Voya 2013 Annual Report Download - page 219

exposure to various risks. This does not mean that the process necessarily results in hedge accounting treatment
for the respective derivative instruments. To qualify for hedge accounting treatment, a derivative must be highly
effective in mitigating the designated risk of the hedged item and meet other specific requirements. Effectiveness
of the hedge is assessed at inception and throughout the life of the hedging relationship. Even if a derivative
qualifies for hedge accounting treatment, there may be an element of ineffectiveness of the hedge. The
ineffective portion of a hedging relationship subject to hedge accounting is recognized in Net realized capital
gains (losses) in the Consolidated Statements of Operations.
Market Risk Related to Interest Rates
We define interest rate risk as the risk of an economic loss due to adverse changes in interest rates. This risk
arises from our holdings in interest sensitive assets and liabilities, primarily as a result of investing life insurance
premiums, fixed annuity and guaranteed investment contract deposits received in interest-sensitive assets and
carrying these funds as interest-sensitive liabilities. We are also subject to interest rate risk on our variable
annuity business, stable value contracts and secondary guarantee universal life contracts. A sustained decline in
interest rates or a prolonged period of low interest rates may subject us to higher cost of guaranteed benefits and
increased hedging costs on those products that are being hedged. In a rising interest rate environment, we are
exposed to the risk of financial disintermediation through a potential increase in the level of book value
withdrawals on certain stable value contracts. Conversely, a steady increase in interest rates would tend to
improve financial results due to reduced hedging costs, lower costs of guaranteed benefits and improvement to
fixed margins.
We use product design, pricing and ALM strategies to reduce the adverse effects of interest rate movement.
Product design and pricing strategies can include the use of surrender charges, withdrawal restrictions and the
ability to reset credited interest rates. ALM strategies can include the use of derivatives and duration and
convexity mismatch limits. See “Item 1A. Risk Factors-Risks Related to Our Business-General-The level of
interest rates may adversely affect our profitability, particularly in the event of a continuation of the current low
interest rate environment or a period of rapidly increasing interest rates”.
Derivatives strategies include the following:
•Guaranteed Minimum Contract Value Guarantees. For certain liability contracts, we provide the
contract holder a guaranteed minimum contract value. These contracts include certain fixed annuities
and other insurance liabilities. We purchase interest rate floors, swaps and swaptions to reduce risk
associated with these liability guarantees.
•Book Value Guarantees in Stable Value Contracts. For certain stable value contracts, the contract
holder and participants may surrender the contract for the account value even if the market value of the
asset portfolio is in an unrealized loss position. We purchase derivatives including interest rate caps,
swaps and swaptions to reduce the risk associated with this type of guarantee.
•Interest Risk Related to Variable Annuity Guaranteed Living Benefits. For Variable Annuity contracts
with Guaranteed Living benefits, the contract holder may elect to receive income benefits over the
remainder of their lifetime. We use derivatives such as interest rate swaps to hedge a portion of the
interest rate risk associated with this type of guarantee.
•Other Market Value and Cash Flow Hedges. We also use derivatives in general to hedge present or
future changes in cash flows or market value changes in our assets and liabilities. We use derivatives
such as interest rate swaps to specifically hedge interest rate risks associated with our CMO-B
portfolio, see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations—Investments—CMO-B Portfolio.”
We assess interest rate exposures for financial assets, liabilities and derivatives using hypothetical test
scenarios that assume either increasing or decreasing 100 basis point parallel shifts in the yield curve, reflecting
changes in either credit spreads or risk-free rates. The following tables summarize the net estimated potential
change in fair value from hypothetical 100 basis point upward and downward shifts in interest rates as of
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