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106 / UNUM 2013 ANNUAL REPORT
Notes To Consolidated Financial Statements
The management of our investment portfolio includes establishing pricing policy and reviewing the reasonableness of sources and
inputs used in developing pricing. We review all prices obtained to ensure they are consistent with a variety of observable market inputs
and to verify the validity of a security’s price. In the event we receive a vendor’s market price that does not appear reasonable based on
our market analysis, we may challenge the price and request further information about the assumptions and methodologies used by the
vendor to price the security. We may change the vendor price based on a better data source such as an actual trade. We also review all
price changes from the prior month which fall outside a predetermined corridor. The overall valuation process for determining fair values
may include adjustments to valuations obtained from our pricing sources when they do not represent a valid exit price. These adjustments
may be made when, in our judgment and considering our knowledge of the financial conditions and industry in which the issuer operates,
certain features of the financial instrument require that an adjustment be made to the value originally obtained from our pricing sources.
These features may include the complexity of the financial instrument, the market in which the financial instrument is traded, counterparty
credit risk, credit structure, concentration, or liquidity. Additionally, an adjustment to the price derived from a model typically reflects our
judgment of the inputs that other participants in the market for the financial instrument being measured at fair value would consider in
pricing that same financial instrument. In the event an asset is sold, we test the validity of the fair value determined by our valuation
techniques by comparing the selling price to the fair value determined for the asset in the immediately preceding month end reporting
period closest to the transaction date.
The parameters and inputs used to validate a price on a security may be adjusted for assumptions about risk and current market
conditions on a quarter to quarter basis, as certain features may be more significant drivers of valuation at the time of pricing. Changes to
inputs in valuations are not changes to valuation methodologies; rather, the inputs are modified to reflect direct or indirect impacts on
asset classes from changes in market conditions.
Fair values for derivatives other than embedded derivatives in modified coinsurance arrangements are based on market quotes or
pricing models and represent the net amount of cash we would have paid or received if the contracts had been settled or closed as of the
last day of the period. We analyze credit default swap spreads relative to the average credit spread embedded within the LIBOR-setting
syndicate in determining the effect of credit risk on our derivatives’ fair values. If net counterparty credit risk for a derivative asset is
determined to be material and is not adequately reflected in the LIBOR-based fair value obtained from our pricing sources, we adjust the
valuations obtained from our pricing sources. For purposes of valuing net counterparty risk, we measure the fair value of a group of
financial assets and financial liabilities on the basis of the price that would be received to sell a net long position or transfer a net short
position for a particular risk exposure in an orderly transaction between market participants at the measurement date under current market
conditions. In regard to our own credit risk component, we adjust the valuation of derivative liabilities wherein the counterparty is exposed
to our credit risk when the LIBOR-based valuation of our derivatives obtained from pricing sources does not effectively include an adequate
credit component for our own credit risk.
Fair values for our embedded derivative in a modified coinsurance arrangement are estimated using internal pricing models and
represent the hypothetical value of the duration mismatch of assets and liabilities, interest rate risk, and third party credit risk embedded
in the modified coinsurance arrangement.
Certain of our investments do not have readily determinable market prices and/or observable inputs or may at times be affected
by the lack of market liquidity. For these securities, we use internally prepared valuations combining matrix pricing with vendor purchased
software programs, including valuations based on estimates of future profitability, to estimate the fair value. Additionally, we may obtain
prices from independent third-party brokers to aid in establishing valuations for certain of these securities. Key assumptions used by us to
determine fair value for these securities include risk free interest rates, risk premiums, performance of underlying collateral (if any), and
other factors involving significant assumptions which may or may not reflect those of an active market.