As of December 31, 2016, The Hartford owned building space of approximately 1.8 million square feet which comprised its Hartford, Connecticut location and other properties within the greater Hartford, Connecticut area. In addition, as of December 31, 2016, The Hartford leased approximately 1.6 million square feet, throughout the United States of America, and
approximately 34 thousand square feet, in other countries. All of the properties owned or leased are used by one or more of all six reporting segments, depending on the location. For more information on reporting segments, see Part I, Item 1, Business - Reporting Segments. The Company believes its properties and facilities are suitable and adequate for current operations.
Account Value- includes policyholders’ balances for investment and insurance contracts and reserves for certain future policy benefits for insurance contracts. Account value is a measure used by the Company because a significant portion of the Company’s fee income is based upon the level of account value. These revenues increase or decrease with a rise or fall in assets under management whether caused by changes in the market or through net flows.
Company’s revenues are based upon asset values. These revenues increase or decrease with a rise or fall in AUM whether caused by changes in the market or through net flows.
Core Earnings- a non-GAAP measure, is an important measure of the Company’s operating performance. The Company
[1] Includes income tax benefit on items not included in core earnings and other federal income tax benefits and charges.
Core earnings margin should not be considered as a substitute for net income margin and does not reflect the overall profitability of Group Benefits. Therefore, the Company believes it is important for investors to evaluate both core earnings margin and net income margin when reviewing performance. A reconciliation of net income margin to core earnings margin for the years ended December 31, 2016, 2015 and 2014 is set forth in the Results of Operations section within MD&A - Group Benefits.
Expense Ratio- for the underwriting segments of Commercial Lines and Personal Lines is the ratio of underwriting
The expense ratio for Group Benefits is expressed as the ratio of insurance operating costs and other expenses and amortization of deferred policy acquisition costs, to premiums and other considerations, excluding buyout premiums.
Fee Income- largely driven from amounts earned as a result of contractually defined percentages of assets under management, including account value of annuities and other products. These fees are generally earned on a daily basis. Therefore, the growth in assets under management either through positive net flows or net sales, or favorable market performance will have a favorable impact on fee income. Conversely, either negative net flows or net sales, or unfavorable market performance will reduce fee income.
Full Surrender Rates- an internal measure of contract surrenders calculated using annualized full surrenders divided by a two-point average of annuity account values. The full surrender rate represents full contract liquidation and excludes partial withdrawals.
Loss and Loss Adjustment Expense Ratio before Catastrophes and Prior Accident Year Development- a measure of the cost of non-catastrophe claims incurred in the current accident year divided by earned premiums. Management believes that the current accident year loss and loss adjustment expense ratio before catastrophes is a performance measure that is useful to investors as it removes the
Mutual Fund and Exchange-Traded Product Assets- owned by the shareholders of those products and not by the Company and therefore are not reflected in the Company’s consolidated financial statements. Mutual fund and ETP assets are a measure used by the Company primarily because a significant portion of the Company’s revenues are based upon asset values. These revenues increase or decrease with a rise or fall in AUM whether caused by changes in the market or through net flows.
Policyholder Dividend Ratio- the ratio of policyholder dividends to earned premium.
Renewal Earned Price Increase (Decrease)- Written premiums are earned over the policy term, which is six
Renewal Written Price Increase (Decrease)-represents the combined effect of rate changes, amount of insurance and individual risk pricing decisions per unit of exposure since the prior year. The rate component represents the change in rate filings during the period and the amount of insurance represents the change in the value of the rating base, such as model year/vehicle symbol for auto, building replacement costs for property and wage inflation for workers’ compensation. A number of factors affect renewal written price increases (decreases) including expected loss costs as projected by the Company’s pricing actuaries, rate filings approved by state regulators, risk selection decisions made by the Company’s underwriters and marketplace competition. Renewal written price changes reflect the property and casualty insurance market cycle. Prices tend to increase for a particular line of business when insurance carriers have incurred significant losses in that line of business in the recent past or the industry as a whole commits less of its capital to writing exposures in that line of business. Prices tend to decrease when recent loss experience has been favorable or when competition among insurance carriers increases. Renewal written price statistics are subject to change from period to period, based on a number of factors, including changes in actuarial estimates and the effect of subsequent cancellations and non-renewals on rate achieved, and modifications made to better reflect ultimate pricing achieved.
Return on Assets (“ROA”), Core Earnings- a non-GAAP financial measure that the Company uses to evaluate, and believes is an important measure of, certain of the segment’s operating performance. ROA is the most directly comparable U.S. GAAP measure. The Company believes that ROA, core earnings, provides investors with a valuable measure of the performance of certain of the Company’s on-going businesses because it reveals trends in our businesses that may be obscured by the effect of realized gains (losses). ROA, core earnings, should not be considered as a substitute for ROA and does not reflect the overall profitability of our businesses. Therefore, the Company believes it is important for investors to evaluate both ROA, core earnings, and ROA when reviewing the Company’s performance. ROA, core earnings is calculated by dividing core earnings by a daily average AUM. A reconciliation of ROA to ROA, core earnings for the years ended December 31, 2016, 2015 and 2014, is set forth in the Results of Operations section within MD&A - Mutual Funds.
The Company derives its revenues principally from: (a) premiums earned for insurance coverage provided to insureds; (b) fee income, including asset management fees, on separate account, mutual fund and ETP assets, mortality and expense fees, as well as cost of insurance charges; (c) net investment income; (d) fees earned for services provided to third parties; and (e) net realized capital gains and losses. Premiums charged for insurance coverage are earned principally on a pro rata basis over the terms of the related policies in-force. Asset management fees and mortality and expense fees are primarily generated from separate account assets and assets under management. Cost of insurance charges are assessed on the net amount at risk for investment-oriented life insurance products.
For further information on the Company's reporting segments, refer to Part I, Item 1, Business - Reporting Segments.
Net unrealized gains, after-tax, in the investment portfolio decreased by $3 compared with the prior year due primarily to tighter credit spreads, partially offset by higher interest rates and a decline in assets.
Combined ratio increased to 100.1 from 96.6 in the prior year for Property & Casualty, with deterioration principally in Personal Lines.
Net income decreased primarily due to a loss on a reinsurance transaction covering the Company's asbestos and environmental exposure, lower net investment income and fee income, an increase in Property & Casualty and Group Benefits incurred losses and higher net realized capital losses, partially offset by higher earned premiums and lower insurance operating costs and other expenses.
Earned premiums increased 2% or $234, before tax, reflecting growth of 2% in Commercial Lines, 1% in Personal Lines and 3% in Group Benefits. For a discussion of the Company's operating results by segment, see MD&A - Results of Operations by segment.
Current accident year catastrophe losses of $416, before tax, in 2016, compared to $332, before tax, in 2015. Catastrophe losses in 2016 were primarily due to multiple wind and hail events across various U.S. geographic regions, concentrated
in Texas and the central and southern plains and, to a lesser extent, winter storms and Hurricane Matthew. Catastrophe losses in 2015 were primarily due to multiple winter storms and wind and hail events across various U.S. geographic regions as well as tornadoes and wildfires. For additional information, see MD&A - Critical Accounting Estimates, Property & Casualty Insurance Product Reserves.
Unfavorable prior accident year reserve development in Property & Casualty of $457, before tax, in 2016, compared to unfavorable reserve development of $250, before tax, in 2015.
Loss on reinsurance transaction in 2016 represents paid premium for an asbestos and environmental adverse development cover (“ADC”) reinsurance agreement with National Indemnity Company (“NICO”), a subsidiary of Berkshire Hathaway Inc. (“Berkshire”), to reduce uncertainty about potential adverse development. For more information on this transaction, see MD&A -Critical Accounting Estimates, Annual Reserve Reviews.
Income tax benefit of $92 in 2016 compared to income tax expense of $305 in 2015, primarily due to a decrease in taxable income and the effect of $113 of federal tax credits and other tax benefits associated with investments in solar energy partnerships, partially offset by a decrease in benefits from the dividends received deduction.
Differences between the Company's effective income tax rate and the U.S. statutory rate of 35% are due primarily to tax exempt interest earned on invested assets, the dividends received deduction, changes in the valuation allowance recorded on capital loss carryovers and federal tax credits associated with investments in solar energy partnerships. For further discussion
of income taxes, see Note 16 - Income Taxes of Notes to Consolidated Financial Statements.
Earned premiums increased 2% or $241, before tax, in 2015, compared to 2014, reflecting growth of 4% in Commercial Lines and 2% in Personal Lines.
Fee income decreased $157, before tax, primarily due to the continued run-off of the Talcott Resolution annuity business.
Net investment income decreased to $3,030, before tax, in 2015 from $3,154, before tax, in 2014, primarily due to lower income from limited partnerships and other alternative investments and the continued decline in Talcott Resolution assets under management.
Insurance operating costs and other expenses included a pension settlement charge of $128, before tax, in 2014, related to voluntary lump-sum settlements with vested participants in the Company's defined benefit pension plan who had separated from service, but who had not yet commenced annuity benefits.
Loss on extinguishment of debt increased $21, before tax, in 2015 related to the redemption of $296 aggregate principal amount of outstanding 4.0% senior notes. The resulting loss on extinguishment of debt consists of a make-whole premium.
Income tax expense decreased by $45 in 2015 from $350 in 2014, primarily due to a federal income tax benefit of $36, related to the release of reserves due to the resolution of uncertain tax positions and a benefit of $94 from the partial reduction of the deferred tax valuation allowance on the capital loss carryover due to taxable gains on the termination of certain derivatives, partially offset by the effect of higher income from continuing operations, before tax.
Income (loss) from discontinued operations decreased $560, net of tax, in 2015 compared to 2014 primarily
due to the realized capital loss of $659 on the sale of the Japan variable annuity business in 2014.
Includes equity securities at fair value using the FVO of $282 as of December 31, 2015. The Company did not hold any equity securities, FVO as of December 31, 2016.
Total investments decreased since December 31, 2015, primarily due to a decrease in fixed maturities, AFS and limited partnerships and other alternative investments, partially offset by an increase in short-term investments.
Total net investment income decreased primarily due to a decrease in income from limited partnerships and other alternative investments, the impact of reinvesting at lower interest rates and a decrease in invested asset levels, partially offset by make-whole payments on fixed maturities, higher income received from previously impaired securities, and prepayment penalties on mortgage loans.
Primarily consists of changes in value of non-qualifying derivatives, including credit derivatives, interest rate derivatives used to manage duration, and embedded derivatives associated with modified coinsurance reinsurance contracts. Also included for the year ended December 31, 2016, is a loss related to the write-down of investments in solar energy partnerships, which generated tax benefits, and a loss related to the sale of the Company's U.K. property and casualty run-off subsidiaries.
Other, net loss included losses of $96 related to the write-down of investments in solar energy partnerships that generated solar tax credits and losses of $81 associated with the Company's U.K. property and casualty run-off subsidiaries currently held for sale. For further information related to the investment in solar energy partnerships and resulting solar tax credits, refer to Note
16 - Income Taxes of Notes to Consolidated Financial Statements. In addition, there were losses of $28 related to equity derivatives which were hedging against a decline in the equity market in the investment portfolio.
Variable annuity hedge program losses included losses on the combined GMWB derivatives, net, primarily driven by losses of $42 due to liability/model assumption updates and losses of $18 resulting from an underperformance of the underlying actively managed funds compared to their respective indices. The macro hedge program loss was primarily due to a loss of $44 driven by time decay on options.
Other, net gain was primarily related to gains of $46 related to modified coinsurance reinsurance contracts, primarily driven by widening credit spreads and an increase in interest rates. These gains were partially offset by losses of $14 on credit derivatives driven by widening credit spreads and losses of $12 on interest rate derivatives due to an increase in interest rates.
Other, net loss was primarily related to a loss of $172 on interest rate derivatives used to manage the risk of a rise in interest rates and manage duration, driven by a decline in U.S. interest rates.
P&C Loss and Loss Adjustment Expense Reserves, Net of Reinsurance, by Segment as of December 31, 2016
Loss and LAE Reserves, Net of Reinsurance as of December 31, 2016
Factors that Change Reserve Estimates- Reserve estimates can change over time because of unexpected changes in the external environment. Inflation in medical care, hospital care, auto parts, wages and home and building repair would cause claims to settle for more than they are initially reserved. Changes in the economy can cause an increase or decrease in the number of reported claims (claim frequency). For example, an improving economy could result in more automobile miles driven and a higher number of auto reported claims while a contracting economy can sometimes lead to an increase in workers’ compensation reported claims. An increase in the number or percentage of claims litigated can increase the average settlement amount per claim (claim severity). Changes in the judicial environment can affect interpretations of damages and how policy coverage applies which could increase or decrease claim severity. Over time, judges or juries in certain jurisdictions may be more inclined to determine liability and award damages. New legislation can also change how damages are defined resulting in greater frequency or severity. In addition, new types of injuries may arise from exposures not contemplated when the policies were written. Past examples include pharmaceutical products, silica, lead paint, molestation or abuse and construction defects.
Reserve estimates can also change over time because of changes in internal Company operations. A delay or acceleration in handling claims may signal a need to increase or reduce reserves from what was initially estimated. New lines of business may have loss development patterns that are not well established. Changes
in the geographic mix of business, changes in the mix of business by industry and changes in the mix of business by policy limit or deductible can increase the risk that losses will ultimately develop differently than the loss development patterns assumed in our reserving. In addition, changes in the quality of risk selection in underwriting and changes in interpretations of policy language could increase or decrease ultimate losses from what was assumed in establishing the reserves.
In the case of assumed reinsurance, all of the above risks apply. The Company assumes insurance risk from certain pools and associations and, prior to 2004, assumed property and casualty risks from other insurance companies. Changes in the case reserving and reporting patterns of insurance companies ceding to The Hartford can create additional uncertainty in estimating the reserves. Due to the inherent complexity of the assumptions used, final claim settlements may vary significantly from the present estimates of direct and assumed reserves, particularly when those settlements may not occur until well into the future.
Reinsurance Recoverables- Through both facultative and treaty reinsurance agreements, the Company cedes a share of the risks it has underwritten to other insurance companies. The Company records reinsurance recoverables for loss and loss adjustment expenses ceded to its reinsurers representing the anticipated recovery from reinsurers of unpaid claims, including IBNR.
Use of Actuarial Methods and Judgments- The Company’s reserving actuaries regularly review reserves for both current and prior accident years using the most current claim data. A variety of actuarial methods and judgments are used for most lines of business to arrive at selections of estimated ultimate losses and loss adjustment expenses. These selections incorporate input, as appropriate, from claims personnel, pricing actuaries and operating management about reported loss cost trends and other factors that could affect the reserve estimates. Most reserves are reviewed fully each quarter, including loss and loss adjustment expense reserves for homeowners, commercial property, auto physical damage, auto liability, package business, workers’ compensation, most general liability and professional liability. Other reserves are reviewed semi-annually (twice per year) or annually. These primarily include reserves for losses incurred in accident years older than twelve years for Personal Lines and older than twenty years for Commercial Lines, as well as reserves for bond, assumed reinsurance, latent exposures, such as construction defects, and unallocated loss adjustment expense. For reserves that are reviewed semi-annually or annually, management monitors the emergence of paid and reported losses in the intervening quarters and, if necessary, performs a reserve review to determine whether the reserve estimate should change.
of expected changes to earned pricing, loss frequency and severity, mix of business, ceded reinsurance and other factors. For short-tail lines, IBNR for the current accident year is initially recorded as the product of the expected loss ratio for the period, earned premium for the period and the proportion of losses expected to be reported in future calendar periods for the current accident period. For long-tailed lines, IBNR reserves for the current accident year are initially recorded as the product of the expected loss ratio for the period and the earned premium for the period, less reported losses for the period.
to record. In general, adjustments are made more quickly to more mature accident years and less volatile lines of business. Such adjustments of reserves are referred to as “prior accident year development”. Increases in previous estimates of ultimate loss costs are referred to as either an increase in prior accident year reserves or as unfavorable reserve development. Decreases in previous estimates of ultimate loss costs are referred to as either a decrease in prior accident year reserves or as favorable reserve development. Reserve development can influence the comparability of year over year underwriting results.
For a discussion of changes to reserve estimates recorded in 2016, see the Reserve Development section below.
Personal Lines- In Personal Lines, while claims emerge over relatively shorter periods, estimates can still vary due to a number of factors, including uncertain estimates of frequency and severity trends. Severity trends are affected by changes in internal claim handling and case reserving practices as well as by changes in the external environment. Changes in claim practices increase the uncertainty in the interpretation of case reserve data, which increases the uncertainty in recorded reserve levels. Severity trends have increased in recent accident years causing additional uncertainty about the reliability of past patterns. In addition, the introduction of new products and class plans has led to a different mix of business by type of insured than the Company experienced in the past. Such changes in mix increase the uncertainty of the reserve projections, since historical data and reporting patterns may not be applicable to the new business.
The estimated liabilities of insureds and the Company’s exposure to the insureds depends heavily on an analysis of the relevant
For both asbestos and environmental reserves, the Company also analyzes its historical paid and reported losses and expenses year by year, to assess any emerging trends, fluctuations or characteristics suggested by the aggregate paid and reported activity. The historical losses and expenses are analyzed on both a direct basis and net of reinsurance.
The process of estimating asbestos and environmental reserves remains subject to a wide variety of uncertainties, which are detailed in Note 14 - Commitments and Contingencies of Notes to Consolidated Financial Statements. The Company believes that its current asbestos and environmental reserves are appropriate. While future developments could cause the Company to change its estimates of its gross asbestos and environmental reserves, the adverse development cover with NICO will likely lessen the effect that these changes would have on the Company's consolidated operating results and liquidity. Consistent with past practice, the Company will continue to monitor its reserves in Property & Casualty Other Operations regularly, including its annual reviews of asbestos liabilities, reinsurance recoverables, the allowance for uncollectible reinsurance, and environmental liabilities. Where future developments indicate, we will make appropriate adjustments to the reserves at that time. In 2017, the Company will complete the comprehensive annual review of asbestos and environmental reserves during the fourth quarter.
In the opinion of management, based upon the known facts and current law, the reserves recorded for the Company’s property and casualty insurance products at December 31, 2016 represent the Company’s best estimate of its ultimate liability for losses and loss adjustment expenses related to losses covered by policies written by the Company. However, because of the significant uncertainties surrounding reserves. it is possible that management’s estimate of the ultimate liabilities for these claims may change in the future and that the required adjustment to currently recorded reserves could be material to the Company’s results of operations and liquidity.
Represents liabilities to be transferred to the buyer in connection with the pending sale of the Company's U.K. property and casualty run-off subsidiaries.
Auto liability reserves increased due to increases in both commercial lines auto and personal lines auto. Commercial auto
Asbestos and environmental reserves were increased during the period as a result of the 2015 comprehensive annual review.
Catastrophe reserves decreased primarily for accident year 2014 as fourth quarter 2014 catastrophes have developed favorably.
Workers' compensation reserves decreased for recent accident years due to improved frequency and lower estimated claim handling costs.
General liability reserves decreased due to lower frequency in late emerging claims.
Commercial auto liability reserves increased due to an increased frequency of severe claims spread across several accident years.
Net reserves and reserve activity in Property & Casualty Other Operations are categorized and reported as Asbestos, Environmental, and “All other”. The “All other” category of reserves covers a wide range of insurance and assumed
2016 excludes net reserves of $487 to be transferred to the buyer in connection with the pending sale of the Company's U.K. property and casualty run-off subsidiaries. These net reserves are included in liabilities held for sale as of December 31, 2016 of which $246 was for asbestos and environmental.
Reserves for asbestos and environmental are primarily within P&C Other Operations with less significant amounts of asbestos and environmental reserves included within Commercial Lines and Personal Lines reporting segments (collectively "Ongoing Operations"). The following tables include all asbestos and environmental reserves, including reserves in P&C Other Operations and Ongoing Operations.
Liabilities to be transferred to the buyer in connection with the pending sale of the Company's U.K. property and casualty run-off subsidiaries are classified as held for sale in the Company's Consolidated Balance Sheets.
Net survival ratio is the quotient of the net carried reserves divided by average annual payments net of reinsurance and is an indication of the number of years that net carried reserves would last (i.e. survive) if future annual net payments were consistent with the calculated historical average.
The Company classifies its asbestos and environmental reserves into three categories: Direct, Assumed Reinsurance and London Market.
being limited to a relatively small percentage of a total contract placement. Claims are reported, via a broker, to the “lead” underwriter and, once agreed to, are presented to the following markets for concurrence. This reporting and claim agreement process makes estimating liabilities for this business the most uncertain of the three categories of claims.
During the 2014 comprehensive annual review, the Company found estimates for certain direct accounts increased, principally due to a higher than previously estimated number of mesothelioma claim filings and an increase in costs associated with asbestos litigation. The Company also experienced unfavorable development on certain of its assumed reinsurance accounts driven by a variety of account-specific factors, including those experienced by the direct policyholders. Based on this evaluation, the Company increased its net asbestos reserves for prior year development by $212 in second quarter 2014.
Effective December 31, 2016, the Company entered into an asbestos and environmental adverse development cover (“ADC”) reinsurance agreement with National Indemnity Company (“NICO”), a subsidiary of Berkshire Hathaway Inc. (“Berkshire”), to reduce uncertainty about potential adverse development. Under the ADC, the Company paid a reinsurance premium of $650 for NICO to assume adverse net loss and allocated loss adjustment expense reserve development up to $1.5 billion above the Company’s existing net asbestos and environmental (“A&E”) reserves as of December 31, 2016 of approximately $1.7 billion. The $650 reinsurance premium was placed into a collateral trust account as security for NICO’s claim payment obligations to the Company. The Company has retained the risk of collection on amounts due from other third-party reinsurers and continues to be responsible for claims handling and other administrative services, subject to certain conditions. The ADC covers
Review of "All Other" Reserves in Property & Casualty Other Operations
Range of Prior Accident Year Unfavorable (Favorable) Development for the Ten Years Ended December 31, 2016
Excluding the reserve increases for asbestos and environmental reserves, over the past ten years reserve re-estimates for total property and casualty insurance ranged from (2.5)% to 1.0%.
The potential variability of the Company’s property and casualty insurance product reserves would normally be expected to vary
by segment and the types of loss exposures insured by those segments. Illustrative factors influencing the potential reserve
The following table summarizes the effect of reserve re-estimates, net of reinsurance, on calendar year operations for the
The net reserve re-estimates for accident years 2006 and prior are driven mostly by increased reserves for asbestos and environmental reserves, and also for increased estimates on assumed casualty reinsurance, workers’ compensation and general liability claims.
In addition, reserves for professional liability claims for the 2007 accident year were reduced due to a lower estimate of claim severity on both directors’ and officers’ insurance claims and errors and omissions insurance claims. Reserves for Personal Lines auto liability claims were decreased largely due to an improvement in emerged claim severity for the 2007accident year.
Reserves were decreased for the 2014 accident year largely due to favorable frequency and medical severity trends for workers' compensation and favorable development of fourth quarter catastrophes, partially offset by increased severity of liability claims on package business and unfavorable frequency and severity trends for personal and commercial auto liability.
Reserves were increased for the 2015 accident year largely due to unfavorable frequency and severity trends for personal and commercial auto liability and to a lesser extent increased severity of liability claims on package business, partially offset by
The Company establishes reserves for group life and accident & health contracts, including long-term disability coverage, for both outstanding reported claims and claims related to insured events that the Company estimates have been incurred but have not yet been reported. These reserve estimates can change over time based on facts and interpretations of circumstances, and consideration of various internal factors including The Hartford’s experience with similar cases, claim payment patterns, loss control programs and mix of business. In addition, the reserve estimates are influenced by various external factors including court decisions and economic conditions. The effects of inflation are implicitly considered in the reserving process. Long-tail claim liabilities are discounted because the payment pattern and the ultimate costs are reasonably fixed and determinable on an individual claim basis. The majority of Group Benefits’ reserves are for LTD claimants who are known to be disabled and are currently receiving benefits. The Company held $4,687 and $4,765 of LTD unpaid losses and loss adjustment expenses, net of reinsurance, as of December 31, 2016 and 2015, respectively.
The DLR also includes a liability for potential payments to pending claimants who have not yet been approved for LTD either because they have not yet satisfied the waiting (or elimination) period or because the approval or denial decision has not yet been made. In these cases, the present value of future benefits is reduced for the likelihood of recovery before benefit onset or claim denial based on Company experience. For claims recently closed due to denial, a portion of the DLR is retained for the possibility that the claim is later approved upon further evidence of disability.
Estimates for incurred but not reported (IBNR) claims are made by applying completion factors to the dollar amount of claims reported. Completion factors are derived from standard actuarial techniques using triangles that display historical claim count
emergence by incurral year. These estimates are reviewed for reasonableness and are adjusted for current trends and other factors expected to cause a change in claim emergence. The reserves include an estimate of unpaid claim expenses, including a provision for the cost of initial set-up of the claim once reported.
In group insurance, Long-Term Disability (LTD) has the longest pattern of loss emergence and the highest reserve amount. One significant risk to the reserve would be a slowdown in recoveries. In particular, the economic environment can affect the ability of an injured worker to return-to-work and the length of time a worker receives disability benefits. Another significant risk is a change in benefit offsets. Often the Company pays a reduced benefit due to offsets from other income sources such as pensions or Social Security Disability Insurance (SSDI). Possible changes to the frequency, timing, or amount of offsets, such as a change in SSDI approval standards or benefit offerings, create a risk that the amount to settle open claims will exceed initial estimates. Since the monthly income benefit for a claimant is established based on the individual’s salary at the time of disability and the level of coverages and benefits provided, inflation is not considered a significant risk to the reserve estimate. Few of the Company’s LTD policies provide for cost of living adjustments to the monthly income benefit.
Claim Termination Rates (inclusive of mortality, recoveries, and expiration of benefits) - Claim termination rates are an estimate of the rate at which claimants will cease receiving benefits during a
given calendar year. Terminations result from a number of factors, including death, recoveries and expiration of benefits. The probability that benefits will terminate in each future month for each claim is estimated using a predictive model that uses past Company experience, contract provisions, job characteristics and other claimant-specific characteristics such as diagnosis, time since disability began, and age. Actual claim termination experience will vary from period to period. Over the past 10 years, claim termination rates for a single incurral year have generally increased and have ranged from 4% below to 8% above current assumptions over that time period. For a single recent incurral year (such as 2016), a one percent decrease in our assumption for LTD claim termination rates would increase our reserves by $4. For all incurral years combined, as of December 31, 2016, a one percent decrease in our assumption for our LTD claim termination rates would increase our Group Benefits unpaid losses and loss adjustment expense reserves by $17.
For additional information on DAC, see Note 9 - Deferred Policy Acquisition Costs of Notes to Consolidated Financial Statements.
Talcott Resolution Benefit (Charge) to Income, Net of Tax, as a Result of Unlock
The Unlock charge for the year ended December 31, 2014 was primarily due to lower future estimated gross profits on the fixed annuity block driven by the continued low interest rate environment as well as higher variable annuity unit costs due to higher than expected surrenders, partially offset by actual separate account returns being above our aggregated estimated returns during the period.
In the fourth quarter of 2016, the Company completed a comprehensive policyholder behavior assumption study which resulted in a non-market related after-tax charge of $20 and incorporated the results of that study into its projection of future gross profits. Additionally, throughout the year, the Company evaluates various aspects of policyholder behavior and will revise its policyholder assumptions if credible emerging data indicates that changes are warranted. The Company will continue to evaluate its assumptions related to policyholder behavior as initiatives to reduce the size of the annuity business are implemented by management. Upon completion of an annual assumption study or evaluation of credible new information, the Company will revise its assumptions to reflect its current best estimate. These assumption revisions will change the projected
Fair values for GMWBs, classified as embedded derivatives and included in other policyholder funds and benefits payable, are calculated using the income approach based upon internally developed models, because active, observable markets do not exist for those items. The fair value of these GMWBs and the
related reinsurance and customized freestanding derivatives are calculated as an aggregation of the following components: Best Estimate Claim Payments; Credit Standing Adjustment; and Margins. The resulting aggregation is reconciled or calibrated, if necessary, to market information that is available to the Company, but may not be observable by other market participants, including reinsurance discussions and transactions. The Company believes the aggregation of these components, as calibrated to market information, results in an amount that the Company would be required to transfer to or receive from market participants in an active liquid market, if one existed, for those market participants to assume the risks associated with the guaranteed minimum benefits and the related reinsurance and customized derivatives. The fair value is likely to materially diverge from the ultimate settlement of the liability as the Company believes settlement will be based on our best estimate assumptions rather than those best estimate assumptions plus risk margins. In the absence of any transfer of the guaranteed benefit liability to a third party, the release of risk margins is likely to be reflected as realized gains in future periods’ net income.
A multidisciplinary group of finance, actuarial and risk management professionals reviews and approves changes to the Company's valuation model as well as associated controls.
within the Commercial Lines segment, Group Benefits, Personal Lines and Mutual Funds.
The Company generally determines fair values using valuation techniques that use prices, rates, and other relevant information evident from market transactions involving identical or similar instruments. Valuation techniques also include, where appropriate, estimates of future cash flows that are converted into a single discounted amount using current market expectations. The Company uses a "waterfall" approach comprised of the following pricing sources which are listed in priority order: quoted prices, prices from third-party pricing services, internal matrix pricing, and independent broker quotes. The fair value of free-standing derivative instruments are determined primarily using a discounted cash flow model or option model technique and incorporate counterparty credit risk. In some cases, quoted market prices for exchange-traded transactions and transactions cleared through central clearing houses ("OTC-cleared") may be used and in other cases independent broker quotes may be used. For further discussion, see the Fixed Maturities, Equity Securities, Short-term Investments and Free-standing Derivatives section in Note 5 of Notes to Consolidated Financial Statements. For further discussion on the GMWB customized derivative valuation methodology, see the GMWB Embedded, Customized and Reinsurance Derivatives section in Note 5 of Notes to Consolidated Financial Statements.
Deferred tax assets represent the tax benefit of future deductible temporary differences and tax carryforwards. Deferred tax assets are measured using the enacted tax rates expected to be in effect when such benefits are realized if there is no change in tax law. Under U.S. GAAP, we test the value of deferred tax assets for impairment on a quarterly basis at the entity level within each tax jurisdiction, consistent with our filed tax returns. Deferred tax assets are reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion, or all, of the deferred tax assets will not be realized. The determination of the valuation allowance for our deferred tax assets requires management to make certain judgments and assumptions. In evaluating the ability to recover deferred tax assets, we have considered all available evidence as of December 31, 2016, including past operating results, forecasted earnings, future taxable income, and prudent and feasible tax planning strategies. In the event we determine it is more likely than not that we will not be able to realize all or part of our deferred tax assets in the future, an increase to the valuation allowance would be charged to earnings in the period such determination is made. Likewise, if it is later determined that it is more likely than not that those deferred tax assets would be realized, the previously provided valuation allowance would be reversed. Our judgments and assumptions are subject to change given the inherent uncertainty in predicting future performance and specific industry and investment market conditions.
As of December 31, 2016, the Company had no valuation allowance. As of December 31, 2015, the Company had a deferred tax asset valuation allowance $79 relating primarily to U.S. capital loss carryovers. The reduction in the valuation allowance in 2016 stems primarily from taxable gains on the termination of derivatives during the period. The Company had no capital loss carryovers as of December 31, 2016.
value losses until recovery, altering the level of tax exempt securities held, making investments which have specific tax characteristics, and business considerations such as asset-liability matching. Management views such tax planning strategies as prudent and feasible and would implement them, if necessary, to realize the deferred tax assets.
For discussion of current accident year catastrophes and prior accident year development, see MD&A - Critical Accounting Estimates, Total Property and Casualty Insurance Product Reserves Development.
Includes servicing revenues of $86, $87, and $113 for the years ended December 31, 2016, December 31, 2015, and December 31, 2014 respectively.
Pricing varies significantly by product line with moderate rate decreases possible in property, general liability and workers’ compensation with further rate increases expected in commercial auto. Market conditions could be influenced by interest rates. If interest rates rise significantly, it could put downward pressure on the premium rates we and other insurers charge for our insurance coverages, particularly for longer-tailed commercial lines products.
Small Commercial increased primarily due to workers’ compensation driven by higher new business, renewal and audit premium, and Spectrum package business driven by higher renewal premium, as well as the acquisition of Maxum.
The decrease in Middle Market was driven primarily by lower new business, renewal and endorsement premium in workers’ compensation, and lower new business and renewal premium in general liability and specialty programs, partially offset by higher new business and renewal premium in construction.
Renewal written pricing increases averaged 2% in standard commercial, which included 3% for Small Commercial and 1% for Middle Market.
The increase in Middle Market was driven primarily by higher new, renewal and audit premium in construction as well as higher new and renewal premium in marine.
Specialty Commercial increased primarily as a result of higher retrospective premium on loss sensitive business in national accounts.
higher loss and loss adjustment expense ratio in commercial auto, driven by elevated frequency and severity.
Loss and LAE ratio before catastrophes and prior accident year development decreased in 2015, as compared to the prior year period, primarily driven by lower loss and loss adjustment expense ratios in workers' compensation, general liability and financial products, as well as lower non-catastrophe property losses. The decrease in workers compensation was due to earned pricing increases and declining frequency, partially offset by modestly higher severity.
Current accident year catastrophe losses totaled $121, before tax, in 2015, compared to $109, before tax, in 2014. Catastrophe losses for both years were primarily due to winter storms and wind and hail events across various U.S. geographic regions.
In 2017, the Company expects premium rates for auto and home across the industry will continue to rise, as the industry continues to respond to the emergence of higher loss cost trends. Automobile loss cost frequency and severity have increased due, in part, to an increase in miles driven and more expensive bodily injury and repair costs. Accordingly, the Company expects written pricing increases to be at or near double-digits in 2017 for both automobile and homeowners. The Company has been executing multiple profitability improvement initiatives in personal automobile, including actions on pricing, underwriting
and agency management and these will continue in 2017. Due to those actions, the Company expects a mid-single digit decline in Personal Lines written premiums in 2017, with a modest decrease in AARP Direct and a more significant decrease in the Agency channel.
catastrophes are assumed to be 5.8 points of the combined ratio in 2017 compared to 5.5 points in 2016. While management actions are expected to improve the combined ratio for auto in 2017, that expectation is subject to uncertainty given that severity trends had not yet moderated through year end 2016. For homeowners, the combined ratio is expected to increase in 2017 largely given that catastrophe losses and prior accident year development were favorable in 2016. The underlying combined ratio for homeowners is expected to remain relatively flat in 2017, driven by earned pricing increases, partially offset by increased average claim severity.
Policy count retention for homeowners was lower in 2015 driven in part by renewal written pricing increases.
Policy count retention for both auto and homeowners was lower in 2015 driven in part by renewal written pricing increases and planned underwriting initiatives.
for 2015 primarily due to accident year 2014 catastrophes. Net reserves decreased for 2014 primarily due to prior accident year catastrophes, as well as prior accident year homeowners and extra contractual liability reserves.
[2] For discussion of consolidated investment results, see MD&A - Investment Results, Net Investment Income (Loss) and Net Realized Capital Gains (Losses).
[3] For discussion of income taxes, see Note 16 - Income Taxes of Notes to Consolidated Financial Statements.
Written premiums of $31 in 2015, recognized in connection with the assumption of previously reinsured business, were partially offset by current accident year losses of $25 upon consolidation of certain P&C run-off entities in the United Kingdom.
Environmental Reserves increased by $52 in 2015 primarily due to an increase in estimated environmental cleanup costs, including at certain Superfund sites.
Fully insured ongoing premiums in Group Benefits are expected to increase modestly in 2017 due primarily to continued strong book persistency and pricing increases. Core earnings in 2017 may be negatively impacted by approximately a $10 to $15 after-tax charge due to state guaranty fund assessments related to the likely liquidation of a carrier in the life and health industry. Excluding the potential impact from these state guaranty fund assessments, the Company expects Group Benefits core earnings in 2017 will be relatively flat with 2016 as the effect of slightly higher expenses and lower net investment income will be largely offset by expected modest improvement in the Group Benefits loss ratio driven by improved pricing and improved severity.
Insurance operating costs and other expenses decreased 2% due primarily to decreased administrative expenses.
Net income decreased in 2015 primarily due to higher benefits, losses and loss adjustment expenses, higher net realized capital losses and lower net investment income partially offset by higher premiums and other considerations and lower insurance operating costs and other expenses.
Fully insured ongoing sales, excluding buyouts decreased 4% in 2016, reflecting lower disability sales.
Fully insured ongoing sales, excluding buyouts increased 43% in 2015, as compared to prior year period, primarily due to an increase in large case accounts.
Expense ratio improved 1.0 points in 2016, reflecting premium growth and lower insurance operating costs and other expenses.
The year ended December 31, 2014 includes a planned asset transfer of $0.7 billion to the HIMCO Variable Insurance Trust (“HVIT”) which supports legacy retirement mutual funds and run-off mutual funds (see footnote [4]). HVIT's invested assets are managed by Hartford Investment Management Company, a wholly-owned subsidiary of the Company.
Talcott Resolution AUM consist of Company-sponsored mutual fund assets held in separate accounts supporting variable insurance and investment products.
Leveraging capabilities from acquiring Lattice Strategies in July 2016 and adopting ten U.S. Schroders funds in October 2016, the Company expects to increase sales in 2017 from a diversified lineup of mutual funds and ETP. Assets under management will
Net income decreased in 2015, compared to the prior year period, primarily due to a combination of lower average AUM and higher spending on marketing initiatives and the effect of a one-time state tax benefit in 2014.
Total Mutual Funds segment AUM increased in 2016 primarily due to market appreciation and the adoption of 10 Schroders funds partially offset by net outflows and the continued run-off of Talcott Resolution AUM.
Total Mutual Funds segment AUM declined in 2015 reflecting market depreciation and the continued run-off of Talcott Resolution AUM. Mutual fund AUM increased by 2% reflecting higher sales and stable redemptions.
Other account value includes $31.0 billion, $14.6 billion, and $40.8 billion as of December 31, 2016, and $33.2 billion, $14.6 billion, $40.3 billion as of December 31, 2015, and $36.5 billion, $14.9 billion, and $39.8 billion as of December 31, 2014, for the Retirement Plans, Individual Life, and Private Placement Life Insurance businesses; respectively. Account values associated with the Retirement Plans, and Individual Life businesses no longer generate asset-based fee income due to the sales of these businesses through reinsurance.
Net income for 2016 decreased primarily due to lower tax benefits recognized in 2016, a write-off of DAC associated with fixed annuities, lower investment income and a reinsurance gain on disposition in 2015. Net realized capital losses were down slightly as an increase in losses on the variable annuity hedge program and a loss on the modified coinsurance reinsurance contract related to the Individual Life business were largely offset by an increase in net gains from sales of investments and lower impairment losses. In addition, the continued run-off of the variable and fixed annuity block resulted in lower fee income, partially offset by lower amortization of DAC and lower insurance operating costs and other expenses.
Net income increased primarily due to lower DAC amortization driven by a favorable unlock in 2015 versus an unfavorable unlock in 2014, lower insurance operating costs and other expenses, and lower benefits and losses due to the continued run-off of the variable annuity block, partially offset by lower fee income due to the continued run-off of the variable annuity block, lower net investment income due to a decrease in income from limited partnerships and alternative investments and realized capital losses related to the variable annuity hedge program. In addition, 2014 included a loss from discontinued operations due to the sale of HLIKK.
Variable annuity net outflows decreased by approximately $3.8 billion due to lower outflows from in-force management initiatives.
Contract counts decreased 11% for variable annuities during 2015 primarily due to in-force management initiatives and the continued aging of the block.
Fee income includes the income associated with the sales of non-proprietary insurance products in the Company’s broker-dealer subsidiaries that has an offsetting commission expense in insurance operating costs and other expenses.
Net loss decreased in 2016 primarily due to a decrease in insurance operating costs and other expenses, an increase in net investment income and lower interest expense. The income tax benefit in 2016 included a federal income tax benefit of $113 associated with the investments in solar energy partnerships offset by realized capital losses of $96, before tax, associated with the write-down of investments in solar energy partnerships.
Insurance operating costs and other expenses decreased in 2016 largely due a reduction in restructuring costs.
Net loss decreased in 2015 primarily due to an increase in income tax benefit of $94 from the partial reduction of the deferred tax valuation allowance on capital loss carryovers established when the HLIKK annuity business was sold. The reduction in valuation allowance stems primarily from taxable gains on sales of investments during the period. The net loss also decreased due to lower insurance operating costs and interest expense as well as the effect of a pension settlement charge in 2014, partially offset by a loss on extinguishment of debt in second quarter 2015.
The Company's enterprise risk management ("ERM") function supports the ERCC and functional committees, and is tasked with, among other things:
Property- Risk of loss to personal or commercial property from automobile related accidents, weather, explosions, smoke, shaking, fire, theft, vandalism, inadequate installation, faulty equipment, collisions and falling objects, and/or machinery mechanical breakdown resulting in physical damage and other covered perils.
Mortality- Risk of loss from unexpected trends in insured deaths impacting timing of payouts from life insurance or annuity products, personal or commercial automobile related accidents, and death of employees or executives during the course of employment, while on disability, or while collecting workers compensation benefits.
Catastrophe risk primarily arises in the group life, group disability, property, and workers' compensation product lines.
Among specific risk tolerances set by the Company, risk limits are set for natural catastrophes, terrorism risk and pandemic risk.
Certain aspects of our principal catastrophe treaty have terms that extend beyond the traditional one year term. While overall treaty is placed at 88%, each layer's placement varies slightly.
$50 of the property occurrence treaty can alternatively be used as part of the Property Aggregate treaty referenced below.
In addition to the limit shown, the workers compensation reinsurance includes a non-catastrophe, industrial accident layer, providing coverage for 80% of a$30 per event limit in excess of a $20 retention.
In addition to the property catastrophe reinsurance coverage described in the above table, the Company has other catastrophe and working layer treaties and facultative reinsurance agreements that cover property catastrophe losses on an aggregate excess of loss and on a per risk basis. The principal property catastrophe reinsurance program and certain other reinsurance programs include a provision to reinstate limits in the event that a catastrophe loss exhausts limits on one or more layers under the treaties. In addition, covering the period from January 1, 2017 to December 31, 2017, the Company has a Property Aggregate treaty in place which provides one limit of $200 of aggregate qualifying property catastrophe losses in excess of a net retention of $850.
TRIPRA provides a backstop for insurance-related losses resulting from any “act of terrorism”, which is certified by the Secretary of the Treasury, in consultation with the Secretary of Homeland Security and the Attorney General, for losses that exceed a threshold of industry losses of $100 in 2015, with the threshold increasing to $200 by 2020. Under the program, in any one calendar year, the federal government would pay a percentage of losses incurred from a certified act of terrorism after an insurer's losses exceed 20% of the Company's eligible direct commercial earned premiums of the prior calendar year up to a combined annual aggregate limit for the federal government and all insurers of $100 billion. The percentage of losses paid by the federal government is 83% in 2017, decreasing by 1 point annually to 80% in the year 2020. The Company's estimated deductible under the program is $1.2 billion for 2017. If an act of terrorism or acts of terrorism result in covered losses exceeding the $100 billion annual industry aggregate limit, a future Congress would be responsible for determining how additional losses in excess of $100 billion will be paid.
Property and casualty insurance product reinsurance recoverables represent loss and loss
Excludes reinsurance recoverables of $178 to be transferred to the buyer in connection with the pending sale of the Company's U.K. property and casualty run-off subsidiaries.
Included reinsurance recoverables of $113 resulting from the acquisition of Maxum in July 2016.
Based on A.M. Best ratings as of December 31, 2016 and 2015, respectively.
Where its contracts permit, the Company secures future claim obligations with various forms of collateral, including irrevocable letters of credit, secured trusts, funds held accounts and group wide offsets. As part of its reinsurance recoverable review, the Company analyzes recent developments in commutation activity between reinsurers and cedants, recent trends in arbitration and litigation outcomes in disputes between cedants and reinsurers and the overall credit quality of the Company’s reinsurers. As indicated in the above table, 73.1% of the gross reinsurance recoverables due from reinsurers rated by A.M. Best were rated A- (excellent) or better as of December 31, 2016.
Sources of Operational Risk Operational risk is inherent in the Company's business and functional areas. Operational risks include legal; cyber and information security; models; third party vendors; technology; operations; business continuity; disaster recovery; external fraud; and compliance.
Management Responsibility for day-to-day management of operational risk lies within each business unit and functional area. ERM provides an enterprise-wide view of the Company's operational risk on an aggregate basis. ERM is responsible for
Management The Company has defined ongoing monitoring and reporting requirements to assess liquidity across the enterprise under both current and stressed market conditions. The Company measures and manages liquidity risk exposures and funding needs within prescribed limits across legal entities, taking into account legal, regulatory and operational limitations to the transferability of liquidity. The Company also monitors internal and external conditions, and identifies material risk changes and emerging risks that may impact liquidity. The Company's CFO has primary responsibility for liquidity risk.
Premiums receivable and agents' balances Premiums receivable and agents’ balances, net of an allowance for doubtful accounts, were $3,731 and $3,537, as of December 31, 2016 and 2015, respectively. (For a discussion regarding collectibility of these balances, see Note 1, Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements under the section labeled “Revenue Recognition.”)
counterparties and clearing brokers becoming unwilling to engage in or clear additional derivatives or may require collateralization before entering into any new trades. This would restrict the supply of derivative instruments commonly used to hedge variable annuity guarantees, particularly long-dated equity derivatives and interest rate swaps.
For the company’s derivative programs, the maximum uncollateralized threshold for a derivative counterparty for a single legal entity is $10. The Company currently transacts OTC derivatives in five legal entities that have a threshold greater than zero. The maximum combined threshold for a single counterparty across all legal entities that use derivatives and have a threshold greater than zero is $30. In addition, the Company may have exposure to multiple counterparties in a single corporate family due to a common credit support provider. As of December 31, 2016, the maximum combined threshold for all counterparties under a single credit support provider across all legal entities that use derivatives and have a threshold greater than zero was $60. Based on the contractual terms of the collateral agreements, these thresholds may be immediately reduced due to a
For the year ended December 31, 2016, the Company incurred no losses on derivative instruments due to counterparty default.
The Company uses credit derivatives to purchase credit protection with respect to a single entity, referenced index, or asset pool. The Company purchases credit protection through credit default swaps to economically hedge and manage credit risk of certain fixed maturity investments across multiple sectors of the investment portfolio. As of December 31, 2016 and 2015, the notional amount related to credit derivatives that purchase credit protection was $209 and $423, respectively, while the fair value was $(4) and $18, respectively. These amounts do not include positions that are in offsetting relationships.
For further information on credit derivatives, see Note 7 Derivative Instruments of Notes to Consolidated Financial Statements.
products based on net investment spread which is, in part, influenced by changes in interest rates.
Impact Changes in interest rates from current levels can have both favorable and unfavorable effects for the Company.
The Company also utilizes a variety of derivative instruments to mitigate interest rate risk associated with its investment portfolio or to hedge liabilities. Interest rate caps, floors, swaps, swaptions, and futures may be used to manage portfolio duration. Interest rate swaps are primarily used to convert interest receipts or payments to a fixed or variable rate. The use of such swaps
Investment contract liabilities and certain insurance product liabilities (e.g., fixed rate annuities) The Company’s issued investment contracts and certain insurance product liabilities, other than non-guaranteed separate accounts, include asset accumulation vehicles such as fixed annuities, guaranteed investment products, other investment and universal life-type contracts and certain insurance products such as long-term disability. The primary risk associated with these products is that, despite the use of market value adjustment features and surrender charges, the spread between investment return and credited rate may not be sufficient to earn targeted returns.
Structured settlements and other non-investment type product liabilities The Company’s issued non-investment type contracts include structured settlement contracts, terminal funding agreements, on-benefit annuities (i.e., the annuitant is currently receiving benefits) and short-term and long-term disability contracts. The cash outflows associated with these policy liabilities are not interest rate sensitive but do vary based on timing. Similar to investment-type products, the aggregate cash flow payment streams are relatively predictable. Products in this category may rely upon actuarial pricing assumptions (including mortality and morbidity) and have an element of cash flow uncertainty. As of December 31, 2016 and 2015, the Company had $6,993 and $7,045, respectively, of liabilities for structured settlements and terminal funding agreements, $1,636 and $1,647, respectively, of liabilities for on-benefit payout annuities, and $4,947 and $5,029, respectively of reserves for short-term and long-term disability contracts.
The carrying value of assets supporting the fixed liabilities related to the businesses included in the table above was $25.0 billion and $25.3 billion, as of December 31, 2016 and 2015, respectively, and included fixed maturities, commercial mortgage loans and short-term investments. The assets supporting the fixed liabilities are monitored and managed within set duration guidelines and are evaluated on a daily basis, as well as annually, using scenario simulation techniques in compliance with regulatory requirements.
The carrying value of fixed maturities, commercial mortgage loans and short-term investments related to the businesses included in the table above was $40.2 billion and $41.9 billion, as of December 31, 2016 and 2015, respectively. The selection of the 100 basis point parallel shift in the yield curve was made only as an illustration of the potential hypothetical impact of such an event and should not be construed as a prediction of future market events. Actual results could differ materially from those illustrated above due to the nature of the estimates and assumptions used in the above analysis. The Company’s sensitivity analysis calculation assumes that the composition of invested assets and liabilities remain materially consistent throughout the year and that the current relationship between short-term and long-term interest rates will remain constant over time. As a result, these calculations may not fully capture the impact of portfolio re-allocations, significant product sales or non-parallel changes in interest rates.
Sources of Equity Risk The Company has exposure to equity risk from general account assets, variable annuity and mutual fund assets under management, embedded derivatives within the Company’s variable annuity products, and assets that support the Company’s pension and other post retirement benefit plans. The Company's variable products are significantly influenced by the U.S. and other equity markets, as discussed below.
Increases in equity markets will generally have the inverse impact of those listed in the preceding discussion.
Equity Risk on the Company’s Variable Annuity products is mitigated through the hedging programs described below, which are primarily focused on mitigating the economic exposure while considering the potential impacts on statutory and GAAP accounting results.
Guaranteed benefits, primarily associated with variable annuity products The Company may experience losses associated with GMDB or GMWB variable annuity guarantees when equity markets decline. (For further discussion, see the Managing equity risk on the Company's variable annuity products section below.)
concentration limits and investment quality requirements on permissible investment options. For further discussion of equity risk associated with the pension plans, see Note 18 Employee Benefit Plans of Notes to Consolidated Financial Statements.
Managing Equity Risk on the Company's Variable Annuity Products- Most of the Company’s variable annuities include GMDB and certain contracts with GMDB also include GMWB features. Declines in the equity markets will increase the Company’s liability for these benefits. Many contracts with a GMDB include a maximum anniversary value ("MAV"), which in rising markets resets the guarantee on the anniversary to be 'at the money'. As the MAV increases, it can increase the NAR for subsequent declines in account value. Generally, a GMWB contract is ‘in the money’ if the contractholder’s guaranteed remaining balance ("GRB") becomes greater than the account value.
The Company expects to incur GMDB payments in the future only if the policyholder has an “in the money” GMDB at their death.
The Company uses reinsurance for a portion of contracts with GMWB riders issued prior to the second quarter of 2006. The Company also uses reinsurance for a majority of the GMDB with NAR.
The following table presents our estimates of the potential instantaneous impacts from sudden market stresses related to equity market prices, interest rates, and implied market volatilities. The following sensitivities represent: (1) the net estimated difference between the change in the fair value of GMWB liabilities and the underlying hedge instruments and (2) the estimated change in fair value of the hedge instruments for the macro program, before the impacts of amortization of DAC and taxes. As noted in the preceding discussion, certain hedge assets are used to hedge liabilities that are not carried at fair value and will not have a liability offset in the U.S. GAAP sensitivity analysis. All sensitivities are measured as of December 31, 2016 and are related to the fair value of liabilities and hedge instruments in place at that date for the Company’s variable annuity hedge programs. The impacts presented in the table that follows are estimated individually and measured without consideration of any correlation among market risk factors.
Based on the fair values of the Company’s non-U.S. dollar denominated securities and derivative instruments as of December 31, 2016 and 2015, management estimates that a hypothetical 10% unfavorable change in exchange rates would decrease the fair values by a before-tax total of $11 and $48, respectively, and as of December 31, 2016 excludes the impact of the assets that transferred to held for sale related to the U.K. property and casualty run-off subsidiaries . Actual results could differ materially due to the nature of the estimates and assumptions used in the analysis.
currency futures/forwards/swaps. In order to manage the currency risk related to any non-U.S. dollar denominated liability contracts, the Company enters into foreign currency swaps or holds non-U.S. dollar denominated investments.
Yen denominated fixed payout annuities under a reinsurance contract The Company has entered into pay U.S. dollar, receive yen swap contracts to hedge the currency exposure between the U.S. dollar denominated assets and the yen denominated fixed liability reinsurance payments.
Non-U.S. dollar denominated funding agreement liability contracts The Company hedged the foreign currency risk associated with these liability contracts with currency rate swaps. At December 31, 2016
Statutory surplus amounts and risk-based capital (“RBC”) ratios may increase or decrease in any period depending upon a variety of factors and may be compounded in extreme scenarios or if multiple factors occur at the same time. In general, as equity market levels and interest rates decline, the amount and volatility of both our actual or potential obligation, as well as the related statutory surplus and capital margin can be materially negatively affected, sometimes at a greater than linear rate. At times the impact of changes in certain market factors or a combination of multiple factors on RBC ratios can be counterintuitive. Factors include:
Credit spreads on invested assets may increase sharply for certain sub-sectors of the overall credit market, resulting in statutory separate account asset market value losses. As actual credit spreads are not fully reflected in the current crediting rates, the calculation of statutory reserves for fixed MVA annuities will not substantially offset the change in fair value of the statutory separate account assets resulting in reductions in statutory surplus.
Sustained low interest rates with respect to the fixed annuity business may result in a reduction in statutory surplus and an increase in NAIC required capital.
As of December 31, 2016, the Company’s European investment exposure had an amortized cost and fair value of $3.4 billion and
Includes equity, AFS securities with an amortized cost and fair value of $203 and $217, respectively as of December 31, 2016 and an amortized cost and fair value of $159 and $158, respectively, as of December 31, 2015 included in the AFS by type table above.
are primarily in the form of whole loans, where the Company is the sole lender, but may include participations. Loan participations are loans where the Company has purchased or retained a portion of an outstanding loan or package of loans and participates on a pro-rata basis in collecting interest and principal pursuant to the terms of the participation agreement. In general, A-Note participations have senior payment priority, followed by B-Note participations. As of December 31, 2016, loans within the Company’s mortgage loan portfolio that have had extensions or restructurings, other than what is allowable under the original terms of the contract, are immaterial.
During 2016, the Company funded $516 of commercial whole loans with a weighted average loan-to-value (“LTV”) ratio of 63% and a weighted average yield of 3.6%. The Company continues to originate commercial whole loans within primary markets, such as office, industrial and multi-family, focusing on loans with strong LTV ratios and high quality property collateral. There were no mortgage loans held for sale as of December 31, 2016 or December 31, 2015.
Valuation allowances on mortgage loans increased $4, largely driven by individual property performance.
The following table presents the Company’s investments in limited partnerships and other alternative investments which include hedge funds, real estate funds, and private equity and other funds. Since December 31, 2015, the Company has reduced
The total gross unrealized losses were $525 as of December 31, 2016, and have decreased $174, or 25%, from December 31, 2015, due to tighter credit spreads, partially offset by higher interest rates. As of December 31, 2016, $502 of the gross unrealized losses were associated with securities depressed less than 20% of cost or amortized cost. The remaining $23 of gross unrealized losses were associated with securities depressed greater than 20%. The securities depressed more than 20% are primarily securities with exposure to commercial real estate and corporate securities which are depressed primarily due to wider credit spreads since the securities were purchased.
[1]Unrealized losses exclude the fair value of bifurcated embedded derivatives features of certain securities as changes in value are recorded in net realized capital gains (losses).
Non-credit impairments recognized in other comprehensive income were $8 for the year ended December 31, 2016. These non-credit impairments represent the excess of the Company’s best estimate of the discounted expected future cash flows over the fair value.
For the year ended December 31, 2015, impairments recognized in earnings were comprised of intent-to-sell impairments of $54 and credit impairments of $29, both of which were primarily concentrated in corporate securities. Also, impairments recognized in earnings included impairments on equity securities of $16 that were in an unrealized loss position and the Company no longer believed the securities would recover in the foreseeable future, as well as $3 of other impairments.
For the year ended December 31, 2014, impairments recognized in earnings were comprised of credit impairments of $37, primarily concentrated in corporate securities. Also, included were impairments on debt securities for which the Company had the intent-to-sell of $17, primarily related to equity, AFS securities. In addition, impairments recognized in earnings included impairments on equity securities of $2 that were in an unrealized loss position and the Company no longer believed the securities would recover in the foreseeable future.
Capital available at the holding company as of December 31, 2016:
$1.2 billion in fixed maturities, short-term investments and cash at HFSG Holding Company
$500 in contingent capital facility. In February of 2017, the Company issued $500 of junior subordinated notes under the facility
Borrowings available under a commercial paper program to a maximum of $1 billion. As of December 31, 2016 there was no commercial paper outstanding
Dividend capacity of $207 for Hartford Life and Accident Insurance Company ("HLA") with $250 of dividends expected in 2017, subject to regulatory approval.
As of December 31, 2016, HFSG Holding Company held fixed maturities, short-term investments and cash of $1.2 billion. Expected liquidity requirements of the HFSG Holding Company for the next twelve months include payments of 5.375% Notes, due 2017 of $416 at maturity, interest payments on debt of approximately $320 and common stockholder dividends, subject to discretion of the Board of Directors, of approximately $340.
On February 15, 2017, pursuant to the put option agreement with the Glen Meadow ABC Trust, the Company issued $500 junior subordinated notes with a scheduled maturity of February 12, 2047, and a final maturity of February 12, 2067. The junior subordinated notes bear interest at an annual rate of three-month LIBOR plus 2.125%, payable quarterly. The Hartford will have the right, on one or more occasions, to defer interest payments due on the junior subordinated notes under specified circumstances. The Company expects to use the proceeds to fund the call of $500 in 8.125% junior subordinated debentures that are due 2068 and that are first callable in June 2018. As such, the proceeds of the $500 of junior subordinated notes issued under the contingent capital facility will be held at the holding company until June of 2018, resulting in an increase in debt to capital ratios during that time.
On January 5, 2017, Hartford Fire Insurance Company, a subsidiary of the Company, issued a Revolving Note (the "Note") in the principal amount of $230 to Hartford Accident and Indemnity Company, an indirectly wholly-owned subsidiary of the Company, under the intercompany liquidity agreement. The note was issued to fund the liquidity needs associated with the $650
In October 2016, the Board of Directors authorized a new equity repurchase program for $1.3 billion for the period commencing October 31, 2016 through December 31, 2017. The $1.3 billion authorization is in addition to the Company's prior authorization for $4.375 billion, which was completed by December 31, 2016. As of December 31, 2016, the Company had $1.3 billion remaining under its new equity repurchase program. Any repurchase of shares under the equity repurchase program is dependent on market conditions and other factors.
On February 23, 2017, The Hartford’s Board of Directors declared a quarterly dividend of $0.23 per common share payable on April 3, 2017 to common shareholders of record as of March 6, 2017. There are no current restrictions on the HFSG Holding Company's ability to pay dividends to its shareholders. For a discussion of restrictions on dividends to the HFSG Holding Company from its insurance subsidiaries, see "Dividends from Insurance Subsidiaries" below. For a discussion of potential limitations on the HFSG Holding Company's ability to pay dividends, see Part I, Item 1A, - Risk Factors for the risk factor "Our ability to declare and pay dividends is subject to limitations" .
This change does not affect the measurement of the Company's total benefit obligations as the change in the interest cost in net income is completely offset in the actuarial (gain) loss reported for the period in other comprehensive income. The change will result in a reduction of the interest cost component of net periodic benefit cost for 2017 of $37 before tax. The discount rate that will be used to measure interest cost during 2017 is 3.58%, 3.55% and 3.13% for the qualified pension plan, non-qualified pension plan and postretirement benefit plan, respectively. Under the Company's historical estimation approach, the weighted average discount rate for the interest cost component would have been 4.22%, 4.19% and 3.97% for the qualified pension plan, non-qualified pension plan and postretirement benefit plan, respectively. The Company will account for the change in estimation approach as a change in estimate, and accordingly, will recognize the effect prospectively beginning in 2017.
Dividends to the HFSG Holding Company from its insurance subsidiaries are restricted by insurance regulation. The payment of dividends by Connecticut-domiciled insurers is limited under the insurance holding company laws of Connecticut. These laws require notice to and approval by the state insurance commissioner for the declaration or payment of any dividend, which, together with other dividends or distributions made within the preceding twelve months, exceeds the greater of (i) 10% of the insurer’s policyholder surplus as of December 31 of the preceding year or (ii) net income (or net gain from operations, if such company is a life insurance company) for the twelve-month period ending on the thirty-first day of December last preceding, in each case determined under statutory insurance accounting principles. The insurance holding company laws of the other jurisdictions in which The Hartford’s insurance subsidiaries are domiciled or deemed commercially domiciled under applicable state insurance laws contain similar or in certain state(s) more restrictive limitations on the payment of dividends. In addition, if any dividend of a domiciled insurer exceeds the insurer's earned surplus or certain other thresholds as calculated under applicable state insurance law, the dividend requires the prior approval of the domestic regulator. Dividends paid to HFSG Holding Company by its life insurance subsidiaries are further dependent on cash requirements of Hartford Life, Inc. ("HLI") and other factors. In addition to statutory limitations on paying dividends, the Company also takes other items into consideration when determining dividends from subsidiaries. These considerations include, but are not limited to, expected earnings and capitalization of the subsidiary, regulatory capital requirements and liquidity requirements of the individual operating company.
Talcott Resolution - Hartford Life Insurance Company ("HLIC") is permitted to pay up to a maximum of $1 billion in dividends to HFSG Holding Company without prior approval from the insurance commissioner. However, to meet the liquidity needed to pay dividends up to the HFSG Holding Company, HLIC may require receiving regulatory approval for extraordinary dividends from HLIC's wholly-owned subsidiary, Hartford Life and Annuity Insurance Company. On January 30, 2017, Hartford Life Insurance Company paid a dividend of $300. HFSG Holding Company anticipates receiving an additional $300 of dividends from HLIC during 2017.
Liquidity requirements that are unable to be funded by Property & Casualty Operation’s short-term investments would be satisfied with current operating funds, including premiums received or through the sale of invested assets. A sale of invested assets could result in significant realized capital losses.
secure FHLBB advances for 2017. The pledge limit is recalculated annually based on statutory admitted assets and capital and surplus. HLIC would need to seek the prior approval of the
CTDOI in order to exceed these limits. As of December 31, 2016, HLIC had no advances outstanding under the FHLBB facility.
In the event customers elect to surrender separate account assets, Life Operations will use the proceeds from the sale of the assets to fund the surrender, and Life Operations’ liquidity position will not be impacted. In some instances Life Operations will receive a percentage of the surrender amount as compensation for early surrender (surrender charge), increasing Life Operations’ liquidity position. In addition, a surrender of variable annuity separate account or general account assets (see the following) will decrease Life Operations’ obligation for payments on guaranteed living and death benefits.
Relates to contracts such as payout annuities, institutional notes, term life, group benefit contracts, or death and living benefit reserves, which cannot be surrendered for cash.
The Company does not have any off-balance sheet arrangements that are reasonably likely to have a material effect on the financial condition, results of operations, liquidity, or capital resources of the Company, except for the contingent capital facility described
Under U.S. GAAP, the Company is only permitted to discount reserves for losses and loss adjustment expenses in cases where the payment pattern and ultimate loss costs are fixed and determinable on an individual claim basis. For the Company, these include claim settlements with permanently disabled claimants. As of December 31, 2016, the total property and casualty reserves in the above table are gross of a reserve discount of $483.
Includes contractual principal and interest payments. See Note 13 - Debt of Notes to Consolidated Financial Statements for additional discussion of long-term debt obligations.
Includes $1.6 billion in commitments to purchase investments including approximately $1.2 billion of limited partnership and other alternative investments, $313 of private placements, and $95 of mortgage loans. Outstanding commitments under these limited partnerships and mortgage loans are included in payments due in less than 1 year since the timing of funding these commitments cannot be reliably estimated. The remaining commitments to purchase investments primarily represent payables for securities purchased which are reflected on the Company’s Consolidated Balance Sheets. Also included in purchase obligations is $962 relating to contractual commitments to purchase various goods and services such as maintenance, human resources, and information technology in the normal course of business. Purchase obligations exclude contracts that are cancelable without penalty or contracts that do not specify minimum levels of goods or services to be purchased.
Includes cash collateral of $387 which the Company has accepted in connection with the Company’s derivative instruments. Since the timing of the return of the collateral is uncertain, the return of the collateral has been included in the payments due in less than 1 year. Also included in other long-term liabilities are net unrecognized tax benefits of $12, retained yen denominated fixed payout annuity liabilities of $540, and consumer notes of $21. Consumer notes include principal payments and contractual interest for fixed rate notes and interest based on current rates for floating rate notes.
Total stockholders' equity decreased in 2016 primarily due to share repurchases and common stockholder dividends in excess of net income. Total capitalization decreased $1,046, or 5%, as of December 31, 2016 compared with December 31, 2015 primarily due to decreases in both stockholders' equity and total debt.
Life insurance subsidiaries - Statutory ("STAT") capital for the life insurance subsidiaries decreased by $569, primarily due to dividends of approximately $1 billion, and decreases in admitted deferred income tax of $213, partially offset by non-variable annuity net income of $215 as well as variable annuity net income and surplus impacts of $342 and $(89), respectively, included in Talcott Resolution, and other increases in surplus of $165.
P&C insurance subsidiaries - Statutory capital for the property and casualty insurance subsidiaries decreased by $302, primarily due to dividends to the HFSG Holding Company of $1.2 billion, partially offset by an increase in net unrealized gains on investments of $530, statutory net income of $304 and an increase in deferred tax assets of $147.
Temporary differences between the book and tax basis of an asset or liability which are recorded as deferred tax assets are evaluated for recoverability under U.S. GAAP while those amounts deferred are subject to limitations under U.S. STAT.
The assumptions used in the determination of Life benefit reserves are prescribed under U.S. STAT, while the assumptions used under U.S. GAAP are generally the Company’s best estimates. The methodologies for determining life insurance reserve amounts are also different. For example, reserving for living benefit reserves