Sun Life 2010 Annual Report Download - page 68

Market Risk Sensitivities and Hedging – Additional Cautionary Language and Key Assumptions
Our market risk sensitivities are forward-looking information. These are measures of our estimated net income and capital
sensitivities to the changes in interest rate and equity market levels described above, based on interest rates, equity market prices
and business mix in place as at December 31. These sensitivities are calculated independently for each risk factor, generally
assuming that all other risk variables stay constant. Actual results can differ materially from these estimates for a variety of reasons,
including differences in the pattern or distribution of the market shocks, the interaction between these risk factors, model error or
changes in other assumptions such as business mix, effective tax rates, policyholder behaviour, currency exchange rates and other
market variables relative to those underlying the December 31 calculation dates for these sensitivities. These sensitivities also
assume that a change to the current valuation allowance on future tax assets is not required. In addition, the MCCSR sensitivities
are non-GAAP financial measures.
The sensitivities reflect the composition of our assets and liabilities as at December 31. Changes in these positions due to new
sales or maturities, asset purchases/sales or other management actions could result in material changes to these reported
sensitivities. In particular, these sensitivities reflect the expected impact of hedging activities based on the hedge assets and
programs in place as at the December 31 calculation date. The actual impact of these hedging activities can differ materially from
that assumed in the determination of these indicative sensitivities due to ongoing hedge re-balancing activities, changes in the scale
or scope of hedging activities, changes in the cost or general availability of hedging instruments, basis risk (the risk that hedges do
not exactly replicate the underlying portfolio experience), model risk and other operational risks in the ongoing management of the
hedge programs or the potential failure of hedge counterparties to perform in accordance with expectations.
The sensitivities are based on financial reporting methods and assumptions in effect as at December 31. Changes in the regulatory
environment, accounting or actuarial valuation methods, models or assumptions after this date could result in material changes to
these reported sensitivities. Changes in interest rates and equity market prices in excess of the ranges illustrated may result in
other- than-proportionate impacts.
Our hedging programs may themselves expose us to other risks such as basis risk (the risk that hedges do not exactly replicate the
underlying portfolio experience), derivative counterparty credit risk, and increased levels of liquidity risk, model risk, and other
operational risks as described in the Risk Factors section in our 2010 AIF. These factors may adversely impact the net
effectiveness, costs and financial viability of maintaining these hedging programs and therefore adversely impact our profitability
and financial position. While our hedging programs include various elements aimed at mitigating these effects (for example, hedge
counterparty credit risk is managed by maintaining broad diversification, dealing primarily with highly rated counterparties and
transacting through ISDA agreements that generally include applicable credit support annexes), residual risk and potential reported
earnings and capital volatility remain.
For the reasons outlined above, these sensitivities should only be viewed as directional estimates of the underlying sensitivities of
each factor under these specialized assumptions, and should not be viewed as predictors of the Company’s future net income and
capital sensitivities. Given the nature of these calculations, we cannot provide assurance that actual earnings and capital impacts
will be within the indicated ranges.
Information related to market risk sensitivities and guarantees related to variable annuity and segregated fund products should be
read in conjunction with the information contained in the Outlook, Critical Accounting Policies and Estimates and Risk Management
sections in our 2010 annual MD&A and Risk Factors and Regulatory Matters in our AIF for the year ended December 31, 2010.
Currency Risk
Currency risk is the result of mismatches in the currency of our assets and liabilities (inclusive of capital), and cash flows. This risk
may arise from a variety of sources such as foreign currency transactions and services, foreign exchange hedging, investments
denominated in foreign currencies, investments in foreign subsidiaries and net income from foreign operations.
As an international provider of financial services, we operate in a number of countries, with revenues and expenses denominated in
several local currencies. In each country in which we operate, we generally maintain the currency profile of assets so as to match
the currency of aggregate liabilities and required surplus. This approach provides an operational hedge against disruptions in local
operations caused by currency fluctuations. Foreign exchange derivative contracts such as currency swaps and forwards are used
as a risk management tool to manage the currency exposure in accordance with our asset-liability risk management policy. As at
December 31, 2010, and December 31, 2009, the Company did not have a material currency risk exposure on a functional currency
basis.
Changes in exchange rates can however affect our net income and surplus when results in functional currencies are translated into
Canadian dollars. Net income earned outside of Canada is generally not currency hedged and a weakening in the local currency of
our foreign operations relative to the Canadian dollar can have a negative impact on our net income reported in Canadian currency,
and vice versa.
Real Estate Price Risk
Real estate price risk is the potential for financial loss arising from fluctuations in the fair value or future cash flows of these asset
types, and results from the ownership of, or fixed income investments secured by real estate property, leasehold interests, ground
rents and purchase and leaseback transactions. Real estate price risk may arise from external market conditions, inadequate
property analysis, inadequate insurance coverage, inappropriate real estate appraisals or from environmental risk exposures. We
hold direct equity real estate investments supporting general account liabilities and surplus, and fluctuations in the value of these
asset types will impact our profitability and financial position.
64 Sun Life Financial Inc. Annual Report 2010 Management’s Discussion and Analysis