Aflac 2008 Annual Report Download - page 40

36 Aflac Incorporated Annual Report for 2008
Market Risks of Financial Instruments
Our investment philosophy is to maximize investment income
while emphasizing liquidity, safety and quality. Our investment
objective, subject to appropriate risk constraints, is to fund
policyholder obligations and other liabilities in a manner
that enhances shareholders’ equity. We seek to achieve this
objective through a diversified portfolio of fixed-income
investments that reflects the characteristics of the liabilities it
supports. Aflac invests primarily within the fixed income debt
and perpetual securities markets.
The following table details investment securities by segment
as of December 31.
During the third quarter of 2008, we reclassified our held-
to-maturity perpetual securities to available for sale. These
securities have characteristics of both debt and equity
investments. Since first purchasing these securities in the
early 1990’s, we have accounted for and reported perpetual
securities as both available-for-sale and held-to-maturity
securities. However, in light of the recent unprecedented
volatility in the debt and equity markets, we have concluded
that all of our perpetual securities should be classified
as available for sale. See Notes 1 and 3 of the Notes to
the Consolidated Financial Statements and the Realized
Investment Gains and Losses section of this MD&A for
additional information.
During the second quarter of 2008, Aflac U.S. used the
proceeds from the issuance of $200 million of variable interest
rate funding agreements to third party investors to purchase a
corresponding amount of variable interest rate CDOs. These
CDOs were purchased exclusively to support our obligation
under the funding agreements and are classified as fixed
maturities in the Aflac U.S. held-to-maturity portfolio. See
Note 3 of the Notes to the Consolidated Financial Statements
for additional information.
Because we invest in fixed-income securities, our financial
instruments are exposed primarily to three types of market
risks: currency risk, interest rate risk and credit risk.
Currency Risk
The functional currency of Aflac Japan’s insurance operation
is the Japanese yen. All of Aflac Japan’s premiums, claims
and commissions are received or paid in yen, as are most
of its investment income and other expenses. Furthermore,
most of Aflac Japan’s investments, cash and liabilities are
yen-denominated. When yen-denominated securities
mature or are sold, the proceeds are generally reinvested
in yen-denominated securities. Aflac Japan holds these
yen-denominated assets to fund its yen-denominated
policy obligations. In addition, Aflac Incorporated has yen-
denominated notes payable and cross-currency swaps related
to its dollar-denominated senior notes.
Although we generally do not convert yen into dollars, we do
translate financial statement amounts from yen into dollars
for financial reporting purposes. Therefore, reported amounts
are affected by foreign currency fluctuations. We report
unrealized foreign currency translation gains and losses in
accumulated other comprehensive income.
On a consolidated basis, we attempt to minimize the
exposure of shareholders’ equity to foreign currency
translation fluctuations. We accomplish this by investing
a portion of Aflac Japan’s investment portfolio in dollar-
denominated securities, by the Parent Company’s issuance
of yen-denominated debt and by the use of cross-currency
swaps (for additional information, see the discussion under
Hedging Activities as follows in this section of MD&A). As a
result, the effect of currency fluctuations on our net assets is
reduced. The dollar values of our yen-denominated net assets,
which are subject to foreign currency translation fluctuations
for financial reporting purposes, are summarized as follows
(translated at end-of-period exchange rates) for the years
ended December 31:
Foreign Exchange Effected
Balance Sheet Items
As Exchange Net of
(In millions) Reported Effect Exchange Effect
Yen/dollar exchange rate* 91.03 114.15
Investments and cash $ 68,550 $ 11,856 $ 56,694
Deferred policy acquisition costs 8,237 1,143 7,094
Total assets 79,331 13,312 66,020
Policy liabilities 66,219 12,044 54,174
Total liabilities 72,692 13,180 59,512
* The exchange rate at December 31, 2008, was 91.03 yen to one dollar, or 25.4% stronger than the December 31, 2007, exchange
rate of 114.15.
Investment Securities by Segment
Aflac Japan Aflac U.S.
(In millions) 2008 2007 2008 2007
Securities available for sale,
at fair value:
Fixed maturities $ 29,140 $ 23,532 $ 5,772* $ 6,874*
Perpetual securities 7,843 3,758 204 331
Equity securities 27 28 – –
Total available for sale 37,010 27,318 5,976 7,205
Securities held to maturity,
at amortized cost:
Fixed maturities 24,236 16,799 200 20
Perpetual securities – 3,985 – –
Total held to maturity 24,236 20,784 200 20
Total investment securities $ 61,246 $ 48,102 $ 6,176 $ 7,225
* Excludes investment-grade, available-for-sale fixed-maturity securities held by the Parent Company of $100 in 2008
and $105 in 2007.