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Power Of Portfolio

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    Power Of Portfolio Power Of Portfolio Document Transcript

    • the Power of the Portfolio
    • An essential ingredient in maintaining Northwestern Mutual’s financial strength and ability to deliver value to policyowners is the performance of the company’s general account investment portfolio, which at year-end 2009 included about $132 billion of managed assets backing the company’s insurance products. The investment earnings generated by this portfolio produce capital that helps build the company’s strong financial base. They are also the primary determinant of the dividend scale interest rate applied to traditional permanent life insurance policies. In 2010, Northwestern Mutual expects to pay more than $4.7 billion in dividends, mostly on traditional life insurance policies, fueled in part by the company’s highly competitive 6.15 percent dividend scale interest rate. In 2009, the company’s total surplus grew by more than $800 million over the prior year to more than $14.2 billion. All of these results that drive the company’s financial strength and life insurance cash values are possible in part because of the power of the company’s general account investment portfolio. Read on for more information about the investment strategies Northwestern Mutual follows, how it is able to invest in ways that some other companies cannot and how the company’s team of investment professionals has proven its ability to consistently beat competitive investment performance benchmarks.
    • Long-term Disciplined Investment Strategy Northwestern Mutual’s investment objective is to than investment-grade fixed income securities, generate superior returns under a variety of economic providing a distinct advantage to Northwestern conditions, while maintaining a well-balanced and Mutual policyowners. diversified portfolio to preserve the company’s exceptional financial strength. This time-tested Consistent with the company’s investment policy, strategy fundamentally supports Northwestern Northwestern Mutual may also enter into Mutual’s ability to deliver lifelong financial security transactions that are designed to manage the to its policyowners and clients. company’s exposure to fluctuations in interest rates, foreign currency exchange rates and market Northwestern Investment Management Company, volatility. These strategies include the use of forwards, LLC and Mason Street Advisors, LLC, both wholly futures, options and swaps. In implementing these owned subsidiaries of Northwestern Mutual, strategies, the company closely manages and invest the company’s managed assets in accordance monitors counterparty risk, utilizing minimum with the company’s investment policy. Consistent with ratings requirements, maximum exposure limits this policy, the company invests approximately and collateral agreements, which require the 80 percent of managed assets in investment- counterparty to post collateral should the market grade bonds and other fixed income instruments, value exceed established thresholds. and the remaining 20 percent in equities and high- yield bonds. Ultimately, the combination of asset diversification, active portfolio management and a long-term Fixed income investments represent the core perspective supports outstanding product value of Northwestern Mutual’s investment portfolio, providing a stable foundation for the overall and enhances the company’s financial strength. Northwestern Mutual’s prudent investment strategy | 1 portfolio, while generating current income. and unique business model have contributed to Northwestern Mutual’s portfolio of fixed income more than 150 years of strength and stability. n investments is largely highly rated and is well diversified within and among fixed income sectors to minimize risk. Northwestern Mutual’s equity investments Investment Principles include private equities, real estate and public • Maintain a balance between high-quality fixed common stock. Typically, such diversification income investments and higher-risk assets. across different types of equities enables the company to offset weakness in any one area with • Diversify among and within asset classes and attractive performance in another. Furthermore, specific investments. similar to fixed income, equity investments are • Participate in all major asset classes and highly diversified across countries, industries, market sectors. company sizes and other parameters. • Manage risk across the entire investment Northwestern Mutual’s significant allocation portfolio and preserve capital to assure to equities and high-yield bonds – investments financial strength. with a higher risk level and corresponding higher • Seek opportunity in investment activity. return potential – relative to fellow insurers is • Manage portfolios to maximize total returns. a distinguishing component of the company’s investment portfolio. Over the long term, these investments have generated higher returns
    • Northwestern Mutual’s Advantage Northwestern Mutual’s great financial strength allows The company benefits from a longer-term liability the company to invest its general account portfolio structure than most other companies in the industry, in a steady and consistent manner. It provides the which also allows it to invest with a longer investment confidence to endure the ups and downs of the horizon. The product mix supported by the investment investment markets that often produce favorable portfolio (illustrated below) is composed mostly returns. Financial strength results from the of traditional participating life insurance, which is company’s core strategic attributes, including its considered one of the most stable financial products. mutual company structure, excellent persistency Owners of participating life insurance policies tend to and mortality, conservative expense management hold those policies for the long term, thus assuring that and significant capitalization. the assets backing those policies can be put to work regardless of short-term market conditions. One measure of financial strength is the company’s total surplus level, which provides a cushion against Investment Portfolio Product Mix the volatility of higher risk assets (that come with Investment Portfolio Product Mix commensurately higher rewards), while maintaining 2009 Year-End the overall strength of the company. Northwestern Percentage of assets attributable to specific products Mutual’s total surplus, composed of surplus and asset Life Insurance 89% valuation reserve (AVR), remains sound compared to its historical levels (as illustrated in the chart below). Annuities 6% Surplus provides the company and its policyowners Disability and Long-Term Care Insurance 5% | with protection against the unexpected, while 5% 2 AVR supports a long-term investment strategy by 6% cushioning surplus against market volatility. 89% Surplus Ratio Surplus and asset valuation reserve (AVR) as a percentage of general account insurance reserves (consolidated statutory basis) 15% 12% 1.48% 9.96% 9% 6% 3% AVR Surplus 0% 1970 1975 1980 1985 1990 1995 2000 2005 2009 2
    • This contrasts to some companies who must deal with the uncertainty of products that produce less predictable incoming and outgoing cash flows. Financial strength. Stable products. In addition, policyowners who remain with Northwestern Mutual for many years, as a group, tend to live longer lives and pay premiums more consistently. This combination of factors provides the company with consistent and dependable cash flow for new investment activities, while allowing the patience needed for investments to grow. It also allows Northwestern Mutual to invest in more asset classes than its competitors. And it gives the latitude to invest in generally higher-yielding asset classes, such as private investments, while focusing the investment strategy and objectives on the long-term best interests of policyowners and clients. n Balance and Diversification Northwestern Mutual’s optimum portfolio balance mortgage loans. The equity portfolio includes relies largely on a portfolio of investment-grade commercial real estate and public and private fixed income assets, with the balance made up common stock. Northwestern Mutual achieves even of equities and high-yield and mezzanine debt. greater diversification by selecting a large number of This balanced strategy is expected to provide above- investments within each asset class. In other words, average returns through a variety of business cycles we don’t “bet the ranch” on any one investment. and economic conditions. Company investment managers also participate in all major asset classes and market sectors because In addition to maintaining a balanced portfolio, history has proven that no single asset class is always the company diversifies by investing in a variety of asset classes. The fixed income portfolio primarily includes public and private bonds and commercial the highest-performing. As shown in the graph below, the performance of asset classes varies from | 3 year to year. n Northwestern Mutual Asset Class Northwestern Mutual Asset Class Performance Rank Performance Rank One-year total returns One-Year Total Returns 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Highest- Performing R.E. Private Fixed R.E. Public Private Private Private Private Private Fixed Public Fixed Private Fixed Convertibles Equities Income Mortgages Equities Equities Equities Equities Equities Income Income Class R.E. R.E. Public Fixed Public High Private R.E. Private Private Private Fixed Private Mortgages Mortgages Income Yield Mezzanine Equities Mezzanine Mezzanine Income Mezzanine Public Fixed Public Fixed Private Fixed R.E. Private R.E. Public R.E. Public High Convertibles Income Income Income Equities Mezzanine Equities Equities Equities Yield Private Fixed R.E. R.E. Private Public Public Public R.E. Private Public Income Equities Equities Mezzanine Equities Equities Equities Equities Equities Equities Public Private Private Public High R.E. Private Fixed Convertibles Convertibles Convertibles Convertibles Equities Mezzanine Equities Yield Mortgages Income Private Public High R.E. Public High Public High Public Fixed Public High R.E. Convertibles Convertibles Equities Yield Equities Yield Yield Income Yield Mortgages Public High Private Public High Private Fixed Private Fixed Private Fixed R.E. Private Fixed Private Public Fixed Yield Mezzanine Yield Income Income Income Mortgages Income Mezzanine Income Private Private Private R.E. R.E. Public Fixed Private Fixed R.E. Private Convertibles Mezzanine Equities Equities Mortgages Mortgages Income Income Mortgages Equities Lowest- Public Public Public Fixed Public Fixed R.E. Public Fixed Public High Public R.E. Performing Convertibles Equities Equities Income Income Mortgages Income Yield Equities Equities Class
    • Opportunistic and Flexible In 2009, Northwestern Mutual invested more example, in 2009 most new purchases of fixed than $15.7 billion in new investments, following income instruments were directed to high-quality a “flexible allocation” policy, which allows the public bonds, with a focus on corporate issues and company to allocate money to areas that offer U. S. agency residential mortgage-backed securities, the greatest value at the time. As the relative both of which offered relatively attractive yields in attractiveness and volatility of different assets an environment of continued low interest rates. n changes, so does the allocation strategy. For Investment Portfolio Breakdown Fixed Income Northwestern Mutual’s investments in private bonds Northwestern Mutual’s fixed income investments and preferred stock provide further diversification serve as the foundation of the overall investment to the company’s overall portfolio and often benefit portfolio. Fixed income assets include money market from higher yields and more attractive terms relative investments, public bonds and preferred stock, to public bonds. private bonds and preferred stock, and commercial Northwestern Mutual concentrates its mortgage mortgage loans. The fixed income portfolio is lending in commercial mortgage loans on fixed- designed to provide liquidity and current income, rate permanent loans greater than $15 million, | while minimizing loss of principal. secured by income-producing property. The company 4 This well-diversified portfolio is generally invested invests primarily in apartments, office buildings, in investment-grade assets. shopping centers and industrial warehouses throughout the nation. These transactions offer The company’s investments in fixed income more control over both property quality and choice instruments are actively managed to maximize of borrowers than publicly traded commercial returns, while preserving a high level of safety, mortgage-backed securities. This portfolio has liquidity and diversification. To manage portfolio historically produced attractive yields and low risk, investments are broadly diversified by delinquency and loss percentages. security type. Fixed Income Portfolio Composition 2009 Year-End Total fixed income investments: Corporate Bonds 49% 2%3% 3% $116.3 billion (statement value) 3% Mortgage Loans 17% Residential Mortgage-Backed** 16% 7% US Government/Agency Bonds 7% Commercial Mortgage-Backed 3% 16% 49% Asset-Backed 3% Money Market 2% Other* 3% 17% * Includes U.S. Agency PTCs & CMOs ** Includes municipals
    • Equities Real Estate Equities Equity investments are a distinguishing element of Commercial real estate equity investments at year- the company’s investment portfolio. Northwestern end 2009 totaled $5.3 billion, or 4 percent of total Mutual’s equity portfolio is broadly diversified managed assets. The real estate equity portfolio across private equities, real estate and public consists primarily of apartment, warehouse and common stock. At year-end 2009, this portfolio office properties held through both direct and represented 12 percent of total managed assets. joint venture ownership. Through partnerships with developers nationwide, Northwestern Mutual Over time, the company expects equities to develops apartment communities and warehouse contribute higher returns and provide incremental properties and also purchases properties directly. diversification to the overall portfolio. The Asset managers, operating out of regional real company’s significant allocation to equities has estate field offices, monitor local markets and enhanced Northwestern Mutual’s dividend scale actively manage the investment properties, creating and financial strength. additional value. Private Equities Public Common Stock Private equity investments at year-end 2009 At year-end 2009, the public common stock totaled $6.5 billion, or 5 percent of total managed portfolio totaled $3.5 billion, or 3 percent of total assets. The private equity portfolio includes direct managed assets. The public equity portfolio includes mezzanine and equity investments in buyouts investments in domestic large-, medium- and small- of companies, limited partnerships, and direct capitalization companies, as well as in foreign investments in selected other companies and companies. Risk is well diversified by company size, subsidiaries. Northwestern Mutual’s private equity industry and country. investments offer an additional potential source of attractive returns, primarily in the form of capital gains. Additionally, these assets have generally | 5 exhibited lower volatility than their public market Over time, the company expects equities to counterparts and provide diversification benefits. contribute higher returns and provide incremental Northwestern Mutual’s long-term investment diversification to the overall portfolio. The horizon allows the company to hold significant company’s significant allocation to equities investments in this asset class. has enhanced Northwestern Mutual’s dividend scale history and financial strength. Investment Portfolio Product Mix Equity Portfolio Composition 2009 Year-End Private Equities 43% Total equity investments: $15.3 billion (statement value) Real Estate 34% 23% Public Common Stock 23% 43% 34%
    • Colors on all charts should follow Quality of Fixed Income Portfolio this sequence from the highest number to lowest percentages/values – PMS 293 blue, PMS 7449 purple, PMS 145 orange, Green, Gray, light blue, light green. Quality of Public and Private Bond Ninety percent of the company’s portfolio of and Preferred Stock Investments public and private bonds and preferred stock was 2009 Year-End rated investment grade (BBB or greater), and 36 percent held the highest-quality rating of AAA. Investment Grade AAA 36% 3% 3% 4% Credit quality is defined as the ability of the AA 9% issuer to pay interest and principal on a timely A 17% 36% basis. These ratings are based on the higher of the credit ratings from Standard & Poor’s, Moody’s BBB 28% 28% Investors Service or Fitch Ratings when available, Below Investment Grade or internal rating evaluations when third-party BB 4% ratings are not available. n 9% B 3% 17% CCC & Below 3% Investment Portfolio Performance Northwestern Mutual’s portfolio strategy is to Given the characteristics of different types of hold a higher percentage than most other investments and how they perform relative to one insurance companies of equities and high-yield another (covariance), modern portfolio theory says 6 | bonds – investments with a higher risk level and corresponding higher return potential – in a well-diversified, actively managed portfolio. public, private and real estate equities can be mixed with a bond portfolio and, in the process, reduce risk while adding return. Northwestern Mutual not This strategy has proven to reduce overall portfolio only believes this in theory, it has proven it volatility, while increasing returns over time. in practice. That may sound counterintuitive, but the reason During the 20-year period ending in 2009, it works can be explained by modern portfolio the investment return to policyowners in the theory, which includes a concept known as the form of the dividend scale interest rate was higher efficient frontier. If your portfolio consisted of than it would have been if the portfolio had 100 percent common stocks, you would expect been 100 percent invested in bonds, as shown in high returns, but with high risk or high volatility the “Risk vs. Reward” graph on the next page. of return. This portfolio would be far too risky Just as important, this additional return was earned for Northwestern Mutual policyowners and, with lower volatility than if the assets had been probably, for most other people. 100 percent invested in stocks. At the other end of the spectrum is a portfolio 100 percent composed of bonds. Obviously, the risk in this portfolio would be much less than that of an all-stock portfolio, but could not be expected to generate the same high returns.
    • Risk vs. Reward 1990-2009 Hypothetical Portfolio Northwestern Mutual 80% Bonds Dividend Scale 12% Stock Interest Rate* 8% Real Estate 10% “T E F ” Rate of Return (Reward) 8% 100% Stocks 6% 100% 100% Bonds Real Estate 4% T-Bills In ation 2% 0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% Standard Deviation (Risk) Source: The performance data above is based on the following investment indices: BarCap US Agg Bond TR USD, S&P 500 TR, NCREIF Property and Ibbotson US 30 Day T-Bill TR. All points in graphic assume no taxes or transaction costs. * Rate for unborrowed funds after charges (see description on back cover). Investment Performance Summary Total rates of return through 2009 year-end | 7 8% 7.1% 6.2% 6% 5.1% 4.4% 4% 2% Northwestern Mutual Return Corporate Benchmark* 0% 5-Year Total Return 10-Year Total Return * Individual benchmarks are selected for each fixed income and equity class, based on common and custom indicies having similar investment profiles, objectives and timing factors. These individual benchmarks are then blended to arrive at the aggregate benchmarks displayed above. Because Northwestern Mutual invests a greater But Northwestern Mutual offers an additional portion of its portfolio in assets with a higher risk advantage: expert investment management. level and corresponding higher return potential, Over the past five and ten year periods, the portfolio enjoys an investment return greater the actual total rates of return for the general than if invested completely in investment-grade fixed account investment portfolio have exceeded income instruments (see “Risk vs. Reward” at the the competitive benchmarks. For policyowners, top of the page). the performance of the portfolio is the primary factor that determines the company dividend scale interest rate. n
    • Portfolio Performance and Northwestern Mutual’s Dividend Scale Interest Rate How can Northwestern Mutual achieve a dividend • Second, Northwestern Mutual’s investment scale interest rate applied to life insurance cash strategy is to actively manage a well-diversified values that currently exceeds the yield available portfolio with a long-term investment horizon, through most government-backed securities? as explained earlier in this piece. The company’s ability to generate competitive total returns, Two key factors explain how the company can including both current income and capital support a competitive dividend scale interest rate in appreciation, while preserving the company’s a variety of different financial environments. exceptional financial strength determines future dividend scale interest rates. • First, the dividend scale interest rate is a portfolio rate, based on the total yield of all It is, of course, impossible to know what the applicable investments. The portfolio includes dividend scale interest rate will be in the future. older fixed income investments made at higher The graph below provides a historical view of how rates and newer fixed income investments made Northwestern Mutual’s dividend scale interest rate at the current lower rates. Thus, the collective compares to rates on U.S. government securities. performance of the portfolio will differ from Note that the portfolio dividend scale interest rate prevailing new investment rates. This approach tends to follow the general trend of new money for determining an interest rate is called the rates, but lags and is less volatile. In other words, portfolio method. it is generally lower than the new money rate when 8 | new money rates are rising and higher than the new money rates when new money rates are falling. n Long-Term Government Bond Yields Compared to Northwestern Mutual’s Dividend Scale Interest Rate Source: Bloomberg 30-Year Treasury Bonds 16 Northwestern Mutual Dividend Scale Interest Rate 16 14 Long-Term Government Bond Yields 14 12 12 10 10 8 8 6 6 4 4 2 2 0 0 1928 1933 1938 1943 1948 1953 1958 1963 1968 1973 1978 1983 1988 1993 1998 2003 2009
    • How Is the Dividend Scale Interest Rate Determined? Northwestern Mutual’s dividend scale interest rate higher dividend rates to its new customers than is based on the actual investment performance of the it could under the portfolio method. But there’s a applicable assets in the investment portfolio. This catch; since there is only so much total investment performance is referred to as the portfolio earned income regardless of how it is distributed, paying rate. A portfolio earned rate reflects a company’s more to new policyowners means paying less to overall rate of return on its assets, regardless of older policyowners. Northwestern Mutual believes when the assets were acquired, so the portfolio that the portfolio method of crediting interest is approach is quite simple: determine the ratio of currently the best approach for its regular, fixed- total investment earnings (interest, dividends, rents, premium life insurance policies. These policies capital gains and so on) to invested assets (bonds, have premiums that are paid over a long period, stocks, mortgages and other investments). The result during both rising and falling interest rate cycles. is one interest rate – even though the assets consist The portfolio method of crediting interest protects of many different investments made at different policyowners by smoothing the effects of large times, each earning a different rate of return. swings in current interest rates. To arrive at the dividend scale interest rate, a deduction is made from the portfolio earned rate, to cover certain items such as investment expenses, It is important to note that the dividend scale taxes and a contribution to surplus. The dividend interest rate, which reflects the performance of scale interest rate is credited to all applicable life policies even though premiums were paid at the company’s investments, is just one element that determines the actual dollar amount of | 9 different times and were invested at different dividends. The other important factors include interest rates. mortality charges (representing the cost of death benefits paid to survivors) and expense charges. Northwestern Mutual has always used the portfolio In fact, about 60 percent of the expected 2010 method of crediting interest in determining life insurance policy dividends. Most other major life payout is attributable to favorable expense and insurers have historically followed the portfolio claims experience. It is also important to note method, until interest rates began to climb in the that Northwestern Mutual’s goal is to pay the late 1970s. That’s when “new money” methods were highest possible policyowner dividends consistent adopted by some – with the rationale that newer with maintaining a strong financial position. Since policyowners should benefit from the higher interest Northwestern Mutual is a mutual company, it rates available when their premiums were paid, has no stockholders and, thus, no dividends to while older policyowners should be credited at the be paid to stockholders. All the money earned lower rates existing when their premiums were paid. over and above what is needed to pay benefits to The “new money” method of crediting interest, policyowners, to run the operation and to keep the in contrast to the portfolio method, has a lot of company on a solid financial footing, is returned to glamour when interest rates are rising. In a rising policyowners as dividends. interest rate environment, a company could pay
    • This material describes the investment strategy for the managed assets in Northwestern Mutual’s general account and the investment performance of these assets. The company’s dividend scale interest rate for unborrowed funds reflects the investment performance of the managed assets net of taxes and any contribution to surplus. This rate is used for crediting interest on policy values after deducting mortality and expense charges. Because of the mortality and expense charges, the dividend scale interest rate should not be used as a measure of the policy’s internal rate of return. The dividend scale and the underlying interest rates are reviewed annually and are subject to change. Future dividends are not guaranteed, although Northwestern Mutual has paid a dividend every year since 1872. Decisions with respect to the amount and appropriate allocation of divisible surplus for participating policies of Northwestern Mutual are left to the discretion and business judgment of the Board of Trustees. There is no guaranteed approach or formula for determining the amount of divisible surplus or the manner in which it is allocated as dividends. Further, there is no guarantee that any dividend will be paid on an individual policy in any given year. Therefore, the approach described in this brochure for determining dividends, the dividend scale interest rate and other dividend factors are subject to change without notice. The dividend scale interest rate for a particular policy is the interest rate used for crediting interest on policy values after deducting mortality and expense charges. It reflects investment performance of both managed assets and policy loans. Depending on the type of policy, either individual policy loan activity or average loan activity of all policies in the dividend class is reflected. The Northwestern Mutual Life Insurance Company’s operational results, investment holdings and financial position for the year ending 12/31/2009 are reported in the company’s Consolidated Financial Statement (CFS). PricewaterhouseCoopers LLP is the company’s independent auditor. A copy of Northwestern Mutual’s CFS is available online at www.northwesternmutual.com | About Northwestern Mutual | Financial Information and Reports, or by written request to: Northwestern Mutual, Corporate and Executive Communications, N04, 720 E. Wisconsin Avenue, Milwaukee, WI 53202. The Northwestern Mutual Life Insurance Company • Milwaukee, WI www.northwesternmutual.com 29-4692 (0502) (REV 0810)