Travelers 2014 Annual Report Download - page 177

Table of Contents
THE TRAVELERS COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Determination of Credit Loss—Fixed Maturities
The Company determines the credit loss component of fixed maturity investments by utilizing discounted cash flow modeling to determine the
present value of the security and comparing the present value with the amortized cost of the security. If the amortized cost is greater than the
present value of the expected cash flows, the difference is considered a credit loss and recognized in net realized investment gains (losses).
For non
- structured fixed maturities (U.S. Treasury securities, obligations of U.S. government and government agencies and authorities,
obligations of states, municipalities and political subdivisions, debt securities issued by foreign governments, and certain corporate debt), the
estimate of expected cash flows is determined by projecting a recovery value and a recovery time frame and assessing whether further principal and
interest will be received. The determination of recovery value incorporates an issuer valuation assumption utilizing one or a combination of
valuation methods as deemed appropriate by the Company. The Company determines the undiscounted recovery value by allocating the estimated
value of the issuer to the Company's assessment of the priority of claims. The present value of the cash flows is determined by applying the
effective yield of the security at the date of acquisition (or the most recent implied rate used to accrete the security if the implied rate has changed
as a result of a previous impairment) and an estimated recovery time frame. Generally, that time frame for securities for which the issuer is in
bankruptcy is 12 months. For securities for which the issuer is financially troubled but not in bankruptcy, that time frame is generally 24 months.
Included in the present value calculation are expected principal and interest payments; however, for securities for which the issuer is classified as
bankrupt or in default, the present value calculation assumes no interest payments and a single recovery amount.
In estimating the recovery value, significant judgment is involved in the development of assumptions relating to a myriad of factors related to
the issuer including, but not limited to, revenue, margin and earnings projections, the likely market or liquidation values of assets, potential
additional debt to be incurred pre
- or post - bankruptcy/restructuring, the ability to shift existing or new debt to different priority layers, the amount
of restructuring/bankruptcy expenses, the size and priority of unfunded pension obligations, litigation or other contingent claims, the treatment of
intercompany claims and the likely outcome with respect to inter
- creditor conflicts.
For structured fixed maturity securities (primarily residential and commercial mortgage
- backed securities and asset - backed securities), the
Company estimates the present value of the security by projecting future cash flows of the assets underlying the securitization, allocating the
flows to the various tranches based on the structure of the securitization and determining the present value of the cash flows using the effective
yield of the security at the date of acquisition (or the most recent implied rate used to accrete the security if the implied rate has changed as a result
of a previous impairment or changes in expected cash flows). The Company incorporates levels of delinquencies, defaults and severities as well as
credit attributes of the remaining assets in the securitization, along with other economic data, to arrive at its best estimate of the parameters applied
to the assets underlying the securitization. In order to project cash flows, the following assumptions are applied to the assets underlying the
securitization: (1) voluntary prepayment rates, (2) default rates and (3) loss severity. The
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