Prudential 2015 Annual Report Download - page 212

PRUDENTIAL FINANCIAL, INC.
Notes to Consolidated Financial Statements
Current Period Yield Adjustments. The Company uses interest rate and currency swaps and other derivatives to manage interest and
currency exchange rate exposures arising from mismatches between assets and liabilities, including duration mismatches. For derivative
contracts that do not qualify for hedge accounting treatment, the periodic swap settlements, as well as certain other derivative related yield
adjustments are recorded in “Realized investment gains (losses), net,” and are included in adjusted operating income to reflect the after-
hedge yield of the underlying instruments. In certain instances, when these derivative contracts are terminated or offset before their final
maturity, the resulting realized gains or losses are recognized in adjusted operating income over periods that generally approximate the
expected terms of the derivatives or underlying instruments in order for adjusted operating income to reflect the after-hedge yield of the
underlying instruments. Included in the amounts shown in the table above are gains on certain derivative contracts that were terminated or
offset before their final maturity of $55 million, $105 million and $72 million for the years ended 2015, 2014 and 2013, respectively. As of
December 31, 2015, there was a $182 million deferred net gain related to certain derivative contracts that were terminated or offset before
their final maturity, primarily in the International Insurance segment. Also included in the amounts shown in the table above are fees
related to synthetic GICs of $158 million, $168 million and $157 million for the years ended 2015, 2014 and 2013, respectively. Synthetic
GICs are accounted for as derivatives under U.S. GAAP and, therefore, these fees are recorded in “Realized investment gains (losses), net.”
See Note 21 for additional information on synthetic GICs.
Principal Source of Earnings. The Company conducts certain activities for which realized investment gains (losses) are a principal
source of earnings for its businesses and therefore included in adjusted operating income, particularly within the Company’s Asset
Management segment. For example, Asset Management’s strategic investing business makes investments for sale or syndication to other
investors or for placement or co-investment in the Company’s managed funds and structured products. The realized investment gains
(losses) associated with the sale of these strategic investments, as well as the majority of derivative results, are a principal activity for this
business and included in adjusted operating income. In addition, the realized investment gains (losses) associated with loans originated by
the Company’s commercial mortgage operations, as well as related derivative results and retained mortgage servicing rights, are a principal
activity for this business and included in adjusted operating income.
Other items reflected as adjustments to Realized investment gains (losses), net
The following table sets forth certain other items excluded from adjusted operating income and reflected as an adjustment to “Realized
investment gains (losses), net” for purposes of calculating adjusted operating income:
Year Ended December 31,
2015 2014 2013
(in millions)
Net gains (losses) from:
Other trading account assets ......................................................................... $(94) $ (21) $ 168
Foreign currency exchange movements ................................................................ $69 $(3,023) $(4,060)
Other activities ................................................................................... $ 9 $ 13 $ 167
Other Trading Account Assets. The Company has certain investments in its general account portfolios that are classified as trading.
These trading investments are carried at fair value and included in “Other trading account assets, at fair value” on the Company’s
Consolidated Statements of Financial Position. Realized and unrealized gains (losses) for these investments are recorded in “Other
income.” Consistent with the exclusion of realized investment gains (losses) with respect to other investments managed on a consistent
basis, the net gains or losses on these investments are excluded from adjusted operating income.
Foreign Currency Exchange Movements. The Company has certain assets and liabilities for which, under U.S. GAAP, the changes in
value, including those associated with changes in foreign currency exchange rates during the period, are recorded in “Other income.” To
the extent the foreign currency exposure on these assets and liabilities is economically hedged or considered part of the Company’s capital
funding strategies for its international subsidiaries, the change in value included in “Other income” is excluded from adjusted operating
income. The amounts in the table above for the years ended 2014 and 2013, were largely driven by non-yen denominated insurance
liabilities in the Company’s Japanese insurance operations. The insurance liabilities are supported by investments denominated in
corresponding currencies, including a significant portion designated as available-for-sale. While these non-yen denominated assets and
liabilities are economically hedged, unrealized gains (losses) on available-for-sale investments, including those arising from foreign
currency exchange rate movements, are recorded in “Accumulated other comprehensive income (loss)” under U.S. GAAP, while the non-
yen denominated liabilities are re-measured for foreign currency exchange rate movements, with the related change in value recorded in
earnings within “Other income.” Due to this non-economic volatility that has been reflected in U.S. GAAP earnings, the change in value
recorded within “Other income” is excluded from adjusted operating income.
As a result of continued growth in these portfolios, the Company implemented a reporting structure in Gibraltar Life that
disaggregated the U.S. and Australian dollar-denominated businesses into separate divisions, each with its own functional currency that
aligns with the underlying products and investments. The new structure was effective for financial reporting beginning in the first quarter
of 2015 and has minimized volatility in reported U.S. GAAP earnings arising from foreign currency remeasurement.
Other Activities. The Company excludes certain other items from adjusted operating income that are consistent with similar
adjustments described above. The significant items within other activities shown in the table above included the following:
In connection with disputes arising out of the Chapter 11 bankruptcy petition filed by Lehman Brothers Holdings Inc., the Company
previously recorded losses related to a portion of its counterparty exposure on derivative transactions it had previously held with Lehman
210 Prudential Financial, Inc. 2015 Annual Report