AIG 2010 Annual Report Download - page 270

American International Group, Inc., and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
closely aligned with prices received from third parties. This methodology is widely used by other market
participants and uses the current market credit spreads of the names in the portfolios along with the base
correlations implied by the current market prices of comparable tranches of the relevant market traded credit
indices as inputs. One transaction, representing two percent of the total notional amount of the corporate
arbitrage transactions, is valued using third party quotes given its unique attributes.
AIG estimates the fair value of its obligations resulting from credit default swaps written on CLOs to be
equivalent to the par value less the current market value of the referenced obligation. Accordingly, the value is
determined by obtaining third-party quotes on the underlying super senior tranches referenced under the credit
default swap contract.
Policyholder Contract Deposits
Policyholder contract deposits accounted for at fair value are measured using an earnings approach by taking
into consideration the following factors:
• Current policyholder account values and related surrender charges;
• The present value of estimated future cash inflows (policy fees) and outflows (benefits and maintenance
expenses) associated with the product using risk neutral valuations, incorporating expectations about
policyholder behavior, market returns and other factors; and
• A risk margin that market participants would require for a market return and the uncertainty inherent in the
model inputs.
The change in fair value of these policyholder contract deposits is recorded as Policyholder benefits and claims
incurred in the Consolidated Statement of Income (Loss).
Securities and Spot Commodities Sold But Not Yet Purchased
Fair values for securities sold but not yet purchased are based on current market prices. Fair values of spot
commodities sold but not yet purchased are based on current market prices of reference spot futures contracts
traded on exchanges.
Other Long-Term Debt
When fair value accounting has been elected, the fair value of non-structured liabilities is generally determined
by using market prices from exchange or dealer markets, when available, or discounting expected cash flows using
the appropriate discount rate for the applicable maturity. Such instruments are generally classified in Level 2 of
the fair value hierarchy as substantially all inputs are readily observable. AIG determines the fair value of
structured liabilities and hybrid financial instruments (where performance is linked to structured interest rates,
inflation or currency risks) using the appropriate derivative valuation methodology (described above) given the
nature of the embedded risk profile. Such instruments are classified in Level 2 or Level 3 depending on the
observability of significant inputs to the model. In addition, adjustments are made to the valuations of both
non-structured and structured liabilities to reflect AIG’s own credit-worthiness based on observable credit spreads
of AIG.
254 AIG 2010 Form 10-K