Mercury Insurance 2009 Annual Report Download - page 61

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Investments
Beginning January 1, 2008, all of the Company’s fixed maturity and equity investments are classified as
“trading” and carried at fair value as required when electing the fair value option, with changes in fair value
reflected in net realized investment gains or losses in the consolidated statements of operations. Prior to
January 1, 2008, the Company’s fixed maturity and equity investment portfolios were classified either as
“available for sale” or “trading” and carried at fair value, with changes in fair value of available for sale
securities reflected in unrealized gains or losses in the consolidated statements of comprehensive income and
changes in fair value of trading securities reflected in net realized investment gains or losses in the consolidated
statements of operations. The majority of equity holdings, including non-sinking fund preferred stocks, are
actively traded on national exchanges or trading markets, and were valued at the last transaction price on the
balance sheet date.
Fair Value of Financial Instruments
The financial instruments recorded in the consolidated balance sheets include investments, receivables,
interest rate swap agreements, accounts payable, equity contracts, and secured and unsecured notes payable. The
fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability
in an orderly transaction between market participants at the measurement date. Due to their short-term maturity,
the carrying value of receivables and accounts payable approximate their fair market values. All investments are
carried on the balance sheet at fair value, as disclosed in Note 1 of Notes to Consolidated Financial Statements.
The Company’s financial instruments include securities issued by the U.S. government and its agencies,
securities issued by state and municipal government and agencies, certain corporate and other debt securities,
corporate equity securities, and exchange traded funds. Over 98% of the fair value of the financial instruments
held at December 31, 2009 is based on observable market prices, observable market parameters, or is derived
from such prices or parameters. The availability of observable market prices and pricing parameters can vary
across different financial instruments. Observable market prices and pricing parameters for a financial
instrument, or a related financial instrument, are used to derive a price without requiring significant judgment.
Certain financial instruments that the Company holds or acquires may lack observable market prices or
market parameters currently or in future periods because they are less actively traded. The fair value of such
instruments is determined using techniques appropriate for each particular financial instrument. These techniques
may involve some degree of judgment. The price transparency of the particular financial instrument will
determine the degree of judgment involved in determining the fair value of the Company’s financial instruments.
Price transparency is affected by a wide variety of factors, including, for example, the type of financial
instrument, whether it is a new financial instrument and not yet established in the marketplace, and the
characteristics particular to the transaction. Financial instruments for which actively quoted prices or pricing
parameters are available or for which fair value is derived from actively quoted prices or pricing parameters will
generally have a higher degree of price transparency. By contrast, financial instruments that are thinly traded or
not quoted will generally have diminished price transparency. Even in normally active markets, the price
transparency for actively quoted instruments may be reduced for periods of time during periods of market
dislocation. Alternatively, in thinly quoted markets, the participation of market makers willing to purchase and
sell a financial instrument provides a source of transparency for products that otherwise is not actively
quoted. For a further discussion, see Note 3 of Notes to Consolidated Financial Statements.
Income Taxes
At December 31, 2009, the Company’s deferred income taxes were in a net asset position materially due to
unearned premiums, expense accruals, loss reserve discounting, and deferred tax recognition of capital losses.
The Company assesses the likelihood that its deferred tax assets will be realized and, to the extent management
does not believe these assets are more likely than not to be realized, a valuation allowance is established.
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