of $9.6 billion, partially offset by an increase in benefits and expenses of $8.5 billion.
Net investment income increased by $518 million to $4.5 billion in 2019 from $4.0 billion in 2018, primarily driven by growth in our investment portfolio attributed to the Voya and Lincoln reinsurance transactions and a strong increase in deposits over the prior twelve months. Additionally, net investment income increased due to higher bond call income and mortgage prepayments as well as higher alternative investment income, partially offset by the run-off of higher yielding assets and the unfavorable impact of the lower interest rate environment on new investment purchases in 2019 and lower RMBS returns.
Product charges increased by $75 million to $524 million in 2019 from $449 million in 2018, primarily driven by growth in the block of business as well as surrender and rider charges related to the addition of the Voya reinsurance liabilities.
Interest sensitive contract benefits increased by $4.3 billion to $4.6 billion in 2019 from $290 million in 2018, driven by an increase in FIA fair value embedded derivatives of $4.1 billion and growth in the block of business. The change in the FIA fair value embedded derivatives was due to the performance of the equity indices to which our FIA policies are linked, primarily the S&P 500 index, which increased 28.9% in 2019, compared to a decrease of 6.2% in 2018, as well as an unfavorable change in discount rates used in our embedded derivative calculations as the current year experienced a decrease in discount rates compared to 2018, which experienced an increase in discount rates. Additionally, the change in FIA fair value embedded derivatives was due to the unfavorable impact of our annual unlocking of assumptions of $385 million. Unlocking was unfavorably impacted by an increase of $76 million in 2019 compared to a decrease of $309 million in 2018, both of which were mainly attributed to changes in lapse assumptions.
Future policy and other policy benefits increased by $3.3 billion to $7.6 billion in 2019 from $4.3 billion in 2018, primarily attributable to higher PRT obligations, higher benefits for payout annuities with life contingencies due to the Voya reinsurance transaction and an increase in the change in AmerUs Closed Block fair value liability, partially offset by the 2018 Voya reinsurance policyholder obligations at inception and a decrease in the change in rider reserves. The change in the AmerUs Closed Block fair value liability of $285 million was primarily driven by the increase in unrealized gains on the underlying investments related to the change in U.S. Treasury rates compared to the prior year and credit spreads tightening. The change in rider reserve of $91 million was primarily due to the favorable unlocking of assumptions of $273 million and an unfavorable net change in FIA derivatives, partially offset by the favorable change in reinsurance embedded derivatives and growth in the block of business. Unlocking in 2019 was favorable by $61 million related to changes in lapse assumptions, partially offset by changes in the long-term net investment earned rate assumption. The 2018 unlocking impacts were unfavorable by $212 million related to changes in lapse assumptions partially offset by utilization of certain rider benefits.
Income tax expense decreased by $5 million to $117 million in 2019 from $122 million in 2018.
Our effective tax rates were 5% in 2019 and 10% in 2018. The decrease in our effective tax rate was primarily driven by the emergence of profits in non-taxable jurisdictions related to a favorable change in fair value of reinsurance assets. Our effective tax rates may vary period to period depending primarily upon the relationship of income and loss subject to tax compared to consolidated income and loss before income taxes.
Net income available to AHL common shareholders decreased by $305 million, or 22%, to $1.1 billion in 2018 from $1.4 billion in 2017. ROE decreased to 12.1% from 16.9% in 2017. The decrease in net income available to AHL common shareholders was driven by a $2.2 billion decrease in total revenues, partially offset by a decrease in benefits and expenses of $1.9 billion.
Investment related gains and losses decreased by $3.9 billion to a loss of $1.3 billion in 2018 from a gain of $2.6 billion in 2017, primarily due to the change in fair value of FIA hedging derivatives, the change in reinsurance embedded derivatives, an unfavorable change in gains and losses on trading securities and a $50 million gain on the sale of an equity security during 2017. The change in fair value of FIA hedging derivatives decreased by $2.8 billion driven by the weak performance of the indices upon which our call options are based. The majority of our call options are based on the S&P 500 index which experienced a 6.2% decrease in 2018, compared to a 19.4% increase in 2017. The change in reinsurance embedded derivatives decreased by $639 million primarily driven by a change in the value of the underlying assets related to credit spreads widening and the increase in U.S. treasury rates compared to the prior year, which benefited from credit spreads tightening. Both of these drivers were magnified by growth in the reinsurance block related to the Voya and Lincoln transactions. The unfavorable change in gains and losses on trading securities of $284 million was comprised primarily by a decrease in AmerUs Closed Block assets of $179 million related to higher losses resulting from credit spreads widening and the increase in U.S. treasury rates compared to prior year.
Net investment income increased by $735 million to $4.0 billion in 2018 from $3.3 billion in 2017, primarily driven by earnings from growth in our investment portfolio attributed to the Voya and Lincoln reinsurance transactions as well as a strong increase in deposits over the prior twelve months. Additionally, net investment income increased due to higher floating rate investment income of $113 million related to higher short-term interest rates and strong alternative investment income, partially offset by the deconsolidation of our former German operations.
Policy and other operating expenses decreased by $46 million to $626 million in 2018 from $672 million in 2017, primarily driven by $82 million related to the deconsolidation of Germany and lower stock compensation expense of $19 million as well as a decrease in restructuring and acquisition expenses mainly due to 2017 Germany restructuring and higher costs associated with acquisition and block reinsurance opportunities in 2017, partially offset by $41 million of interest expense related to our January 2018 debt issuance.
Future policy and other policy benefits increased by $1.0 billion to $4.3 billion in 2018 from $3.3 billion in 2017, primarily attributable to the Voya reinsurance policyholder obligations at inception related to payout annuities with life contingencies, higher PRT obligations and an increase in rider reserves, partially offset by $247 million related to the deconsolidation of our former German subsidiaries and a decrease in the change in AmerUs Closed Block fair value liability. The increase in rider reserves of $251 million was primarily driven by an increase related to our annual unlocking of assumptions of $163 million, an increase related to the net change in FIA derivatives, growth in the block and unfavorable equity market performance compared to 2017, resulting in decreased index credits to policyholder accounts, which increased the amount needed to fund the rider reserve. Unlocking in 2018 was unfavorable by $212 million related to changes in lapse assumptions partially offset by utilization of certain rider benefits, while 2017 unlocking impacts were unfavorable by $49 million related to changes in the net investment earned rate and mortality assumptions. The favorable change in the AmerUs Closed Block fair value liability of $200 million was primarily driven by the increase in unrealized losses on the underlying investments related to credit spreads widening and the change in U.S. treasury rates compared to prior year.
Our consolidated net investment earned rate was 4.48% in 2019, a decrease from 4.54% in 2018, due to a lower performance of our fixed and other investment portfolio, partially offset by favorable alternative investment returns. Fixed and other net investment earned rate was 4.23% in 2019, a decrease from 4.37% in 2018, primarily driven by run-off of higher yielding assets and the unfavorable impact of the lower interest rate environment on new investment purchases in 2019 and lower RMBS returns, partially offset by higher bond call income and mortgage prepayments. Alternative net investment earned rate was 9.84% in 2019, an increase from 8.51% in 2018, primarily driven by an increase in market value of the equity position in OneMain and the unfavorable 2018 change in market value of an equity position in Caesars Entertainment Corporation (Caesars), partially offset by lower credit fund and MidCap returns.
Non-operating adjustments increased by $934 million to $847 million in 2019 from $(87) million in 2018. The increase in non-operating adjustments was primarily driven by the favorable change in fair value of reinsurance assets and an increase in gains on the sale of AFS securities, partially offset by the unfavorable net change in FIA derivatives. The change in fair value of reinsurance assets was favorable by $1.8 billion due to a decrease in U.S. Treasury rates, credit spreads tightening, and growth in the reinsurance block from the Voya and Lincoln transactions. Realized gains and losses increased $112 million driven by gains on the sale of AFS securities in 2019. Net FIA derivatives were unfavorable by $307 million due to an unfavorable change in discount rates used in our embedded derivative calculations as the current year experienced a decrease in discount rates compared to an increase in 2018, as well as $261 million of unfavorable unlocking net of offsets, partially offset by the favorable performance of the equity indices to which our FIA policies are linked, primarily the S&P 500 index. Unlocking, net of DAC and rider reserve offsets, was unfavorably impacted by $65 million in 2019 compared to a favorable impact of $196 million in 2018, both of which were mainly attributed to changes in lapse assumptions.
Our consolidated net investment earned rate was 4.54% in 2018, an increase from 4.47% in 2017, primarily due to the performance in our fixed and other investment portfolio. Fixed and other net investment earned rate was 4.37% in 2018, an increase from 4.26% in 2017, driven by higher floating rate investment income in 2018 and the deconsolidation of Germany, which lowered returns in 2017, partially offset by lower new money rates over the past year and lower returns on assets from the Voya and Lincoln reinsurance transactions. Alternative net investment earned rate was 8.51% in 2018, a decrease from 8.72% in 2017, driven by the decline in market value of public equity positions in two of our funds, partially offset by strong MidCap and AmeriHome performance and higher income in one of our hedge funds.
Non-operating adjustments decreased by $390 million to $(87) million in 2018 from $303 million in 2017. The decrease in non-operating adjustments was primarily driven by the unfavorable change in fair value of reinsurance assets and a decrease in realized gains and losses on the sale of AFS securities, partially offset by lower non-operating expenses. The change in fair value of reinsurance assets was unfavorable by $554 million due to credit spreads widening compared to the prior year, which benefited from credit spreads tightening, and growth in the reinsurance block from the Voya and Lincoln transactions. Realized gains and losses decreased $124 million driven by gains on the sale of equity securities in 2017 and the redeployment of the investment portfolio received in the Voya transaction. Non-operating expenses were favorable compared to prior year as 2017 included higher acquisition and block reinsurance costs, Germany restructuring costs, and higher stock compensation expense due to 2017 vesting performance of shares.
Net investment spread, which measures the spread on our investment performance less the total cost of our liabilities, decreased 20 basis points to 1.50% in 2019 from 1.70% in 2018. Net investment earned rate decreased primarily due to the decline in fixed and other net investment earned rate and the decrease in alternative net investment earned rate. The fixed and other net investment earned rate decreased to 4.23% in 2019, from 4.36% in 2018 primarily attributed to run-off of higher yielding assets and the unfavorable impact of the lower interest rate environment on new investment purchases in 2019 and lower RMBS returns, partially offset by higher bond call income and mortgage prepayments. The alternative net investment earned rate decreased to 9.32% in 2019, from 11.15% in 2018, primarily driven by lower credit fund, real asset fund and MidCap returns.
Investment margin on deferred annuities, which measures our investment performance less the cost of crediting for our deferred annuities, decreased by 19 basis points to 2.46% in 2019, from 2.65% in 2018, driven by a decrease in the net investment earned rate and a slight increase in the cost of crediting on deferred annuities. We continue to focus on pricing discipline, managing interest rates credited to policyholders and managing the cost of options to fund the annual index credits on our FIA products.
Adjusted operating income available to common shareholders increased by $163 million, or 16%, to $1.2 billion in 2018, from $1.0 billion in 2017. Adjusted operating ROE was 18.4%, down from 21.5% in 2017. The increase in adjusted operating income available to common shareholders was driven by higher net investment earnings, partially offset by higher cost of funds. Net investment earnings were higher primarily driven by $35.8 billion of growth in our net invested assets delivering attractive spread accretion over prior year primarily attributed to inorganic deposits from the Voya and Lincoln reinsurance transactions, strong organic deposits over the prior twelve months and higher floating rate income of $113 million related to higher short-term interest rates, as well as higher alternative investment income attributed to the strong performance from MidCap and AmeriHome and higher income in one of our hedge funds. Cost of funds was higher primarily due to higher rider reserves and DAC amortization related to unfavorable equity market performance resulting in an unfavorable $21 million impact in 2018 compared to a favorable $152 million impact in 2017, as well as unfavorable unlocking which had an unfavorable $13 million impact compared to a favorable $20 million impact in the prior year. Unlocking in 2018 reflected changes in lapse assumptions partially offset by utilization of certain rider benefits, while 2017 reflected changes in the net investment earned rate and mortality assumptions.
Cost of funds increased by 14 basis points to 2.90% in 2018, from 2.76% in 2017, primarily driven by growth in our institutional channel at a higher rate, unfavorable rider reserves and DAC amortization related to equity market impacts, an increase in option costs due to higher volatility and short-term interest rates and higher cost of crediting on Voya and Lincoln reinsurance liabilities.
Corporate and Other includes certain other operations related to our corporate activities and prior to January 1, 2018, included our former German operations, which were primarily comprised of participating long-duration savings products. Included in Corporate and Other are corporate allocated expenses, merger and acquisition costs, debt costs, preferred stock dividends, certain integration and restructuring costs, certain stock-based compensation and intersegment eliminations. In addition, we also hold capital in excess of the level of capital we hold in Retirement Services to support our operating strategy.
We had consolidated investments, including related parties, of $129.8 billion and $107.6 billion as of December 31, 2019 and 2018, respectively. Our investment strategy seeks to achieve sustainable risk-adjusted returns through the disciplined management of our investment portfolio against our long-duration liabilities, coupled with the diversification of risk. The investment strategies utilized by our investment managers focus primarily on a buy and hold asset allocation strategy that may be adjusted periodically in response to changing market conditions and the nature of our liability profile. Substantially all of our investment portfolio is managed by Apollo, which provides a full suite of services, including direct investment management, asset allocation, mergers and acquisition asset diligence, and certain operational support services, including investment compliance, tax, legal and risk management support. Our relationship with Apollo allows us to take advantage of our generally illiquid liability profile by identifying investment opportunities with an emphasis on earning incremental yield by taking liquidity and complexity risk rather than assuming solely credit risk. Apollo’s investment team and credit portfolio managers utilize their deep experience to assist us in sourcing and underwriting complex asset classes. Apollo has selected a diverse array of corporate bonds and more structured, but highly rated asset classes. We also maintain holdings in floating rate and less rate-sensitive instruments, including CLOs, non-agency RMBS and various types of structured products. In addition to our fixed income portfolio, we opportunistically allocate 5-10% of our portfolio to alternative investments where we primarily focus on fixed income-like, cash flow-based investments.
Our net invested assets, which are those that directly back our reserve liabilities as well as surplus assets, were $117.5 billion and $111.0 billion as of December 31, 2019 and 2018, respectively. Apollo’s knowledge of our funding structure and regulatory requirements allows it to design customized strategies and investments for our portfolio. Apollo manages our asset portfolio within the limits and constraints set forth in our Investment and Credit Risk Policy. Under this policy, we set limits on investments in our portfolio by asset class, such as corporate bonds, emerging markets securities, municipal bonds, non-agency RMBS, CMBS, CLOs, commercial mortgage whole loans and mezzanine loans and investment funds. We also set credit risk limits for exposure to a single issuer that vary based on the issuer’s ratings. In addition, our investment portfolio is constrained by its scenario-based capital ratio limit and its stressed liquidity limit.
We invest in AFS securities with the intent to hold investments to maturity. In selecting investments, we attempt to source investments that match our future cash flow needs. However, we may sell any of our investments in advance of maturity in order to timely satisfy our liabilities as they become due or in order to respond to a change in the credit profile or other characteristics of the particular investment.
AFS securities are carried at fair value on our consolidated balance sheets. Changes in fair value of our AFS securities, net of related DAC, DSI and VOBA amortization and the change in rider reserves, are charged or credited to other comprehensive income, net of tax. Declines in fair value that are other than temporary are recorded as realized losses in the consolidated statements of income, net of any applicable non-credit component of the loss, which is recorded as an adjustment to other comprehensive income.
The fair value of our AFS securities, including related parties, was $75.2 billion and $60.7 billion as of December 31, 2019 and 2018, respectively. The increase was mainly driven by strong growth in deposits over liability outflows, the change in unrealized gains on AFS securities and reinvestment of earnings. The increase in unrealized gains and losses on AFS securities was attributed to the decrease in U.S. Treasury rates and credit spreads tightening.
The SVO has developed a designation process and provides instruction on both modeled and non-modeled LBaSS. For modeled LBaSS, the process is specific to the non-agency RMBS and CMBS asset classes. In order to establish ratings at the individual security level, the SVO obtains loan-level analysis of each RMBS and CMBS using a selected vendor’s proprietary financial model. The SVO ensures that the vendor has extensive internal quality-control processes in place and the SVO conducts its own quality-control checks of the selected vendor’s valuation process. The SVO has retained the services of Blackrock, Inc. (Blackrock) to model non-agency RMBS and CMBS owned by U.S. insurers for all years presented herein. Blackrock provides five prices (breakpoints), based on each U.S. insurer’s statutory book value price, to utilize in determining the NAIC designation for each modeled LBaSS.
Prior to January 1, 2019, certain non-modeled LBaSS (including CLOs and ABS, other than RMBS and CMBS) underwent ratings evaluation by an NAIC credit rating provider (CRP). Such securities were subject to an exemption from the General Designation Process (MFE Exemption) and received NAIC designations through a prescribed process (MFE Process). Pursuant to the MFE Process, CRP ratings were translated to an NAIC designation equivalent. If the translation process resulted in an NAIC designation equivalent of NAIC 1 or NAIC 6, then such designation was considered the final NAIC designation. If the translation process resulted in an NAIC designation equivalent of NAIC 2 through NAIC 5, then the NAIC designation equivalent was used to select the appropriate breakpoint from a pricing matrix and such breakpoint was applied to the amortized cost or fair value (in each instance, as a percentage of par), as applicable, to determine the final NAIC designation. Effective January 1, 2019, the MFE Exemption was eliminated, and as a result, NAIC designations for all non-modeled LBaSS are thereafter determined through the General Designation Process.
The NAIC designation determines the associated level of RBC that an insurer is required to hold for all securities owned by the insurer. In general, under the modeled LBass process and, prior to January 1, 2019, the non-modeled LBaSS processes, the larger the discount to par value at the time of determination, the higher the NAIC designation the LBaSS will have.
As of December 31, 2019 and 2018, a majority of our CLO portfolio, 98.1% and 92.9%, respectively, was invested in assets considered to be investment grade based upon application of the NAIC’s methodology. As of December 31, 2019 and 2018, 98.1% and 97.1%, respectively, of our CLO portfolio was considered investment grade based on NRSRO ratings. The increase in our CLO portfolio is mainly due to attractive investments made during the period as new deposits and the Voya and Lincoln investment portfolios were redeployed.
Residential Mortgage-backed Securities - A portion of our AFS portfolio is invested in RMBS, which are constructed from pools of residential mortgages. These holdings were $7.4 billion and $8.0 billion as of December 31, 2019 and 2018, respectively.
A significant majority of our RMBS portfolio, 95.4% and 95.8% as of December 31, 2019 and 2018, respectively, was invested in assets considered to be investment grade based upon NAIC designations. The NAIC’s methodology with respect to RMBS gives explicit effect to the amortized cost at which an insurance company carries each such investment. Because we invested in RMBS after the stresses related to U.S. housing had caused significant downward pressure on prices of RMBS, we carry most of our investments in RMBS at significant discounts to par value, which results in an investment grade NAIC designation. In contrast, our understanding is that in setting ratings, NRSROs focus on the likelihood of recovering all contractual payments, including principal at par value. As a result of a fundamental difference in approach, as of December 31, 2019 and 2018, NRSRO characterized 50.8% and 45.4%, respectively, of our RMBS portfolio as investment grade.
The gross unrealized losses on AFS securities, including related parties, were $469 million and $1.8 billion as of December 31, 2019 and 2018, respectively. The decrease in unrealized losses was driven by the decrease in U.S. Treasury rates and credit spreads tightening during year ended December 31, 2019.
Portugal, Ireland, Italy, Greece and Spain continue to represent credit risk as economic conditions in these countries continue to be volatile, especially within the financial and banking sectors. We had $1.2 billion and $649 million as of December 31, 2019 and 2018, respectively, of exposure in these countries.
Trading securities, including related parties, were $2.8 billion and $2.2 billion as of December 31, 2019 and 2018, respectively. Trading securities are primarily comprised of AmerUs Closed Block securities for which we have elected the fair value option valuation, CLO equity tranche securities, structured securities with embedded derivatives, and investments which support various reinsurance arrangements.
It is our policy to cease to accrue interest on loans that are over 90 days delinquent. For loans less than 90 days delinquent, interest is accrued unless it is determined that the accrued interest is not collectible. If a loan becomes over 90 days delinquent, it is our general policy to initiate foreclosure proceedings unless a workout arrangement to bring the loan current is in place. As of December 31, 2019 and 2018, we had $67 million and $48 million, respectively, of mortgage loans that were 90 days past due, of which $33 million and $15 million, respectively, were in the process of foreclosure.
Our investment funds investment strategy primarily focuses on funds with core holdings of credit assets, real assets, real estate, preferred equity and income producing assets. Our investment funds generally meet the definition of a VIE, and in certain cases these investment funds are consolidated in our financial statements because we meet the criteria of the primary beneficiary. See Note 4 - Variable Interest Entities to the consolidated financial statements for further discussion on our investment funds that meet the criteria for consolidation and the accounting treatment for them.
Funds withheld at interest represents a receivable for amounts contractually withheld by ceding companies in accordance with modco and funds withheld reinsurance agreements in which we act as the reinsurer. Generally, assets equal to statutory reserves are withheld and legally owned by the ceding company. We hold funds withheld at interest receivables, including those held with VIAC and Lincoln. As of December 31, 2019, the significant majority of the ceding companies holding the assets pursuant to such reinsurance agreements had a financial strength rating of B+ or better.
As of December 31, 2019 and 2018, we held $28.4 billion and $28.6 billion, respectively, of funds withheld at interest receivables, including related party. Approximately 94.4% and 96.6% of the fixed maturity securities within the funds withheld at interest are investment grade by NAIC designation as of December 31, 2019 and 2018, respectively.
A discussion regarding our derivative instruments and how such instruments are used to manage risk is included in Note 3 - Derivative Instruments to the consolidated financial statements.
Net invested assets is utilized by management to evaluate our investment portfolio. Net invested asset figures are used in the computation of net investment earned rate, which allows us to analyze the profitability of our investment portfolio. Net invested assets is also used in our risk management processes for asset purchases, product design and underwriting, stress scenarios, liquidity, and ALM.
Our alternative investment in A-A Mortgage had a net invested asset value of $595 million and $568 million as of December 31, 2019 and 2018, respectively. Our investment in A-A Mortgage represents our proportionate share of its net asset value, which largely reflects any contributions to and distributions from A-A Mortgage and the fair value of AmeriHome. A-A Mortgage returned a net investment earned rate of 14.00%, 13.15% and 12.01% for the years ended December 31, 2019, 2018, and 2017, respectively. Alternative investment income from A-A Mortgage was $81 million, $72 million and $58 million for the years ended December 31, 2019, 2018 and 2017, respectively. The increase in alternative investment income of $9 million was primarily driven by a gain on the sale of of mortgage servicing rights in 2019. The increase in alternative investment income of $14 million, or 24%, for 2018 compared to 2017 was driven by strong originations and an increase in balance sheet size.
We perform a number of stress tests and analyses to assess our ability to meet our cash flow requirements, as well as the ability of our reinsurance and insurance subsidiaries to meet their collateral obligations. Among these analyses, we manage to the following ALM limits:
dividends from ALRe sufficient to support the ongoing operations of AHL must be available under moderate and substantial stress scenarios
The maximum FHLB indebtedness by a member is determined by the amount of collateral pledged and cannot exceed a specified percentage of the member’s total statutory assets dependent on the internal credit rating assigned to the member by the FHLB. As of December 31, 2019, the total maximum borrowings under the FHLB facility were limited to $19.5 billion. However, our ability to borrow under the facility is constrained by the availability of assets that qualify as eligible collateral under the facility and by the Iowa Code requirement that we maintain funds equivalent to our legal reserve in certain permitted investments, from which we exclude pledged assets. Considering these limitations, we estimate that as of December 31, 2019 we had the ability to draw up to a total of approximately $1.9 billion, inclusive of borrowings then outstanding. This estimate is based on our internal analysis and assumptions and may not accurately measure collateral which is ultimately acceptable to the FHLB. Drawing such amounts would have an adverse impact on AAIA’s RBC ratio, which may further restrict our ability or willingness to draw up to our estimated capacity.
The primary cash inflows from operating activities include net investment income, annuity considerations and insurance premiums. The primary cash outflows from operating activities are comprised of benefit payments and operating expenses. Our operating activities generated cash flows totaling $2.7 billion, $2.9 billion and $3.2 billion for the years ended December 31, 2019, 2018 and 2017, respectively. The decrease in cash provided by operating activities for the year ended December 31, 2019 compared to 2018 was primarily driven by lower cash received on PRT premiums, partially offset by an increase in net investment income reflecting an increase in our investment portfolio, the 2018 ceding commissions related to the Voya and Lincoln reinsurance transactions and higher commissions in 2018 compared to 2019 related to higher 2018 retail sales. The increase in cash provided by operating activities for the year ended December 31, 2018 compared to 2017 was primarily driven by the ceding commissions related to the Voya and Lincoln reinsurance transactions, higher tax refunds in 2017 and higher commissions due to strong retail sales, partially offset by an increase in net investment income reflecting an increase in our investment portfolio and an increase in PRT premiums.
The primary cash inflows from financing activities are deposits on our investment-type policies, changes of cash collateral posted for derivative transactions, capital contributions and proceeds from borrowing activities. The primary cash outflows from financing activities are withdrawals on our investment-type policies, changes of cash collateral posted for derivative transactions and repayments of outstanding borrowings. Our financing activities provided cash flows totaling $8.5 billion, $3.7 billion and $5.0 billion for the years ended December 31, 2019, 2018 and 2017, respectively. The change in cash provided from financing activities for the year ended December 31, 2019 compared to 2018 was primarily attributed to the change in cash collateral posted for derivative transactions and securities to repurchase driven by favorable equity market performance in 2019, proceeds from the issuance of preferred stock, higher investment-type deposits from retail, flow reinsurance and funding agreement deposits, subsidiary issuance of equity shares related to the sale of ACRA shares to ADIP and issuance of short-term debt, partially offset by 2018 proceeds from the issuance of debt and the repurchase of common stock in 2019. The change in cash provided from financing activities for the year ended December 31, 2018 compared to 2017 was primarily attributed to the change in cash collateral posted for derivative transactions and lower funding agreement issuances in 2018, partially offset by proceeds from the issuance of debt.
If needed, we may seek to secure additional funding at the holding company level by means other than dividends from subsidiaries, such as by drawing on our undrawn $1.25 billion Credit Facility or by pursuing future issuances of debt or equity securities to third-party investors. See Note 9 - Debt to the consolidated financial statements for more information regarding our Credit Facility. However, such additional funding may not be available on terms favorable to us or at all, depending on our financial condition, results of operations or prevailing market conditions. In addition, certain covenants in our Credit Facility prohibit us from maintaining debt in excess of specified thresholds, which may limit our ability to pursue future issuances of debt. Specifically, our Credit Facility prohibits us from permitting the Consolidated Debt to Capitalization Ratio (as such term is defined in the Credit Facility) to exceed 35% as of the end of any quarter. Certain other sources of liquidity potentially available at the holding company level are discussed below.
Debt - On January 12, 2018 we issued $1.0 billion in aggregate principal amount of 4.125% Senior Notes due January 2028.
Preferred Stock - On June 10, 2019, we issued 34,500 6.35% Fixed-to-Floating Rate Perpetual Non-Cumulative Preference Shares, Series A, par value of $1.00 per share with a liquidation preference of $25,000 per share, for aggregate proceeds of $839 million, net of the underwriters’ discount and expenses.
On September 19, 2019, we issued 13,800 5.625% Fixed Rate Perpetual Non-Cumulative Preference shares, Series B, par value of $1.00 per share with a liquidation preference of $25,000 per share, for aggregate proceeds of $333 million, net of the underwriters’ discount and expenses. See Note 10 - Equity to the consolidated financial statements for further information.
While our business strategy does not involve the use of captives, as a result of the Aviva USA acquisition, we acquired a captive reinsurer that was formed in 2011 and domiciled in the state of Vermont and we ceded certain liabilities to this captive reinsurer. The statutory reserves of the affiliated captive reinsurer are supported by a combination of funds withheld receivable assets and letters of credit issued by an unaffiliated financial institution. The reinsurance activities within the captive reinsurer are eliminated in consolidation. As discussed in Note 13 - Statutory Requirements to the consolidated financial statements, a permitted practice of the state of Vermont allows the captive to include issued and outstanding letters of credit in the amount of $137 million and $153 million as of December 31, 2019 and 2018, respectively, as admitted assets in its statutory financial statements.
The NAIC and certain state insurance departments have scrutinized insurance companies’ use of affiliated captive reinsurers. It is uncertain what, if any, regulatory changes will result from this heightened scrutiny. A potential outcome, although not considered likely, is the prohibition on the continued use of captive reinsurance subsidiaries. If the use of existing captive reinsurance subsidiaries were discontinued, we would likely incur early termination fees with respect to the financing structure and diminished statutory capital position. The effect of potential regulatory changes regarding the use of captives on our consolidated financial condition and results of operations, although believed unlikely to be material, is uncertain at this time.
As of December 31, 2019 and 2018, our U.S. insurance companies’ TAC, as defined by the NAIC, was $2.4 billion and $2.2 billion, respectively, and our U.S. RBC ratio was 429% and 421%, respectively. Each U.S. domestic insurance subsidiary’s state of domicile imposes minimum RBC requirements that were developed by the NAIC. The formulas for determining the amount of RBC specify various weighting factors that are applied to financial balances or various levels of activity based on the perceived degree of risk. Regulatory compliance is determined by a ratio of TAC to its authorized control level RBC (ACL). Our TAC was significantly in excess of all regulatory standards as of December 31, 2019 and 2018, respectively.
The following table summarizes estimated future payments on our contractual obligations as of December 31, 2019:
The preparation of consolidated financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of any contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Amounts based on such estimates involve numerous assumptions subject to varying and potentially significant degrees of judgment and uncertainty, particularly related to the future performance of the underlying business, and will likely change in the future as additional information becomes available. Critical estimates and assumptions are evaluated on an ongoing basis based on historical developments, market conditions, industry trends and other information that is reasonable under the circumstances. There can be no assurance that actual results will conform to estimates and assumptions and that reported results of operations will not be materially affected by the need to make future accounting adjustments to reflect periodic changes in these estimates and assumptions. Critical accounting estimates are impacted significantly by our methods, judgments and assumptions used in the preparation of the consolidated financial statements and should be read in conjunction with our significant accounting policies described in Note 1 - Business, Basis of Presentation and Significant Accounting Policies to the consolidated financial statements. The following summary of our critical accounting estimates is intended to enhance one’s ability to assess our financial condition and results of operations and the potential volatility due to changes in estimates.
We are responsible for the fair value measurement of certain investments presented in our consolidated financial statements. We perform regular analysis and review of our valuation techniques, assumptions and inputs utilized in determining fair value to evaluate if the valuation approaches are appropriate and consistently applied, and the various assumptions are reasonable. We also perform quantitative and qualitative analysis and review of the information and prices received from commercial pricing services and broker-dealers, to verify it represents a reasonable estimate of the fair value of each investment. In addition, we utilize both internally-developed and commercially-available cash flow models to analyze the reasonableness of fair values utilizing credit spread and other market assumptions, where appropriate. For investment funds, we typically recognize our investment, including those for which we have elected the fair value option, based on net asset value information provided by the general partner or related asset manager. For a discussion of our investment funds for which we have elected the fair value option, see Note 5 - Fair Value to the consolidated financial statements.
The following table presents the fair value of fixed maturity and equity securities, including those with related parties and those held by consolidated VIEs, by pricing source and fair value hierarchy:
The recognition of impairment losses on fixed maturity securities is dependent on the facts and circumstances related to the specific security. If we intend to sell a security or it is more-likely-than-not that we would be required to sell a security before the recovery of its cost or amortized cost, less any recorded credit loss, we recognize a loss in other-than-temporary impairment losses on the consolidated statements of income for the difference between cost or amortized cost and fair value. If neither of these two conditions exists, then the recognition of the loss is bifurcated and we recognize the credit loss portion in other-than-temporary impairment losses on the consolidated statements of income and the non-credit loss portion in AOCI on the consolidated balance sheets.
The future policy benefit liabilities associated with long duration contracts include term and whole-life products, accident and health, disability, and deferred and immediate annuities with life contingencies. Liabilities for non-participating long duration contracts are established using accepted actuarial valuation methods which require us to make certain assumptions regarding expenses, investment yields, mortality, morbidity, and persistency, with a provision for adverse deviation, at the date of issue or acquisition. As of December 31, 2019, the reserve investment yield assumptions for non-participating contracts range from 3.31% to 5.44% and are specific to our expected earned rate on the asset portfolio supporting the reserves. We base other key assumptions, such as mortality and morbidity, on industry standard data adjusted to align with actual company experience, if necessary. Premium deficiency tests are performed periodically using current assumptions, without provisions for adverse deviation, in order to test the appropriateness of the established reserves. If the reserves using current assumptions are greater than the existing reserves, the excess is recorded and the initial assumptions are revised.
Projected policyholder lapse and withdrawal behavior assumptions are set in one of two ways. For certain blocks of business, this behavior is a function of our predictive analytics model which considers various observable inputs. For the remaining blocks of business, these assumptions are set at the product level by grouping individual policies sharing similar features and guarantees and reviewed periodically against experience. Base lapse rates consider the level of surrender charges and are dynamically adjusted based on the level of current interest rates relative to the guaranteed rates and the amount by which any rider guarantees are in a net positive position. Rider utilization assumptions consider the number and timing of policyholders electing the riders. We track and update this assumption as experience emerges. Mortality assumptions are set at the product level and generally based on standard industry tables, adjusted for historical experience and a provision for mortality improvement. Projected guaranteed benefit amounts in excess of the underlying account balances are considered over a range of scenarios in order to capture our exposure to the guaranteed withdrawal and death benefits.
We have audited the accompanying consolidated balance sheets of Athene Holding Ltd. and its subsidiaries (the “Company”) as of December 31, 2019 and 2018, and the related consolidated statements of income, comprehensive income (loss), equity, and cash flows for each of the three years in the period ended December 31, 2019, including the related notes and financial statement schedules listed in the index appearing under Item 15(2) (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
The principal considerations for our determination that performing procedures relating to the valuation of certain structured fixed maturity securities is a critical audit matter are (i) there was significant judgment by management in determining the fair value of these investments as the valuation uses significant unobservable inputs, specifically, the discount rate, estimation of cash flows, and liquidity assumptions, which led to a high degree of auditor judgment, subjectivity and effort in performing the procedures relating to the estimate; and (ii) the audit effort involved the use of professionals with specialized skill and knowledge to assist in performing procedures and evaluating the audit evidence obtained.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to the valuation of certain structured fixed maturity securities, including controls over the development of the model and the significant unobservable inputs. These procedures also included, among others, developing an independent estimate of the value for a sample of the securities by obtaining independent pricing from third party vendors, if available. For a sample of structured fixed maturity securities, professionals with specialized skill and knowledge were used to assist in developing an independent range of prices and comparing management’s estimate to the independently developed ranges. Developing the independent estimate involved utilizing a range of available market inputs and assumptions specific to the discount rate, estimation of cash flows, and liquidity assumptions, and testing the completeness and accuracy of data provided by management.
As described in Notes 1, 3 and 5 to the consolidated financial statements, the Company issues and reinsures fixed indexed annuity products that contain embedded derivatives, valued at $10,942 million as of December 31, 2019. Fixed indexed annuity contracts allow the policyholder to elect a fixed interest rate return or an equity market component for which interest credited is based on the performance of certain stock market indices. The equity market option is an embedded derivative. The fair value of the embedded derivatives is computed as the present value of benefits attributable to the excess of the projected policy contract values over the projected minimum guaranteed contract values. The projections of policy contract values are based on assumptions for future policy growth, which includes assumptions for expected index credits on the next policy anniversary date, future equity option costs, volatility, interest rates, and policyholder behavior assumptions including lapses and the use of benefit riders.
The principal considerations for our determination that performing procedures relating to the valuation of embedded derivatives of fixed indexed annuities is a critical audit matter are (i) there was significant judgment by management in estimating the fair value of embedded derivatives, specifically the significant policyholder behavior assumptions including lapse and the use of benefit riders, which in turn led to a high degree of auditor judgment, subjectivity and effort in evaluating the audit evidence relating to the significant assumptions, and (ii) the audit effort involved the use of professionals with specialized skill and knowledge to assist in performing procedures and evaluating the audit evidence obtained.
The principal considerations for our determination that performing procedures relating to the valuation of the GLWB is a critical audit matter are (i) there was significant judgment by management in estimating the future policy benefit reserve of the GLWB rider, specifically the significant assumptions about policyholder behavior, including lapses and use of benefit riders, and the expected yield on investments supporting the liability which in turn led to a high degree of auditor judgment, subjectivity and effort in evaluating the audit evidence relating to the significant assumptions and (ii) the audit effort involved the use of professionals with specialized skill and knowledge to assist in performing procedures and evaluating the audit evidence obtained.
As described in Notes 1 and 7 to the consolidated financial statements, costs related directly to the successful acquisition of new, or renewal of, insurance or investment contracts are deferred to the extent they are recoverable from future premiums or gross profits. Deferred costs related to universal life-type policies and investment contracts with significant revenue streams from sources other than investment of the policyholder funds are amortized over the lives of the policies, based upon the proportion of the present value of actual and expected deferred costs to the present value of actual and expected gross profits to be earned over the life of the policies. Estimates of the expected gross profits are based on assumptions using accepted actuarial methods related to policyholder behavior, including lapses and the use of benefit riders, mortality, yields on investments supporting the liabilities, future interest credited amounts (including indexed related credited amounts on fixed indexed annuity products), and other policy changes as applicable, and the level of expenses necessary to maintain the policies over their expected lives.
The principal considerations for our determination that performing procedures relating to the valuation of DAC is a critical audit matter are (i) there was significant judgment by management in estimating the future gross profits used to amortize the DAC, specifically the significant policyholder behavior assumptions related to lapses and the use of benefit riders and yields on investments supporting the liabilities, which in turn led to a high degree of auditor judgment, subjectivity, and judgment in evaluating the audit evidence relating to the significant assumptions and (ii) the audit effort involved the use of professionals with specialized skill and knowledge to assist in performing procedures and evaluating the audit evidence obtained.
Athene Holding Ltd. (AHL), a Bermuda exempted company, together with its subsidiaries (collectively, Athene, we, our, us, or the Company), is a leading retirement services company that issues, reinsures and acquires retirement savings products in all United States (U.S.) states and the District of Columbia.
For entities that are consolidated, but not 100% owned, we allocate a portion of the income or loss and corresponding equity to the owners other than us. We include the aggregate of the income or loss and corresponding equity that is not owned by us in noncontrolling interests in the consolidated financial statements.
Deconsolidation - AGER Bermuda Holding Ltd. and its subsidiaries, now known as Athora Holding Ltd. (Athora), was our consolidated subsidiary for the year ended December 31, 2017. In April 2017, Athora entered into subscription agreements pursuant to which Athora secured commitments to purchase new common shares in Athora (Athora Offering). On January 1, 2018, the Athora Offering closed and Athora called capital from all of its investors, excluding us. In connection with the closing of the Athora Offering, our equity interest in Athora was exchanged for new common shares of Athora and our interest in Athora was reduced such that immediately after the closing of the Athora Offering, we held 10% of the aggregate voting power of and less than 50% of the economic interest in Athora. Our interest in Athora has since been held as a related party investment rather than a consolidated subsidiary. We did not recognize a material amount in the consolidated statements of income upon deconsolidation in 2018.
Trading Securities - We elected the fair value option for certain fixed maturity securities. These fixed maturity securities are classified as trading, with changes to fair value included in investment related gains (losses) on the consolidated statements of income. Although the securities are classified as trading, the trading activity related to these investments is primarily focused on asset and liability matching activities and is not intended to be an income strategy based on active trading. As such, the activity related to these investments on the consolidated statements of cash flows is classified as investing activities.
Purchased Credit Impaired (PCI) Investments - We purchase certain structured securities, primarily RMBS, and re-performing mortgage loans having experienced deterioration in credit quality since their issuance which meet the definition of PCI investments. We determined, based on our expectations as to the timing and amount of cash flows expected to be received, that it was probable at acquisition that we would not collect all contractually required payments, including both principal and interest, while also considering the effects of any prepayments for these PCI investments. Based on these assumptions, the difference between the undiscounted expected future cash flows of the PCI investment and the recorded investment represents the initial accretable yield, which is accreted into investment income, net of related expenses, over its remaining life on a level-yield basis. The difference between the contractually required payments on the PCI investment and the undiscounted expected future cash flows represents the non-accretable difference at acquisition. Over time, based on actual payments received and changes in estimates of undiscounted expected future cash flows, the accretable yield and the non-accretable difference can change. PCI investments are presented on the consolidated financial statements consistent with AFS securities or mortgage loans depending on the underlying investment.
Quarterly, we evaluate the undiscounted expected future cash flows associated with PCI investments based on updates to key assumptions. Changes to undiscounted expected future cash flows due solely to the changes in the contractual benchmark interest rates on variable rate PCI investments will change the accretable yield prospectively. Declines in undiscounted expected future cash flows due to further credit deterioration, as well as changes in the expected timing of the cash flows, can result in the recognition of an other-than-temporary impairment (OTTI) charge for PCI securities or a valuation allowance for PCI loans. Significant increases in undiscounted expected future cash flows are recognized prospectively as an adjustment to the accretable yield.
Mortgage Loans - Mortgage loans are primarily stated at unpaid principal balance, adjusted for any unamortized premium or discount, and net of valuation allowances. Interest income is accrued on the principal amount of the loan based on its contractual interest rate. We record amortization of premiums and discounts using the effective yield method and contractual cash flows on the underlying loan. We accrue interest on loans until it is probable we will not receive interest or the loan is 90 days past due. Interest income, amortization of premiums and discounts, and prepayment fees are reported in net investment income on the consolidated statements of income. We have also elected the fair value option on a portion of our mortgage loans.
We record our proportionate share of investment fund income within net investment income on the consolidated statements of income. Contributions paid or distributions received by us are recorded directly to the investment fund balance as an increase to carrying value or as a return of capital, respectively.
Policy Loans - Policy loans are funds provided to policyholders in return for a claim on the policyholder’s account value. The funds provided are limited to a specified percentage of the account balance. The majority of policy loans do not have a stated maturity and the balances and accrued interest are repaid with proceeds from the policyholder’s account balance. Policy loans are reported at the unpaid principal balance. Interest income is recorded as earned using the contract interest rate and is reported in net investment income on the consolidated statements of income.
Short-term Investments - Short-term investments consists of financial instruments with maturities of greater than three months but less than twelve months when purchased. Short-term debt securities are accounted for as trading or AFS consistent with our policies for those investments. Short-term loans are carried at amortized cost. Fair values are determined consistent with methodologies described in Note 5 - Fair Value for the respective investment type.
In periods after an OTTI is recognized on a fixed maturity security, we report the impaired security as if it had been purchased on the date it was impaired and continue to estimate the present value of the estimated cash flows of the security. Accordingly, the discount (or reduced premium) based on the new cost basis is accreted into net investment income over the remaining term of the fixed maturity security in a prospective manner based on the amount and timing of estimated future cash flows.
For a fair value hedge, changes in the fair value of the hedging derivative and changes in the fair value of the hedged item related to the designated risk being hedged, are reported on the consolidated statements of income according to the nature of the risk being hedged. Additionally, changes in the fair value of amounts excluded from the assessment of effectiveness are recorded in earnings.
Deferred Acquisition Costs and Deferred Sales Inducements - Costs related directly to the successful acquisition of new, or renewal of, insurance or investment contracts are deferred to the extent they are recoverable from future premiums or gross profits. These costs consist of commissions and policy issuance costs, as well as sales inducements credited to policyholder account balances, and are included in deferred acquisition costs, deferred sales inducements and value of business acquired on the consolidated balance sheets. We perform periodic tests, including at issuance, to determine if the deferred costs are recoverable. If we determine that the deferred costs are not recoverable, we record a cumulative charge to the current period.
See Note 7 - Deferred Acquisition Costs, Deferred Sales Inducements and Value of Business Acquired for further discussion.
Changes in the interest sensitive contract liabilities, excluding deposits and withdrawals, are recorded in interest sensitive contract benefits or product charges on the consolidated statements of income. Interest sensitive contract liabilities are not reduced for amounts ceded under reinsurance agreements which are reported as reinsurance recoverable on the consolidated balance sheets. See the reinsurance accounting policy discussed in -Reinsurance above and Note 6 - Reinsurance for more information on reinsurance.
Future Policy Benefits-We issue contracts classified as long-duration, which includes term and whole life, accident and health, disability, and deferred and immediate annuities with life contingencies (which includes PRT annuities with life contingencies). Liabilities for non-participating long-duration contracts are established using accepted actuarial valuation methods which require the use of assumptions related to expenses, investment yields, mortality, morbidity and persistency, with a provision for adverse deviation, at the date of issue or acquisition. As of December 31, 2019, the reserve investment yield assumptions for non-participating contracts range from 3.31% to 5.44% and are specific to our expected earned rate on the asset portfolio supporting the reserves. We base other key assumptions, such as mortality and morbidity, on industry standard data adjusted to align with actual company experience, if necessary.
We issue and reinsure deferred annuity contracts which contain GLWB and GMDB riders. We establish future policy benefits for GLWB and GMDB riders by estimating the expected value of withdrawal and death benefits in excess of the projected account balance. We recognize the excess proportionally over the accumulation period based on total actual and expected assessments. The methods we use to estimate the liabilities have assumptions about policyholder behavior, which includes lapses, withdrawals and use of benefit riders; mortality, expected yield on investments supporting the liability; and market conditions affecting the account balance growth.
Premiums for long-duration contracts, including products with fixed and guaranteed premiums and benefits, are recognized as revenue when due from policyholders. When premiums are due over a significantly shorter period than the period over which benefits are provided, such as immediate annuities with life contingencies (which includes PRT annuities), a deferred profit liability is established equal to the excess of the gross premium over the net premium. The deferred profit liability is recognized in future policy benefits on the consolidated balance sheets and amortized into income in a constant relationship to the benefit reserve through future policy and other policy benefits on the consolidated statements of income.
See Note 12 - Income Taxes for discussion on withholding taxes for undistributed earnings of subsidiaries.
Leases (ASU 2019-01, ASU 2018-20, ASU 2018-11, ASU 2018-10, ASU 2018-01, ASU 2017-13 and ASU 2016-02)
These updates increase transparency and comparability for lease transactions. ASU 2016-02 requires a lessee to recognize a right-of-use asset and lease liability on the balance sheet for all leases with an original term longer than twelve months and disclose key information about leasing arrangements. Lessor accounting is largely unchanged.
ASU 2016-02 requires the adoption on a modified retrospective basis. However, ASU 2018-11 provides the option to recognize the cumulative effect as an adjustment to the opening balance of retained earnings in the year of adoption, while continuing to present all prior periods under the previous lease guidance. These updates also provide optional practical expedients in transition.
We adopted these updates effective January 1, 2019 by recording a lease liability and right-of-use asset related to office space, copiers, reserved areas and equipment at data centers, and other agreements. We will continue to present all prior periods under the previous lease guidance. We elected the “package of practical expedients,” which permits us to maintain our prior conclusions about lease identification, classification and initial direct costs. We also elected the short-term lease exception, which allows us to exclude contracts with a lease term of 12 months or less, including any reasonably certain renewal options, from consideration under the new guidance. This update did not have a material effect on our consolidated financial statements.
The amendments in this update allow entities to use the Overnight Index Swap rate based on the Secured Overnight Financing Rate as a U.S. benchmark interest rate for hedge accounting purposes, in addition to the previously acceptable rates. We adopted this update prospectively for qualifying new or redesignated hedging relationships entered into on or after January 1, 2019. This update did not have an effect on our consolidated financial statements.
The amendments in this update simplify the accounting for share-based payments to nonemployees by aligning with the accounting for share-based payments to employees, with certain exceptions. We adopted this update on a modified retrospective basis effective January 1, 2019. This update did not have a material effect on our consolidated financial statements.
Financial Instruments - Credit Losses (ASU 2019-05, ASU 2019-04, ASU 2018-19 and ASU 2016-13)
This update will limit the number of credit impairment models used for different assets and will result in accelerated credit loss recognition on assets held at amortized cost, which includes our commercial and residential mortgage loans. The identification of purchased credit-deteriorated financial assets will include all assets that have experienced a more-than-insignificant deterioration in credit since origination. Additionally, changes in the expected cash flows of purchased credit-deteriorated financial assets will be recognized immediately in the income statement. Available-for-sale (AFS) securities are not in scope of the new credit loss model, but will undergo targeted improvements to the current reporting model including the establishment of a valuation allowance for credit losses versus the current direct write down approach. We will adopt this update effective January 1, 2020 with a cumulative-effect adjustment that will decrease retained earnings by approximately $216 million on a pre-tax basis, excluding the offsetting impacts to DAC, DSI, VOBA and the SOP 03-1 reserve, as a result of further refinement of our models and assumptions. The adjustment to retained earnings primarily relates to the establishment of an allowance on our commercial mortgage loan portfolio, which will represent approximately 1.72% of the amortized cost of the portfolio, but also includes immaterial impacts relating to other assets in scope, including residential mortgage loans, funds withheld at interest, and reinsurance recoverable.
The amendments in this update modify the disclosure requirements for fair value measurements by removing, modifying or adding certain disclosures. We early adopted the removal and modification of certain disclosures as permitted. The additional disclosures in the update are effective January 1, 2020. We do not expect the adoption of this update will have a material effect on our consolidated financial statements.
Insurance - Targeted Improvements to the Accounting for Long-Duration Contracts (ASU 2019-09, ASU 2018-12)
These updates amend four key areas pertaining to the accounting and disclosures for long-duration insurance and investment contracts.
The update simplifies the amortization of deferred acquisition costs and other balances amortized in proportion to premiums, gross profits, or gross margins, requiring such balances to be amortized on a constant level basis over the expected term of the contracts. Deferred costs are required to be written off for unexpected contract terminations but are not subject to impairment testing.
The amendments in ASU 2018-12 were originally effective January 1, 2021; however, with the issuance of ASU 2019-09, we will not be required to adopt the amendments until January 1, 2022. Certain provisions of the update are required to be adopted on a fully retrospective basis, while others may be adopted on a modified retrospective basis. Early adoption is permitted. We are currently evaluating the impact of this guidance on our consolidated financial statements.
As of December 31, 2019, we held 1,239 AFS securities that were in an unrealized loss position. Of this total, 493 were in an unrealized loss position 12 months or more. As of December 31, 2019, we held 47 related party AFS securities that were in an unrealized loss position. Of this total, fifteen were in an unrealized loss position 12 months or more. The unrealized losses on AFS securities can primarily be attributed to changes in market interest rates since acquisition. We did not recognize the unrealized losses in income as we intend to hold these securities and it is not more likely than not we will be required to sell a security before the recovery of its amortized cost.
Other-Than-Temporary Impairments-For the year ended December 31, 2019, we incurred $38 million of net OTTI, of which $25 million related to intent-to-sell impairments. The net remaining OTTI of $13 million related to credit impairments where a portion was bifurcated in AOCI. Any credit loss impairments not bifurcated in AOCI are excluded from the rollforward below.
Proceeds from sales of AFS securities were $6,886 million, $6,547 million and $5,720 million for the years ended December 31, 2019, 2018 and 2017, respectively. Proceeds from sales of AFS securities for the years ended December 31, 2018 and 2017 have been revised for immaterial misstatements to be comparable to current year balances.
The following table summarizes the change in unrealized gains (losses) on trading and equity securities, including related party and consolidated VIEs, we held as of the respective year end:
During the respective years ended December 31, we acquired PCI investments with the following amounts at the time of purchase:
Reverse Repurchase Agreements-Reverse repurchase agreements represent the purchase of investments from a seller with the agreement that the investments will be repurchased by the seller at a specified price and date or within a specified period of time. The investments purchased, which represent collateral on a secured lending arrangement, are not reflected in our consolidated balance sheets; however, the secured lending arrangement is recorded as a short-term investment for the principal amount loaned under the agreement. As of December 31, 2019 and 2018, amounts loaned under reverse repurchase agreements were $190 million and $0 million, respectively, and collateral received was $630 million and $0 million, respectively.
Mortgage Loans, including related party-Mortgage loans, net of allowances, consists of the following:
We primarily invest in commercial mortgage loans on income producing properties including office and retail buildings, hotels, industrial properties and apartments. We diversify the commercial mortgage loan portfolio by geographic region and property type to reduce concentration risk. We evaluate mortgage loans based on relevant current information to confirm if properties are performing at a consistent and acceptable level to secure the related debt.
Residential mortgage loans - The primary credit quality indicator of residential mortgage loans is loan performance. Nonperforming residential mortgage loans are 90 days or more past due and/or are in non-accrual status. As of December 31, 2019 and 2018, $67 million and $48 million, respectively, of our residential mortgage loans were nonperforming.
Commercial mortgage loans - As of December 31, 2019 and 2018, none of our commercial loans were 30 days or more past due.
Loan-to-value and debt service coverage ratios are measures we use to assess the risk and quality of commercial mortgage loans other than those under development. Loans under development are not evaluated using these ratios as the properties underlying these loans are generally not yet income-producing and the value of the underlying property significantly fluctuates based on the progress of construction. Therefore, the risk and quality of loans under development are evaluated based on the aging and geographical distribution of such loans as shown above.
Foreign currency forwards - We use foreign currency forward contracts to hedge certain exposures to foreign currency risk. The price is agreed upon at the time of the contract and payment is made at a specified future date. Certain of these forwards are designated and accounted for as fair value hedges. As of December 31, 2019 and 2018, the carrying amount of the hedged AFS securities was $456 million and $88 million, respectively, and the cumulative amount of fair value hedging adjustments included in the hedged AFS securities included gains of $1 million and $1 million, respectively. The gains and losses on derivatives and the related hedged items in fair value hedge relationships are recorded in investment related gains (losses) on the consolidated statements of income. During the years ended December 31, 2019 and 2018, the derivatives had gains of $2 million and losses of $1 million, respectively, and the related hedged items had gains of $0 million and $1 million, respectively.
Foreign currency forwards on net investments - We have foreign currency forwards designated as net investment hedges. These forwards hedge the foreign currency exchange rate risk of our investments in subsidiaries that have a reporting currency other than the U.S. dollar. We assess hedge effectiveness based on the changes in forward rates. During the year ended December 31, 2019, these derivatives had losses of $2 million, which are included in foreign currency translation and other adjustments on the consolidated statements of comprehensive income. As of December 31, 2019, the cumulative foreign currency translation loss recorded in AOCI related to these net investment hedges was $2 million. There were no amounts deemed ineffective for the year ended December 31, 2019.
Credit default swaps - Credit default swaps provide a measure of protection against the default of an issuer or allow us to gain credit exposure to an issuer or traded index. We use credit default swaps coupled with a bond to synthetically create the characteristics of a reference bond. These transactions have a lower cost and are generally more liquid relative to the cash market. We receive a periodic premium for these transactions as compensation for accepting credit risk.
Embedded derivatives - We have embedded derivatives which are required to be separated from their host contracts and reported as derivatives. Host contracts include reinsurance agreements structured on modco or funds withheld basis and indexed annuity products.
We manage credit risk related to over-the-counter derivatives by entering into transactions with creditworthy counterparties. Where possible, we maintain collateral arrangements and use master netting agreements that provide for a single net payment from one counterparty to another at each due date and upon termination. We have also established counterparty exposure limits, where possible, in order to evaluate if there is sufficient collateral to support the net exposure.
As of December 31, 2019 and 2018, no additional collateral would be required if a default or termination event were to occur.
We are the only limited partner or holder of profit participating notes in these investment funds and receive all of the economic benefits and losses, other than management fees and carried interest, as applicable, paid to the general partner in each entity, or a related entity, which are related parties. We do not have any voting rights as limited partner and, as the limited partner or holder of profit participating notes, do not solely satisfy the power criteria to direct the activities that significantly impact the economics of the VIE. However, the criteria for the primary beneficiary are satisfied by our related party group and, because substantially all of the activities are conducted on our behalf, we consolidate the investment funds.
No arrangement exists requiring us to provide additional funding in excess of our committed capital investment, liquidity, or the funding of losses or an increase to our loss exposure in excess of our investment in the VIEs. We elected the fair value option for certain fixed maturity and equity securities, and investment funds, which are reported in the consolidated variable interest entity sections on the consolidated balance sheets.
ALR was formed to invest in a joint venture that provides airplane lease financing to a major commercial airline. We are the only investor in the profit participating notes and, as substantially all of the activities of ALR are conducted on our behalf, we are the primary beneficiary and consolidate ALR.
AFS and trading securities - We obtain the fair value for most marketable securities without an active market from several commercial pricing services. These are classified as Level 2 assets. The pricing services incorporate a variety of market observable information in their valuation techniques, including benchmark yields, trading activity, credit quality, issuer spreads, bids, offers and other reference data. This category typically includes U.S. and non-U.S. corporate bonds, U.S. agency and government guaranteed securities, CLO, ABS, CMBS and RMBS.
AFS and trading securities - For certain fixed maturity securities, internal models are used to calculate the fair value. We use a discounted cash flow approach. The discount rate is the significant unobservable input due to the determined credit spread being internally developed, illiquid, or as a result of other adjustments made to the base rate. The base rate represents a market comparable rate for securities with similar characteristics. An increase in the discount rate can lower the fair value; a decrease in the discount rate can increase the fair value. As of December 31, 2019, discounts ranged from 3% to 9%, and as of December 31, 2018, discounts ranged from 5% to 9%. This excludes assets for which significant unobservable inputs are not developed internally, primarily consisting of broker quotes.
We estimate the fair value for financial instruments not carried at fair value using the same methods and assumptions as those we carry at fair value. The financial instruments presented above are reported at carrying value on the consolidated balance sheets; however, in the case of policy loans, funds withheld at interest and liability, short-term investments, short-term debt and securities to repurchase, the carrying amount approximates fair value.
Certain of these reinsurance agreements were with related parties. See Note 14 - Related Parties for further information.
As of December 31, 2019 and 2018, Global Atlantic maintained a series of trust and custody accounts under the terms of these agreements with assets equal to or greater than a required aggregate statutory balance of $3,478 million and $3,967 million, respectively.
Novations-We have novated certain open blocks of business ceded to Global Atlantic, in accordance with the terms of the coinsurance and assumption agreement. Additionally, we have novated the reinsurance agreement for blocks of endowment contracts and annuities assumed from Athora Lebensversicherung AG (ALV) to Athora Life Re Ltd. (ARE). The below table summarizes the decreases in amounts on the consolidated balance sheets as a result of the novations. Novations during the year ended December 31, 2018 did not have a material effect on the consolidated balance sheets.
Minimum consolidated net worth of no less than $7.3 billion; and
As of December 31, 2019 and 2018, we had no amounts outstanding under the respective revolving credit agreements and were in compliance with all covenants under these facilities.
Interest accrues on outstanding borrowings at either the Eurodollar Rate (as defined in the Credit Facility) plus a margin or a base rate plus a margin, with the applicable margin varying based on AHL’s Debt Rating (as defined in the Credit Facility). The Credit Facility has a commitment fee that is determined by reference to AHL’s Debt Rating, and ranges from 0.10% to 0.30% of the undrawn commitment. As of December 31, 2019 and 2018, the commitment fee was 0.15% and 0.225%, respectively, of the undrawn commitment.
On September 19, 2019, we issued 13,800 5.625% Fixed Rate Perpetual Non-Cumulative Preference Shares, Series B, par value of $1.00 per share with a liquidation preference of $25,000 per share (Series B). In 2019, we declared and paid dividends of $394.53 per Series B share and $5 million in the aggregate.
Preferred stock dividends are payable on a non-cumulative basis only when, as and if declared, quarterly in arrears on the 30th day of March, June, September and December of each year. Preferred stock ranks senior to our common stock with respect to dividends, to the extent declared, and in liquidation, to the extent of the liquidation preference.
Class A shares collectively represented 55% of the total voting power of the Company. Class B shares collectively represent the remaining 45% of the total voting power of the Company, and are beneficially owned by shareholders who are members of the Apollo Group, as defined in our bye-laws. Class B shares can be converted to Class A shares on a one-to-one basis at any time upon notice to us. Our bye-laws place certain restrictions on Class A shares such that (1) a holder of Class A shares, including its affiliates, cannot control greater than 9.9% of the total outstanding vote and if a holder of Class A shares were to control greater than 9.9%, then a holder’s voting power is automatically reduced to 9.9% and the other holders of Class A shares would vote the remainder on a prorated basis, (2) the total voting power held by employees of the Apollo Group is limited to 3% and (3) Class A shares may be deemed non-voting when owned by a shareholder who owns Class B shares, has an equity interest in certain Apollo entities, or is a member of the Apollo Group.
Class M shares are restricted, non-voting shares previously issued under equity incentive plans. Class M shares function similar to options in that they are exchangeable into Class A shares upon payment of a conversion price and other conditions being met, including vesting conditions. As of December 31, 2019, there were 9.1 million outstanding Class M shares with a weighted average conversion price of $18.63.
Our board of directors has approved authorizations of $1,567 million for the repurchase of our Class A shares under our repurchase program. We may repurchase shares in open market transactions, in privately negotiated transactions or otherwise. The size and timing of repurchases will depend on legal requirements, market and economic conditions and other factors, and are solely at our discretion. The program has no expiration date, but may be modified, suspended or terminated by the board at any time.
Accumulated Other Comprehensive Income (Loss)-The following provides the details and changes in AOCI:
We use the two-class method for allocating net income to each class of our common stock. Our Class M shares did not become eligible to participate in dividends until a return of investment (ROI) condition had been met for each class. Once eligible, each class of our common stock has equal dividend rights. In conjunction with our IPO in 2016, the ROI condition for Class M-1 was met. The ROI condition was met for Class M-2 on March 28, 2017, and for Class M-3 and Class M-4 on April 20, 2017. For purposes of calculating basic weighted average shares outstanding and the allocation of basic income, shares are deemed to be participating in earnings for only the portion of the period after the condition is met. For purposes of calculating diluted weighted average shares outstanding, shares are deemed dilutive as of the beginning of the period.
Dilutive shares are calculated using the treasury stock method. For Class A shares, this method takes into account shares that can be settled into Class A shares, net of a conversion price. The diluted EPS calculations for Class A shares excluded 31.9 million, 34.9 million and 52.3 million shares, RSUs and options as of December 31, 2019, 2018 and 2017, respectively.
Public Law no. 115-97, an Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018 (Tax Act) was enacted on December 22, 2017 and made key changes to the U.S. tax law, including the reduction of the U.S. statutory tax rate from 35% to 21%. As such, the December 31, 2017 deferred tax balances were remeasured to reflect the reduction in rate and the resulting decrease to the net deferred tax liability is included in change in statutory tax rates of the reconciliation above.
Bermuda statutory requirements-ALRe, AARe, and Athene Co-Invest Reinsurance Affiliate 1A Ltd. (ACRA 1A, and together with its subsidiaries, ACRA) are each licensed by the Bermuda Monetary Authority (BMA) as long-term insurers and are subject to the Insurance Act 1978, as amended (Bermuda Insurance Act) and regulations promulgated thereunder. The BMA implemented the Economic Balance Sheet (EBS) framework into the Bermuda Solvency Capital Requirement (BSCR), which was granted equivalence to the European Union’s Directive (2009/138/EC) (Solvency II).
Under the EBS framework, statutory financial statements are generally equivalent to GAAP financial statements, with the exception of permitted practices granted by the BMA. Our Bermuda subsidiaries have permission in the statutory financial statements to use amortized cost instead of fair value as the basis for certain investments. Additionally, our Bermuda subsidiaries use U.S. statutory reserving principles for the calculation of insurance reserves instead of GAAP, subject to the reserves being proved adequate based on cash flow testing. The following represents the effect of the permitted practices to the statutory financial statements:
AAIA - Among the products issued by AAIA are indexed universal life insurance and fixed indexed annuities. These products allow a portion of the premium to earn interest based on certain indices, primarily the S&P 500. We purchase call options, futures and variance swaps to hedge the growth in interest credited to the customer as a direct result of increases in the related index. The Iowa Insurance Division allows an insurer to elect (1) to use an amortized cost method to account for certain derivative instruments, such as call options, purchased to hedge the growth in interest credited to the customer on indexed insurance products and (2) to use an indexed annuity reserve calculation methodology under which call options associated with the current index interest crediting term are valued at zero. AAIA has elected to apply this option to its over-the-counter call options and reserve liabilities. As a result, AAIA’s statutory surplus decreased by $80 million and increased by $39 million as of December 31, 2019 and 2018, respectively.
Athene Re USA IV - AAIA has ceded the AmerUs Closed Block to Athene Re USA IV on a 100% funds withheld basis. A permitted practice in the State of Vermont allows Athene Re USA IV to include as admitted assets the face amount of all issued and outstanding letters of credit used to fund its reinsurance obligations to AAIA in its statutory financial statements. If Athene Re USA IV had not followed this permitted practice, then it would not have exceeded authorized control level risk based capital requirements. As of December 31, 2019 and 2018, Athene Re USA IV included as admitted assets $137 million and $153 million, respectively, related to the outstanding letters of credit.
Current fee structure - Substantially all of our investments are managed by Apollo, which provides direct investment management, asset allocation, mergers and acquisition asset diligence and certain operational support services for our investment portfolio, including investment compliance, tax, legal and risk management support.
a base management fee equal to the sum of (i) 0.225% per year of the lesser of (A) the aggregate market value of substantially all of the assets in substantially all of the investment accounts of or relating to us (collectively, the Accounts) on December 31, 2018 of $103.4 billion (Backbook Value) and (B) the aggregate market value of substantially all of the assets in the Accounts at the end of the respective month, plus (ii) 0.15% per year of the amount, if any (Incremental Value), by which the aggregate market value of substantially all of the assets in the Accounts at the end of the respective month exceeds the Backbook Value; plus
with respect to each asset in an Account, subject to certain exceptions, that is managed by Apollo and that belongs to a specified asset class tier (Core, Core Plus, Yield, and High Alpha), a sub-allocation fee as follows, which will, in the case of assets acquired after January 1, 2019, be subject to a cap of 10% of the applicable asset’s gross book yield:
0.375% of the market value of Yield assets, which include non-agency RMBS, investment grade CLO, CMBS and other ABS (other than RMBS and CLO), emerging market investments, below investment grade corporate bonds, subordinated debt obligations, hybrid securities or surplus notes issued or assumed by a financial institution, rated preferred equity, residential mortgage loans (RML), bank loans, investment grade infrastructure debt, and floating rate CMLs on slightly transitional or stabilized traditional real estate;
0.70% of the market value of High Alpha assets, which include subordinated CML, below investment grade CLO, unrated preferred equity, debt obligations originated by MidCap, CMLs for redevelopment or construction loans or secured by non-traditional real estate, below investment grade infrastructure debt, certain loans originated directly by Apollo (other than MidCap loans), and agency mortgage derivatives; and
Historical fee structure - Prior to January 1, 2019, we paid AAM an annual fee of 0.40%, subject to certain discounts and exceptions, on all assets that AAM managed in accounts owned by us in the U.S. and Bermuda or in accounts supporting reinsurance ceded to our U.S. and Bermuda subsidiaries by third-party insurers (North American Accounts) up to $65,846 million and 0.30% per year on assets managed in excess of such amount. Additionally, for certain assets which required specialized sourcing and underwriting capabilities, AAM had chosen to mandate sub-advisors rather than build out in-house capabilities. AAM entered into Master Sub-Advisory Agreements (MSAAs) with certain Apollo affiliates to sub-advise AAM with respect to a portion of our assets, with the fees recharged to us, in addition to the gross fee paid to AAM as described above.
Investment management agreement (IMA) termination - Our bye-laws currently provide that we may not, and will cause our subsidiaries not to, terminate any IMA among us or any of our subsidiaries, on the one hand, and the applicable Apollo subsidiary, on the other hand, other than on June 4, 2023 or any two year anniversary of such date (each such date, an IMA Termination Election Date) and any termination on an IMA Termination Election Date requires (i) the approval of two-thirds of our Independent Directors (as defined in the bye-laws) and (ii) prior written notice to the applicable Apollo subsidiary of such termination at least 30 days, but not more than 90 days, prior to an IMA Termination Election Date. If our Independent Directors make such election to terminate and notice of such termination is delivered, the termination will be effective no earlier than the second anniversary of the applicable IMA Termination Election Date (IMA Termination Effective Date). Notwithstanding the foregoing, (A) except as set forth in clause (B) below, our board of directors may only elect to terminate an IMA on an IMA Termination Election Date if two-thirds of our Independent Directors determine, in their sole discretion and acting in good faith, that either (i) there has been unsatisfactory long-term performance materially detrimental to us by the applicable Apollo subsidiary or (ii) the fees being charged by the applicable Apollo subsidiary are unfair and excessive compared to a comparable asset manager (provided, that in either case such Independent Directors must deliver notice of any such determination to the applicable Apollo subsidiary and the applicable Apollo subsidiary will have until the applicable IMA Termination Effective Date to address such concerns, and provided, further, that in the case of such a determination that the fees being charged by the applicable Apollo subsidiary are unfair and excessive, the applicable Apollo subsidiary has the right to lower its fees to match the fees of such comparable asset manager) and (B) upon the determination by two-thirds of our Independent Directors, we or our subsidiaries may also terminate an IMA with the applicable Apollo subsidiary, on a date other than an IMA Termination Effective Date, as a result of either (i) a material violation of law relating to the applicable Apollo subsidiary’s advisory business, or (ii) the applicable Apollo subsidiary’s gross negligence, willful misconduct or reckless disregard of its obligations under the relevant agreement, in each case of this clause (B), that is materially detrimental to us, and in either case of this clause (B), subject to the delivery of written notice at least 30 days prior to such termination; provided, that in connection with an event described in clause (B)(i) or (B)(ii), the applicable Apollo subsidiary shall have the right to dispute such determination of the Independent Directors within 30 days after receiving notice from us of such determination, in which case the matter will be submitted to binding arbitration and such IMA shall continue to remain in effect during the period of the arbitration (the events described in the foregoing clauses (A) and (B) are referred to in more detail in our bye-laws as “AHL Cause”).
A-A Mortgage Opportunities, L.P. (A-A Mortgage) - We have an equity method investment of $487 million and $463 million as of December 31, 2019 and 2018, respectively, in A-A Mortgage, which has an investment in AmeriHome. We have a loan purchase agreement with AmeriHome. The agreement allows us to purchase residential mortgage loans which AmeriHome has purchased from correspondent sellers and pooled for sale in the secondary market. AmeriHome retains the servicing rights to the sold loans. We purchased $411 million, $722 million and $57 million of residential mortgage loans under this agreement during the years ended December 31, 2019, 2018 and 2017, respectively. Additionally, we hold ABS securities issued by AmeriHome affiliates of $170 million and $121 million as of December 31, 2019 and 2018, respectively, which are included in related party AFS securities on the consolidated balances sheets. We also have commitments to make additional equity investments in A-A Mortgage of $169 million as of December 31, 2019.
Our investment in Athora, which is included in related party investment funds on the consolidated balance sheets, was $132 million and $105 million as of December 31, 2019 and 2018, respectively. Additionally, as of December 31, 2019 and 2018, we had $146 million and $166 million, respectively, of funding agreements outstanding to Athora, which were issued to Athora prior to closing. We also have commitments to make additional equity investments in Athora of $454 million as of December 31, 2019.
Venerable - On June 1, 2018, we entered into coinsurance and modco agreements with Voya Insurance and Annuity Company (VIAC) to reinsure a block of fixed and fixed indexed annuities, in which we assumed liabilities of $18,578 million. VIAC is a related party pursuant to GAAP due to our minority equity investment in its holding company’s parent, VA Capital Company LLC (VA Capital), which was $99 million and $92 million as of December 31, 2019 and December 31, 2018, respectively. The minority equity investment in VA Capital is included in related party investment funds on the consolidated balance sheets and accounted for as an equity method investment. VA Capital is owned by a consortium of investors, led by affiliates of AGM, Crestview Partners and Reverence Capital Partners, and is the parent of Venerable, which is the parent of VIAC. Additionally, as of December 31, 2019, we have a $148 million, 15-year term loan receivable from Venerable, which is held at amortized cost and included in related party other investments on the consolidated balance sheets. While management views the overall transactions with VIAC and Venerable as favorable to us, the stated interest rate of 6.257% on the term loan to Venerable represents a below-market interest rate, and management considered such rate as part of its evaluation and pricing of the Voya reinsurance transactions.
Strategic Partnership - On October 24, 2018, we entered into an agreement pursuant to which we may invest up to $2.5 billion over three years in funds managed by Apollo entities (Strategic Partnership). This arrangement is intended to permit us to invest across the Apollo alternatives platform into credit-oriented, strategic and other alternative investments in a manner and size that is consistent with our existing investment strategy. Fees for such investments payable by us to Apollo would be more favorable to us than market rates, and consistent with our existing alternative investments, investments made under the Strategic Partnership require approval of ISG and remain subject to our existing governance processes, including approval by our conflicts committee where applicable. As of December 31, 2019 and 2018, we had $97 million and $16 million, respectively, of investments under the Strategic Partnership and these investments are classified as investment funds of consolidated VIEs.
To Apollo, sub-allocation fees on the senior notes based on the rates applicable to Yield assets and sub-allocation fees on the subordinated notes based on the rates applicable to High Alpha assets.
To Redding Ridge Asset Management LLC, a company in which certain funds managed by Apollo have an interest, as consideration for assistance with the structuring, monitoring, support and maintenance of the securitization transactions, a one-time structuring fee, as well as ongoing support fees equal to 1.5 bps on the total capitalization amount and certain other fees, which may become due upon the occurrence of certain events; and
The proposed transaction is subject to customary closing conditions, the receipt of all necessary regulatory and governmental approvals, and certain other closing conditions. Subject to certain assumptions, including those regarding the exercise of the Contingent Right, and taking into consideration certain voting proxies (as described below), AGM and certain of its related parties and employees are expected to control equity interests approximating 35% of our voting power and economic interest as compared to the 45% voting power and approximately 17% economic interest that AGM and certain of its related parties and employees hold today.
In addition, Messrs. Belardi and Wheeler have each entered into a letter agreement with us, pursuant to which they have agreed to vote their Class M common shares in favor of the proposals on which holders of our Class M common shares are entitled to vote at our shareholder meeting (including the proposal to approve the amendments to our bye-laws that eliminate the Class M common shares).
AA Infrastructure Fund 1 LLC (AA Infrastructure) - We have an investment in preferred shares of AA Infrastructure, which is a fund managed by ISG. As of December 31, 2019 and 2018, we held $58 million and $120 million, respectively, of preferred shares, which are included in related party equity securities on the consolidated balance sheets. In the fourth quarter of 2019, AA Infrastructure issued $267 million of ABS securities as a return of capital on the preferred shares. As of December 31, 2019, we held AA Infrastructure ABS securities of $267 million, which are included in related party trading securities on the consolidated balance sheets. Additionally, as of December 31, 2019, we had commitments to make additional investments in AA Infrastructure of $42 million.
Contingent Commitments-We had commitments to make investments, primarily capital contributions to investment funds, inclusive of related party commitments discussed previously, of $4,793 million and $3,036 million as of December 31, 2019 and 2018, respectively. We expect most of our current commitments will be invested over the next five years; however, these commitments could become due any time upon counterparty request.
We have a funding agreement backed notes (FABN) program, which allows Athene Global Funding, a special-purpose, unaffiliated statutory trust, to offer its senior secured medium-term notes. Athene Global Funding uses the net proceeds from each sale to purchase one or more funding agreements from us. As of December 31, 2019 and 2018, we had $3,700 million and $2,700 million, respectively, of FABN funding agreements outstanding. We had $6.0 billion of remaining FABN capacity as of December 31, 2019.
Regulatory Matters - Our U.S. insurance subsidiaries have experienced increased service and administration complaints related to the conversion and administration of the block of life insurance business acquired in connection with our acquisition of Aviva USA and reinsured to affiliates of Global Atlantic. The life insurance policies included in this block have been and are currently being administered by AllianceOne Inc. (AllianceOne), a subsidiary of DXC Technology Company, which was retained by such Global Atlantic affiliates to provide services on such policies. AllianceOne also administers certain annuity policies that were on Aviva USA’s legacy policy administration systems that were also converted in connection with the acquisition of Aviva USA and have experienced similar service and administration issues.
In addition to the foregoing, we have received inquiries, and expect to continue to receive inquiries, from other regulatory authorities regarding the conversion matter. In addition to the examinations and proceedings initiated to date, it is possible that other regulators may pursue similar formal examinations, inquiries or enforcement proceedings and that any examinations, inquiries and/or enforcement proceedings may result in fines, administrative penalties and payments to policyholders. While we do not expect the amount of any such fines, penalties or payments arising from these matters to be material to our financial condition, results of operations or cash flows, it is possible that such amounts could be material.
On January 23, 2019, we received a letter from the NYSDFS, with respect to a recent PRT transaction, which expressed concerns with our interpretation and reliance upon certain exemptions from licensing in New York in connection with certain activities performed by employees in our PRT channel, including specific activities performed within New York. We are currently in discussions with the NYSDFS to resolve its concerns.
Caldera Matters - On May 3, 2018, AHL filed a writ commencing litigation in the Supreme Court of Bermuda against a former officer of AHL, a former director of AHL (who is also considered a former officer pursuant to Bermuda law), and Caldera Holdings, Ltd. (Caldera). AHL alleges in the writ, among other things, that the defendants breached various duties owed to AHL under Bermuda law by using AHL’s confidential information in their attempted acquisition of a company referred to in the litigation as Company A. AHL is seeking injunctive relief and damages. Athene amended its writ on October 16, 2018. The trial court denied two separate motions to dismiss made by defendant Caldera on June 28, 2018 and by the former officer and former director defendants on January 14, 2019. On September 20, 2019, the Bermuda Court of Appeal affirmed both trial court rulings and dismissed the defendants’ appeal. Defendants have not further pursued an appeal of this decision to the Judicial Committee of the Privy Council, the court of final appeal for matters litigated in Bermuda, and litigation is proceeding in the trial court.
Central Laborers’ Pension Fund (CLPF) and Cambria County Employees’ Retirement System (Cambria) - On June 18, 2019 and July 25, 2019, CLPF and Cambria, respectively, filed derivative actions against AAM and AGM, as defendants, and us, as a nominal defendant, in New York State Court (the New York Actions). CLPF and Cambria, both purporting to be our shareholders, each allege that AAM and AGM injured us by causing us to pay excessive management fees to AAM and AGM. The complaints do not name any of our directors as defendants, but allege certain breaches of fiduciary duty. Both complaints seek forms of injunctive relief and disgorgement, but neither complaint seeks monetary relief from us.
Retirement Services-Retirement Services is comprised of our U.S. and Bermuda operations, which issue and reinsure retirement savings products and institutional products. Retirement Services has retail operations, which provide annuity retirement solutions to our policyholders. Retirement Services also has reinsurance operations, which reinsure multi-year guaranteed annuities, fixed indexed annuities, traditional one-year guarantee fixed deferred annuities, immediate annuities and institutional products from our reinsurance partners. In addition, our institutional operations, including funding agreements and group annuities, are included in our Retirement Services segment.
Corporate and Other-Corporate and Other includes certain other operations related to our corporate activities and prior to January 1, 2018, included our former Germany operations, which were primarily comprised of participating long-duration savings products. Included in Corporate and Other are corporate allocated expenses, merger and acquisition costs, debt costs, preferred stock dividends, certain integration and restructuring costs, certain stock-based compensation and intersegment eliminations. In addition, we also hold capital in excess of the level of capital we hold in Retirement Services to support our operating strategy. See Note 1 - Business, Basis of Presentation and Significant Accounting Policies for discussion on the deconsolidation of our German operations in 2018.
Financial Measures-Segment adjusted operating income available to common shareholders and net investment earnings are internal measures used by the chief operating decision maker to evaluate and assess the results of our segments.
Adjusted operating revenue is a component of adjusted operating income available to common shareholders and excludes market volatility and adjustments for other non-operating activity. Our adjusted operating revenue equals our total revenue, adjusted to eliminate the impact of the following non-operating adjustments:
The table below reconciles segment adjusted operating income available to common shareholders to net income available to Athene Holding Ltd. common shareholders presented on the consolidated statements of income:
We market annuity products, primarily fixed rate and fixed indexed annuities. Deposits, which are generally not included in revenues on the consolidated statements of income, and premiums collected are as follows: