 |
 |
 |
|||
 |
|||||
|
|
|||||
|
|
 |
|
|
||
 |
 |
 |
 |
||
 |
 |
 |
|||
|
|
|
 |
 |
 |
|
|
|
|||||
The Progressive Corporation and Subsidiaries
Quantitative Market Risk Disclosures
(unaudited)
Quantitative market risk disclosures are only presented for market risk categories when risk is considered material. Materiality is determined based on the fair value of the financial instruments at December 31, 2005, and the potential for near-term losses from reasonably possible near-term changes in market rates or prices.
Other Than Trading Financial Instruments
Financial instruments subject to interest rate risk were:
| Market Value | ||||||||||
| (millions) | -200 bps Change |
-100 bps Change |
Market Value Actual |
+100 bps Change |
+200 bps Change |
|||||
|---|---|---|---|---|---|---|---|---|---|---|
| U.S. government obligations | $ | 2,473.2 | $ | 2,356.9 | $ | 2,245.3 | $ | 2,140.5 | $ | 2,043.7 |
| State and local government obligations | 3,936.6 | 3,781.3 | 3,635.9 | 3,499.1 | 3,370.5 | |||||
| Asset-backed securities | 2,471.5 | 2,423.9 | 2,376.0 | 2,327.0 | 2,277.7 | |||||
| Corporate securities | 1,918.1 | 1,862.3 | 1,809.5 | 1,759.4 | 1,711.6 | |||||
| Preferred stocks | 1,272.6 | 1,247.1 | 1,220.3 | 1,199.1 | 1,180.7 | |||||
| Other debt securities1 | 162.7 | 158.9 | 155.2 | 151.6 | 148.2 | |||||
| Short-term investments | 773.6 | 773.6 | 773.6 | 773.6 | 773.6 | |||||
| Balance as of December 31, 2005 | $ | 13,008.3 | $ | 12,604.0 | $ | 12,215.8 | $ | 11,850.3 | $ | 11,506.0 |
| Balance as of December 31, 2004 | $ | 11,941.0 | $ | 11,583.6 | $ | 11,230.1 | $ | 10,885.7 | $ | 10,557.2 |
1) Includes $121.8 million in mandatory redeemable preferred stocks.
Exposure to risk is represented in terms of changes in fair value due to selected hypothetical movements in market rates. Bonds and preferred stocks are individually priced to yield to the worst case scenario. State and local government obligations, including lease deals and super sinkers, are assumed to hold their prepayment patterns. Asset-backed securities are priced assuming deal specific prepayment scenarios, considering the deal structure, prepayment penalties, yield maintenance agreements and the underlying collateral. Over 95% of the preferred stocks have mechanisms that are expected to provide an opportunity to liquidate at par.
Financial instruments subject to equity market risk were:
| Hypothetical Market Changes | ||||||
| (millions) | Market Value |
+10% | -10% | |||
|---|---|---|---|---|---|---|
| Common equities as of December 31, 2005 | $ | 2,058.9 | $ | 2,264.8 | $ | 1,853.0 |
| Common equities as of December 31, 2004 | $ | 1,851.9 | $ | 2,037.1 | $ | 1,666.7 |
The model represents the estimated value of the Company’s common equity portfolio given a +/- 10% change in the market, based on the common stock portfolio’s weighted average beta of 1.0. The beta is derived from recent historical experience, using the S&P 500 as the market surrogate. The historical relationship of the common stock portfolio’s beta to the S&P 500 is not necessarily indicative of future correlation, as individual company or industry factors may affect price movement. Betas are not available for all securities. In such cases, the change in market value reflects a direct +/- 10% change; the number of securities without betas is approximately 1%, and the remaining 99% of the equity portfolio is indexed to the Russell 1000.
As an additional supplement to the sensitivity analysis, the Company presents results from a value-at-risk (VaR) analysis used to estimate and quantify its market risks. VaR is the expected loss, for a given confidence level, of the Company’s portfolio due to adverse market movements in an ordinary market environment. The VaR estimates below are used as a risk measurement and reflect an estimate of potential reductions in fair value of the Company’s portfolio for the following 22 and 66 trading days (one- and three-month intervals) at the 95th percentile loss. The Company uses the 22-day VaR to measure exposure to short-term volatility and the 66-day VaR for longer-term contingency capital planning.
| (millions) | December 31, 2005 |
September 30, 2005 |
June 30, 2005 |
March 31, 2005 |
December 31, 2004 |
|||||
|---|---|---|---|---|---|---|---|---|---|---|
22-day VaR |
||||||||||
| Fixed-income portfolio | $ | (106.0) | $ | (105.4) | $ | (95.1) | $ | (114.9) | $ | (103.1) |
| % of portfolio | (.9)% | (.8)% | (.8)% | (1.0)% | (.9)% | |||||
| Common equity portfolio | $ | (84.6) | $ | (81.5) | $ | (86.5) | $ | (85.8) | $ | (75.6) |
| % of portfolio | (4.1)% | (4.0)% | (4.5)% | (4.5)% | (4.1)% | |||||
| Total portfolio | $ | (137.4) | $ | (123.3) | $ | (123.4) | $ | (163.3) | $ | (128.6) |
| % of portfolio | (1.0)% | (.8)% | (.9)% | (1.2)% | (1.0)% | |||||
66-day VaR |
||||||||||
| Fixed-income portfolio | $ | (181.9) | $ | (180.5) | $ | (164.9) | $ | (198.0) | $ | (180.1) |
| % of portfolio | (1.5)% | (1.5)% | (1.4)% | (1.7)% | (1.6)% | |||||
| Common equity portfolio | $ | (140.7) | $ | (135.5) | $ | (143.7) | $ | (142.0) | $ | (130.2) |
| % of portfolio | (6.8)% | (6.7)% | (7.4)% | (7.5)% | (7.0)% | |||||
| Total portfolio | $ | (230.9) | $ | (206.8) | $ | (208.8) | $ | (276.1) | $ | (222.1) |
| % of portfolio | (1.6)% | (1.4)% | (1.5)% | (2.1)% | (1.7)% | |||||
The Company’s VaR results are based on a stochastic simulation where all securities are marked to market under 10,000 scenarios. Fixed-income securities are priced off simulated term structures and risk is calculated based on the volatilities and correlations of the points on those curves. Equities are priced off each security’s individual pricing history. The model uses an exponentially weighted moving average methodology to forecast variances and covariance over a two-year time horizon for each security. In estimating the parameters of the forecast model, the sample mean is set to zero and the weight applied in the exponential moving average forecasts are set at .97, making the model more sensitive to recent volatility and correlations. In March 2005, the Company changed the model’s exponential moving average from .94 to .97, which has the effect of reducing the rate of decay. Results for December 31, 2004 are based on a decay of .97. The VaR of the total investment portfolio is less than the sum of the two components (fixed income and common equity) due to the benefit of diversification.
The slight decrease in the 22-day and 66-day VaR from December 31, 2004 to December 31, 2005, primarily results from lower volatility in both the fixed-income and equity markets in 2005.
Trading Financial Instruments At December 31, 2005 and December 31, 2004, the Company did not have any trading securities. During 2005, 2004 and 2003, net activity of trading securities was not material to the Company’s financial position, cash flows or results of operations. The Company realized net gains on trading securities of $0, $0 and $.1 million in 2005, 2004 and 2003, respectively.
CONTINUE TO Claims Payment Patterns
