UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

R QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2011

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____ to _____

Commission File Number 1-5823

CNA FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)		36-6169860 (I.R.S. Employer Identification No.)

333 S. Wabash Chicago, Illinois (Address of principal executive offices)		60604 (Zip Code)

(312) 822-5000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes R No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o		Accelerated filer R		Non-accelerated filer o (Do not check if a smaller reporting company)		Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No R

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at April 29, 2011
Common Stock, Par value $2.50		269,319,444

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Item Number		Page Number
	PART I. Financial Information
1.	Condensed Consolidated Financial Statements (Unaudited):
	Condensed Consolidated Statements of Operations for the Three months ended March 31, 2011 and 2010	3
	Condensed Consolidated Statements of Comprehensive Income for the Three months ended March 31, 2011 and 2010	4
	Condensed Consolidated Balance Sheets at March 31, 2011 and December 31, 2010	5
	Condensed Consolidated Statements of Cash Flows for the Three months ended March 31, 2011 and 2010	6
	Condensed Consolidated Statements of Equity for the Three months ended March 31, 2011 and 2010	8
	Notes to Condensed Consolidated Financial Statements	9
2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	43
3.	Quantitative and Qualitative Disclosures About Market Risk	61
4.	Controls and Procedures	62
	PART II. Other Information
1.	Legal Proceedings	63
6.	Exhibits	64
	EX-31.1
	EX-31.2
	EX-32.1
	EX-32.2

 

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CNA Financial Corporation

Part I. Financial Information

Item 1. Condensed Consolidated Financial Statements

Condensed Consolidated Statements of Operations (Unaudited)

Three months ended March 31	2011				2010
(In millions, except per share data)
Revenues
Net earned premiums	$	1,615			$	1,615
Net investment income	620				590
Net realized investment gains, net of participating policyholders’ interests:
Other-than-temporary impairment losses	(20		)		(90		)
Portion of other-than-temporary impairments recognized in Other comprehensive income	(21		)		30
Net other-than-temporary impairment losses recognized in earnings	(41		)		(60		)
Other net realized investment gains	54				94
Net realized investment gains, net of participating policyholders’ interests	13				34
Other revenues	67				76
Total revenues	2,315				2,315
Claims, Benefits and Expenses
Insurance claims and policyholders’ benefits	1,364				1,308
Amortization of deferred acquisition costs	345				342
Other operating expenses	225				272
Interest	46				36
Total claims, benefits and expenses	1,980				1,958
Income from continuing operations before income tax	335				357
Income tax expense	(102		)		(102		)
Income from continuing operations	233				255
Income (loss) from discontinued operations, net of income tax (expense) benefit of $0 and $0	(1		)		—
Net income	232				255
Net (income) loss attributable to noncontrolling interests	(9		)		(10		)
Net income attributable to CNA	$	223			$	245
Income Attributable to CNA Common Stockholders
Income from continuing operations attributable to CNA	$	224			$	245
Dividends on 2008 Senior Preferred	—				(25		)
Income from continuing operations attributable to CNA common stockholders	224				220
Income (loss) from discontinued operations attributable to CNA common stockholders	(1		)		—
Income attributable to CNA common stockholders	$	223			$	220
Basic and Diluted Earnings Per Share Attributable to CNA Common Stockholders
Income from continuing operations attributable to CNA common stockholders	$	0.83			$	0.82
Income (loss) from discontinued operations attributable to CNA common stockholders	—				—
Basic and diluted earnings per share attributable to CNA common stockholders	$	0.83			$	0.82
Weighted Average Outstanding Common Stock and Common Stock Equivalents
Basic	269.2				269.1
Diluted	269.5				269.2

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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CNA Financial Corporation

Condensed Consolidated Statements of Comprehensive Income (Unaudited)

Three months ended March 31
(In millions)	2011				2010
Other Comprehensive Income, Net of Tax
Changes in:
Net unrealized gains on investments with other-than-temporary impairments	$	38			$	25
Net unrealized gains on other investments	22				323
Net unrealized gains on investments	60				348
Net unrealized gains on discontinued operations and other	1				7
Foreign currency translation adjustment	25				(10		)
Pension and postretirement benefits	1				1
Allocation to participating policyholders	—				(23		)
Other comprehensive income, net of tax	87				323
Net income	232				255
Comprehensive income	319				578
Changes in:
Net unrealized (gains) losses on investments attributable to noncontrolling interests	2				(6		)
Pension and postretirement benefits attributable to noncontrolling interests	—				(3		)
Other comprehensive (income) loss attributable to noncontrolling interests	2				(9		)
Net (income) loss attributable to noncontrolling interests	(9		)		(10		)
Comprehensive (income) loss attributable to noncontrolling interests	(7		)		(19		)
Total comprehensive income attributable to CNA	$	312			$	559

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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CNA Financial Corporation

Condensed Consolidated Balance Sheets (Unaudited)

(In millions, except share data)	March 31, 2011				December 31, 2010
Assets
Investments:
Fixed maturity securities at fair value (amortized cost of $36,960 and $36,427)	$	38,204			$	37,577
Equity securities at fair value (cost of $330 and $422)	356				440
Limited partnership investments	2,460				2,309
Other invested assets	15				27
Mortgage loans	118				87
Short term investments	1,677				2,215
Total investments	42,830				42,655
Cash	81				77
Reinsurance receivables (less allowance for uncollectible receivables of $125 and $125)	6,956				7,079
Insurance receivables (less allowance for uncollectible receivables of $155 and $160)	1,609				1,557
Accrued investment income	469				425
Deferred acquisition costs	1,098				1,079
Deferred income taxes	547				667
Property and equipment at cost (less accumulated depreciation of $555 and $543)	316				333
Goodwill and other intangible assets	141				141
Other assets (includes $140 and $139 due from Loews Corporation)	1,047				868
Separate account business	449				450
Total assets	$	55,543			$	55,331
Liabilities and Equity
Liabilities:
Insurance reserves:
Claim and claim adjustment expenses	$	25,352			$	25,496
Unearned premiums	3,321				3,203
Future policy benefits	8,842				8,718
Policyholders’ funds	165				173
Participating policyholders’ funds	62				60
Short term debt	—				400
Long term debt	2,647				2,251
Other liabilities	2,883				3,056
Separate account business	449				450
Total liabilities	43,721				43,807
Commitments and contingencies (Notes C, D, G, and I)
Equity:
Common stock ($2.50 par value; 500,000,000 shares authorized; 273,040,243 shares issued; 269,296,610 and 269,139,198 shares outstanding)	683				683
Additional paid-in capital	2,198				2,200
Retained earnings	8,072				7,876
Accumulated other comprehensive income	415				326
Treasury stock (3,743,633 and 3,901,045 shares), at cost	(101		)		(105		)
Notes receivable for the issuance of common stock	(25		)		(26		)
Total CNA stockholders’ equity	11,242				10,954
Noncontrolling interests	580				570
Total equity	11,822				11,524
Total liabilities and equity	$	55,543			$	55,331

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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CNA Financial Corporation

Condensed Consolidated Statements of Cash Flows (Unaudited)

Three months ended March 31	2011				2010
(In millions)
Cash Flows from Operating Activities
Net income	$	232			$	255
Adjustments to reconcile net income to net cash flows provided by operating activities:
(Income) loss from discontinued operations	1				—
(Gain) loss on disposal of property and equipment	9				—
Deferred income tax expense	90				45
Trading portfolio activity	6				99
Net realized investment gains, net of participating policyholders’ interests	(13		)		(34		)
Equity method investees	(104		)		13
Amortization of investments	(21		)		(33		)
Depreciation	19				21
Changes in:
Receivables, net	71				264
Accrued investment income	(44		)		(41		)
Deferred acquisition costs	(19		)		(1		)
Insurance reserves	45				(135		)
Other assets	(4		)		(7		)
Other liabilities	(155		)		(74		)
Other, net	1				(3		)
Total adjustments	(118		)		114
Net cash flows provided by operating activities-continuing operations	$	114			$	369
Net cash flows used by operating activities-discontinued operations	$	(2	)		$	(5	)
Net cash flows provided by operating activities-total	$	112			$	364
Cash Flows from Investing Activities
Purchases of fixed maturity securities	$	(3,480	)		$	(5,351	)
Proceeds from fixed maturity securities:
Sales	1,881				2,737
Maturities, calls and redemptions	965				846
Purchases of equity securities	(34		)		(42		)
Proceeds from sales of equity securities	128				25
Origination of mortgage loans	(31		)		—
Change in short term investments	548				1,474
Change in other investments	(43		)		(51		)
Purchases of property and equipment	(11		)		(12		)
Other, net	1				—
Net cash flows used by investing activities-continuing operations	$	(76	)		$	(374	)
Net cash flows provided by investing activities-discontinued operations	$	2			$	5
Net cash flows used by investing activities-total	$	(74	)		$	(369	)

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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Three months ended March 31
(In millions)	2011				2010
Cash Flows from Financing Activities
Dividends paid to common stockholders	$	(27	)		$	—
Dividends paid to Loews Corporation for 2008 Senior Preferred	—				(25		)
Proceeds from the issuance of debt	396				—
Repayment of debt	(409		)		—
Stock options exercised	6				—
Other, net	(2		)		(13		)
Net cash flows used by financing activities-continuing operations	$	(36	)		$	(38	)
Net cash flows provided (used) by financing activities-discontinued operations	$	—			$	—
Net cash flows used by financing activities-total	$	(36	)		$	(38	)
Effect of foreign exchange rate changes on cash-continuing operations	2				(2		)
Net change in cash	$	4			$	(45	)
Cash, beginning of year	77				140
Cash, end of period	$	81			$	95
Cash-continuing operations	$	81			$	95
Cash-discontinued operations	—				—
Cash-total	$	81			$	95

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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CNA Financial Corporation

Condensed Consolidated Statements of Equity (Unaudited)

Three months ended March 31	2011				2010
(In millions)
Preferred Stock
Balance, beginning and end of period	$	—			$	1,000
Common Stock
Balance, beginning and end of period	683				683
Additional Paid-in Capital
Balance, beginning of period	2,200				2,177
Stock-based compensation	(1		)		(1		)
Other	(1		)		22
Balance, end of period	2,198				2,198
Retained Earnings
Balance, beginning of period	7,876				7,264
Dividends paid to common stockholders	(27		)		—
Dividends paid to Loews Corporation for 2008 Senior Preferred	—				(25		)
Net income attributable to CNA	223				245
Balance, end of period	8,072				7,484
Accumulated Other Comprehensive Income (Loss)
Balance, beginning of period	326				(325		)
Other comprehensive income attributable to CNA	89				314
Balance, end of period	415				(11		)
Treasury Stock
Balance, beginning of period	(105		)		(109		)
Stock-based compensation and other	4				2
Balance, end of period	(101		)		(107		)
Notes Receivable for the Issuance of Common Stock
Balance, beginning of period	(26		)		(30		)
Decrease in notes receivable for the issuance of common stock	1				—
Balance, end of period	(25		)		(30		)
Total CNA Stockholders’ Equity	11,242				11,217
Noncontrolling Interests
Balance, beginning of period	570				506
Net income	9				10
Other comprehensive income (loss)	(2		)		9
Other	3				(18		)
Balance, end of period	580				507
Total Equity	$	11,822			$	11,724

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements

(Unaudited).

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CNA Financial Corporation

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

Note A. General

Basis of Presentation

The Condensed Consolidated Financial Statements (Unaudited) include the accounts of CNA Financial Corporation (CNAF) and its controlled subsidiaries. Collectively, CNAF and its controlled subsidiaries are referred to as CNA or the Company. CNA’s property and casualty and remaining life and group insurance operations are primarily conducted by Continental Casualty Company (CCC), The Continental Insurance Company (CIC), Continental Assurance Company (CAC) and CNA Surety Corporation (CNA Surety). The Company owned approximately 61% of the outstanding common stock of CNA Surety as of March 31, 2011. Loews Corporation (Loews) owned approximately 90% of the outstanding common stock of CNAF as of March 31, 2011.

The accompanying Condensed Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP). Certain financial information that is normally included in annual financial statements, including certain financial statement notes, prepared in accordance with GAAP, is not required for interim reporting purposes and has been condensed or omitted. These statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in CNAF’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (SEC) for the year ended December 31, 2010, including the summary of significant accounting policies in Note A. The preparation of Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the Condensed Consolidated Financial Statements and the reported amounts of revenues and expenses during the reporting periods. Actual results may differ from those estimates.

The interim financial data as of March 31, 2011 and for the three months ended March 31, 2011 and 2010 is unaudited. However, in the opinion of management, the interim data includes all adjustments, consisting of normal recurring accruals, necessary for a fair statement of the Company’s results for the interim periods. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year. Intercompany amounts have been eliminated.

Reinsurance Receivables

The Company has established an allowance for uncollectible reinsurance receivables which relates to both amounts already billed on ceded paid losses as well as ceded reserves that will be billed when losses are paid in the future. The allowance for uncollectible reinsurance receivables is estimated on the basis of periodic evaluations of balances due from reinsurers, reinsurer creditworthiness, management’s experience and current economic conditions. Financial strength ratings are updated and reviewed on an annual basis or sooner if the Company becomes aware of significant changes related to a reinsurer. Because billed receivables are less than 5% of total reinsurance receivables the age of the reinsurance receivables related to paid losses is not a significant input into the allowance analysis. For the three months ended March 31, 2011, there was no significant change in the Company’s allowance for uncollectible reinsurance receivables.

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Note B. Earnings Per Share

Earnings per share attributable to the Company's common stockholders is based on the weighted average number of outstanding common shares. Basic earnings per share excludes the impact of dilutive securities and is computed by dividing net income attributable to CNA by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.

For the three months ended March 31, 2011 and 2010, approximately 272 thousand and 170 thousand potential shares attributable to exercises under stock-based employee compensation plans were included in the calculation of diluted earnings per share. For those same periods, approximately 1.0 million and 1.3 million potential shares attributable to exercises under stock-based employee compensation plans were not included in the calculation of diluted earnings per share because the effect would have been antidilutive.

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Note C. Investments

The significant components of net investment income are presented in the following table.

Net Investment Income

Three months ended March 31
(In millions)	2011				2010
Fixed maturity securities	$	506			$	510
Short term investments	2				6
Limited partnerships	114				72
Equity securities	6				10
Mortgage loans	2				—
Trading portfolio (a)	3				4
Other	2				2
Gross investment income	635				604
Investment expense	(15		)		(14		)
Net investment income	$	620			$	590

____________________

(a)	There were no net unrealized gains (losses) related to changes in fair value of trading securities still held included in net investment income for the three months ended March 31, 2011 and March 31, 2010.

Net realized investment gains are presented in the following table.

Net Realized Investment Gains

Three months ended March 31
(In millions)	2011				2010
Net realized investment gains:
Fixed maturity securities:
Gross realized gains	$	88			$	98
Gross realized losses	(68		)		(71		)
Net realized investment gains on fixed maturity securities	20				27
Equity securities:
Gross realized gains	5				4
Gross realized losses	(5		)		(1		)
Net realized investment gains (losses) on equity securities	—				3
Derivatives	(1		)		—
Short term investments and other (a) (b)	(6		)		4
Net realized investment gains, net of participating policyholders’ interests	$	13			$	34

____________________

(a)	The three months ended March 31, 2011 includes a $9 million loss related to the early extinguishment of $400 million of senior notes originally due August 15, 2011.

(b)	The three months ended March 31, 2011 includes net unrealized gains of $1 million related to changes in fair value of securities for which the fair value option has been elected.

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The components of net other-than-temporary impairment (OTTI) losses recognized in earnings by asset type are summarized in the following table.

Three months ended March 31
(In millions)	2011				2010
Fixed maturity securities available-for-sale:
Asset-backed:
Residential mortgage-backed	$	28			$	26
Commercial mortgage-backed	—				2
Total asset-backed	28				28
States, municipalities and political subdivisions	—				14
Corporate and other bonds	9				18
Total fixed maturity securities available-for-sale	37				60
Equity securities available-for-sale:
Common stock	3				—
Preferred stock	1				—
Total equity securities available-for-sale	4				—
Net OTTI losses recognized in earnings	$	41			$	60

A security is impaired if the fair value of the security is less than its cost adjusted for accretion, amortization and previously recorded OTTI losses, otherwise defined as an unrealized loss. When a security is impaired, the impairment is evaluated to determine whether it is temporary or other-than-temporary.

Significant judgment is required in the determination of whether an OTTI loss has occurred for a security. The Company follows a consistent and systematic process for determining and recording an OTTI loss. The Company has established a committee responsible for the OTTI process. This committee, referred to as the Impairment Committee, is made up of three officers appointed by the Company’s Chief Financial Officer. The Impairment Committee is responsible for evaluating all securities in an unrealized loss position on at least a quarterly basis.

The Impairment Committee’s assessment of whether an OTTI loss has occurred incorporates both quantitative and qualitative information. Fixed maturity securities that the Company intends to sell, or it more likely than not will be required to sell before recovery of amortized cost, are considered to be other-than-temporarily impaired and the entire difference between the amortized cost basis and fair value of the security is recognized as an OTTI loss in earnings. The remaining fixed maturity securities in an unrealized loss position are evaluated to determine if a credit loss exists. The factors considered by the Impairment Committee include (a) the financial condition and near term prospects of the issuer, (b) whether the debtor is current on interest and principal payments, (c) credit ratings of the securities and (d) general market conditions and industry or sector specific outlook. The Company also considers results and analysis of cash flow modeling for asset-backed securities, and when appropriate, other fixed maturity securities. The focus of the analysis for asset-backed securities is on assessing the sufficiency and quality of underlying collateral and timing of cash flows based on scenario tests. If the present value of the modeled expected cash flows equals or exceeds the amortized cost of a security, no credit loss is judged to exist and the asset-backed security is deemed to be temporarily impaired. If the present value of the expected cash flows is less than amortized cost, the security is judged to be other-than-temporarily impaired for credit reasons and that shortfall, referred to as the credit component, is recognized as an OTTI loss in earnings. The difference between the adjusted amortized cost basis and fair value, referred to as the non-credit component, is recognized as OTTI in Other comprehensive income. In subsequent reporting periods, a change in intent to sell or further credit impairment on a security whose fair value has not deteriorated will cause the non-credit component originally recorded as OTTI in Other comprehensive income to be recognized as an OTTI loss in earnings.

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The Company performs the discounted cash flow analysis using stressed scenarios to determine future expectations regarding recoverability. For asset-backed securities, significant assumptions enter into these cash flow projections including delinquency rates, probable risk of default, loss severity upon a default, over collateralization and interest coverage triggers, credit support from lower level tranches and impacts of rating agency downgrades.

The Company applies the same impairment model as described above for the majority of non-redeemable preferred stock securities on the basis that these securities possess characteristics similar to debt securities and that the issuers maintain their ability to pay dividends. For all other equity securities, in determining whether the security is other-than-temporarily impaired, the Impairment Committee considers a number of factors including, but not limited to: (a) the length of time and the extent to which the fair value has been less than amortized cost, (b) the financial condition and near term prospects of the issuer, (c) the intent and ability of the Company to retain its investment for a period of time sufficient to allow for an anticipated recovery in value and (d) general market conditions and industry or sector specific outlook.

The following tables provide a summary of fixed maturity and equity securities.

Summary of Fixed Maturity and Equity Securities

March 31, 2011	Cost or Amortized Cost				Gross Unrealized Gains				Gross Unrealized Losses				Estimated Fair Value				Unrealized OTTI Losses (Gains)
(In millions)
Fixed maturity securities available-for-sale:
U.S. Treasury and obligations of government agencies	$	120			$	14			$	—			$	134			$	—
Asset-backed:
Residential mortgage-backed	6,193				91				209				6,075				60
Commercial mortgage-backed	1,078				60				28				1,110				(6		)
Other asset-backed	886				17				7				896				—
Total asset-backed	8,157				168				244				8,081				54
States, municipalities and political subdivisions	8,552				176				400				8,328				—
Foreign government	631				15				1				645				—
Corporate and other bonds	19,442				1,562				50				20,954				—
Redeemable preferred stock	48				5				1				52				—
Total fixed maturity securities available-for-sale	36,950				1,940				696				38,194				$	54
Total fixed maturity securities trading	10				—				—				10
Equity securities available-for-sale:
Common stock	101				25				1				125
Preferred stock	229				4				2				231
Total equity securities available-for-sale	330				29				3				356
Total	$	37,290			$	1,969			$	699			$	38,560

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Summary of Fixed Maturity and Equity Securities

December 31, 2010	Cost or Amortized Cost				Gross Unrealized Gains				Gross Unrealized Losses				Estimated Fair Value				Unrealized OTTI Losses (Gains)
(In millions)
Fixed maturity securities available-for-sale:
U.S. Treasury and obligations of government agencies	$	122			$	16			$	1			$	137			$	—
Asset-backed:
Residential mortgage-backed	6,254				101				265				6,090				114
Commercial mortgage-backed	994				40				41				993				(2		)
Other asset-backed	753				18				8				763				—
Total asset-backed	8,001				159				314				7,846				112
States, municipalities and political subdivisions	8,157				142				410				7,889				—
Foreign government	602				18				—				620				—
Corporate and other bonds	19,492				1,603				70				21,025				—
Redeemable preferred stock	47				7				—				54				—
Total fixed maturity securities available-for-sale	36,421				1,945				795				37,571				$	112
Total fixed maturity securities trading	6				—				—				6
Equity securities available-for-sale:
Common stock	90				25				—				115
Preferred stock	332				2				9				325
Total equity securities available-for-sale	422				27				9				440
Total	$	36,849			$	1,972			$	804			$	38,017

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The following tables summarize the estimated fair value and gross unrealized losses of available-for-sale fixed maturity and equity securities in a gross unrealized loss position by the length of time in which the securities have continuously been in that position.

Securities in a Gross Unrealized Loss Position

	Less than 12 Months								Greater than 12 Months								Total
March 31, 2011	Estimated Fair Value				Gross Unrealized Losses				Estimated Fair Value				Gross Unrealized Losses				Estimated Fair Value				Gross Unrealized Losses
(In millions)
Fixed maturity securities available-for-sale:
Asset-backed:
Residential mortgage-backed	$	2,167			$	73			$	1,442			$	136			$	3,609			$	209
Commercial mortgage-backed	270				6				263				22				533				28
Other asset-backed	140				—				61				7				201				7
Total asset-backed	2,577				79				1,766				165				4,343				244
States, municipalities and political subdivisions	2,861				160				624				240				3,485				400
Foreign government	110				1				18				—				128				1
Corporate and other bonds	1,920				28				335				22				2,255				50
Redeemable preferred stock	—				—				5				1				5				1
Total fixed maturity securities available-for-sale	7,468				268				2,748				428				10,216				696
Equity securities available-for-sale:
Common stock	8				1				—				—				8				1
Preferred stock	76				1				19				1				95				2
Total equity securities available-for-sale	84				2				19				1				103				3
Total	$	7,552			$	270			$	2,767			$	429			$	10,319			$	699

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Securities in a Gross Unrealized Loss Position

	Less than 12 Months								Greater than 12 Months								Total
December 31, 2010	Estimated Fair Value				Gross Unrealized Losses				Estimated Fair Value				Gross Unrealized Losses				Estimated Fair Value				Gross Unrealized Losses
(In millions)
Fixed maturity securities available-for-sale:
U.S. Treasury and obligations of government agencies	$	8			$	1			$	—			$	—			$	8			$	1
Asset-backed:
Residential mortgage-backed	1,800				52				1,801				213				3,601				265
Commercial mortgage-backed	164				3				333				38				497				41
Other asset-backed	122				1				60				7				182				8
Total asset-backed	2,086				56				2,194				258				4,280				314
States, municipalities and political subdivisions	3,339				164				745				246				4,084				410
Corporate and other bonds	1,719				34				405				36				2,124				70
Total fixed maturity securities available-for-sale	7,152				255				3,344				540				10,496				795
Equity securities available-for-sale:
Preferred stock	175				5				70				4				245				9
Total equity securities available-for-sale	175				5				70				4				245				9
Total	$	7,327			$	260			$	3,414			$	544			$	10,741			$	804

The amount of pretax net unrealized gains on available-for-sale securities reclassified out of accumulated other comprehensive income (AOCI) into earnings was $21 million and $32 million for the three months ended March 31, 2011 and 2010.

The following table summarizes the activity for the three months ended March 31, 2011 and 2010 related to the pretax credit loss component reflected in Retained earnings on fixed maturity securities still held at March 31, 2011 and 2010 for which a portion of an OTTI loss was recognized in Other comprehensive income.

Three months ended March 31
(In millions)	2011				2010
Beginning balance of credit losses on fixed maturity securities	$	141			$	164
Additional credit losses for which an OTTI loss was previously recognized	10				11
Credit losses for which an OTTI loss was not previously recognized	1				5
Reductions for securities sold during the period	(25		)		(9		)
Reductions for securities the Company intends to sell or more likely than not will be required to sell	(14		)		—
Ending balance of credit losses on fixed maturity securities	$	113			$	171

Based on current facts and circumstances, the Company has determined that no additional OTTI losses related to the securities in an unrealized loss position presented in the March 31, 2011 Securities in a Gross Unrealized Loss Position table above are required to be recorded. A discussion of some of the factors reviewed in making that determination is presented below.

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The classification between investment grade and non-investment grade presented in the discussion below is based on a ratings methodology that takes into account ratings from two major providers, Standard & Poor’s (S&P) and Moody’s Investors Service, Inc. (Moody’s) in that order of preference. If a security is not rated by these providers, the Company formulates an internal rating. For securities with credit support from third party guarantees, the rating reflects the greater of the underlying rating of the issuer or the insured rating.

Asset-Backed Securities

The fair value of total asset-backed holdings at March 31, 2011 was $8,081 million which was comprised of 2,071 different securities. The fair value of these securities does not tend to be influenced by the credit of the issuer but rather the characteristics and projected cash flows of the underlying collateral. Each security has deal-specific tranche structures, credit support that results from the unique deal structure, particular collateral characteristics and other distinct security terms. As a result, seemingly common factors such as delinquency rates and collateral performance affect each security differently. Of these securities, 147 have underlying collateral that is either considered sub-prime or Alt-A in nature. The exposure to sub-prime residential mortgage (sub-prime) collateral and Alternative A residential mortgages that have lower than normal standards of loan documentation (Alt-A) collateral is measured by the original deal structure.

Residential mortgage-backed securities include 159 non-agency structured securities that have at least one trade lot in a gross unrealized loss position. In addition, there were 99 agency mortgage-backed securities guaranteed by agencies of the U.S. Government that have at least one trade lot in a gross unrealized loss position. The aggregate severity of the gross unrealized loss for residential mortgage-backed securities was approximately 5% of amortized cost.

Commercial mortgage-backed securities include 49 securities that have at least one trade lot in a gross unrealized loss position. The aggregate severity of the gross unrealized loss was approximately 5% of amortized cost.

Other asset-backed securities include 16 securities that have at least one trade lot in a gross unrealized loss position. The aggregate severity of the gross unrealized loss was approximately 3% of amortized cost.

The following table summarizes asset-backed securities in a gross unrealized loss position by ratings distribution at March 31, 2011.

Gross Unrealized Losses by Ratings Distribution

March 31, 2011	Amortized Cost				Estimated Fair Value				Gross Unrealized Losses
(In millions)
U.S. Government Agencies	$	1,758			$	1,698			$	60
AAA	1,281				1,233				48
AA	406				377				29
A	158				152				6
BBB	223				195				28
Non-investment grade and equity tranches	761				688				73
Total	$	4,587			$	4,343			$	244

The Company believes the unrealized losses are primarily attributable to broader economic conditions, changes in interest rates and wider than historical bid/ask spreads, and are not indicative of the quality of the underlying collateral. The Company has no current intent to sell these securities, nor is it more likely than not that it will be required to sell prior to recovery of amortized cost. Generally, non-investment grade securities consist of investments which were investment grade at the time of purchase but have subsequently been downgraded and primarily consist of holdings senior to the equity tranche. Additionally, the Company believes that the unrealized losses on these securities were not due to factors regarding the ultimate collection of principal and interest, collateral shortfalls, or substantial changes in future cash flow expectations; accordingly, the Company has determined that there are no additional OTTI losses to be recorded at March 31, 2011.

 

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States, Municipalities and Political Subdivisions

The fair value of total states, municipalities and political subdivisions holdings at March 31, 2011 was $8,328 million. These holdings consist of both tax-exempt and taxable bonds, 71% of which are special revenue and assessment bonds, followed by general obligation political subdivision bonds at 20% and state general obligation bonds at 9%.

The unrealized losses on the Company's investments in this category are primarily due to the impact of interest rate increases, as well as market conditions for tax-exempt bonds. Securities with maturity dates that exceed 20 years comprise 69% of the gross unrealized losses. The holdings for all securities in this category include 534 securities that have at least one trade lot in a gross unrealized loss position. The aggregate severity of the total gross unrealized losses was approximately 10% of amortized cost.

The following table summarizes the ratings distribution of states, municipalities and political subdivisions securities in a gross unrealized loss position at March 31, 2011.

Gross Unrealized Losses by Ratings Distribution

March 31, 2011	Amortized Cost				Estimated Fair Value				Gross Unrealized Losses
(In millions)
AAA	$	752			$	705			$	47
AA	2,126				1,885				241
A	908				811				97
BBB	70				57				13
Non-investment grade	29				27				2
Total	$	3,885			$	3,485			$	400

The largest exposures at March 31, 2011 as measured by gross unrealized losses were several separate issues of Puerto Rico sales tax revenue bonds with gross unrealized losses of $104 million and several separate issues of New Jersey transit revenue bonds with gross unrealized losses of $56 million. All of these securities are rated investment grade.

The Company has no current intent to sell these securities, nor is it more likely than not that it will be required to sell prior to recovery of amortized cost. Additionally, the Company believes that the unrealized losses on these securities were not due to factors regarding the ultimate collection of principal and interest; accordingly, the Company has determined that there are no additional OTTI losses to be recorded at March 31, 2011.

Contractual Maturity

The following table summarizes available-for-sale fixed maturity securities by contractual maturity at March 31, 2011 and December 31, 2010. Actual maturities may differ from contractual maturities because certain securities may be called or prepaid with or without call or prepayment penalties. Securities not due at a single date are allocated based on weighted average life.

Contractual Maturity

	March 31, 2011								December 31, 2010
(In millions)	Cost or Amortized Cost				Estimated Fair Value				Cost or Amortized Cost				Estimated Fair Value
Due in one year or less	$	1,553			$	1,564			$	1,515			$	1,506
Due after one year through five years	11,449				11,908				11,198				11,653
Due after five years through ten years	9,861				10,279				10,022				10,425
Due after ten years	14,087				14,443				13,686				13,987
Total	$	36,950			$	38,194			$	36,421			$	37,571

 

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Commercial Mortgage Loans

Mortgage loans are commercial in nature and are carried at unpaid principal balance, net of unamortized fees and any valuation allowance. Mortgage loans are considered to be impaired loans when it is probable that contractual principal and interest payments will not be collected. A valuation allowance is established for impaired loans to the extent that the present value of expected future cash flows discounted at the loan's original effective interest rate is less than the carrying value of the loan. Interest income from mortgage loans is recognized on an accrual basis using the effective yield method. Accrual of income is generally suspended for mortgage loans that are impaired and collection of principal and interest payment is unlikely. Mortgage loans are considered past due when full principal or interest payments have not been received according to contractual terms.

Risks related to the recoverability of loan balances include declines in the estimated cash flows from underlying property leases, declines in the fair value of collateral, and creditworthiness of tenants of credit tenant loan properties, where lease payments directly service the loan. As of March 31, 2011, 29% of the carrying value of mortgage loans related to credit tenant loans. The Company identifies loans for evaluation of impairment primarily based on the collection experience of each loan. As of March 31, 2011, there were no loans past due or in non-accrual status, and no valuation allowance was recorded.

Investment Commitments

As of March 31, 2011, the Company had committed approximately $193 million to future capital calls from various third-party limited partnership investments in exchange for an ownership interest in the related partnerships.

The Company invests in various privately placed debt securities, including bank loans, as part of its overall investment strategy and has committed to additional future purchases and sales. The purchase and sale of these investments are recorded on the date that the legal agreements are finalized and cash settlements are made. As of March 31, 2011, the Company had commitments to purchase $208 million and sell $131 million of such investments.

As of March 31, 2011, the Company had mortgage loan commitments of $56 million representing signed loan applications received and accepted. The mortgage loans are recorded once funded.

 

 

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Note D. Derivative Financial Instruments

The Company uses derivatives in the normal course of business, primarily in an attempt to reduce its exposure to market risk (principally interest rate risk, equity price risk and foreign currency risk) stemming from various assets and liabilities and credit risk (the ability of an obligor to make timely payment of principal and/or interest). The Company's principal objective under such risk strategies is to achieve the desired reduction in economic risk, even if the position does not receive hedge accounting treatment.

The Company's use of derivatives is limited by statutes and regulations promulgated by the various regulatory bodies to which it is subject, and by its own derivative policy. The derivative policy limits the authorization to initiate derivative transactions to certain personnel. Derivatives entered into for hedging, regardless of the choice to designate hedge accounting, shall have a maturity that effectively correlates to the underlying hedged asset or liability. The policy prohibits the use of derivatives containing greater than one-to-one leverage with respect to changes in the underlying price, rate or index. The policy also prohibits the use of borrowed funds, including funds obtained through securities lending, to engage in derivative transactions.

The Company has exposure to economic losses due to interest rate risk arising from changes in the level of, or volatility of, interest rates. The Company attempts to mitigate its exposure to interest rate risk in the normal course of portfolio management which includes rebalancing its existing portfolios of assets and liabilities. In addition, various derivative financial instruments are used to modify the interest rate risk exposures of certain assets and liabilities. These strategies include the use of interest rate swaps, interest rate caps and floors, options, futures, forwards and commitments to purchase securities. These instruments are generally used to lock interest rates or market values, to shorten or lengthen durations of fixed maturity securities or to hedge (on an economic basis) interest rate risks associated with investments and variable rate debt.

The Company has exposure to equity price risk as a result of its investment in equity securities and equity derivatives. Equity price risk results from changes in the level or volatility of equity prices, which affect the value of equity securities, or instruments that derive their value from such securities. The Company attempts to mitigate its exposure to such risks by limiting its investment in any one security or index. The Company may also manage this risk by utilizing instruments such as options, swaps, futures and collars to protect appreciation in securities held.

The Company has exposure to credit risk arising from the uncertainty associated with a financial instrument obligor's ability to make timely principal and/or interest payments. The Company attempts to mitigate this risk by limiting credit concentrations, practicing diversification and frequently monitoring the credit quality of issuers and counterparties. In addition, the Company may utilize credit derivatives such as credit default swaps (CDS) to modify the credit risk inherent in certain investments. CDS involve a transfer of credit risk from one party to another in exchange for periodic payments.

Foreign currency risk arises from the possibility that changes in foreign currency exchange rates will impact the fair value of financial instruments denominated in a foreign currency. The Company's foreign transactions are primarily denominated in British pounds, Euros and Canadian dollars. The Company typically manages this risk via asset/liability currency matching and through the use of foreign currency forwards.

In addition to the derivatives used for risk management purposes described above, the Company may also use derivatives for purposes of income enhancement. Income enhancement transactions are entered into with the intention of providing additional income or yield to a particular portfolio segment or instrument. Income enhancement transactions are limited in scope and primarily involve the sale of covered options in which the Company receives a premium in exchange for selling a call or put option.

The Company will also use CDS to sell credit protection against a specified credit event.  In selling credit protection, CDS are used to replicate fixed income securities when credit exposure to certain issuers is not available or when it is economically beneficial to transact in the derivative market compared to the cash market alternative.  Credit risk includes both the default event risk and market value exposure due to fluctuations in credit spreads.  In selling CDS protection, the Company receives a periodic premium in exchange for providing credit protection on a single name reference obligation or a credit derivative index.  If there is an event of default as defined by the CDS agreement, the Company is required to pay the counterparty the referenced notional amount of the CDS contract and in exchange, the Company is entitled to receive the referenced defaulted security or the cash equivalent.

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The tables below summarize open CDS contracts where the Company sold credit protection as of March 31, 2011 and December 31, 2010. The fair value of the contracts represents the amounts that the Company would receive or pay at those dates to exit the derivative positions. The maximum amount of future payments assumes no residual value in the defaulted securities that the Company would receive as part of the contract terminations and is equal to the notional value of the CDS contracts.

Credit Ratings of Underlying Reference Obligations

March 31, 2011	Fair Value of Credit Default Swaps				Maximum Amount of Future Payments under Credit Default Swaps				Weighted Average Years to Maturity
(In millions)
BB rated	$	1			$	5			2.2
B rated	—				3				1.2
Total	$	1			$	8			1.9

Credit Ratings of Underlying Reference Obligations

December 31, 2010	Fair Value of Credit Default Swaps				Maximum Amount of Future Payments under Credit Default Swaps				Weighted Average Years to Maturity
(In millions)
BB rated	$	1			$	5			2.5
B rated	—				3				1.5
Total	$	1			$	8			2.1

Credit exposure associated with non-performance by the counterparties to derivative instruments is generally limited to the uncollateralized fair value of the asset related to the instruments recognized on the Condensed Consolidated Balance Sheets. The Company attempts to mitigate the risk of non-performance by monitoring the creditworthiness of counterparties and diversifying derivatives to multiple counterparties. The Company generally requires that all over-the-counter derivative contracts be governed by an International Swaps and Derivatives Association (ISDA) Master Agreement, and exchanges collateral under the terms of these agreements with its derivative investment counterparties depending on the amount of the exposure and the credit rating of the counterparty. The Company does not offset its net derivative positions against the fair value of the collateral provided. The fair value of cash collateral provided by the Company was $2 million at March 31, 2011 and December 31, 2010. The fair value of cash collateral received from counterparties was $1 million at March 31, 2011 and December 31, 2010.

Derivative securities are recorded at fair value. See Note E for information regarding the fair value of derivatives securities. Changes in the fair value of derivatives not held in a trading portfolio are reported in Net realized investment gains (losses) on the Condensed Consolidated Statements of Operations. Changes in the fair value of derivatives held for trading purposes are reported in Net investment income on the Condensed Consolidated Statements of Operations.

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A summary of the recognized losses related to derivative financial instruments follows.

Recognized Losses

Three months ended March 31
(In millions)	2011				2010
Without hedge designation
Currency forwards	$	(1	)		$	—
Total without hedge designation	(1		)		—
Trading activities
Futures sold, not yet purchased	—				(3		)
Total	$	(1	)		$	(3	)

A summary of the aggregate contractual or notional amounts and gross estimated fair values related to derivative financial instruments reported as Other invested assets or Other liabilities on the Condensed Consolidated Balance Sheets follows. The contractual or notional amounts for derivatives are used to calculate the exchange of contractual payments under the agreements and may not be representative of the potential for gain or loss on these instruments.

Derivative Financial Instruments

March 31, 2011	Contractual/ Notional Amount				Estimated Fair Value
(In millions)					Asset				(Liability)
Without hedge designation
Credit default swaps — purchased protection	$	20			$	—			$	(2	)
Credit default swaps — sold protection	8				1				—
Currency forwards	10				—				—
Equity warrants	3				—				—
Total without hedge designation	41				1				(2		)
Trading activities
Futures sold, not yet purchased	—				—				—
Total	$	41			$	1			$	(2	)

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Derivative Financial Instruments

December 31, 2010	Contractual/ Notional Amount				Estimated Fair Value
(In millions)					Asset				(Liability)
Without hedge designation
Credit default swaps — purchased protection	$	20			$	—			$	(2	)
Credit default swaps — sold protection	8				1				—
Currency forwards	18				—				—
Equity warrants	3				—				—
Total without hedge designation	49				1				(2		)
Trading activities
Futures sold, not yet purchased	—				—				—
Total	$	49			$	1			$	(2	)

During the three months ended March 31, 2011, new derivative transactions entered into totaled approximately $341 million in notional value while derivative termination activity totaled approximately $349 million. This activity was primarily attributable to interest rate futures and foreign currency forwards. During the three months ended March 31, 2010, new derivative transactions entered into totaled approximately $203 million in notional value while derivative termination activity totaled approximately $323 million. This activity was primarily attributable to interest rate futures, credit default swaps and forward commitments for mortgage-backed securities.

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Note E. Fair Value

 

Fair value is the price that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The following fair value hierarchy is used in selecting inputs, with the highest priority given to Level 1, as these are the most transparent or reliable.

Level 1 - Quoted prices for identical instruments in active markets.

Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs are observable in active markets.

Level 3 - Valuations derived from valuation techniques in which one or more significant inputs are not observable.

The Company attempts to establish fair value as an exit price in an orderly transaction consistent with normal settlement market conventions. The Company is responsible for the valuation process and seeks to obtain quoted market prices for all securities. When quoted market prices in active markets are not available, the Company uses a number of methodologies to establish fair value estimates including: discounted cash flow models, prices from recently executed transactions of similar securities, or broker/dealer quotes, utilizing market observable information to the extent possible. In conjunction with modeling activities, the Company may use external data as inputs. The modeled inputs are consistent with observable market information, when available, or with the Company's assumptions as to what market participants would use to value the securities. The Company also uses pricing services as a significant source of data. The Company monitors all the pricing inputs to determine if the markets from which the data is gathered are active. As further validation of the Company's valuation process, the Company samples past fair value estimates and compares the valuations to actual transactions executed in the market on similar dates.

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Assets and Liabilities Measured at Fair Value

Assets and liabilities measured at fair value on a recurring basis are summarized below.

March 31, 2011													Total Assets/(Liabilities) at Fair Value
(In millions)	Level 1				Level 2				Level 3
Assets
Fixed maturity securities:
U.S. Treasury and obligations of government agencies	$	74			$	60			$	—			$	134
Asset-backed:
Residential mortgage-backed	—				5,337				738				6,075
Commercial mortgage-backed	—				1,022				88				1,110
Other asset-backed	—				451				445				896
Total asset-backed	—				6,810				1,271				8,081
States, municipalities and political subdivisions	—				8,140				188				8,328
Foreign government	118				527				—				645
Corporate and other bonds	—				20,387				577				20,964
Redeemable preferred stock	3				49				—				52
Total fixed maturity securities	195				35,973				2,036				38,204
Equity securities	203				123				30				356
Derivative and other financial instruments, included in Other invested assets	—				5				10				15
Short term investments	1,190				460				27				1,677
Life settlement contracts, included in Other assets	—				—				127				127
Discontinued operations investments, included in Other liabilities	13				56				—				69
Separate account business	28				382				39				449
Total assets	$	1,629			$	36,999			$	2,269			$	40,897
Liabilities
Derivative financial instruments, included in Other liabilities	$	—			$	—			$	(2	)		$	(2	)
Total liabilities	$	—			$	—			$	(2	)		$	(2	)

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December 31, 2010													Total Assets/(Liabilities) at Fair Value
(In millions)	Level 1				Level 2				Level 3
Assets
Fixed maturity securities:
U.S. Treasury and obligations of government agencies	$	76			$	61			$	—			$	137
Asset-backed:
Residential mortgage-backed	—				5,323				767				6,090
Commercial mortgage-backed	—				920				73				993
Other asset-backed	—				404				359				763
Total asset-backed	—				6,647				1,199				7,846
States, municipalities and political subdivisions	—				7,623				266				7,889
Foreign government	115				505				—				620
Corporate and other bonds	—				20,407				624				21,031
Redeemable preferred stock	3				48				3				54
Total fixed maturity securities	194				35,291				2,092				37,577
Equity securities	288				126				26				440
Derivative and other financial instruments, included in Other invested assets	—				—				27				27
Short term investments	1,214				974				27				2,215
Life settlement contracts, included in Other assets	—				—				129				129
Discontinued operations investments, included in Other liabilities	11				60				—				71
Separate account business	28				381				41				450
Total assets	$	1,735			$	36,832			$	2,342			$	40,909
Liabilities
Derivative financial instruments, included in Other liabilities	$	—			$	—			$	(2	)		$	(2	)
Total liabilities	$	—			$	—			$	(2	)		$	(2	)

 

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The tables below present a reconciliation for all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended March 31, 2011 and 2010.

Level 3 (In millions)	Balance at January 1, 2011				Net realized investment gains (losses) and net change in unrealized appreciation (depreciation) included in net income*				Net change in unrealized appreciation (depreciation) included in other comprehensive income				Purchases				Sales				Settlements				Transfers into Level 3				Transfers out of Level 3				Balance at March 31, 2011				Unrealized gains (losses) on Level 3 assets and liabilities held at March 31, 2011 recognized in net income*
Fixed maturity securities:
Asset-backed:
Residential mortgage-backed	$	767			$	1			$	2			$	47			$	(26	)		$	(22	)		$	—			$	(31	)		$	738			$	—
Commercial mortgage-backed	73				3				16				—				(4		)		—				—				—				88				—
Other asset-backed	359				4				—				200				(87		)		(31		)		—				—				445				—
Total asset-backed	1,199				8				18				247				(117		)		(53		)		—				(31		)		1,271				—
States, municipalities and political subdivisions	266				—				1				—				—				(79		)		—				—				188				—
Corporate and other bonds	624				4				(5		)		42				(20		)		(27		)		9				(50		)		577				—
Redeemable preferred stock	3				3				(3		)		—				(3		)		—				—				—				—				—
Total fixed maturity securities	2,092				15				11				289				(140		)		(159		)		9				(81		)		2,036				—
Equity securities	26				(1		)		(1		)		15				(9		)		—				—				—				30				(3		)
Derivative and other financial instruments, net	25				2				—				—				(19		)		—				—				—				8				1
Short term investments	27				—				—				12				—				(2		)		—				(10		)		27				—
Life settlement contracts	129				3				—				—				—				(5		)		—				—				127				(1		)
Separate account business	41				—				—				—				(2		)		—				—				—				39				—
Total	$	2,340			$	19			$	10			$	316			$	(170	)		$	(166	)		$	9			$	(91	)		$	2,267			$	(3	)

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Level 3 (In millions)	Balance at January 1, 2010				Net realized investment gains (losses) and net change in unrealized appreciation (depreciation) included in net income*				Net change in unrealized appreciation (depreciation) included in other comprehensive income				Purchases, sales, issuances and settlements				Transfers into Level 3				Transfers out of Level 3				Balance at March 31, 2010				Unrealized gains (losses) on Level 3 assets and liabilities held at March 31, 2010 recognized in net income*
Fixed maturity securities:
Asset-backed:
Residential mortgage-backed	$	629			$	(10	)		$	26			$	42			$	—			$	(8	)		$	679			$	(11	)
Commercial mortgage-backed	123				(1		)		(4		)		(5		)		7				(8		)		112				(2		)
Other asset-backed	348				4				21				(5		)		—				—				368				—
Total asset-backed	1,100				(7		)		43				32				7				(16		)		1,159				(13		)
States, municipalities and political subdivisions	756				—				2				(21		)		—				—				737				—
Corporate and other bonds	609				2				29				59				9				(24		)		684				—
Redeemable preferred stock	2				—				2				—				—				—				4				—
Total fixed maturity securities	2,467				(5		)		76				70				16				(40		)		2,584				(13		)
Equity securities	11				—				—				—				2				(5		)		8				—
Derivative financial instruments, net	(11		)		—				—				7				—				—				(4		)		—
Short term investments	—				—				—				—				1				—				1				—
Life settlement contracts	130				10				—				(9		)		—				—				131				3
Discontinued operations investments	16				—				1				(2		)		—				—				15				—
Separate account business	38				—				—				2				—				—				40				—
Total	$	2,651			$	5			$	77			$	68			$	19			$	(45	)		$	2,775			$	(10	)

 

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* Net realized and unrealized gains and losses shown above are reported in Net income (loss) as follows:

Major Category of Assets and Liabilities		Condensed Consolidated Statements of Operations Line Items
Fixed maturity securities available-for-sale		Net realized investment gains (losses)
Fixed maturity securities trading		Net investment income
Equity securities		Net realized investment gains (losses)
Derivative financial instruments held in a trading portfolio		Net investment income
Derivative financial instruments not held in a trading portfolio and fair value option financial instruments		Net realized investment gains (losses)
Life settlement contracts		Other revenues

Securities shown in the Level 3 tables on the previous pages may be transferred in or out of Level 3 based on the availability of observable market information used to verify pricing sources or used in pricing models. The availability of observable market information varies based on market conditions and trading volume and may cause securities to move in and out of Level 3 from reporting period to reporting period. There were no significant transfers between Level 1 and Level 2 during the three months ended March 31, 2011. The Company's policy is to recognize transfers between levels at the beginning of quarterly reporting periods.

The following section describes the valuation methodologies used to measure different financial instruments at fair value, including an indication of the level in the fair value hierarchy in which the instruments are generally classified.

Fixed Maturity Securities

Level 1 securities include highly liquid government bonds and securities issued by foreign governments for which quoted market prices are available. The remaining fixed maturity securities are valued using pricing for similar securities, recently executed transactions, cash flow models with yield curves, broker/dealer quotes and other pricing models utilizing observable inputs. The valuation for most fixed maturity securities is classified as Level 2. Level 2 securities may also include securities that have firm sale commitments and prices that are not recorded until the settlement date. Securities are generally assigned to Level 3 in cases where broker/dealer quotes are significant inputs to the valuation and there is a lack of transparency as to whether these quotes are based on information that is observable in the marketplace. Level 3 securities also include tax-exempt and taxable auction rate certificates. Fair value of auction rate securities is determined utilizing a pricing model with three primary inputs. The interest rate and spread inputs are observable from like instruments while the maturity date assumption is unobservable due to the uncertain nature of the principal prepayments prior to maturity.

Equity Securities

Level 1 securities include publicly traded securities valued using quoted market prices. Level 2 securities are primarily non-redeemable preferred stocks and common stocks valued using pricing for similar securities, recently executed transactions, broker/dealer quotes and other pricing models utilizing observable inputs. Level 3 securities are priced using internal models with inputs that are not market observable.

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Derivative and Other Financial Instruments

Exchange traded derivatives, primarily futures, are valued using quoted market prices and are classified within Level 1 of the fair value hierarchy. Level 2 derivatives primarily include currency forwards valued using observable market forward rates. Over-the-counter derivatives, principally interest rate swaps, total return swaps, credit default swaps, equity warrants and options, are valued using inputs including broker/dealer quotes and are classified within Level 3 of the valuation hierarchy due to a lack of transparency as to whether these quotes are based on information that is observable in the marketplace. Other financial instruments consist of Level 3 securities which contain embedded derivatives for which the fair value option has been elected and are priced using either broker/dealer quotes or internal models with inputs that are not market observable.

Short Term Investments

The valuation of securities that are actively traded or have quoted prices are classified as Level 1. These securities include money market funds and treasury bills. Level 2 primarily includes commercial paper, for which all inputs are observable. Level 3 securities include fixed maturity securities purchased within one year of maturity where broker/dealer quotes are significant inputs to the valuation and there is a lack of transparency to the market inputs used.

Life Settlement Contracts

The fair values of life settlement contracts are determined as the present value of the anticipated death benefits less anticipated premium payments based on contract terms that are distinct for each insured, as well as the Company's own assumptions for mortality, premium expense, and the rate of return that a buyer would require on the contracts, as no comparable market pricing data is available.

Discontinued Operations Investments

Assets relating to the Company's discontinued operations include fixed maturity securities and short term investments. The valuation methodologies for these asset types have been described above.

Separate Account Business

Separate account business includes fixed maturity securities, equities and short term investments. The valuation methodologies for these asset types have been described above.

Financial Assets and Liabilities Not Measured at Fair Value

The carrying amount and estimated fair value of the Company's financial instrument assets and liabilities which are not measured at fair value on the Condensed Consolidated Balance Sheets are listed in the table below.

	March 31, 2011								December 31, 2010
(In millions)	Carrying Amount				Estimated Fair Value				Carrying Amount				Estimated Fair Value
Financial assets
Notes receivable for the issuance of common stock	$	25			$	24			$	26			$	26
Mortgage loans	118				119				87				86
Financial liabilities
Premium deposits and annuity contracts	$	103			$	105			$	104			$	105
Short term debt	—				—				400				411
Long term debt	2,647				2,844				2,251				2,376

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The following methods and assumptions were used to estimate the fair value of these financial assets and liabilities.

The fair values of notes receivable for the issuance of common stock were estimated using discounted cash flows utilizing interest rates currently offered for obligations securitized with similar collateral.

The fair values of mortgage loans were based on the present value of the expected future cash flows discounted at the current interest rate for origination of similar quality loans.

Premium deposits and annuity contracts were valued based on cash surrender values, estimated fair values or policyholder liabilities, net of amounts ceded related to sold business.

The Company's senior notes and debentures were valued based on observable quoted market prices. The fair value for other debt was estimated using discounted cash flows based on current incremental borrowing rates for similar borrowing arrangements.

The carrying amounts reported on the Condensed Consolidated Balance Sheets for Cash, Accrued investment income and certain other assets and other liabilities approximate fair value due to the short term nature of these items. These assets and liabilities are not listed in the table above.

 

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Note F. Claim and Claim Adjustment Expense Reserves

The Company's property and casualty insurance claim and claim adjustment expense reserves represent the estimated amounts necessary to resolve all outstanding claims, including claims that are incurred but not reported (IBNR) as of the reporting date. The Company's reserve projections are based primarily on detailed analysis of the facts in each case, the Company's experience with similar cases and various historical development patterns. Consideration is given to such historical patterns as field reserving trends and claims settlement practices, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and public attitudes. All of these factors can affect the estimation of claim and claim adjustment expense reserves.

Establishing claim and claim adjustment expense reserves, including claim and claim adjustment expense reserves for catastrophic events that have occurred, is an estimation process. Many factors can ultimately affect the final settlement of a claim and, therefore, the necessary reserve. Changes in the law, results of litigation, medical costs, the cost of repair materials and labor rates can all affect ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably estimable than long-tail claims, such as workers' compensation, general liability and professional liability claims. Adjustments to prior year reserve estimates, if necessary, are reflected in the results of operations in the period that the need for such adjustments is determined. There can be no assurance that the Company's ultimate cost for insurance losses will not exceed current estimates.

Catastrophes are an inherent risk of the property and casualty insurance business and have contributed to material period-to-period fluctuations in the Company's results of operations and/or equity. The Company reported catastrophe losses, net of reinsurance, of $55 million and $40 million for the three months ended March 31, 2011 and 2010. Catastrophe losses in the first quarter of 2011 related primarily to the Japanese event and domestic winter storms.

Net Prior Year Development

The following tables and discussion include the net prior year development recorded for CNA Specialty, CNA Commercial and Corporate & Other Non-Core. Unfavorable net prior year development of $7 million was recorded in the Life & Group Non-Core segment for the three months ended March 31, 2011, compared to favorable net prior year development of $9 million for the same period in 2010. The 2010 favorable net prior year development included favorable reserve development of $24 million arising from a commutation of an assumed reinsurance agreement.

Net Prior Year Development
Three months ended March 31, 2011
(In millions)	CNA Specialty				CNA Commercial				Corporate & Other Non-Core				Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(15	)		$	(7	)		$	3			$	(19	)
Pretax (favorable) unfavorable premium development	(7		)		(8		)		(1		)		(16		)
Total pretax (favorable) unfavorable net prior year development	$	(22	)		$	(15	)		$	2			$	(35	)

 

Net Prior Year Development
Three months ended March 31, 2010
(In millions)	CNA Specialty				CNA Commercial				Corporate & Other Non-Core				Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(25	)		$	(28	)		$	2			$	(51	)
Pretax (favorable) unfavorable premium development	(4		)		21				(1		)		16
Total pretax (favorable) unfavorable net prior year development	$	(29	)		$	(7	)		$	1			$	(35	)

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CNA Specialty

The following table provides further detail of the net prior year claim and allocated claim adjustment expense reserve development (development) recorded for the CNA Specialty segment for the three months ended March 31, 2011 and 2010.

Three months ended March 31		2011				2010
(In millions)
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development:
Medical Professional Liability		$	(14	)		$	(4	)
Other Professional Liability		6				(23		)
Surety		—				(2		)
Warranty		(10		)		—
Other		3				4
Total pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development		$	(15	)		$	(25	)

2011

Favorable development for medical professional liability was primarily due to favorable loss emergence in aging services, physicians and excess institutions in accident years 2007 and prior.

Favorable development in warranty was driven by favorable policy year experience on an aggregate stop loss treaty covering the Company's non-insurance warranty subsidiary.

2010

Favorable development was primarily due to favorable incurred loss emergence in several professional liability lines of business primarily in accident years 2007 and prior. This favorability was partially offset by unfavorable development in the employee practices liability line driven by higher unemployment, primarily in accident years 2008 and 2009.

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CNA Commercial

The following table provides further detail of the development recorded for the CNA Commercial segment for the three months ended March 31, 2011 and 2010.

Three months ended March 31		2011				2010
(In millions)
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development:
Commercial Auto		$	10			$	(9	)
General Liability		22				(43		)
Workers Compensation		8				10
Property and Other		(47		)		14
Total pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development		$	(7	)		$	(28	)

2011

Favorable development for property and marine coverages was due to lower than expected frequency in commercial multi-peril coverages primarily in accident year 2010 and a favorable settlement on an individual claim in accident year 2003 in the equipment breakdown book.

The unfavorable development in the general liability coverages is primarily due to two large claim outcomes on umbrella claims in accident year 2001.

2010

Favorable development was recorded in general liability primarily due to favorable emergence in the Company's European casualty programs in accident years 2000 through 2003. Additional favorable development was recorded in commercial multi-peril coverages, primarily in accident year 2009.

Unfavorable development for property and marine coverages was due to non-catastrophe related commercial multi-peril coverages, primarily in accident year 2009. Favorable development was recorded due to favorable experience in non-catastrophe related property coverages in accident years 2007 and prior.

 

 

 

 

 

 

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Note G. Legal Proceedings and Contingent Liabilities

Insurance Brokerage Antitrust Litigation

In August 2005, CNAF and certain insurance subsidiaries were joined as defendants, along with other insurers and brokers, in multidistrict litigation pending in the United States District Court for the District of New Jersey, In re Insurance Brokerage Antitrust Litigation, Civil No. 04-5184 (GEB). The plaintiffs' consolidated class action complaint alleges bid rigging and improprieties in the payment of contingent commissions in connection with the sale of insurance that violated federal and state antitrust laws, the federal Racketeer Influenced and Corrupt Organizations (RICO) Act and state common law. After discovery, the District Court dismissed the federal antitrust claims and the RICO claims, and declined to exercise supplemental jurisdiction over the state law claims. The plaintiffs appealed the dismissal of their complaint to the Third Circuit Court of Appeals. In August 2010, the Court of Appeals affirmed the District Court's dismissal of the antitrust claims and the RICO claims against CNAF and certain insurance subsidiaries, but vacated the dismissal of one portion of those claims against some other parties and remanded them for further proceedings on motions to dismiss. The Court of Appeals also vacated and remanded the dismissal of the state law claims against CNAF and certain insurance subsidiaries and other parties to allow for further proceedings relating to motions to dismiss before the District Court. In November 2010, CNAF and certain insurance subsidiaries filed in the district court a motion to dismiss the remaining state law claims pending against them. In March 2011, CNAF and certain insurance subsidiaries, along with certain other defendants, entered into a memorandum of settlement understanding with the plaintiffs to settle all claims asserted, or which could have been asserted, in the class action lawsuit. The settlement is subject to negotiation of additional terms, execution of a settlement agreement and court approval of the settlement. As currently structured, the settlement will not have a material impact on the Company's results of operations.

Other Litigation

The Company is also a party to routine litigation incidental to its business, which, based on the facts and circumstances currently known, is not material to the business or financial condition of the Company.

 

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Note H. Benefit Plans

The components of net periodic cost (benefit) are presented in the following table.

Net Periodic Cost (Benefit)

Three months ended March 31
(In millions)	2011				2010
Pension cost
Service cost	$	4			$	4
Interest cost on projected benefit obligation	37				38
Expected return on plan assets	(43		)		(41		)
Amortization of net actuarial loss	6				6
Net periodic pension cost	$	4			$	7
Postretirement benefit
Service cost	$	—			$	1
Interest cost on projected benefit obligation	1				2
Amortization of prior service credit	(5		)		(4		)
Amortization of net actuarial loss	1				—
Net periodic postretirement benefit	$	(3	)		$	(1	)

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Note I. Commitments, Contingencies, and Guarantees

Commitments and Contingencies

The Company holds an investment in a real estate joint venture. In the normal course of business, the Company, on a joint and several basis with other unrelated insurance company shareholders, has committed to continue funding the operating deficits of this joint venture. Additionally, the Company and the other unrelated shareholders, on a joint and several basis, have guaranteed an operating lease for an office building, which expires in 2016. The guarantee of the operating lease is a parallel guarantee to the commitment to fund operating deficits; consequently, the separate guarantee to the lessor is not expected to be triggered as long as the joint venture continues to be funded by its shareholders which provide liquidity to make its annual lease payments.

In the event that the other parties to the joint venture are unable to meet their commitments in funding the operations of this joint venture, the Company would be required to assume the obligation for the entire office building operating lease. The Company does not believe it is likely that it will be required to do so.  However, the maximum potential future lease payments and other related costs at March 31, 2011 that the Company could be required to pay under this guarantee were approximately $178 million. If the Company were required to assume the entire lease obligation, the Company would have the right to pursue reimbursement from the other shareholders and the right to all sublease revenues.

The Company has entered into a limited number of contracts with minimum payments, primarily related to outsourced services and software. Estimated future minimum payments under these contracts, which amounted to approximately $25 million at March 31, 2011, were $24 million in 2011 and $1 million in 2012.

Guarantees

In the course of selling business entities and assets to third parties, the Company has agreed to indemnify purchasers for losses arising out of breaches of representation and warranties with respect to the business entities or assets being sold, including, in certain cases, losses arising from undisclosed liabilities or certain named litigation. Such indemnification provisions generally survive for periods ranging from nine months following the applicable closing date to the expiration of the relevant statutes of limitation. As of March 31, 2011, the aggregate amount of quantifiable indemnification agreements in effect for sales of business entities, assets and third party loans was $719 million.

In addition, the Company has agreed to provide indemnification to third party purchasers for certain losses associated with sold business entities or assets that are not limited by a contractual monetary amount. As of March 31, 2011, the Company had outstanding unlimited indemnifications in connection with the sales of certain of its business entities or assets that included tax liabilities arising prior to a purchaser's ownership of an entity or asset, defects in title at the time of sale, employee claims arising prior to closing and in some cases losses arising from certain litigation and undisclosed liabilities. These indemnification agreements survive until the applicable statutes of limitation expire, or until the agreed upon contract terms expire.

As of March 31, 2011 and December 31, 2010, the Company had recorded liabilities of approximately $16 million related to indemnification agreements and management believes that it is not likely that any future indemnity claims will be significantly greater than the amounts recorded.

 

 

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Note J. Business Segments

 

The Company's core property and casualty commercial insurance operations are reported in two business segments: CNA Specialty and CNA Commercial. The Company's non-core operations are managed in two segments: Life & Group Non-Core and Corporate & Other Non-Core.

The accounting policies of the segments are the same as those described in Note A of the Consolidated Financial Statements within CNAF's Annual Report on Form 10-K for the year ended December 31, 2010. The Company manages most of its assets on a legal entity basis, while segment operations are conducted across legal entities. As such, only insurance and reinsurance receivables, insurance reserves and deferred acquisition costs are readily identifiable by individual segment. Distinct investment portfolios are not maintained for each segment; accordingly, allocation of assets to each segment is not performed. Therefore, net investment income and realized investment gains or losses are allocated primarily based on each segment's net carried insurance reserves, as adjusted. All significant intrasegment income and expense has been eliminated. Income taxes have been allocated on the basis of the taxable income of the segments.

In the following tables, certain financial measures are presented to provide information used by management to monitor the Company's operating performance. Management utilizes these financial measures to monitor the Company's insurance operations and investment portfolio. Net operating income, which is derived from certain income statement amounts, is used by management to monitor performance of the Company's insurance operations. The Company's investment portfolio is monitored by management through analysis of various factors including unrealized gains and losses on securities, portfolio duration and exposure to interest rate, market and credit risk. Based on such analyses, the Company may recognize an OTTI loss on an investment security in accordance with its policy, or sell a security, which may produce realized gains and losses.

Net operating income (loss) is calculated by excluding from net income (loss) attributable to CNA the after-tax effects of 1) net realized investment gains or losses, 2) income or loss from discontinued operations and 3) any cumulative effects of changes in accounting guidance. The calculation of net operating income excludes net realized investment gains or losses because net realized investment gains or losses are largely discretionary, except for losses related to OTTI, and are generally driven by economic factors that are not necessarily consistent with key drivers of underwriting performance, and are therefore not considered an indication of trends in insurance operations.

The significant components of the Company's continuing operations and selected balance sheet items are presented in the following tables.

 

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Three months ended
March 31, 2011	CNA Specialty				CNA Commercial				Life & Group Non-Core				Corporate & Other Non-Core
(In millions)																	Eliminations				Total
Operating revenues
Net earned premiums	$	669			$	802			$	144			$	1			$	(1	)		$	1,615
Net investment income	160				261				188				11				—				620
Other revenues	54				14				(2		)		1				—				67
Total operating revenues	883				1,077				330				13				(1		)		2,302
Claims, Benefits and Expenses
Net incurred claims and benefits	430				603				323				7				—				1,363
Policyholders’ dividends	—				—				1				—				—				1
Amortization of deferred acquisition costs	161				178				6				—				—				345
Other insurance related expenses	44				83				38				1				(1		)		165
Other expenses	40				16				6				44				—				106
Total claims, benefits and expenses	675				880				374				52				(1		)		1,980
Operating income (loss) from continuing operations before income tax	208				197				(44		)		(39		)		—				322
Income tax (expense) benefit on operating income (loss)	(70		)		(66		)		26				12				—				(98		)
Net operating (income) loss, after-tax, attributable to noncontrolling interests	(8		)		—				—				—				—				(8		)
Net operating income (loss) from continuing operations attributable to CNA	130				131				(18		)		(27		)		—				216
Net realized investment gains (losses), net of participating policyholders’ interests	8				17				(4		)		(8		)		—				13
Income tax (expense) benefit on net realized investment gains (losses)	(3		)		(6		)		1				4				—				(4		)
Net realized investment (gains) losses, after-tax, attributable to noncontrolling interests	—				(1		)		—				—				—				(1		)
Net realized investment gains (losses) attributable to CNA	5				10				(3		)		(4		)		—				8
Net income (loss) from continuing operations attributable to CNA	$	135			$	141			$	(21	)		$	(31	)		$	—			$	224

March 31, 2011
(In millions)
Reinsurance receivables	$	920			$	1,941			$	1,487			$	2,733			$	—			$	7,081
Insurance receivables	$	589			$	1,163			$	11			$	1			$	—			$	1,764
Deferred acquisition costs	$	344			$	325			$	429			$	—			$	—			$	1,098
Insurance reserves
Claim and claim adjustment expenses	$	6,888			$	12,383			$	2,757			$	3,324			$	—			$	25,352
Unearned premiums	1,625				1,547				150				1				(2		)		3,321
Future policy benefits</