Unum 2011 Annual Report Download - page 34

Management’s Discussion and Analysis of
Financial Condition and Results of Operations
Unum 2011 Annual Report
32
As of December 31, 2011, the key assumptions we generally used to estimate the fair value of these types of securities included those
listed below. Where appropriate, we have noted the assumption used for the prior period as well as the reason for the change.
• Risk free interest rates of 0.83 percent for five-year maturities to 2.89 percent for 30-year maturities were derived from the current
yield curve for U.S. Treasury Bonds with similar maturities. This compares to interest rates of 2.01 percent for five-year maturities to
4.33 percent for 30-year maturities used at December 31, 2010.
• Current Baa corporate bond spreads ranging from 1.53 percent to 2.97 percent were added to the risk free rate to reflect the lack of
liquidity. We used spreads ranging from 1.31 percent to 2.15 percent at December 31, 2010. The changes were based on observable
market spreads. Newly issued private placement securities have historically offered yield premiums higher than a similar interest rate
spread on comparable newly issued public securities.
• Additional basis points were added as deemed appropriate for foreign investments, certain industries, and individual securities in
certain industries that are considered to be of greater risk.
At December 31, 2011, approximately 10.9 percent of our fixed maturity securities were valued using active trades from TRACE pricing
or broker market maker prices for which there was current market activity in that specific security (comparable to receiving one binding
quote). The prices obtained were not adjusted, and the assets were classified as Level 1, the highest category of the three-level fair value
hierarchy classification wherein inputs are unadjusted and represent quoted prices in active markets for identical assets or liabilities.
The remaining 89.1 percent of our fixed maturity securities were valued based on non-binding quotes or other observable and
unobservable inputs, as discussed below.
• Approximately 71.1 percent of our fixed maturity securities were valued based on prices from pricing services that generally use
observable inputs such as prices for securities or comparable securities in active markets in their valuation techniques. These assets
were classified as Level 2. Level 2 assets or liabilities are those valued using inputs (other than prices included in Level 1) that are
either directly or indirectly observable for the asset or liability through correlation with market data at the measurement date and for
the duration of the instrument’s anticipated life.
• Approximately 4.1 percent of our fixed maturity securities were valued based on one or more non-binding broker price levels, if
validated by observable market data, or on TRACE prices for identical or similar assets absent current market activity. When only one
price is available, it is used if observable inputs and analysis confirms that it is appropriate. These assets, for which we were able to
validate the price using other observable market data, were classified as Level 2.
• Approximately 13.9 percent of our fixed maturity securities were valued based on prices of comparable securities, matrix pricing,
market models, and/or internal models or were valued based on non-binding quotes with no other observable market data. These
assets were classified as either Level 2 or Level 3, with the categorization dependent on whether there was other observable market
data. Level 3 is the lowest category of the fair value hierarchy and reflects the judgment of management regarding what market
participants would use in pricing assets or liabilities at the measurement date. Financial assets and liabilities categorized as Level 3
are generally those that are valued using unobservable inputs to extrapolate an estimated fair value.
We consider transactions in inactive or disorderly markets to be less representative of fair value. We use all available observable
inputs when measuring fair value, but when significant other unobservable inputs and adjustments are necessary, we classify these assets
or liabilities as Level 3.
As of December 31, 2011, approximately 10.9 percent of our fixed maturity securities were categorized as Level 1, 86.4 percent as
Level 2, and 2.7 percent as Level 3. During 2011, we transferred $561.9 million of fixed maturity securities into Level 3 and $626.3 million of
fixed maturity securities out of Level 3. The transfers between levels resulted primarily from a change in observability of three inputs used
to determine fair values of the securities transferred: (1) transactional data for new issuance and secondary trades, (2) broker/dealer
quotes and pricing, primarily related to changes in the level of activity in the market and whether the market was considered orderly, and
(3) comparable bond metrics from which to perform an analysis. For fair value measurements of financial instruments that were
transferred either into or out of Level 3, we reflect the transfers using the fair value at the beginning of the period. We believe this allows
for greater transparency as all changes in fair value that arise during the reporting period of the transfer are disclosed as a component of
our Level 3 reconciliation as shown in Note 2 of the “Notes to Consolidated Financial Statements” contained herein.