Travelers 2015 Annual Report Download - page 154

The pricing service evaluates each asset class based on relevant market information, relevant credit
information, perceived market movements and sector news. The market inputs utilized 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 market input depends on the
asset class and the market conditions. Depending on the security, the priority of the use of inputs may
change or some market inputs may not be relevant. For some securities, additional inputs may be
necessary.
The pricing service utilized by the Company has indicated that it will only produce an estimate of
fair value if there is objectively verifiable information to produce a valuation. If the pricing service
discontinues pricing an investment, the Company would be required to produce an estimate of fair
value using some of the same methodologies as the pricing service but would have to make
assumptions for any market-based inputs that were unavailable due to market conditions.
The fair value estimates of most fixed maturity investments are based on observable market
information rather than market quotes. Accordingly, the estimates of fair value for such fixed
maturities, other than U.S. Treasury securities, provided by the pricing service are included in the
amount disclosed in Level 2 of the hierarchy. The estimated fair value of U.S. Treasury securities is
included in the amount disclosed in Level 1 as the estimates are based on unadjusted market prices.
The Company reviews the estimates of fair value provided by the pricing service and compares the
estimates to the Company’s knowledge of the market to determine if the estimates obtained are
representative of the prices in the market. In addition, the Company has periodic discussions with the
pricing service to discuss and understand any changes in process and their responsiveness to changes
occurring in the markets. The Company produces a report monthly that lists all price changes from the
previous month in excess of 10%. The Company reviews the report and will challenge any prices
deemed not to be representative of fair value. In addition, the Company has implemented various other
processes including randomly selecting purchased or sold securities and comparing execution prices to
the estimates from the pricing service as well as reviewing reports that contain securities whose
valuation did not change from their previous valuation (stale price review). The Company also uses an
additional independent pricing service to further test the primary pricing service’s valuation of the
Company’s fixed maturity portfolio. These processes have not highlighted any significant issues with the
fair value estimates received from the pricing service.
The Company also holds certain fixed maturity investments which are not priced by the pricing
service and, accordingly, estimates the fair value of such fixed maturities using an internal matrix that is
based on market information regarding interest rates, credit spreads and liquidity. The underlying
source data for calculating the matrix of credit spreads relative to the U.S. Treasury curve are the BofA
Merrill Lynch U.S. Corporate Index and the BofA Merrill Lynch High Yield BB Rated Index. The
Company includes the fair value estimates of these corporate bonds in Level 2, since all significant
inputs are market observable.
While the vast majority of the Company’s fixed maturities are included in Level 2, the Company
holds a number of municipal bonds and corporate bonds which are not valued by the pricing service
and estimates the fair value of these bonds using an internal pricing matrix with some unobservable
inputs that are significant to the valuation. Due to the limited amount of observable market
information, the Company includes the fair value estimates for these particular bonds in Level 3. The
fair value of the fixed maturities for which the Company used an internal pricing matrix was
$101 million and $92 million at December 31, 2015 and 2014, respectively. Additionally, the Company
holds a small amount of other fixed maturity investments that have characteristics that make them
unsuitable for matrix pricing. For these fixed maturities, the Company obtains a quote from a broker
(primarily the market maker). The fair value of the fixed maturities for which the Company received a
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