QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2018
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from to
Commission File No. 1-11778
CHUBB LIMITED
(Exact name of registrant as specified in its charter)
Switzerland
98-0091805
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
Baerengasse 32
Zurich, Switzerland CH-8001
(Address of principal executive offices) (Zip Code)
+41 (0)43 456 76 00
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES þ NO ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
YES þ NO ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” "smaller reporting company," and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
Accelerated filer ¨
Non-accelerated filer ¨
Smaller reporting company ¨
Emerging growth company ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES ¨ NO þ
The number of registrant’s Common Shares (CHF 24.15 par value) outstanding as of October 18, 2018 was 460,805,372.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
Chubb Limited and Subsidiaries
1. General
a) Basis of presentation
Chubb Limited is a holding company incorporated in Zurich, Switzerland. Chubb Limited, through its subsidiaries, provides a broad range of insurance and reinsurance products to insureds worldwide. Chubb operates through the following business segments: North America Commercial P&C Insurance, North America Personal P&C Insurance, North America Agricultural Insurance, Overseas General Insurance, Global Reinsurance, and Life Insurance. Refer to Note 10 for additional information.
The interim unaudited consolidated financial statements, which include the accounts of Chubb Limited and its subsidiaries (collectively, Chubb, we, us, or our), have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) and, in the opinion of management, reflect all adjustments (consisting of normally recurring accruals) necessary for a fair statement of the results and financial position for such periods. All significant intercompany accounts and transactions, including internal reinsurance transactions, have been eliminated.
The results of operations and cash flows for any interim period are not necessarily indicative of the results for the full year. These consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our 2017 Form 10-K.
b) Restricted cash
Effective January 1, 2018, we retrospectively adopted guidance on "Restricted Cash" that clarified the presentation of restricted cash on the consolidated statement of cash flows. As a result, we revised the statement of cash flows for the nine months ended September 30, 2017 to include restricted cash in the beginning and ending cash balances. In addition, we reclassified $123 million of Restricted cash from Other assets to a separate line in the balance sheet as of December 31, 2017.
Restricted cash in the consolidated balance sheets represents amounts held for the benefit of third parties and is legally or contractually restricted as to withdrawal or usage. Amounts include deposits with U.S. and non-U.S. regulatory authorities, trust funds set up for the benefit of ceding companies, and amounts pledged as collateral to meet financing arrangements.
The following table provides a reconciliation of cash and restricted cash reported within the consolidated balance sheets that total to the amounts shown in the consolidated statements of cash flows:
September 30
December 31
(in millions of U.S. dollars)
2018
2017
Cash
$
1,053
$
728
Restricted cash
104
123
Total cash and restricted cash shown in the consolidated statements of cash flows
$
1,157
$
851
c) Goodwill
During the nine months ended September 30, 2018, Goodwill decreased $209 million, primarily reflecting the impact of foreign exchange.
d) Accounting guidance adopted in 2018
Revenue from Contracts with Customers
In May 2014, the FASB issued an accounting standard that supersedes most existing revenue recognition guidance. The standard excludes from its scope the accounting for insurance contracts, leases, financial instruments, and certain other agreements that are governed under other GAAP guidance, but could affect the revenue recognition for certain of our claims management and risk control services. The updated guidance requires an entity to recognize revenue as performance obligations are met, in order to reflect the transfer of promised goods or services to customers in an amount that reflects the consideration the entity is entitled to receive for those goods or services. This guidance was effective for us on January 1, 2018. The adoption of this guidance did not have a material impact on our financial condition or results of operations given that the majority of our business is outside the scope of this guidance.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
Financial Instruments – Recognition and Measurement of Financial Assets and Financial Liabilities
Effective January 2018, we adopted new accounting guidance on "Recognition and Measurement of Financial Assets and Financial Liabilities" on a modified-retrospective basis. The guidance requires equity investments, other than those accounted for under the equity method of accounting, to be measured at fair value with changes in fair value recognized through net income. The guidance impacts our public equities and cost-method private equities. As a result, we recorded a cumulative-effect adjustment to increase beginning Retained earnings by $417 million after tax ($454 million pre-tax), representing the unrealized appreciation on our equity investments with an offsetting adjustment to decrease Accumulated other comprehensive income. All subsequent changes in fair value of our equity investments are recognized within realized gains (losses) on the consolidated statement of operations. Prior period amounts have not been adjusted and continue to be reported in accordance with the previous accounting guidance.
Income Taxes
Effective January 2018, we adopted new accounting guidance on “Intra-Entity Transfers of Assets Other Than Inventory” on a modified-retrospective basis. Under the new guidance, we will no longer defer taxes on intra-company asset transfers and will recognize any related income tax expense (benefit) immediately through the consolidated statement of operations. As a result, we recorded a cumulative-effect adjustment to decrease beginning Retained earnings by $7 million representing the removal of the deferred tax asset for previous intra-company asset transfer transactions not yet recognized through earnings.
Income Tax Accounting Implications of the Tax Cuts and Jobs Act
The Tax Cuts and Jobs Act (2017 Tax Act) was signed into legislation in December 2017. The Securities and Exchange Commission issued Staff Accounting Bulletin No. 118 (SAB 118), Income Tax Accounting Implications of the Tax Cuts and Jobs Act, which provides guidance for the application of the 2017 Tax Act. The income tax guidance allows for the transition impact of the 2017 Tax Act to be recorded as 1) complete with all accounting implications identified, 2) provisional based on a reasonable estimate, or 3) not recorded as no reasonable estimate was determinable.
In December 2017, we recorded a $450 million income tax benefit which was our estimate of the tax effects of the 2017 Tax Act. This amount was recorded as provisional under SAB 118. During the third quarter of 2018, we increased our provisional income tax benefit by $20 million, from $450 million to $470 million. This increase, which is also provisional, relates to the recognition of certain foreign tax credits consistent with proposed regulations issued under IRC Section 965. We will continue to analyze the impact of the 2017 Tax Act. The final amount of the tax benefit recognized may increase or decrease as a result of this analysis and as new regulations and interpretive guidance are released in the fourth quarter of 2018.
Changes to the Disclosure Requirements for Fair Value Measurements
In August 2018, the FASB issued amendments to modify the disclosure requirements on fair value measurements as part of the disclosure framework project whose objective and primary focus are to improve the effectiveness of disclosures in the notes to financial statements. The amendments in this update allow for the removal of (1) the amount and reasons for transfer between Level 1 and Level 2 of the fair value hierarchy; (2) the policy for transfers between levels; and (3) the valuation processes for Level 3 fair value measurements. This update also requires the expanded discussion on unobservable inputs that are significant to the fair value measurement. We have early adopted the amendments that allow the removal of certain disclosures and deferred the adoption of the additional disclosure until the effective date in the first quarter of 2020. The guidance changes disclosure only and did not have an impact on our financial condition or results of operations.
e) Accounting guidance not yet adopted
Lease Accounting
In February 2016, the FASB issued accounting guidance requiring leases with lease terms of more than 12 months to recognize
a right of use asset and a corresponding lease liability on the balance sheets. This accounting guidance is effective for us in the
first quarter of 2019 on a modified retrospective basis with early adoption permitted. In January 2018, the FASB issued a
proposed update that provides an alternative transition method of adoption, permitting the recognition of a cumulative-effect
adjustment to retained earnings on the date of adoption. The adoption of this guidance is not expected to have a material effect on our results of operations, financial position or liquidity. Based on the number and type of our leases, we expect that the most significant impact will be the recognition of a right of use asset and a corresponding lease liability for our real estate leases of approximately $800 million.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
Targeted Improvements to the Accounting for Long-Duration Contracts
In August 2018, the FASB issued guidance to improve the existing recognition, measurement, presentation, and disclosure requirements for long-duration contracts issued by an insurance entity. The amendments in this update require more frequent updating of assumptions and a standardized discount rate for the future policy benefit liability, a requirement to use the fair value measurement model for policies with market risk benefits, simplified amortization of deferred acquisition costs, and enhanced disclosures.
This standard will be effective for us in the first quarter of 2021 with early adoption permitted. We are currently assessing the effect of adopting this guidance on our financial condition and results of operations. We will be better able to quantify the effect of adopting this standard as we progress in our implementation process and draw nearer to the date of adoption.
Changes to the Disclosure Requirements for Defined Benefit Plans
In August 2018, the FASB issued amendments to modify the disclosure requirements on defined benefit pension or other postretirement plans as part of the disclosure framework project whose objective and primary focus are to improve the effectiveness of disclosures in the notes to financial statements. The amendments in this update allow for the removal and addition of various disclosures and is effective the first quarter of 2021. Early adoption is permitted. The guidance changes disclosure only and will not have an impact on our financial condition or results of operations.
Refer to the 2017 Form 10-K for information on other accounting guidance not yet adopted.
f) Subsequent event
During October 2018, Hurricane Michael made landfall in Florida in the U.S. At this time, there are uncertainties surrounding the number of claims and scope of damage for this named catastrophe. At the time of this filing, our very early indication of the pre-tax loss estimate, net of reinsurance and reinstatement premiums, related to Hurricane Michael is $150 million to $250 million. This estimate may increase or decrease as additional information emerges. The impact of this event will be reflected in our fourth quarter 2018 results.
2. Investments
a) Fixed maturities
September 30, 2018
Amortized
Cost
Gross
Unrealized
Appreciation
Gross
Unrealized
Depreciation
Fair
Value
OTTI Recognized
in AOCI
(in millions of U.S. dollars)
Available for sale
U.S. Treasury and agency
$
4,137
$
13
$
(101
)
$
4,049
$
—
Foreign
21,280
374
(299
)
21,355
—
Corporate securities
24,905
248
(358
)
24,795
(6
)
Mortgage-backed securities
16,395
26
(523
)
15,898
(1
)
States, municipalities, and political subdivisions
11,920
42
(206
)
11,756
—
$
78,637
$
703
$
(1,487
)
$
77,853
$
(7
)
Held to maturity
U.S. Treasury and agency
$
1,112
$
6
$
(25
)
$
1,093
$
—
Foreign
1,601
10
(25
)
1,586
—
Corporate securities
2,658
11
(91
)
2,578
—
Mortgage-backed securities
2,574
4
(75
)
2,503
—
States, municipalities, and political subdivisions
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
December 31, 2017
Amortized
Cost
Gross
Unrealized
Appreciation
Gross
Unrealized
Depreciation
Fair
Value
OTTI Recognized
in AOCI
(in millions of U.S. dollars)
Available for sale
U.S. Treasury and agency
$
3,701
$
32
$
(35
)
$
3,698
$
—
Foreign
20,514
622
(106
)
21,030
(1
)
Corporate securities
23,453
638
(95
)
23,996
(4
)
Mortgage-backed securities
15,279
111
(100
)
15,290
(1
)
States, municipalities, and political subdivisions
14,888
125
(88
)
14,925
—
$
77,835
$
1,528
$
(424
)
$
78,939
$
(6
)
Held to maturity
U.S. Treasury and agency
$
908
$
12
$
(5
)
$
915
$
—
Foreign
1,738
27
(8
)
1,757
—
Corporate securities
3,159
67
(7
)
3,219
—
Mortgage-backed securities
2,724
23
(5
)
2,742
—
States, municipalities, and political subdivisions
5,806
50
(15
)
5,841
—
$
14,335
$
179
$
(40
)
$
14,474
$
—
As discussed in Note 2 b), if a credit loss is incurred on an impaired fixed maturity, an OTTI is considered to have occurred and the portion of the impairment not related to credit losses (non-credit OTTI) is recognized in OCI. Included in the “OTTI Recognized in AOCI” columns above are the cumulative amounts of non-credit OTTI recognized in OCI adjusted for subsequent sales, maturities, and redemptions. OTTI recognized in AOCI does not include the impact of subsequent changes in fair value of the related securities. In periods subsequent to a recognition of OTTI in OCI, changes in the fair value of the related fixed maturities are reflected in Net unrealized appreciation on investments in the Consolidated statements of shareholders’ equity. For the three and nine months ended September 30, 2018, $2 million and $6 million, respectively, of net unrealized depreciation related to such securities is included in OCI. For the three and nine months ended September 30, 2017, $1 million of net unrealized appreciation and $2 million of net unrealized depreciation, respectively, related to such securities is included in OCI. At September 30, 2018 and December 31, 2017, AOCI included cumulative net unrealized appreciation of $1 million and $7 million, respectively, related to securities remaining in the investment portfolio for which a non-credit OTTI was recognized.
Mortgage-backed securities (MBS) issued by U.S. government agencies are combined with all other to be announced mortgage-backed securities (TBAs) held (refer to Note 6 b) (iv)) and are included in the category, “Mortgage-backed securities”. Approximately 82 percent and 83 percent of the total mortgage-backed securities at September 30, 2018 and December 31, 2017, respectively, are represented by investments in U.S. government agency bonds. The remainder of the mortgage exposure consists of collateralized mortgage obligations and non-government mortgage-backed securities, the majority of which provide a planned structure for principal and interest payments and carry a rating of AAA by the major credit rating agencies.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
The following table presents fixed maturities by contractual maturity:
September 30
December 31
2018
2017
(in millions of U.S. dollars)
Amortized Cost
Fair Value
Amortized Cost
Fair Value
Available for sale
Due in 1 year or less
$
3,736
$
3,742
$
3,164
$
3,182
Due after 1 year through 5 years
26,694
26,646
24,749
25,068
Due after 5 years through 10 years
23,638
23,325
25,388
25,704
Due after 10 years
8,174
8,242
9,255
9,695
62,242
61,955
62,556
63,649
Mortgage-backed securities
16,395
15,898
15,279
15,290
$
78,637
$
77,853
$
77,835
$
78,939
Held to maturity
Due in 1 year or less
$
567
$
569
$
743
$
746
Due after 1 year through 5 years
2,959
2,925
2,669
2,688
Due after 5 years through 10 years
4,507
4,400
4,744
4,756
Due after 10 years
2,956
2,887
3,455
3,542
10,989
10,781
11,611
11,732
Mortgage-backed securities
2,574
2,503
2,724
2,742
$
13,563
$
13,284
$
14,335
$
14,474
Expected maturities could differ from contractual maturities because borrowers may have the right to call or prepay obligations, with or without call or prepayment penalties.
b) Net realized gains (losses)
In accordance with guidance related to the recognition and presentation of OTTI, when an impairment related to a fixed maturity has occurred, OTTI is required to be recorded in Net income if management has the intent to sell the security or it is more likely than not that we will be required to sell the security before the recovery of its amortized cost. Further, in cases where we do not intend to sell the security and it is more likely than not that we will not be required to sell the security, we must evaluate the security to determine the portion of the impairment, if any, related to credit losses. If a credit loss is incurred, an OTTI is considered to have occurred and any portion of the OTTI related to credit losses must be reflected in Net income while the portion of OTTI related to all other factors is recognized in OCI. For fixed maturities held to maturity, OTTI recognized in OCI is accreted from AOCI to the amortized cost of the fixed maturity prospectively over the remaining term of the securities.
Each quarter, securities in an unrealized loss position (impaired securities), including fixed maturities and securities lending collateral are reviewed to identify impaired securities to be specifically evaluated for a potential OTTI. Refer to the 2017 Form 10-K for information on our evaluation of OTTI for all non-fixed maturities prior to our adoption of new accounting guidance on financial instruments, effective January 1, 2018.
Evaluation of potential credit losses related to fixed maturities
We review each fixed maturity in an unrealized loss position to assess whether the security is a candidate for credit loss. Specifically, we consider credit rating, market price, and issuer-specific financial information, among other factors, to assess the likelihood of collection of all principal and interest as contractually due. Securities for which we determine that credit loss is likely are subjected to further analysis to estimate the credit loss recognized in Net income, if any. In general, credit loss recognized in Net income equals the difference between the security’s amortized cost and the net present value of its projected future cash flows discounted at the effective interest rate implicit in the debt security. All significant assumptions used in determining credit losses are subject to change as market conditions evolve.
Corporate securities
Projected cash flows for corporate securities (principally senior unsecured bonds) are driven primarily by assumptions regarding probability of default and also the timing and amount of recoveries associated with defaults. Chubb developed projected cash flows for corporate securities using market observable data, issuer-specific information, and credit ratings. We use historical default data by Moody’s Investors Service (Moody’s) rating category to calculate a 1-in-100 year probability of default, which
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
results in a default assumption in excess of the historical mean default rate. Consistent with management's approach, Chubb assumed a 32 percent recovery rate (the par value of a defaulted security that will be recovered) across all rating categories rather than using Moody's historical mean recovery rate of 42 percent. We believe that use of a default assumption in excess of the historical mean is conservative.
For the three and nine months ended September 30, 2018, credit losses recognized in Net income for corporate securities were $8 million and $9 million, respectively. For the three and nine months ended September 30, 2017, credit losses recognized in Net income for corporate securities were $3 million and $5 million, respectively.
Mortgage-backed securities
For mortgage-backed securities, credit impairment is assessed using a cash flow model that estimates the cash flows on the underlying mortgages, using the security-specific collateral and transaction structure. The model estimates cash flows from the underlying mortgage loans and distributes those cash flows to various tranches of securities, considering the transaction structure and any subordination and credit enhancements that exist in that structure. The cash flow model incorporates actual cash flows on the mortgage-backed securities through the current period and then projects the remaining cash flows using a number of assumptions, including default rates, prepayment rates, and loss severity rates (the par value of a defaulted security that will not be recovered) on foreclosed properties.
For the three and nine months ended September 30, 2018 and 2017, there were no credit losses recognized in Net income for mortgage-backed securities.
The following table presents the components of Net realized gains (losses):
Three Months Ended
Nine Months Ended
September 30
September 30
(in millions of U.S. dollars)
2018
2017
2018
2017
Fixed maturities:
OTTI on fixed maturities, gross
$
(14
)
$
(5
)
$
(19
)
$
(16
)
OTTI on fixed maturities recognized in OCI (pre-tax)
3
—
3
1
OTTI on fixed maturities, net
(11
)
(5
)
(16
)
(15
)
Gross realized gains excluding OTTI
64
30
229
109
Gross realized losses excluding OTTI
(91
)
(19
)
(355
)
(77
)
Total fixed maturities
(38
)
6
(142
)
17
Equity securities:
OTTI on equity securities
—
(1
)
—
(9
)
Gross realized gains excluding OTTI
48
6
63
21
Gross realized losses excluding OTTI
(13
)
(1
)
(41
)
(2
)
Total equity securities
35
4
22
10
OTTI on other investments
—
(2
)
—
(11
)
Other investments
5
—
23
—
Foreign exchange gains (losses)
39
15
102
10
Investment and embedded derivative instruments
37
(14
)
78
(24
)
Fair value adjustments on insurance derivative
54
54
133
265
S&P put options and futures
(100
)
(57
)
(122
)
(169
)
Other derivative instruments
(8
)
(5
)
2
(4
)
Other
(5
)
(11
)
(61
)
(10
)
Net realized gains (losses)
$
19
$
(10
)
$
35
$
84
Other net realized gains (losses) for the nine months ended September 30, 2018, included a $36 million loss from the extinguishment of debt as discussed in Note 5 and a $22 million loss related to lease impairments.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
The following table presents a roll-forward of pre-tax credit losses related to fixed maturities for which a portion of OTTI was recognized in OCI:
Three Months Ended
Nine Months Ended
September 30
September 30
(in millions of U.S. dollars)
2018
2017
2018
2017
Balance of credit losses related to securities still held – beginning of period
$
16
$
29
$
22
$
35
Additions where no OTTI was previously recorded
6
2
7
3
Additions where an OTTI was previously recorded
2
1
2
2
Reductions for securities sold during the period
(3
)
(7
)
(10
)
(15
)
Balance of credit losses related to securities still held – end of period
$
21
$
25
$
21
$
25
c) Equity securities and Other investments
Effective January 1, 2018, we adopted new accounting guidance that requires any changes in fair value of equity securities and other investments that are accounted for under the cost-method to be recognized immediately in realized gains and losses in net income. As a result, beginning on January 1, 2018, realized gains and losses from these investments include both sales of securities and unrealized gains and losses as follows:
Three Months Ended
Nine Months Ended
September 30, 2018
September 30, 2018
(in millions of U.S. dollars)
Equity Securities
Other Investments
Total
Equity Securities
Other Investments
Total
Net gains (losses) recognized during the period
$
35
$
5
$
40
$
22
$
23
$
45
Less: Net gains (losses) recognized from sales of securities
48
—
48
63
—
63
Unrealized gains (losses) recognized for securities still held at reporting date
$
(13
)
$
5
$
(8
)
$
(41
)
$
23
$
(18
)
At December 31, 2017, the cost, gross unrealized appreciation, gross unrealized depreciation, and fair value of equity securities was $737 million, $212 million, $12 million, and $937 million, respectively. At December 31, 2017, the net unrealized appreciation (depreciation) was recorded within accumulated other comprehensive income on the balance sheet.
d) Gross unrealized loss
At September 30, 2018, there were 17,978 fixed maturities out of a total of 31,196 fixed maturities in an unrealized loss position. The largest single unrealized loss in the fixed maturities was $13 million. Fixed maturities in an unrealized loss position at September 30, 2018, comprised both investment grade and below investment grade securities for which fair value declined primarily due to widening credit spreads since the date of purchase.
The following tables present, for all securities in an unrealized loss position (including securities on loan), the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position:
0 – 12 Months
Over 12 Months
Total
September 30, 2018
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
(in millions of U.S. dollars)
U.S. Treasury and agency
$
2,775
$
(57
)
$
1,912
$
(69
)
$
4,687
$
(126
)
Foreign
8,760
(194
)
3,683
(130
)
12,443
(324
)
Corporate securities
14,323
(335
)
2,272
(114
)
16,595
(449
)
Mortgage-backed securities
12,575
(371
)
4,029
(227
)
16,604
(598
)
States, municipalities, and political subdivisions
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
0 – 12 Months
Over 12 Months
Total
December 31, 2017
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
(in millions of U.S. dollars)
U.S. Treasury and agency
$
2,172
$
(14
)
$
1,249
$
(26
)
$
3,421
$
(40
)
Foreign
5,657
(65
)
1,693
(49
)
7,350
(114
)
Corporate securities
5,210
(56
)
1,332
(46
)
6,542
(102
)
Mortgage-backed securities
6,194
(31
)
3,209
(74
)
9,403
(105
)
States, municipalities, and political subdivisions
9,259
(71
)
1,402
(32
)
10,661
(103
)
Total fixed maturities
28,492
(237
)
8,885
(227
)
37,377
(464
)
Equity securities
115
(12
)
—
—
115
(12
)
Other investments
78
(8
)
—
—
78
(8
)
Total
$
28,685
$
(257
)
$
8,885
$
(227
)
$
37,570
$
(484
)
e) Restricted assets
Chubb is required to maintain assets on deposit with various regulatory authorities to support its insurance and reinsurance operations. These requirements are generally promulgated in the statutory regulations of the individual jurisdictions. The assets on deposit are available to settle insurance and reinsurance liabilities. Chubb is also required to restrict assets pledged under repurchase agreements, which represent Chubb's agreement to sell securities and repurchase them at a future date for a predetermined price. We also use trust funds in certain large reinsurance transactions where the trust funds are set up for the benefit of the ceding companies and generally take the place of letter of credit (LOC) requirements. We also have investments in segregated portfolios primarily to provide collateral or guarantees for LOC and derivative transactions. Included in restricted assets at September 30, 2018 and December 31, 2017 are investments, primarily fixed maturities, totaling $21.0 billion and $23.3 billion, respectively, and cash of $104 million and $123 million, respectively.
The following table presents the components of restricted assets:
September 30
December 31
(in millions of U.S. dollars)
2018
2017
Trust funds
$
14,324
$
17,011
Deposits with U.S. regulatory authorities
2,453
2,345
Deposits with non-U.S. regulatory authorities
2,201
2,250
Assets pledged under repurchase agreements
1,470
1,434
Other pledged assets
628
414
$
21,076
$
23,454
3. Fair value measurements
a) Fair value hierarchy
Fair value of financial assets and financial liabilities is estimated based on the framework established in the fair value accounting guidance. The guidance defines fair value as the price to sell an asset or transfer a liability (an exit price) in an orderly transaction between market participants and establishes a three-level valuation hierarchy based on the reliability of the inputs. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data.
The three levels of the hierarchy are as follows:
•
Level 1 – Unadjusted quoted prices for identical assets or liabilities in active markets;
•
Level 2 – Includes, among other items, inputs other than quoted prices that are observable for the asset or liability such as
interest rates and yield curves, quoted prices for similar assets and liabilities in active markets, and quoted prices for identical or similar assets and liabilities in markets that are not active; and
•
Level 3 – Inputs that are unobservable and reflect management’s judgments about assumptions that market participants
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
We categorize financial instruments within the valuation hierarchy at the balance sheet date based upon the lowest level of inputs that are significant to the fair value measurement.
We use pricing services to obtain fair value measurements for the majority of our investment securities. Based on management’s understanding of the methodologies used, these pricing services only produce an estimate of fair value if there is observable market information that would allow them to make a fair value estimate. Based on our understanding of the market inputs used by the pricing services, all applicable investments have been valued in accordance with GAAP. We do not adjust prices obtained from pricing services. The following is a description of the valuation techniques and inputs used to determine fair values for financial instruments carried at fair value, as well as the general classification of such financial instruments pursuant to the valuation hierarchy.
Fixed maturities
We use pricing services to estimate fair value measurements for the majority of our fixed maturities. The pricing services use market quotations for fixed maturities that have quoted prices in active markets; such securities are classified within Level 1. For fixed maturities other than U.S. Treasury securities that generally do not trade on a daily basis, the pricing services prepare estimates of fair value measurements using their pricing applications, which include available relevant market information, benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. Additional valuation factors that can be taken into account are nominal spreads, dollar basis, and liquidity adjustments. The pricing services evaluate each asset class based on relevant market and credit information, perceived market movements, and sector news. The market inputs used in the pricing evaluation, listed in the approximate order of priority include: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and industry and economic events. The extent of the use of each input is dependent on the asset class and the market conditions. Given the asset class, the priority of the use of inputs may change, or some market inputs may not be relevant. Additionally, fixed maturities valuation is more subjective when markets are less liquid due to the lack of market based inputs (i.e., stale pricing), which may increase the potential that an investment's estimated fair value is not reflective of the price at which an actual transaction would occur. The overwhelming majority of fixed maturities are classified within Level 2 because the most significant inputs used in the pricing techniques are observable. For a small number of fixed maturities, we obtain a single broker quote (typically from a market maker). Due to the disclaimers on the quotes that indicate that the price is indicative only, we include these fair value estimates in Level 3.
Equity securities
Equity securities with active markets are classified within Level 1 as fair values are based on quoted market prices. For equity securities in markets which are less active, fair values are based on market valuations and are classified within Level 2. Equity securities for which pricing is unobservable are classified within Level 3.
Short-term investments
Short-term investments, which comprise securities due to mature within one year of the date of purchase that are traded in active markets, are classified within Level 1 as fair values are based on quoted market prices. Securities such as commercial paper and discount notes are classified within Level 2 because these securities are typically not actively traded due to their approaching maturity and, as such, their cost approximates fair value. Short-term investments for which pricing is unobservable are classified within Level 3.
Other investments
Fair values for the majority of Other investments including investments in partially-owned investment companies, investment funds, and limited partnerships are based on their respective net asset values or equivalent (NAV) and are excluded from the fair value hierarchy table below. Certain of our long-duration contracts are supported by assets that do not qualify for separate account reporting under GAAP. These assets comprise mutual funds classified within Level 1 in the valuation hierarchy on the same basis as other equity securities traded in active markets. Other investments also include equity securities classified within Level 1, and fixed maturities, classified within Level 2, held in rabbi trusts maintained by Chubb for deferred compensation plans and are classified within the valuation hierarchy on the same basis as other equity securities and fixed maturities. Other investments for which pricing is unobservable are classified within Level 3.
Securities lending collateral
The underlying assets included in Securities lending collateral in the Consolidated balance sheets are fixed maturities which are classified in the valuation hierarchy on the same basis as other fixed maturities. Excluded from the valuation hierarchy is the corresponding liability related to Chubb’s obligation to return the collateral plus interest as it is reported at contract value and not fair value in the Consolidated balance sheets.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
Investment derivative instruments
Actively traded investment derivative instruments, including futures, options, and forward contracts are classified within Level 1 as fair values are based on quoted market prices. The fair value of cross-currency swaps and interest rate swaps is based on market valuations and is classified within Level 2. Investment derivative instruments are recorded in either Other assets or Accounts payable, accrued expenses, and other liabilities in the Consolidated balance sheets.
Other derivative instruments
We generally maintain positions in other derivative instruments including exchange-traded equity futures contracts and option contracts designed to limit exposure to a severe equity market decline, which would cause an increase in expected claims and, therefore, an increase in reserves for our guaranteed minimum death benefits (GMDB) and guaranteed living benefits (GLB) reinsurance business. Our position in exchange-traded equity futures contracts is classified within Level 1. The fair value of the majority of the remaining positions in other derivative instruments is based on significant observable inputs including equity security and interest rate indices. Accordingly, these are classified within Level 2. Other derivative instruments based on unobservable inputs are classified within Level 3. Other derivative instruments are recorded in either Other assets or Accounts payable, accrued expenses, and other liabilities in the Consolidated balance sheets.
Separate account assets
Separate account assets represent segregated funds where investment risks are borne by the customers, except to the extent of certain guarantees made by Chubb. Separate account assets comprise mutual funds classified within Level 1 in the valuation hierarchy on the same basis as other equity securities traded in active markets. Separate account assets also include fixed maturities classified within Level 2 because the most significant inputs used in the pricing techniques are observable. Excluded from the valuation hierarchy are the corresponding liabilities as they are reported at contract value and not fair value in the Consolidated balance sheets. Separate account assets are recorded in Other assets in the Consolidated balance sheets.
Guaranteed living benefits
The GLB arises from life reinsurance programs covering living benefit guarantees whereby we assume the risk of guaranteed minimum income benefits (GMIB) associated with variable annuity contracts. We also assume the risk of guaranteed minimum accumulation benefits (GMAB). However, at September 30, 2018, the risks related to our GMAB programs are minimal given that the majority of these policies are no longer in-force. GLB’s are recorded in Accounts payable, accrued expenses, and other liabilities and Future policy benefits in the Consolidated balance sheets. For GLB reinsurance, Chubb estimates fair value using an internal valuation model which includes current market information and estimates of policyholder behavior. All of the treaties contain claim limits, which are factored into the valuation model. The fair value depends on a number of factors, including interest rates, equity markets, credit risk, current account value, market volatility, expected annuitization rates and other policyholder behavior, and changes in policyholder mortality.
The most significant policyholder behavior assumptions include lapse rates and the GMIB annuitization rates. Assumptions regarding lapse rates and GMIB annuitization rates differ by treaty, but the underlying methodologies to determine rates applied to each treaty are comparable.
A lapse rate is the percentage of in-force policies surrendered in a given calendar year. All else equal, as lapse rates increase, ultimate claim payments will decrease.
The GMIB annuitization rate is the percentage of policies for which the policyholder will elect to annuitize using the guaranteed benefit provided under the GMIB. All else equal, as GMIB annuitization rates increase, ultimate claim payments will increase, subject to treaty claim limits.
The effect of changes in key market factors on assumed lapse and annuitization rates reflect emerging trends using data available from cedants. For treaties with limited experience, rates are established in line with data received from other ceding companies adjusted, as appropriate, with industry estimates. The model and related assumptions are regularly re-evaluated by management and enhanced, as appropriate, based upon additional experience obtained related to policyholder behavior and availability of updated information such as market conditions, market participant assumptions, and demographics of in-force annuities. Because of the significant use of unobservable inputs including policyholder behavior, GLB reinsurance is classified within Level 3. For the three and nine months ended September 30, 2018, no material technical refinements were made to the model. During the nine months ended September 30, 2017, we updated aspects of our valuation model relating to interest rates. This resulted in a decrease to the fair value of GLB liabilities generating a realized gain of approximately $94 million. During the nine months ended September 30, 2017, there were no other material changes to actuarial or behavioral
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – continued (Unaudited)
Chubb Limited and Subsidiaries
assumptions. For detailed information on our lapse and annuitization rate assumptions, refer to Note 4 to the Consolidated Financial Statements of our 2017 Form 10-K.
Financial instruments measured at fair value on a recurring basis, by valuation hierarchy
September 30, 2018
Level 1
Level 2
Level 3
Total
(in millions of U.S. dollars)
Assets:
Fixed maturities available for sale
U.S. Treasury and agency
$
3,272
$
777
$
—
$
4,049
Foreign
—
21,032
323
21,355
Corporate securities
—
23,621
1,174
24,795
Mortgage-backed securities
—
15,833
65
15,898
States, municipalities, and political subdivisions
—
11,756
—
11,756
3,272
73,019
1,562
77,853
Equity securities
790
—
53
843
Short-term investments
1,832
1,641
6
3,479
Other investments (1)
395
338
263
996
Securities lending collateral
—
2,143
—
2,143
Investment derivative instruments
29
26
—
55
Other derivative instruments
5
—
—
5
Separate account assets
2,880
113
—
2,993
Total assets measured at fair value (1)
$
9,203
$
77,280
$
1,884
$
88,367
Liabilities:
Investment derivative instruments
$
24
$
—
$
—
$
24
Other derivative instruments
7
—
2
9
GLB (2)
—
—
71
71
Total liabilities measured at fair value
$
31
$
—
$
73
$
104
(1)
Excluded from the table above are partially-owned investments, investment funds, and limited partnerships of $4,368 million and other investments of $61 million at September 30, 2018 measured using NAV as a practical expedient.
(2)
Our GLB reinsurance product meets the definition of a derivative instrument for accounting purposes and is accordingly carried at fair value. Excluded from the table above is the portion of the GLB derivative liability classified as Future policy benefits in the Consolidated balance sheets.