ACE LTD, 10-Q filed on 11/4/2015
Quarterly Report
Document and Entity Information
9 Months Ended
Sep. 30, 2015
Oct. 23, 2015
Entity Information [Line Items]
 
 
Document Type
10-Q 
 
Amendment Flag
false 
 
Document Period End Date
Sep. 30, 2015 
 
Document Fiscal Year Focus
2015 
 
Document Fiscal Period Focus
Q3 
 
Trading Symbol
ACE 
 
Entity Registrant Name
ACE Ltd 
 
Entity Central Index Key
0000896159 
 
Current Fiscal Year End Date
--12-31 
 
Entity Filer Category
Large Accelerated Filer 
 
Common Shares Outstanding
 
324,181,471 
Consolidated Balance Sheets (USD $)
In Millions, unless otherwise specified
Sep. 30, 2015
Dec. 31, 2014
Investments [Abstract]
 
 
Fixed maturities available for sale, at fair value (amortized cost - $47,411 and $47,826) (includes hybrid financial instruments of $217 and $274)
$ 48,278 
$ 49,395 
Fixed maturities held to maturity, at amortized cost (fair value – $8,750 and $7,589)
8,564 
7,331 
Equity securities, at fair value (cost – $434 and $440)
464 
510 
Short-term investments, at fair value and amortized cost
1,808 
2,322 
Other investments (cost – $2,943 and $2,999)
3,270 
3,346 
Total investments
62,384 
62,904 
Cash
1,038 1 2
655 1 3
Securities lending collateral
1,011 
1,330 
Accrued investment income
530 
552 
Insurance and reinsurance balances receivable
5,290 
5,426 
Reinsurance recoverable on losses and loss expenses
11,231 
11,992 
Reinsurance recoverable on policy benefits
194 
217 
Deferred policy acquisition costs
2,809 
2,601 
Value of business acquired
410 
466 
Goodwill and other intangible assets
5,713 
5,724 
Prepaid reinsurance premiums
2,059 
2,026 
Deferred tax assets
395 
295 
Investments in partially-owned insurance companies
654 
504 
Other assets
4,042 
3,556 
Total assets
97,760 
98,248 
Liabilities
 
 
Unpaid losses and loss expenses
37,564 
38,315 
Unearned premiums
8,510 
8,222 
Future policy benefits
4,776 
4,754 
Insurance and reinsurance balances payable
4,225 
4,095 
Securities lending payable
1,012 
1,331 
Accounts payable, accrued expenses, and other liabilities
5,977 
5,726 
Short-term debt
2,103 
2,552 
Long-term debt
4,157 
3,357 
Trust preferred securities
309 
309 
Total liabilities
68,633 
68,661 
Commitments and contingencies
   
   
Shareholders’ equity
 
 
Common Shares (CHF 24.15 and CHF 24.77 par value; 342,832,412 shares issued; 324,062,368 and 328,659,686 shares outstanding)
7,833 
8,055 
Common Shares in treasury (18,770,044 and 14,172,726 shares)
(1,974)
(1,448)
Additional paid-in capital
4,665 
5,145 
Retained earnings
18,795 
16,644 
Accumulated other comprehensive income (loss) (AOCI)
(192)
1,191 
Total shareholders’ equity
29,127 
29,587 
Total liabilities and shareholders’ equity
$ 97,760 
$ 98,248 
Consolidated Balance Sheets (Parenthetical)
In Millions, except Share data, unless otherwise specified
Sep. 30, 2015
USD ($)
Sep. 30, 2015
CHF
Dec. 31, 2014
USD ($)
Dec. 31, 2014
CHF
Statement of Financial Position [Abstract]
 
 
 
 
Fixed maturities available for sale, at amortized cost
$ 47,411 
 
$ 47,826 
 
Fixed maturities available for sale, hybrid financial instruments
217 
 
274 
 
Fixed maturities held to maturity, at amortized cost
8,750 
 
7,589 
 
Equity securities, at cost
434 
 
440 
 
Other investments, cost
$ 2,943 
 
$ 2,999 
 
Common Shares, par value
 
 24.15 
 
 24.77 
Common Shares, shares issued
342,832,412 
342,832,412 
342,832,412 
342,832,412 
Common Shares, shares outstanding
324,062,368 
324,062,368 
328,659,686 
328,659,686 
Common Shares in treasury, shares
18,770,044 
18,770,044 
14,172,726 
14,172,726 
Consolidated Statements Of Operations and Comprehensive Income (USD $)
In Millions, except Per Share data, unless otherwise specified
3 Months Ended 9 Months Ended
Sep. 30, 2015
Sep. 30, 2014
Sep. 30, 2015
Sep. 30, 2014
Revenues
 
 
 
 
Net premiums written
$ 4,709 
$ 4,729 
$ 13,569 
$ 13,473 
Decrease (increase) in unearned premiums
10 
25 
(563)
(417)
Net premiums earned
4,719 
4,754 
13,006 
13,056 
Net investment income
549 
566 
1,662 
1,675 
Net realized gains (losses):
 
 
 
 
Other-than-temporary impairment (OTTI) losses gross
(35)
(5)
(62)
(30)
Portion of OTTI losses recognized in other comprehensive income (OCI)
11 
Net OTTI losses recognized in income
(30)
(4)
(51)
(27)
Net realized gains (losses) excluding OTTI losses
(367)
(116)
(309)
(270)
Total net realized gains (losses) (includes $(49), $(38), $(18), and $(11) reclassified from AOCI)
(397)
(120)
(360)
(297)
Total revenues
4,871 
5,200 
14,308 
14,434 
Expenses
 
 
 
 
Losses and loss expenses
2,643 
2,684 
7,182 
7,233 
Policy benefits
89 
125 
384 
383 
Policy acquisition costs
771 
825 
2,205 
2,311 
Administrative expenses
568 
554 
1,700 
1,655 
Interest expense
68 
70 
207 
213 
Other (income) expense
12 
(46)
(61)
(139)
Amortization of intangible assets
51 
27 
136 
78 
Chubb integration expenses
Total expenses
4,211 
4,239 
11,762 
11,734 
Income before income tax
660 
961 
2,546 
2,700 
Income tax expense (includes $(4), $5, $10, and $7 on reclassified unrealized gains and losses)
132 
176 
395 
402 
Net income
528 
785 
2,151 
2,298 
Other comprehensive income (loss)
 
 
 
 
Unrealized appreciation (depreciation)
(321)
(375)
(696)
733 
Reclassification adjustment for net realized losses included in net income
49 
38 
18 
11 
Unrealized appreciation (Depreciation) after reclassification adjustment
(272)
(337)
(678)
744 
Change in:
 
 
 
 
Cumulative translation adjustment
(575)
(251)
(860)
(131)
Pension liability
10 
(6)
Other comprehensive income (loss), before income tax
(844)
(581)
(1,528)
607 
Income tax (expense) benefit related to OCI items
45 
94 
145 
(151)
Other comprehensive income (loss)
(799)
(487)
(1,383)
456 
Comprehensive income (loss)
(271)
298 
768 
2,754 
Earnings per share
 
 
 
 
Basic earnings per share
$ 1.63 
$ 2.35 
$ 6.60 
$ 6.82 
Diluted earnings per share
$ 1.62 
$ 2.32 
$ 6.53 
$ 6.75 
Reclassification out of Accumulated Other Comprehensive Income [Member] |
Accumulated Net Unrealized Investment Gain (Loss) [Member]
 
 
 
 
Net realized gains (losses):
 
 
 
 
Total net realized gains (losses) (includes $(49), $(38), $(18), and $(11) reclassified from AOCI)
(49)
(38)
(18)
(11)
Expenses
 
 
 
 
Income tax expense (includes $(4), $5, $10, and $7 on reclassified unrealized gains and losses)
$ (4)
$ 5 
$ 10 
$ 7 
Consolidated Statements Of Operations and Comprehensive Income Consolidated Statements of Operations and Comprehensive Income (Parenthetical) (USD $)
In Millions, unless otherwise specified
3 Months Ended 9 Months Ended
Sep. 30, 2015
Sep. 30, 2014
Sep. 30, 2015
Sep. 30, 2014
Income tax expense (benefit)
$ 132 
$ 176 
$ 395 
$ 402 
Net realized gains (losses)
(397)
(120)
(360)
(297)
Reclassification out of Accumulated Other Comprehensive Income [Member] |
Accumulated Net Unrealized Investment Gain (Loss) [Member]
 
 
 
 
Income tax expense (benefit)
(4)
10 
Net realized gains (losses)
$ (49)
$ (38)
$ (18)
$ (11)
Consolidated Statements Of Shareholders' Equity (USD $)
In Millions
Total
Common Stock [Member]
Treasury Stock [Member]
Additional Paid-in Capital [Member]
Retained Earnings [Member]
Accumulated Net Unrealized Investment Gain (Loss) [Member]
Accumulated Translation Adjustment [Member]
Accumulated Defined Benefit Plans Adjustment [Member]
Accumulated Other Comprehensive Income (Loss) [Member]
Balance - beginning of period at Dec. 31, 2013
 
$ 8,899 
$ (255)
$ 5,238 
$ 13,791 
$ 1,174 
$ 63 
$ (85)
 
Dividends declared on Common Shares – par value reduction
 
(621)
 
 
 
 
 
 
 
Net shares redeemed under employee share-based compensation plans
 
 
217 
(167)
 
 
 
 
 
Common Shares repurchased
 
 
(1,019)
 
 
 
 
 
 
Exercise of stock options
 
 
 
(44)
 
 
 
 
 
Share-based compensation expense and other
 
 
 
153 
 
 
 
 
 
Funding of dividends declared to Retained earnings
 
 
 
(81)
 
 
 
 
 
Net income
2,298 
 
 
 
2,298 
 
 
 
 
Funding of dividends declared from Additional paid-in capital
 
 
 
 
81 
 
 
 
 
Dividends declared on Common Shares
 
 
 
 
(81)
 
 
 
 
Change in period, before reclassification from AOCI, net of income tax benefit (expense) of $102 and $(168)
 
 
 
 
 
565 
 
 
 
Amounts reclassified from AOCI, net of income tax benefit of $10 and $7
 
 
 
 
 
18 
 
 
 
Change in period, net of income tax benefit (expense) of $112 and $(161)
 
 
 
 
 
583 
 
 
 
Change in period, net of income tax benefit (expense) of $35 and $7
 
 
 
 
 
 
(124)
 
 
Change in period, net of income tax benefit (expense) of $(2) and $3
 
 
 
 
 
 
 
(3)
 
Balance - end of period at Sep. 30, 2014
30,017 
8,278 
(1,057)
5,099 
16,089 
1,757 
(61)
(88)
1,608 
Balance - beginning of period at Dec. 31, 2014
29,587 
8,055 
(1,448)
5,145 
16,644 
1,851 
(581)
(79)
 
Dividends declared on Common Shares – par value reduction
 
(222)
 
 
 
 
 
 
 
Net shares redeemed under employee share-based compensation plans
 
 
208 
(157)
 
 
 
 
 
Common Shares repurchased
 
 
(734)
 
 
 
 
 
 
Exercise of stock options
 
 
 
(43)
 
 
 
 
 
Share-based compensation expense and other
 
 
 
155 
 
 
 
 
 
Funding of dividends declared to Retained earnings
 
 
 
(435)
 
 
 
 
 
Net income
2,151 
 
 
 
2,151 
 
 
 
 
Funding of dividends declared from Additional paid-in capital
 
 
 
 
435 
 
 
 
 
Dividends declared on Common Shares
 
 
 
 
(435)
 
 
 
 
Change in period, before reclassification from AOCI, net of income tax benefit (expense) of $102 and $(168)
 
 
 
 
 
(594)
 
 
 
Amounts reclassified from AOCI, net of income tax benefit of $10 and $7
 
 
 
 
 
28 
 
 
 
Change in period, net of income tax benefit (expense) of $112 and $(161)
 
 
 
 
 
(566)
 
 
 
Change in period, net of income tax benefit (expense) of $35 and $7
 
 
 
 
 
 
(825)
 
 
Change in period, net of income tax benefit (expense) of $(2) and $3
 
 
 
 
 
 
 
 
Balance - end of period at Sep. 30, 2015
$ 29,127 
$ 7,833 
$ (1,974)
$ 4,665 
$ 18,795 
$ 1,285 
$ (1,406)
$ (71)
$ (192)
Consolidated Statements Of Shareholders' Equity (Parenthetical) (USD $)
In Millions, unless otherwise specified
9 Months Ended
Sep. 30, 2015
Sep. 30, 2014
Net unrealized appreciation on investments, Change in period, income tax (expense) benefit
$ 112 
$ (161)
Cumulative translation adjustment, Change in period, income tax(expense) benefit
35 
Pension liability adjustment, Change in period, income tax (expense) benefit
(2)
Reclassification out of Accumulated Other Comprehensive Income [Member] |
Accumulated Net Unrealized Investment Gain (Loss) [Member]
 
 
Reclassification from Accumulated Other Comprehensive Income, Current Period, Tax
102 
(168)
Income tax benefit (expense) from reclassification of unrealized gains
$ 10 
$ 7 
Consolidated Statements Of Cash Flows (USD $)
In Millions, unless otherwise specified
9 Months Ended
Sep. 30, 2015
Sep. 30, 2014
Cash flows from operating activities
 
 
Net income
$ 2,151 
$ 2,298 
Adjustments to reconcile net income to net cash flows from operating activities
 
 
Net realized (gains) losses
360 
297 
Amortization of premiums/discounts on fixed maturities
115 
159 
Deferred income taxes
53 
41 
Unpaid losses and loss expenses
(225)
180 
Unearned premiums
353 
449 
Future policy benefits
157 
181 
Insurance and reinsurance balances payable
219 
181 
Accounts payable, accrued expenses, and other liabilities
(179)
(130)
Income taxes payable
(8)
94 
Insurance and reinsurance balances receivable
15 
(191)
Reinsurance recoverable on losses and loss expenses
421 
253 
Reinsurance recoverable on policy benefits
20 
(6)
Deferred policy acquisition costs
(354)
(306)
Prepaid reinsurance premiums
(182)
(41)
Other
(217)
(237)
Net cash flows from operating activities
2,699 
3,222 
Cash flows from investing activities
 
 
Purchases of fixed maturities available for sale
(13,029)
(11,867)
Purchases of to be announced mortgage-backed securities
(31)
Purchases of fixed maturities held to maturity
(39)
(185)
Purchases of equity securities
(122)
(222)
Sales of fixed maturities available for sale
5,202 
6,306 
Proceeds From Sales To Be Announced Mortgage Backed Securities
31 
Sales of equity securities
150 
322 
Maturities and redemptions of fixed maturities available for sale
5,257 
4,814 
Maturities and redemptions of fixed maturities held to maturity
552 
617 
Net change in short-term investments
421 
(984)
Net derivative instruments settlements
62 
(170)
Payments to Acquire Businesses, Net of Cash Acquired
259 
(172)
Other
(138)
(147)
Net cash flows used for investing activities
(1,425)
(1,688)
Cash flows from financing activities
 
 
Dividends paid on Common Shares
(644)
(646)
Common Shares repurchased
(758)
(1,007)
Proceeds from issuance of long-term debt
800 
699 
Proceeds from issuance of short-term debt
1,478 
1,827 
Repayments of Long-term Debt
(451)
(501)
Repayment of short-term debt
(1,477)
(1,827)
Proceeds from share-based compensation plans, including windfall tax benefits
89 
94 
Policyholder contract deposits
351 
189 
Policyholder contract withdrawals
(159)
(62)
Other
(6)
(6)
Net cash flows used for financing activities
(777)
(1,240)
Effect of foreign currency rate changes on cash and cash equivalents
(114)
(67)
Net increase in cash
383 
227 
Cash – beginning of period
655 1 2
579 3
Cash – end of period
1,038 2 4
806 3
Supplemental cash flow information
 
 
Taxes paid
335 
250 
Interest paid
$ 188 
$ 186 
Consolidated Statements of Cash Flows (Parentheticals) (USD $)
In Millions, unless otherwise specified
9 Months Ended
Sep. 30, 2015
Sep. 30, 2014
Statement of Cash Flows [Abstract]
 
 
Cash Acquired from Acquisition
$ 620 
$ 4 
General
General
General

a) Basis of presentation
ACE Limited is a holding company incorporated in Zurich, Switzerland. ACE Limited, through its subsidiaries, provides a broad range of insurance and reinsurance products to insureds worldwide. ACE operates through five business segments: Insurance – North American P&C, Insurance – North American Agriculture, Insurance – Overseas General, Global Reinsurance, and Life. Refer to Note 10 for additional information.

The interim unaudited consolidated financial statements, which include the accounts of ACE Limited and its subsidiaries (collectively, ACE, we, us, or our), have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) and, in the opinion of management, reflect all adjustments (consisting of normally recurring accruals) necessary for a fair statement of the results and financial position for such periods. All significant intercompany accounts and transactions, including internal reinsurance transactions, have been eliminated.

The results of operations and cash flows for any interim period are not necessarily indicative of the results for the full year. These consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our 2014 Form 10-K.

Effective third quarter of 2015, amortization of intangible assets are excluded from Other (income) expense and disclosed separately in the consolidated statements of operations. Prior year amounts have been reclassified to conform to the current year presentation.
  
In addition, we added a new expense caption (Chubb integration expenses), which includes legal and professional fees and all other external costs directly related to the integration activities of the planned Chubb acquisition.

b) Accounting guidance adopted in 2015

Business Combinations Simplifying the Accounting for Measurement-Period Adjustments
In September 2015, the Financial Accounting Standards Board (FASB) issued guidance to simplify the accounting for adjustments made to provisional valuation amounts recognized in a business combination. The guidance requires that the acquirer must recognize adjustments to provisional valuation amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined.  The guidance eliminates the requirement to retrospectively account for such adjustments. Previously, the accounting for measurement-period adjustments required the acquirer to retrospectively adjust the provisional amounts recognized at the acquisition date with a corresponding adjustment to goodwill.  We early adopted this guidance effective July 1, 2015.  The adoption of this guidance did not have an impact on our financial condition or results of operations.

Disclosures for investments in certain entities that calculate net asset value (NAV)
In May 2015, the FASB issued guidance that eliminated the requirement for investments measured at fair value using NAV as a practical expedient to be categorized within the fair value hierarchy. We early adopted this guidance effective July 1, 2015 and have retrospectively revised prior year fair value hierarchy disclosures contained in this report to conform to the current period presentation. Refer to Note 4 Fair Value Measurement for further information. This guidance requires a change in disclosure only and adoption of this guidance did not have an impact on our financial condition or results of operations.

c) Accounting guidance not yet adopted

Presentation of Debt Issuance Costs
In April 2015, the FASB issued new guidance related to the accounting for debt issuance costs.  The new guidance requires presentation of debt issuance costs in the balance sheet as a deduction from the carrying amount of the related debt liability instead of a deferred charge.  The new guidance requires retrospective adoption and is effective for interim and annual reporting periods beginning after December 15, 2015, with early adoption permitted. The adoption of this guidance will not have any effect on our results of operations and financial condition.
Acquisitions
Acquisitions
Acquisitions

Fireman's Fund Insurance Company High Net Worth Personal Lines Insurance Business in the U.S. (Fireman's Fund)
On April 1, 2015, we acquired the Fireman's Fund Insurance Company high net worth personal lines insurance business in the U.S., which included the renewal rights for new and existing business and reinsurance of all existing reserves for $365 million in cash. We acquired assets with a fair value of $749 million, consisting primarily of cash of $620 million and insurance and reinsurance balances receivable of $128 million. We assumed liabilities with a fair value of $858 million, consisting primarily of unpaid losses and loss expenses of $402 million and unearned premiums of $428 million. This acquisition generated $196 million of goodwill, attributable to expected growth and profitability, all of which is expected to be deductible for income tax purposes, and other intangible assets of $278 million, primarily related to renewal rights, based on ACE’s preliminary purchase price allocation. During the third quarter of 2015, we applied the new measurement-period adjustment guidance and recorded an adjustment to the valuation of our other intangible assets. The acquisition expands our position in the high net worth personal lines insurers in the U.S. The Fireman’s Fund business integrates into our existing high net worth personal lines business, ACE Private Risk Services, which offers a broad range of coverage including homeowners, automobile, umbrella and excess liability, collectibles and yachts. Goodwill and other intangible assets arising from this acquisition are included in our Insurance – North American P&C segment.

Large Corporate Account P&C Insurance Business of Itaú Seguros, S.A. (Itaú Seguros)
On October 31, 2014, we expanded our presence in Brazil with the acquisition of the large corporate account property and casualty (P&C) insurance business of Itaú Seguros, Brazil's leading carrier for that business, for $606 million in cash. This acquisition generated $445 million of goodwill, attributable to expected growth and profitability, none of which is currently deductible for income tax purposes, and other intangible assets of $60 million, primarily related to renewal rights. Goodwill may become deductible for income tax purposes under Brazilian tax law if this acquired entity is merged with certain ACE legal entities. 

The Siam Commercial Samaggi Insurance PCL (Samaggi)
We and our local partner acquired 60.86 percent of Samaggi, a general insurance company in Thailand, from Siam Commercial Bank on April 28, 2014, and subsequently acquired an additional 32.17 percent ownership, through a mandatory tender offer, which expired on June 17, 2014. The purchase price for 93.03 percent of the company was $176 million in cash. This acquisition expands our presence in Thailand and Southeast Asia.

The acquisition generated $46 million of goodwill, attributable to expected growth and profitability, none of which is expected to be deductible for income tax purposes, and other intangible assets of $80 million based on ACE’s purchase price allocation.  The other intangible assets primarily relate to a bancassurance agreement.

Goodwill and other intangible assets arising from the acquisitions of Itaú Seguros and Samaggi are included in our Insurance – Overseas General segment.

The consolidated financial statements include results of acquired businesses from the acquisition dates.

To be acquired
The Chubb Corporation (Chubb)
On June 30, 2015, we entered into a definitive agreement to acquire Chubb, a leading provider of middle-market commercial, specialty, surety, and personal insurance. Under the terms of the merger agreement, when the transaction closes Chubb will be merged with a newly-formed subsidiary of ACE and Chubb shareholders will receive for each share of Chubb stock an aggregate $62.93 in cash and 0.6019 shares of ACE stock. The initial purchase price, estimated at the time that we entered into the definitive agreement, was $28.3 billion based on the closing price of ACE stock on June 30, 2015 of $101.68 per share. Based on the closing price of ACE stock on September 30, 2015 of $103.40 per share, the purchase price would be approximately $28.8 billion in cash and newly issued stock, and the former Chubb shareholders would own approximately 137 million shares, or 30 percent, of the combined company's outstanding shares. The actual purchase price and related goodwill will increase or decrease until the closing date of the acquisition based on the increase or decrease in ACE's stock price.

The merger agreement provides that following the close of the transaction (i) the acquired businesses will continue to operate under the Chubb names as they do now; (ii) we will change the name of ACE Limited to assume the Chubb name at our parent company level, and (iii) the combined company will transition to operate under the Chubb name globally.

We intend to finance the cash portion of the transaction through a combination of $9 billion sourced from various ACE and Chubb companies plus $5.3 billion of senior notes which were issued in October 2015. Refer to Note 6 for additional information on the senior notes. On September 30, 2015, we received notice from the U.S. Federal Trade Commission that it had granted early termination, effective immediately, of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (HSR Act) for the pending acquisition of Chubb. The early termination of the waiting period under the HSR Act satisfies one of the conditions to the closing of the transaction, which remains subject to other customary closing conditions, including other regulatory approvals.  On October 22, 2015, we received the necessary approvals from shareholders of ACE and Chubb to effect the merger. The transaction is expected to close during the first quarter of 2016.
Investments
Investments
Investments

a) Transfers of securities
During April 2015, we transferred securities, considered essential holdings in a diversified portfolio, with a total fair value of $1.9 billion from Fixed maturities available for sale to Fixed maturities held to maturity. These securities, which we have the intent and ability to hold to maturity, were transferred given the growth in ACE’s investment portfolio over the last several years, as well as continued efforts to manage the diversification of our global portfolio. The net unrealized appreciation at the date of the transfer continues to be reported in the carrying value of the transferred investments and is amortized through OCI over the remaining life of the securities using the effective interest method in a manner consistent with the amortization of any premium or discount. This transfer represents a non-cash transaction and does not impact the consolidated statements of cash flows.

b) Fixed maturities
 
September 30, 2015
Amortized
Cost

 
Gross
Unrealized
Appreciation

 
Gross
Unrealized
Depreciation

 
Fair
Value

 
OTTI Recognized
in AOCI

(in millions of U.S. dollars)
 
 
 
 
Available for sale
 
 
 
 
 
 
 
 
 
U.S. Treasury and agency
$
2,800

 
$
85

 
$

 
$
2,885

 
$

Foreign
13,976

 
523

 
(208
)
 
14,291

 
(6
)
Corporate securities
16,790

 
467

 
(365
)
 
16,892

 
(14
)
Mortgage-backed securities
10,858

 
286

 
(25
)
 
11,119

 
(1
)
States, municipalities, and political subdivisions
2,987

 
111

 
(7
)
 
3,091

 

 
$
47,411

 
$
1,472

 
$
(605
)
 
$
48,278

 
$
(21
)
Held to maturity
 
 
 
 
 
 
 
 
 
U.S. Treasury and agency
$
756

 
$
19

 
$
(1
)
 
$
774

 
$

Foreign
784

 
38

 
(4
)
 
818

 

Corporate securities
3,093

 
74

 
(41
)
 
3,126

 

Mortgage-backed securities
1,758

 
60

 
(1
)
 
1,817

 

States, municipalities, and political subdivisions
2,173

 
44

 
(2
)
 
2,215

 

 
$
8,564

 
$
235

 
$
(49
)
 
$
8,750

 
$


December 31, 2014
Amortized
Cost

 
Gross
Unrealized
Appreciation

 
Gross
Unrealized
Depreciation

 
Fair
Value

 
OTTI Recognized
in AOCI

(in millions of U.S. dollars)
 
 
 
 
Available for sale
 
 
 
 
 
 
 
 
 
U.S. Treasury and agency
$
2,741

 
$
87

 
$
(8
)
 
$
2,820

 
$

Foreign
14,703

 
629

 
(90
)
 
15,242

 

Corporate securities
16,897

 
704

 
(170
)
 
17,431

 
(7
)
Mortgage-backed securities
10,011

 
304

 
(29
)
 
10,286

 
(1
)
States, municipalities, and political subdivisions
3,474

 
147

 
(5
)
 
3,616

 

 
$
47,826

 
$
1,871

 
$
(302
)
 
$
49,395

 
$
(8
)
Held to maturity
 
 
 
 
 
 
 
 
 
U.S. Treasury and agency
$
832

 
$
20

 
$
(2
)
 
$
850

 
$

Foreign
916

 
47

 

 
963

 

Corporate securities
2,323

 
102

 
(2
)
 
2,423

 

Mortgage-backed securities
1,983

 
57

 
(1
)
 
2,039

 

States, municipalities, and political subdivisions
1,277

 
40

 
(3
)
 
1,314

 

 
$
7,331

 
$
266

 
$
(8
)
 
$
7,589

 
$


As discussed in Note 3 e), if a credit loss is incurred on an impaired fixed maturity, an OTTI is considered to have occurred and the portion of the impairment not related to credit losses (non-credit OTTI) is recognized in OCI. Included in the “OTTI Recognized in AOCI” columns above are the cumulative amounts of non-credit OTTI recognized in OCI adjusted for subsequent sales, maturities, and redemptions. OTTI recognized in AOCI does not include the impact of subsequent changes in fair value of the related securities. In periods subsequent to a recognition of OTTI in OCI, changes in the fair value of the related fixed maturities are reflected in Unrealized appreciation (depreciation) in the consolidated statement of shareholders’ equity. For the three and nine months ended September 30, 2015, $4 million and nil, respectively, of net unrealized depreciation related to such securities is included in OCI. For the three and nine months ended September 30, 2014, $1 million and $6 million, respectively, of net unrealized appreciation related to such securities is included in OCI. At September 30, 2015 and December 31, 2014, AOCI included cumulative net unrealized depreciation of $14 million and $3 million, respectively, related to securities remaining in the investment portfolio for which ACE has recognized a non-credit OTTI.

Mortgage-backed securities (MBS) issued by U.S. government agencies are combined with all other to be announced mortgage derivatives held (refer to Note 7 c) (iv)) and are included in the category, “Mortgage-backed securities”. Approximately 80 percent and 83 percent of the total mortgage-backed securities at September 30, 2015 and December 31, 2014, respectively, are represented by investments in U.S. government agency bonds. The remainder of the mortgage exposure consists of collateralized mortgage obligations and non-government mortgage-backed securities, the majority of which provide a planned structure for principal and interest payments and carry a rating of AAA by the major credit rating agencies.

The following table presents fixed maturities by contractual maturity:
 
 
 
September 30

 
 
 
December 31

 
 
 
2015

 
 
 
2014

(in millions of U.S. dollars)
Amortized Cost

 
Fair Value

 
Amortized Cost

 
Fair Value

Available for sale
 
 
 
 
 
 
 
Due in 1 year or less
$
1,979

 
$
1,995

 
$
2,187

 
$
2,206

Due after 1 year through 5 years
16,472

 
16,794

 
15,444

 
15,857

Due after 5 years through 10 years
13,695

 
13,708

 
15,663

 
16,089

Due after 10 years
4,407

 
4,662

 
4,521

 
4,957

 
36,553

 
37,159

 
37,815

 
39,109

Mortgage-backed securities
10,858

 
11,119

 
10,011

 
10,286

 
$
47,411

 
$
48,278

 
$
47,826

 
$
49,395

Held to maturity
 
 
 
 
 
 
 
Due in 1 year or less
$
411

 
$
413

 
$
353

 
$
355

Due after 1 year through 5 years
2,583

 
2,683

 
2,603

 
2,693

Due after 5 years through 10 years
2,278

 
2,300

 
1,439

 
1,489

Due after 10 years
1,534

 
1,537

 
953

 
1,013

 
6,806

 
6,933

 
5,348

 
5,550

Mortgage-backed securities
1,758

 
1,817

 
1,983

 
2,039

 
$
8,564

 
$
8,750

 
$
7,331

 
$
7,589



Expected maturities could differ from contractual maturities because borrowers may have the right to call or prepay obligations, with or without call or prepayment penalties. 

c) Equity securities
 
September 30


December 31

(in millions of U.S. dollars)
2015


2014

Cost
$
434

 
$
440

Gross unrealized appreciation
54

 
83

Gross unrealized depreciation
(24
)
 
(13
)
Fair value
$
464

 
$
510



d) Investments in partially-owned insurance companies
On March 27, 2015 and April 14, 2015, we paid $70 million and $20 million, respectively, to acquire 11.3 percent of the common equity of ABR Reinsurance Capital Holdings Ltd. and warrants to acquire 0.5 percent of additional equity.  ABR Reinsurance Capital Holdings Ltd., is the parent company of ABR Reinsurance Ltd. (ABR Re), an independent reinsurance company. Through long-term arrangements, ACE will be the sole source of reinsurance risks ceded to ABR Re, and BlackRock, Inc. will be ABR Re’s exclusive investment management service provider. As an investor, ACE is expected to benefit from underwriting profit generated by ABR Re’s reinsuring a wide range of ACE’s primary insurance business and the income and capital appreciation BlackRock, Inc. seeks to deliver through its investment management services. In addition, ACE’s long-term arrangements with BlackRock, Inc. include a fee sharing arrangement in which ACE and BlackRock, Inc. will be entitled to an equal share of the aggregate amount of certain fees, including underwriting and investment management performance related fees.

ABR Re is a variable interest entity; however, ACE is not the primary beneficiary and does not consolidate ABR Re because ACE does not have the power to control and direct ABR Re’s most significant activities, including investing and underwriting. Our minority ownership interest is accounted for under the equity method of accounting. ACE cedes premiums to ABR Re and recognizes the associated commissions. For the three and nine months ended September 30, 2015, ACE ceded reinsurance premiums of $35 million and $70 million, respectively, and recognized ceded commissions of $8 million and $19 million, respectively. At September 30, 2015, the amount of Reinsurance recoverable on losses and loss expenses was $54 million and the amount of ceded reinsurance premium payable included in Insurance and reinsurance balances payable in the consolidated balance sheet was $12 million.

e) Net realized gains (losses)
In accordance with guidance related to the recognition and presentation of OTTI, when an impairment related to a fixed maturity has occurred, OTTI is required to be recorded in Net income if management has the intent to sell the security or it is more likely than not that we will be required to sell the security before the recovery of its amortized cost. Further, in cases where we do not intend to sell the security and it is more likely than not that we will not be required to sell the security, ACE must evaluate the security to determine the portion of the impairment, if any, related to credit losses. If a credit loss is incurred, an OTTI is considered to have occurred and any portion of the OTTI related to credit losses must be reflected in Net income while the portion of OTTI related to all other factors is recognized in OCI. For fixed maturities held to maturity, OTTI recognized in OCI is accreted from AOCI to the amortized cost of the fixed maturity prospectively over the remaining term of the securities.

Each quarter, securities in an unrealized loss position (impaired securities), including fixed maturities, securities lending collateral, equity securities, and other investments, are reviewed to identify impaired securities to be specifically evaluated for a potential OTTI.

For all non-fixed maturities, OTTI is evaluated based on the following:

the amount of time a security has been in a loss position and the magnitude of the loss position;
the period in which cost is expected to be recovered, if at all, based on various criteria including economic conditions and other issuer-specific developments; and
ACE’s ability and intent to hold the security to the expected recovery period.

As a general rule, we also consider that equity securities in an unrealized loss position for twelve consecutive months are other than temporarily impaired. For mutual funds included in equity securities in our consolidated balance sheet, we employ analysis similar to fixed maturities, when applicable.

We review each fixed maturity in an unrealized loss position to assess whether the security is a candidate for credit loss. Specifically, we consider credit rating, market price, and issuer-specific financial information, among other factors, to assess the likelihood of collection of all principal and interest as contractually due. Securities for which we determine that credit loss is likely are subjected to further analysis to estimate the credit loss recognized in Net income, if any. In general, credit loss recognized in Net income equals the difference between the security’s amortized cost and the net present value of its projected future cash flows discounted at the effective interest rate implicit in the debt security. All significant assumptions used in determining credit losses are subject to change as market conditions evolve.

Projected cash flows for corporate securities (principally senior unsecured bonds) are driven primarily by assumptions regarding probability of default and also the timing and amount of recoveries associated with defaults. ACE developed projected cash flows for corporate securities using market observable data, issuer-specific information, and credit ratings. We use historical default data by Moody’s Investors Service (Moody’s) rating category to calculate a 1-in-100 year probability of default, which results in a default assumption in excess of the historical mean default rate. Consistent with management's approach, ACE assumed a 32 percent recovery rate (the par value of a defaulted security that will be recovered) across all rating categories rather than using Moody's historical mean recovery rate of 42 percent. We believe that use of a default assumption in excess of the historical mean is conservative in light of current market conditions.

For the three and nine months ended September 30, 2015, credit losses recognized in Net income for corporate securities were $14 million and $23 million, respectively. For the three and nine months ended September 30, 2014 credit losses recognized in Net income for corporate securities were $4 million and $14 million, respectively.

For mortgage-backed securities, credit impairment is assessed using a cash flow model that estimates the cash flows on the underlying mortgages, using the security-specific collateral and transaction structure. The model estimates cash flows from the underlying mortgage loans and distributes those cash flows to various tranches of securities, considering the transaction structure and any subordination and credit enhancements that exist in that structure. The cash flow model incorporates actual cash flows on the mortgage-backed securities through the current period and then projects the remaining cash flows using a number of assumptions, including default rates, prepayment rates, and loss severity rates (the par value of a defaulted security that will not be recovered) on foreclosed properties.

For the three and nine months ended September 30, 2015 and 2014, there were no credit losses recognized in Net income for mortgage-backed securities.
The following table presents the Net realized gains (losses) and the losses included in Net realized gains (losses) and OCI as a result of conditions which caused us to conclude the decline in fair value of certain investments was “other-than-temporary”:
 
Three Months Ended
 
Nine Months Ended
 
 
September 30
 
September 30
 
(in millions of U.S. dollars)
2015

 
2014

2015

 
2014

Fixed maturities:
 
 
 
 
 
 
OTTI on fixed maturities, gross
$
(31
)
 
$
(5
)
$
(57
)
 
$
(20
)
OTTI on fixed maturities recognized in OCI (pre-tax)
5

 
1

11

 
3

OTTI on fixed maturities, net
(26
)
 
(4
)
(46
)

(17
)
Gross realized gains excluding OTTI
19

 
73

91

 
163

Gross realized losses excluding OTTI
(44
)
 
(51
)
(95
)
 
(97
)
Total fixed maturities
(51
)
 
18

(50
)

49

Equity securities:
 
 
 
 
 
 
OTTI on equity securities
(3
)
 

(4
)
 
(7
)
Gross realized gains excluding OTTI
10

 
4

43

 
8

Gross realized losses excluding OTTI
(5
)
 
(60
)
(7
)
 
(61
)
Total equity securities
2

 
(56
)
32


(60
)
OTTI on other investments
(1
)
 

(1
)
 
(3
)
Foreign exchange losses
(2
)
 
(19
)
(73
)
 
(42
)
Investment and embedded derivative instruments
(22
)
 
(13
)
6

 
(53
)
Fair value adjustments on insurance derivative
(396
)
 
(80
)
(337
)
 
(126
)
S&P put options and futures
83

 
(15
)
69

 
(106
)
Other derivative instruments
(9
)
 
45

(10
)
 
52

Other
(1
)
 

4

 
(8
)
Net realized gains (losses)
$
(397
)
 
$
(120
)
$
(360
)

$
(297
)

 
The following table presents a roll-forward of pre-tax credit losses related to fixed maturities for which a portion of OTTI was recognized in OCI: 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30
 
September 30
 
(in millions of U.S. dollars)
2015

 
2014

2015

 
2014

Balance of credit losses related to securities still held – beginning of period
$
23

 
$
24

$
28

 
$
37

Additions where no OTTI was previously recorded
8

 
2

15

 
9

Additions where an OTTI was previously recorded
6

 
2

8

 
5

Reductions for securities sold during the period
(5
)
 
(11
)
(19
)
 
(34
)
Balance of credit losses related to securities still held – end of period
$
32

 
$
17

$
32


$
17



f) Gross unrealized loss
At September 30, 2015, there were 7,876 fixed maturities out of a total of 26,875 fixed maturities in an unrealized loss position. The largest single unrealized loss in the fixed maturities was $4 million. There were 111 equity securities out of a total of 257 equity securities in an unrealized loss position. The largest single unrealized loss in the equity securities was $2 million. Fixed maturities in an unrealized loss position at September 30, 2015, comprised both investment grade and below investment grade securities for which fair value declined primarily due to widening credit spreads since the date of purchase.

The following tables present, for all securities in an unrealized loss position (including securities on loan), the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position:
 
0 – 12 Months
 
 
Over 12 Months
 
 
Total
 
September 30, 2015
Fair Value

 
Gross
Unrealized
Loss

 
Fair Value

 
Gross
Unrealized
Loss

 
Fair Value

 
Gross
Unrealized
Loss

(in millions of U.S. dollars)
 
 
 
 
 
U.S. Treasury and agency
$
228

 
$
(1
)
 
$
59

 
$

 
$
287

 
$
(1
)
Foreign
3,627

 
(160
)
 
402

 
(52
)
 
4,029

 
(212
)
Corporate securities
6,641

 
(322
)
 
801

 
(84
)
 
7,442

 
(406
)
Mortgage-backed securities
2,145

 
(16
)
 
626

 
(10
)
 
2,771

 
(26
)
States, municipalities, and political subdivisions
766

 
(7
)
 
57

 
(2
)
 
823

 
(9
)
Total fixed maturities
13,407

 
(506
)
 
1,945

 
(148
)
 
15,352

 
(654
)
Equity securities
151

 
(24
)
 

 

 
151

 
(24
)
Other investments
83

 
(2
)
 

 

 
83

 
(2
)
Total
$
13,641

 
$
(532
)
 
$
1,945

 
$
(148
)
 
$
15,586

 
$
(680
)
 
 
0 – 12 Months
 
 
Over 12 Months
 
 
Total
 
December 31, 2014
Fair Value

 
Gross
Unrealized
Loss

 
Fair Value

 
Gross
Unrealized
Loss

 
Fair Value

 
Gross
Unrealized
Loss

(in millions of U.S. dollars)
 
 
 
 
 
U.S. Treasury and agency
$
350

 
$
(1
)
 
$
666

 
$
(9
)
 
$
1,016

 
$
(10
)
Foreign
2,262

 
(75
)
 
375

 
(15
)
 
2,637

 
(90
)
Corporate securities
4,684

 
(150
)
 
738

 
(22
)
 
5,422

 
(172
)
Mortgage-backed securities
704

 
(2
)
 
1,663

 
(28
)
 
2,367

 
(30
)
States, municipalities, and political subdivisions
458

 
(3
)
 
490

 
(5
)
 
948

 
(8
)
Total fixed maturities
8,458

 
(231
)
 
3,932

 
(79
)
 
12,390

 
(310
)
Equity securities
101

 
(13
)
 

 

 
101

 
(13
)
Total
$
8,559

 
$
(244
)
 
$
3,932

 
$
(79
)
 
$
12,491

 
$
(323
)


g) Restricted assets
ACE is required to maintain assets on deposit with various regulatory authorities to support its insurance and reinsurance operations. These requirements are generally promulgated in the statutory regulations of the individual jurisdictions. The assets on deposit are available to settle insurance and reinsurance liabilities. ACE is also required to restrict assets pledged under repurchase agreements, which represent ACE's agreement to sell securities and repurchase them at a future date for a predetermined price. We also use trust funds in certain large reinsurance transactions where the trust funds are set up for the benefit of the ceding companies and generally take the place of letter of credit (LOC) requirements. We also have investments in segregated portfolios primarily to provide collateral or guarantees for LOC and derivative transactions. Included in restricted assets at September 30, 2015 and December 31, 2014, are investments, primarily fixed maturities, totaling $16.2 billion and $16.3 billion, respectively, and cash of $79 million and $117 million, respectively.
The following table presents the components of restricted assets:
 
September 30

 
December 31

(in millions of U.S. dollars)
2015

 
2014

Trust funds
$
10,990

 
$
10,838

Deposits with non-U.S. regulatory authorities
2,105

 
2,305

Assets pledged under repurchase agreements
1,468

 
1,431

Deposits with U.S. regulatory authorities
1,322

 
1,345

Other pledged assets
388

 
457

 
$
16,273

 
$
16,376

Fair value measurements
Fair value measurements
Fair value measurements

Effective July 1, 2015, we retrospectively adopted new accounting guidance that no longer requires investments measured at fair value using NAV to be categorized within the fair value hierarchy. Therefore, we no longer include our investments in partially-owned investment companies, investment funds, and limited partnerships within the fair value hierarchy and the Level 3 rollforward tables disclosed below. Prior period amounts within the fair value hierarchy disclosures contained in this section have been revised to conform to the current period presentation.

a) Fair value hierarchy
Fair value of financial assets and financial liabilities is estimated based on the framework established in the fair value accounting guidance. The guidance defines fair value as the price to sell an asset or transfer a liability (an exit price) in an orderly transaction between market participants and establishes a three-level valuation hierarchy based on the reliability of the inputs. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data.
 
The three levels of the hierarchy are as follows:

Level 1 – Unadjusted quoted prices for identical assets or liabilities in active markets;
Level 2 – Includes, among other items, inputs other than quoted prices that are observable for the asset or liability such as
interest rates and yield curves, quoted prices for similar assets and liabilities in active markets, and quoted prices for identical or similar assets and liabilities in markets that are not active; and
Level 3 – Inputs that are unobservable and reflect management’s judgments about assumptions that market participants
would use in pricing an asset or liability.

We categorize financial instruments within the valuation hierarchy at the balance sheet date based upon the lowest level of inputs that are significant to the fair value measurement. Accordingly, transfers between levels within the valuation hierarchy occur when there are significant changes to the inputs, such as increases or decreases in market activity, changes to the availability of current prices, changes to the transparency to underlying inputs, and whether there are significant variances in quoted prices. Transfers in and/or out of any level are assumed to occur at the end of the period.

We use pricing services to obtain fair value measurements for the majority of our investment securities. Based on management’s understanding of the methodologies used, these pricing services only produce an estimate of fair value if there is observable market information that would allow them to make a fair value estimate. Based on our understanding of the market inputs used by the pricing services, all applicable investments have been valued in accordance with GAAP. We do not adjust prices obtained from pricing services. The following is a description of the valuation techniques and inputs used to determine fair values for financial instruments carried at fair value, as well as the general classification of such financial instruments pursuant to the valuation hierarchy.

Fixed maturities
We use pricing services to estimate fair value measurements for the majority of our fixed maturities. The pricing services use market quotations for fixed maturities that have quoted prices in active markets; such securities are classified within Level 1. For fixed maturities other than U.S. Treasury securities that generally do not trade on a daily basis, the pricing services prepare estimates of fair value measurements using their pricing applications, which include available relevant market information, benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. Additional valuation factors that can be taken into account are nominal spreads, dollar basis, and liquidity adjustments. The pricing services evaluate each asset class based on relevant market and credit information, perceived market movements, and sector news. The market inputs used in the pricing evaluation, listed in the approximate order of priority include: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and industry and economic events. The extent of the use of each input is dependent on the asset class and the market conditions. Given the asset class, the priority of the use of inputs may change, or some market inputs may not be relevant. Additionally, fixed maturities valuation is more subjective when markets are less liquid due to the lack of market based inputs (i.e., stale pricing), which may increase the potential that an investment's estimated fair value is not reflective of the price at which an actual transaction would occur. The overwhelming majority of fixed maturities are classified within Level 2 because the most significant inputs used in the pricing techniques are observable. For a small number of fixed maturities, we obtain a single broker quote (typically from a market maker). Due to the disclaimers on the quotes that indicate that the price is indicative only, we include these fair value estimates in Level 3. 

Equity securities
Equity securities with active markets are classified within Level 1 as fair values are based on quoted market prices. For equity securities in markets which are less active, fair values are based on market valuations and are classified within Level 2. Equity securities for which pricing is unobservable are classified within Level 3.

Short-term investments
Short-term investments, which comprise securities due to mature within one year of the date of purchase that are traded in active markets, are classified within Level 1 as fair values are based on quoted market prices. Securities such as commercial paper and discount notes are classified within Level 2 because these securities are typically not actively traded due to their approaching maturity and, as such, their cost approximates fair value. Short-term investments for which pricing is unobservable are classified within Level 3.

Other investments
Fair values for the majority of Other investments including investments in partially-owned investment companies, investment funds, and limited partnerships are based on their respective net asset values or equivalent (NAV) and are excluded from the fair value hierarchy table below. Certain of our long-duration contracts are supported by assets that do not qualify for separate account reporting under GAAP. These assets comprise mutual funds classified within Level 1 in the valuation hierarchy on the same basis as other equity securities traded in active markets. Other investments also include equity securities classified within Level 1, and fixed maturities, classified within Level 2, held in rabbi trusts maintained by ACE for deferred compensation plans, and are classified within the valuation hierarchy on the same basis as other equity securities and fixed maturities. Other investments for which pricing is unobservable are classified within Level 3.

Securities lending collateral
The underlying assets included in Securities lending collateral in the consolidated balance sheets are fixed maturities which are classified in the valuation hierarchy on the same basis as other fixed maturities. Excluded from the valuation hierarchy is the corresponding liability related to ACE’s obligation to return the collateral plus interest as it is reported at contract value and not fair value in the consolidated balance sheets.

Investment derivative instruments
Actively traded investment derivative instruments, including futures, options, and forward contracts are classified within Level 1 as fair values are based on quoted market prices. The fair value of cross-currency swaps are based on market valuations and are classified within Level 2. Investment derivative instruments are recorded in either Other assets or Accounts payable, accrued expenses, and other liabilities in the consolidated balance sheets.

Other derivative instruments
We generally maintain positions in other derivative instruments including exchange-traded equity futures contracts and option contracts designed to limit exposure to a severe equity market decline, which would cause an increase in expected claims and, therefore, an increase in reserves for our guaranteed minimum death benefits (GMDB) and guaranteed living benefits (GLB) reinsurance business. Our position in exchange-traded equity futures contracts is classified within Level 1. At September 30, 2015, we held no positions in option contracts on equity market indices. The fair value of the majority of the remaining positions in other derivative instruments is based on significant observable inputs including equity security and interest rate indices. Accordingly, these are classified within Level 2. Other derivative instruments based on unobservable inputs are classified within Level 3. Other derivative instruments are recorded in either Other assets or Accounts payable, accrued expenses, and other liabilities in the consolidated balance sheets.

Separate account assets
Separate account assets represent segregated funds where investment risks are borne by the customers, except to the extent of certain guarantees made by ACE. Separate account assets comprise mutual funds classified within Level 1 in the valuation hierarchy on the same basis as other equity securities traded in active markets. Separate account assets also include fixed maturities classified within Level 2 because the most significant inputs used in the pricing techniques are observable. Excluded from the valuation hierarchy are the corresponding liabilities as they are reported at contract value and not fair value in the consolidated balance sheets. Separate account assets are recorded in Other assets in the consolidated balance sheets.

Guaranteed living benefits
The GLB arises from life reinsurance programs covering living benefit guarantees whereby we assume the risk of guaranteed minimum income benefits (GMIB) and guaranteed minimum accumulation benefits (GMAB) associated with variable annuity contracts. GLB’s are recorded in Accounts payable, accrued expenses, and other liabilities and Future policy benefits in the consolidated balance sheets. For GLB reinsurance, ACE estimates fair value using an internal valuation model which includes current market information and estimates of policyholder behavior. All of the treaties contain claim limits, which are factored into the valuation model. The fair value depends on a number of factors, including interest rates, equity markets, credit risk, current account value, market volatility, expected annuitization rates, and other policyholder behavior and changes in policyholder mortality.

The most significant policyholder behavior assumptions include lapse rates and the GMIB annuitization rates. Assumptions regarding lapse rates and GMIB annuitization rates differ by treaty, but the underlying methodologies to determine rates applied to each treaty are comparable.

A lapse rate is the percentage of in-force policies surrendered in a given calendar year. All else equal, as lapse rates increase, ultimate claim payments will decrease.

GMIB annuitization rate is the percentage of policies for which the policyholder will elect to annuitize using the guaranteed benefit provided under the GMIB. All else equal, as GMIB annuitization rates increase, ultimate claim payments will increase, subject to treaty claim limits.

The effect of changes in key market factors on assumed lapse and annuitization rates reflect emerging trends using data available from cedants. For treaties with limited experience, rates are established in line with data received from other ceding companies adjusted, as appropriate, with industry estimates. The model and related assumptions are regularly re-evaluated by management and enhanced, as appropriate, based upon additional experience obtained related to policyholder behavior and availability of updated information such as market conditions, market participant assumptions, and demographics of in-force annuities. Because of the significant use of unobservable inputs including policyholder behavior, GLB reinsurance is classified within Level 3. For the three and nine months ended September 30, 2015 and 2014, no material technical refinements were made to the model. For detailed information on our lapse and annuitization rate assumptions, refer to Note 4 to the Consolidated Financial Statements of our 2014 Form 10-K.

Financial instruments measured at fair value on a recurring basis, by valuation hierarchy
September 30, 2015
Level 1

 
Level 2

 
Level 3

 
Total

(in millions of U.S. dollars)
 
 
 
Assets:
 
 
 
 
 
 
 
Fixed maturities available for sale
 
 
 
 
 
 
 
U.S. Treasury and agency
$
1,919

 
$
966

 
$

 
$
2,885

Foreign

 
14,238

 
53

 
14,291

Corporate securities

 
16,709

 
183

 
16,892

Mortgage-backed securities

 
11,065

 
54

 
11,119

States, municipalities, and political subdivisions

 
3,091

 

 
3,091

 
1,919

 
46,069

 
290

 
48,278

Equity securities
455

 
5

 
4

 
464

Short-term investments
703

 
1,105

 

 
1,808

Other investments (1)
314

 
218

 
209

 
741

Securities lending collateral

 
1,011

 

 
1,011

Investment derivative instruments
17

 

 

 
17

Other derivative instruments
26

 

 

 
26

Separate account assets
1,423

 
83

 

 
1,506

Total assets measured at fair value (1)
$
4,857

 
$
48,491

 
$
503

 
$
53,851

Liabilities:
 
 
 
 
 
 
 
Investment derivative instruments
$
27

 
$

 
$

 
$
27

Other derivative instruments

 

 
7

 
7

GLB (2)

 

 
744

 
744

Total liabilities measured at fair value
$
27

 
$

 
$
751

 
$
778

(1) 
Excluded from the table above are partially-owned investments, investment funds, and limited partnerships of $2,504 million and other investments of $25 million at September 30, 2015 measured using NAV. Based on new accounting guidance adopted this quarter, these investments are excluded from the hierarchy table.
(2) 
Our GLB reinsurance product meets the definition of a derivative instrument for accounting purposes and is accordingly carried at fair value. Excluded from the table above is the portion of the GLB liability classified as Future policy benefits in the consolidated balance sheets. Refer to Note 5 for additional information.
 
December 31, 2014
Level 1

 
Level 2

 
Level 3

 
Total

(in millions of U.S. dollars)
 
 
 
Assets:
 
 
 
 
 
 
 
Fixed maturities available for sale
 
 
 
 
 
 
 
U.S. Treasury and agency
$
1,680

 
$
1,140

 
$

 
$
2,820

Foreign

 
15,220

 
22

 
15,242

Corporate securities

 
17,244

 
187

 
17,431

Mortgage-backed securities

 
10,271

 
15

 
10,286

States, municipalities, and political subdivisions

 
3,616

 

 
3,616

 
1,680

 
47,491

 
224

 
49,395

Equity securities
492

 
16

 
2

 
510

Short-term investments
1,183

 
1,139

 

 
2,322

Other investments (1)
370

 
211

 
204

 
785

Securities lending collateral

 
1,330

 

 
1,330

Investment derivative instruments
18

 

 

 
18

Other derivative instruments

 
2

 

 
2

Separate account assets
1,400

 
90

 

 
1,490

Total assets measured at fair value (1)
$
5,143

 
$
50,279

 
$
430

 
$
55,852

Liabilities:
 
 
 
 
 
 
 
Investment derivative instruments
$
36

 
$

 
$

 
$
36

Other derivative instruments
21

 

 
4

 
25

GLB (2)

 

 
406

 
406

Total liabilities measured at fair value
$
57

 
$

 
$
410

 
$
467


(1) 
Excluded from the table above are partially-owned investments, investment funds, and limited partnerships of $2,561 million at December 31, 2014 measured using NAV. Based on new accounting guidance adopted this quarter, these investments are excluded from the hierarchy table.
(2) 
Our GLB reinsurance product meets the definition of a derivative instrument for accounting purposes and is accordingly carried at fair value. Excluded from the table above is the portion of the GLB liability classified as Future policy benefits in the consolidated balance sheets. Refer to Note 5 for additional information.

There were no transfers between Level 1 and Level 2 for the three and nine months ended September 30, 2015 and 2014.

Fair value of alternative investments
Alternative investments include investment funds, limited partnerships, and partially-owned investment companies measured at fair value using NAV as a practical expedient.

The following table presents, by investment category, the expected liquidation period, fair value, and maximum future funding commitments of alternative investments:
 
 
 
 
 
September 30

 
 
 
December 31

 
Expected
Liquidation
Period of Underlying Assets
 
 
 
2015

 
 
 
2014

(in millions of U.S. dollars)
Fair
Value

 
Maximum
Future Funding
Commitments

 
Fair
Value

 
Maximum
Future Funding
Commitments

Financial
5 to 9 Years
 
$
309

 
$
107

 
$
282

 
$
145

Real Assets
3 to 7 Years
 
473

 
168

 
451

 
210

Distressed
5 to 9 Years
 
265

 
231

 
232

 
175

Private Credit
3 to 7 Years
 
272

 
226

 
299

 
190

Traditional
3 to 9 Years
 
885

 
184

 
908

 
289

Vintage
1 to 2 Years
 
14

 

 
11

 
1

Investment funds
Not Applicable
 
286

 

 
378

 

 
 
 
$
2,504

 
$
916

 
$
2,561

 
$
1,010



In 2015, we redefined and regrouped certain alternative investment categories to better align with our management approach. The prior year amounts have been reclassified to conform to the current year presentation. Included in all categories in the above table except for Investment funds are investments for which ACE will never have the contractual option to redeem but receives distributions based on the liquidation of the underlying assets. Further, for all categories except for Investment funds, ACE does not have the ability to sell or transfer the investments without the consent from the general partner of individual funds.
Investment Category
 
Consists of investments in private equity funds:
Financial
 
targeting financial services companies such as financial institutions and insurance services worldwide
Real Assets
 
targeting investments related to hard physical assets such as real estate, infrastructure and natural resources
Distressed
 
targeting distressed corporate debt/credit and equity opportunities in the U.S.
Private Credit
 
targeting privately originated corporate debt investments including senior secured loans and subordinated bonds
Traditional
 
employing traditional private equity investment strategies such as buyout and growth equity globally
Vintage
 
made before 2002 and where the funds’ commitment periods had already expired

Investment funds
ACE’s investment funds employ various investment strategies such as long/short equity and arbitrage/distressed. Included in this category are investments for which ACE has the option to redeem at agreed upon value as described in each investment fund’s subscription agreement. Depending on the terms of the various subscription agreements, investment fund investments may be redeemed monthly, quarterly, semi-annually, or annually. If ACE wishes to redeem an investment fund investment, it must first determine if the investment fund is still in a lock-up period (a time when ACE cannot redeem its investment so that the investment fund manager has time to build the portfolio). If the investment fund is no longer in its lock-up period, ACE must then notify the investment fund manager of its intention to redeem by the notification date prescribed by the subscription agreement. Subsequent to notification, the investment fund can redeem ACE’s investment within several months of the notification. Notice periods for redemption of the investment funds range between 5 and 120 days. ACE can redeem its investment funds without consent from the investment fund managers.

Level 3 financial instruments
The fair values of assets and liabilities measured at fair value using significant unobservable inputs (Level 3) consist of various inputs and assumptions that management makes when determining fair value. Management analyzes changes in fair value measurements classified within Level 3 by comparing pricing and returns of our investments to benchmarks, including month-over-month movements, investment credit spreads, interest rate movements, and credit quality of securities.

The following table presents the significant unobservable inputs used in the Level 3 liability valuations. Excluded from the table below are inputs used to determine the fair value of Level 3 assets which are based on single broker quotes and contain no quantitative unobservable inputs developed by management. 
(in millions of U.S. dollars, except for percentages)
Fair Value
 
Valuation
Technique
 
Significant
Unobservable Inputs
 
Ranges
September 30, 2015

 
December 31, 2014

 
 
 
GLB(1)
$
744

 
$
406

 
Actuarial model
 
Lapse rate
 
1% – 30%
 
 
 
 
 
 
 
Annuitization rate
 
0% – 55%
(1) 
Discussion of the most significant inputs used in the fair value measurement of GLB and the sensitivity of those assumptions is included within Note 4 a) Guaranteed living benefits.

The following tables present a reconciliation of the beginning and ending balances of financial instruments measured at fair value using significant unobservable inputs (Level 3).
 
Assets
 
 
 
Liabilities

Three Months Ended