Ladies and gentlemen, thank you for standing by. Welcome to the MetLife fourth quarter earnings release conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. Should you require assistance during the call, please press star then zero. As a reminder, this conference is being recorded. Before we get started, I would like to read the following statement on behalf of MetLife. Except with respect of historical information, statements made in this conference call constitute forward-looking statements within the meaning of the federal securities laws, including statements relating to trends in the company's operations and financial results, and the business and the products of the companies and its subsidiaries.
MetLife's actual results may differ materially from the results anticipated in the forward-looking statements as a result of risks and uncertainties, including those described from time to time in MetLife, Inc.'s filings with the U.S. Securities and Exchange Commission. MetLife, Inc. specifically disclaims any obligation to update or revise any forward-looking statement, whether as a result of new information, future developments, or otherwise. With that, I'd like to turn the call over to Conor Murphy, Head of Investor Relations.
Thank you, Roxanne. Good morning, everyone, welcome to MetLife's fourth quarter 2010 earnings call. We are delighted to be here this morning to talk about our results for the quarter. We will be discussing certain financial measures not based on generally accepted accounting principles, so-called non-GAAP measures. We have reconciled these non-GAAP measures to the most directly comparable GAAP measures in our earnings press release and in our quarterly financial supplements, both of which are available at metlife.com. A reconciliation of forward-looking financial information to the most directly comparable GAAP measure is not accessible because MetLife believes it is not possible to provide a reliable forecast of the net investment-related gains and losses, which can fluctuate from period to period and may have a significant impact on GAAP net income.
Joining me this morning on the call are Rob Henrikson, our Chairman and Chief Executive Officer, Steve Kandarian, our Chief Investment Officer, Bill Wheeler, our Chief Financial Officer. After our brief prepared comments, we will take your questions. Here with us today to participate in the discussion are other members of management, including Bill Mullaney, President of U.S. Business, Bill Toppeta, President of International, Bill Moore, President of Auto & Home, Donna DeMaio, President of MetLife Bank. With that, I would like to turn the call over to Rob.
Thank you, Conor, and good morning, everyone. Before we get into our earnings results, I would like to say that 2010 was a very good year for MetLife. We had strong top-line growth, and our operating earnings increased significantly. We remain committed to the fundamentals of our business, and we are continuing to gain market share. In addition, we are proud to have completed the largest, most strategic, and transformational acquisition in MetLife's history, which has propelled us into becoming the leading global life insurance company. Now let's get started on our results. Overall, for the fourth quarter, MetLife delivered very strong performance, growing premiums, fees, and other revenues to $9.7 billion, up 4% over the prior year and 12% sequentially. Operating earnings grew significantly to $1.2 billion, up 46% over the prior year and 32% over the third quarter of 2010.
Our book value increased year-over-year by 16%, primarily attributable to strong operating earnings and investment performance. Our businesses are performing well. Our underwriting results are very stable, and we continue our commitment to expense management, as evidenced by the $700 million in annualized savings we highlighted at Investor Day. Also, our investment portfolio remains strong and experienced an excellent quarter. Steve will discuss investments in more detail in a moment. Now let me share a few highlights from each of our businesses. In U.S. Business, premiums, fees, and other revenues were $7.2 billion, down from the prior year and flat versus the prior quarter. Operating earnings grew by 10% over the prior quarter, and we were down slightly over the prior year period. I am pleased with the financial results in U.S. Business, a direct result of our disciplined pricing and continued focus on risk management.
Within our insurance products segment, premiums, fees, and other revenues were $5.1 billion, down 4% over the prior year and up 4% over the prior quarter. Group life earnings were down somewhat year-over-year as expected. Individual life earnings were down $74 million versus the prior year. The earnings decline is almost entirely attributable to the net difference in DAC unlocking and other adjustments between years. Non-medical health premiums, fees, and others declined by 4% from the prior year period. Lower earnings in individual disability offset improvements in dental and in group disability, where incidents remains elevated, but recoveries are improving. In retirement products, the top line was strong at $812 million, primarily due to continued momentum in our third-party distribution channel and improving investment margins.
Total annuity sales were solid again at $5.5 billion, driven mostly by another record-setting quarter where we reached $5.1 billion of variable annuity sales, up 38% from the prior year period and 10% from the prior quarter. Operating earnings were $175 million, up sequentially but down year-over-year. In corporate benefit funding, operating earnings were very strong at $283 million, up 51% versus the prior year period and up 55% sequentially, mostly due to higher core and variable investment income. Revenues are down from the year-ago period due to lower structured settlement sales and lower pension closeouts. Fourth quarter saw an increase in pension closeout sales as compared with the first three quarters in 2010. Rounding out the U.S. business segments, Auto & Home had another very solid quarter with net written premium up 4%.
The combined ratio, excluding catastrophes, was 90.0, compared with 91.8 in the prior year quarter. Turning to international, fourth quarter premiums, fees, and other revenues of $2.1 billion grew 75% over the prior period and 70% over the prior quarter. The notable increase is largely due to the addition of one month of ALICO results in the quarter. The pre-transaction MetLife international operations continue to perform very well, again achieving double-digit sales growth across all the regions. Beginning with our Latin America region, the sales grew 24%, driven by strong growth in Mexico and Brazil. Asia Pacific grew 12% due to higher sales in Korea and China. In our European region, sales increased by 47%. MetLife Bank achieved operating earnings of $46 million, bringing the total for the year to $267 million, down 10% over last year due to lower mortgage servicing revenues, but still a great result.
Looking back at the full year 2010, I'm pleased with our strong and consistent performance every quarter. Overall, we grew our premiums, fees, and other revenues to $36 billion, up 5% over 2009. We achieved operating earnings of $3.9 billion, an increase of 65% from the prior year. Furthermore, the acquisition of ALICO has brought MetLife to the forefront as the leading global insurance provider of income and protection products and services and employee benefit programs. As we proceed in 2011, the continued integration of ALICO will be a high priority, and let me assure you, we also will remain extremely focused on all of our operations. Backed by solid financial position, strong brand, and momentum in the marketplace, we have the opportunity to create an even stronger, more valued, and more profitable MetLife. With that, let me turn it over to Steve.
Thanks, Rob. I would like to spend a few minutes reviewing the key components of our investment results for the quarter. First, let me start with a comment on variable investment income. Pre-tax variable investment income for the fourth quarter was $423 million, which is $223 million above the top of the planned range. Returns this quarter were driven by both strong private equity results and an increase in corporate bond prepayments. Our outlook for 2011 variable investment income remains in the $225 million-$235 million per quarter range that we provided at our recent Investor Day. Let me cover investment portfolio gains and losses for the quarter. Gross investment gains for the fourth quarter were $301 million. Gross investment losses were $184 million, and write-downs were $126 million, for a net pre-tax investment portfolio loss of $9 million.
Write-downs included $58 million in structured finance securities and $55 million from corporate credit. Overall, loss levels remain modest given the current economic environment. Gross unrealized gains in fixed maturities in equity securities were $14.1 billion, down from $19.7 billion last quarter. Gross unrealized losses increased to $6.9 billion from $4.8 billion last quarter, driven by a significant increase in interest rates. For example, the 10-year U.S. Treasury increased by 78 basis points during the quarter. Overall, the fixed maturity equity security portfolio was a net unrealized gain position at $7.3 billion at quarter end. Please keep in mind that interest rate-driven unrealized gains and losses are generally offset by changes in the economic value of our liabilities. Next, I would like to briefly touch upon our commercial mortgage holdings. First, the loan-to-value ratio of our portfolio improved again this quarter to 66% from 67% due to improving property values.
Delinquencies increased to $58 million during the quarter, driven by one delinquent loan. We do not expect to incur a loss on this loan. The overall delinquency rate for the portfolio remains low at 15 basis points. While the real estate sector remains challenged and our delinquency rate will likely fluctuate for some period of time, we expect losses to be manageable, particularly given our commercial mortgage valuation allowance of $562 million. Let me turn to a few models relating to our acquisition of ALICO. First, I'd like to comment on the overall decrease in our portfolio yield resulting from consolidating ALICO. For example, our fixed maturity yield declined during the quarter by 49 basis points to 5.3%. This was driven by lower yielding Japanese assets, which back liabilities with correspondingly low crediting rates.
Next, I'm delighted to report that our integration of the ALICO Investments portfolio is going well. We have been able to successfully leverage the existing MetLife investment systems and processes to supplement ALICO's investment infrastructure. From a portfolio perspective, we continue to manage down certain European sovereign and financial holdings. Finally, given the recent events in the Middle East, I want to mention that we hold approximately $1.4 billion in assets across 13 countries in the region. The vast majority of these holdings are sovereign debt and bank deposits, supporting insurance liabilities in these countries. As you'd expect, we are monitoring the developments in the region very closely. In summary, while uncertainty in global capital markets continues, we are comfortable that our portfolio remains healthy and is well-positioned to deliver strong shareholder value. With that, I will turn the call over to Bill Wheeler.
Thanks, Steve, good morning, everybody. MetLife reported $1.14 of operating earnings per share for the fourth quarter and $4.38 per share for the full year 2010. This morning, I will walk through our financial results and point out some highlights, as well as some unusual items which occurred during the fourth quarter. Let's begin with premiums, fees, and other revenues. Total premiums, fees, and other revenues, which were $9.7 billion in the fourth quarter, were up 4% from the fourth quarter of last year and up 12% over the third quarter of 2010. For the full year, our top-line revenues totaled $35.8 billion, up 5% over 2009. For the quarter, international revenues, excluding ALICO, were up 7% versus the fourth quarter of 2009, driven largely by growth in Mexico and Brazil. International's results also included one month of results from ALICO, which significantly impacted MetLife's overall revenue growth.
Let me take this opportunity to briefly discuss ALICO's recent financial performance. One month of data is not a very useful way to analyze ALICO's results. However, if you look at ALICO's overall fourth quarter of 2010 compared to the fourth quarter of 2009, sales are up 39% and premiums, fees, and other income are up almost 13%. We are seeing some good top-line momentum at ALICO. In terms of profitability, ALICO reported $114 million of operating earnings for the one month of its results in our fourth quarter. ALICO had some unusual expenses in this month, and we think its normalized operating earnings were more like $128 million. This figure is consistent with our profit expectations at ALICO, although again, I will caution you that no one should rely very much on one month's results. Enough about ALICO for the moment.
With regard to MetLife's domestic businesses, there was a decline in revenue in the fourth quarter. There are a number of reasons for this. However, the performance is consistent with the guidance we gave you on Investor Day last December. Turning to our operating margins, let's start with our underwriting results. In U.S. business, our mortality results were favorable across the board this quarter. The Group Life mortality ratio for the quarter was 89.7%, which was flat versus the prior year period and in line with our expectations. For the full year, Group Life's mortality ratio was 88.7%, right in the middle of the 2010 Investor Day guidance range of 88%-90%. That is a good result. Our Individual Life mortality ratio for the quarter was 82.9%.
This quarter's results were a little higher than the very favorable prior year quarter of 81.1%, but it's still very favorable to our plan. The non-medical health total benefits ratio for the quarter was 89.7%, which was down from the prior year quarter of 90.2%. In dental, our underwriting results continue to improve, demonstrating that with better claim activity combined with our pricing strategy is working well. Disability results improved versus last year but continue to be below plan. We saw meaningful improvement in recovery experience in the quarter, but incidents remained elevated. For the full year, non-medical health's benefit ratio was 89.2%, which was well within our 2010 Investor Day guidance range of 88%-90%.
Turning to our auto and home business, the combined ratio, including catastrophes, was 95.2% for the fourth quarter, which was up over the prior year quarter's results of 92.3% due to higher catastrophe levels this year. The combined ratio excluding catastrophes was 90% in the fourth quarter versus 91.8% in the prior year period. A non-catastrophe prior accident year reserve release of $16 million after-tax was taken in this quarter compared to a $9 million after-tax release in the prior year period. Moving to investment spreads. We saw continued strong investment spreads this quarter, driven by both strong variable investment income and solid core results. For the quarter, variable investment income after-tax and the impact of deferred acquisition costs was $138 million, or $0.17 per share above the top end of the 2010 quarterly guidance range.
Remember, we have now raised our variable invested income guidance range for 2011. Moving to expenses, our operating expense ratio for the quarter was 23.8%. While our operational excellence initiatives continue to prove successful, the ratio was negatively impacted by the ALICO acquisition and lower premiums in our domestic business in the quarter. For the full year, the operating expense ratio was 22.6%, which was within our Investor Day guidance range of 22.4%-22.8%. Turning to our bottom line results, we earned $1.2 billion in operating earnings, or $1.14 per share in the quarter. Remember that this includes one month of ALICO operating earnings of $114 million, and both higher interest expense and shares outstanding related to the acquisition. The result of these items is a net dilutive impact of $0.15 per share in this quarter.
Included in our fourth quarter results was an unfavorable market impact of $48 million, or $0.06 per share, as the DAC amortization adjustment increase of 10% in the S&P 500 in this quarter was more than offset by the impact from our variable annuity hedge program. In addition, the completion of our annual review of DAC assumptions resulted in a reduction of U.S. business operating earnings by $17 million, or $0.02 per share this quarter. With regard to investment gains and losses, in the fourth quarter, we had after-tax net realized investment losses of $42 million, which included net investment portfolio losses of $4 million after tax. With regard to derivatives, we had after-tax losses of $1 billion, driven primarily by higher interest rates, changes in currency exchange rates, and an improvement in MetLife's own credit spread in the quarter.
From an interest rate risk standpoint, MetLife uses long-dated receive fixed and pay floating interest rate swaps to extend the duration of our asset portfolio. This is done to maintain the desired duration match against our long-dated liabilities. These swaps behave just like bonds in response to interest rate changes. That is, they lose value when rates rise, and this change in value runs through our income statement. Additionally, own credit continues to drive accounting volatility and derivative gains losses related to our VA program. As a reminder, the accounting rules require that we consider MetLife's own credit when fair valuing the FAS 133 embedded liabilities in our VA products. The key point here is that the accounting volatility that this requirement brings to our income statement is truly noneconomic in nature.
Our preliminary statutory operating earnings for the fourth quarter of 2010, excluding ALICO, were approximately $1.8 billion, and our preliminary stat net income was approximately $1.7 billion. Obviously, a terrific result. For the full year 2010, preliminary statutory operating earnings and statutory net income were both approximately $3.4 billion, as we recorded only $21 million in realized stat losses in 2010. Total adjusted capital at year-end is approximately $26 billion, up 8% for the year. We have not finished our RBC calculations for 2010, but based on our work to date, we estimate that our consolidated RBC ratio will end the year at approximately 450%, which is above the 2010 Investor Day guidance range of 410%-440%. Also, a very good result. Cash and liquid assets of the holding company at year-end were $2.7 billion.
During the fourth quarter, the holding company paid our annual common stock dividend amounting to approximately $780 million. In summary, MetLife had a very good fourth quarter and full year 2010. Our investment performance continued to improve, our operating margins remained strong, driven by disciplined underwriting and expense management, and our earnings continued to grow. Also, our ALICO acquisition seems to be off to a good start. With that, I will turn it back to the operator for your questions.
Ladies and gentlemen, if you would like to ask a question, please press star then 1 on your touch tone phone. You will hear a tone indicating that you have been placed in queue. You may remove yourself from queue at any time by pressing the pound key. If you are using a speakerphone, please pick up the handset before pressing the numbers. Once again, if you have any questions or comments, please press star 1 at this time. Our first question comes from the line of Thomas Gallagher with Credit Suisse. Please go ahead.
Good morning, guys. Bill, I just wanted to follow up on your comment on statutory results. Did you say you had $1.8 billion of stat earnings in 4Q?
That's right.
Did that include the impact of those derivative losses, or is that in the captive and treated separately?
Well, the answer is it's complicated, as everything with regard to stat accounting is. Most of the changes in derivative values, if they come through on our stat statement at all, will come through sort of, I would say, below the income statement, or there'll be changes in our stat surplus numbers. A lot of the changes in derivatives don't affect our stat accounting. It sort of depends on what kind of derivatives they are. Part of the reason that stat earnings are so good this quarter is because the environment got a lot better, and so some of our reserves, which are really driven by interest rates or where the S&P 500 is, obviously those reserves declined during the quarter, and so that drove the number up.
Okay. Bill, suffice to say that if I looked at your surplus number, that would've gone up by less than what would be reported on net income because there's a below-the-line element for stat accounting.
Yes. There's other things, too. For instance, our total stat surplus, and again, these are our domestic insurance businesses, it's up 8% year-over-year. Remember, one thing we took out, it's a very substantial dividend up to the holding company this year, roughly at $1.7 billion. You have to factor that in as well.
Bill, just a follow-up. With the 450 RBC, with the dividend you took, what's the update on your overall capital position?
I hesitate to kind of give the same kind of chart that we did on Investor Day. We don't like to kind of just chew that up every quarter. I would say the capital levels and excess capital that we showed on Investor Day, the numbers are better. Mainly because this improvement in the RBC ratio versus what we estimated on Investor Day equates to another $1 billion plus of higher capital versus where we were a couple of months ago.
One last follow-up. Can you comment at all about visibility on alternative returns, at least for 1Q, because I know there's a lag element, so I assume 4Q and 1Q may not look too dissimilar.
Tom, I'd say that the range we gave you at Investor Day, which actually I misspoke in my script. I said $225 million to $235 million per quarter. What I meant to say was $225 million to $325 million per quarter. That range is something we still feel comfortable with at this point in time. I know we've had a good couple of quarters here with variable investment income, our view is that some of that certainly was driven by a couple of factors you might not see in the current year. One would be some sales that were in anticipation of tax changes, trying to pull forward some sales into 2010 when the tax situation might be more favorable. That's sort of off the table for now.
The second is you saw some remarks on the cost basis funds, that was off the real lows we saw in 2008 when things were marked down. That's driven by a couple factors. One, a major bounce back in the equity markets and improvements in the below investment-grade market, which drives a lot of these valuations. We think that the guidance we gave you at Investor Day in December still is appropriate for today.
Okay. Thanks, Steve.
Our next question comes from the line of Suneet Kamath with Sanford C. Bernstein. Please go ahead.
Great. Thanks. Two questions, please. First, to follow up with Steve. If I go back to the Investor Day and your presentation, you laid out your interest rate outlook on a quarterly basis across the yield curve. If I just zero in on the 10-year, it looked like you weren't expecting to get to sort of 345 until really the end of 2011. Given where we are in the 10-year today, should we assume that you have been investing sort of in the course of fourth quarter of 2010 and the first part of 2011, obviously at prevailing rates, all else equal, those numbers should be better for operating EPS?
Well, rates have risen, of course, there's crediting rates on the liability side, it isn't always a one-to-one relationship, there's certainly a close correlation between the two. Overall, I'd say that somewhat higher interest rates are favorable for our business. There's no question about that. We talked about hedges we put in place to offset some of the low interest rate environment on Investor Day. Certainly, on balance, somewhat higher interest rates is favorable for our business.
Do the crediting rates adjust sort of in line with the incremental new money investment rates? I thought there's maybe a lag or something like that.
Yes, Suneet, there is a lag. Just building on what Steve said a little bit. All of our products have different crediting rate strategies. Sometimes the crediting rate changes immediately because it's basically a floating rate liability. Sometimes it doesn't change except for maybe once a year. Then, of course, we have a bunch of liabilities where the crediting rate never changes. With regard to things like new business, stuff we're selling new today, obviously that would be on using whatever the prevailing interest rates are. The story's a little different depending on which sort of product and business you look at. Again, I think the punchline is that yes, higher interest rates are certainly for a while here are going to generally have a favorable effect on our earnings. It's early days.
We've only been enjoying these higher interest rates now for, I don't know, three, four months. It won't have that much impact yet.
Okay. Fair enough. The second question I had actually was for you, Bill, in terms of capital. You'd mentioned that the RBC is a little higher than you thought, and the operating environment is a little bit better. Per your Investor Day, there's been no discussion or there was no assumption for share repurchase. Since the earnings season started, we've started to see some other life insurance companies dip their toe back in the water there. Any change in terms of your thoughts on redeployment of capital this year, especially as the AIG lockup expires in August?
There's nothing new to say now. Obviously, without a doubt, the environment continues to improve, and that's all good. In our mind, it's still a little early to announce any kind of buyback activity.
Okay, thanks.
We have a question from the line of Colin Devine with Citi. Please go ahead.
Yeah, I've got three ones I was wondering if I could get some clarification on. First, Bill, with respect to the derivatives losses, could you just give us a little more granularity as to how those break out and what sort of liabilities they're matched against? Second, with Steve, what was the impact on your RBC of the NAIC's changes to the factors on CMBS? Then lastly, Bill Wheeler, back to you. With respect to RBC, are you factoring in your international businesses for that and doing some sort of consolidation, or is that really now just standalone on the U.S. and less applicable as a number and as we think about Met's capital position?
Okay. I think I got these all. With regard to derivative losses, I would break it. There is really three buckets. The first is changes in interest rates, and I mentioned these a little bit in my remarks. In many of our long-dated liability portfolios, we extend the duration of the assets effectively by buying swaps. Probably roughly 40+% of the derivative loss this quarter was driven either by the decline in value of those swaps or interest rate floors that we have also purchased to protect against that low interest rate environment we have talked about. On previous calls, we have talked a lot about those floors in the last year or so. That is a big piece of it. A comparable piece is driven by the changes in the evaluation of the embedded derivatives in our variable annuity program.
That would be another 40+% of the decline in derivative value. That is really where we have to value this derivative under GAAP accounting. The discount rate that we use to value that derivative, it has to be tied to our own credit. MetLife's own credit, this is all, of course, good news. Our credit default swap spreads declined from basically roughly a little over 200 basis points at the beginning of the fourth quarter to something like a little under 150 basis points at the end of the fourth quarter. That is a 60+ basis point move in our credit default swap spreads. It is a pretty big move. Because of that, the change in the discount rate when you value the embedded derivatives comes down. That means the liability is worth more, and that has a big impact, too. Hopefully, you followed all that. Finally, the currency.
We did have some fluctuation in currency. We use derivatives to protect ourselves in many different areas regarding currency moves. Sometimes those qualify for hedge accounting, but sometimes they do not if the match between what is being hedged and the terms of the derivative are not perfect. There, some adjustments in the value of the yen versus the dollar triggered maybe roughly a 15% decline in derivative value. The big three reasons that we purchased derivative, interest rates, currency moves, and of course, this thing with the VA program, they all kind of moved in the same direction this quarter in a very meaningful way. That is what drove the numbers. That gives you a little more granularity, hopefully. I can do the RBC one. You want me to do that one, too? Because it is a very simple answer.
The change in RBC driven by the PIMCO program was worth literally one point. I am sorry, BlackRock, not PIMCO, sorry. PIMCO was last year, right? Yeah, the BlackRock adjustment was worth one RBC point, literally one. One good guy. Finally, you are absolutely right about the RBC calculation. RBC is a domestic concept for measuring solvency for U.S. insurance companies. That 450 that we talk about is our U.S. insurance company's consolidated number. By the way, even though ALICO technically is a U.S. statutory insurance company, we do not include that number. Remember, I said this on Investor Day, the right way to evaluate ALICO's capital adequacy is not to talk about its RBC ratio. It is to look through the business to the capital adequacy numbers in each of the various countries.
Actually today, or certainly at Investor Day, we talked about ALICO having excess capital of over $1 billion based on when we bought the company. Its capital position also was in very good shape. Then, of course, our own international operations also in aggregate have excess capital over and above what they need. Whether you're talking about internationally or domestically, we're in very good shape from a capital point of view.
Where would ALICO's Japanese capital ratio then have ended the year, since that is one thing we can sort of compare at other companies?
The SMR, the solvency margin ratio, which is sort of like the U.S. RBC, and this is under the old basis, which is still the basis that's being used in Japan. I think the rules are going to change, I think, at the end of 2011. The SMR in Japan was approximately 1,400, which again, is obviously quite good.
All right. Thank you.
We have a question from the line of John Hall with Wells Fargo. Please go ahead.
Good morning, everybody. I just want to stay on the issue of statutory RBC for a second. What was the big delta from the range that you were talking about at the analyst meeting in December and the 450 that you're talking about now?
Well, I would say the biggest thing is, remember, we did the Investor Day on early December. If you remember, December was a pretty fun month from a move in the S&P 500, and also interest rates moved up during that month, too. For just being in one month, the macro environment changed pretty materially. That allowed us to release some of these contra reserves that we sometimes have to hold against our VA product and stuff like that. That would probably be a big driver. I think, too, when I got quizzed on Investor Day about the RBC ratio, I admitted that maybe our guidance was a little conservative. We always tend to do that because it is a number we only calculate fully once a year. We always want to make sure we're conservative in terms of our estimate.
Okay. Well, given since the Investor Day, the strong macro environment that you talk about, a couple of other things that you've spoke about in the past, i.e., the interest rate sensitivity and the impact that low interest rates might have on the company, as well as the embedded equity market guidance that you built into or the assumption you built into your guidance. The environment's changed. What's that doing to your expectations on those items?
I'm not sure what to say other than it's better. The good news, of course, is that so far this year, the environment continues to improve in terms of both how the equity markets are going and where interest rates are. Obviously we feel very positive about that.
Okay. I guess the final question has to do with the very strong variable annuity sales and deposits. How much is enough? Is there a point where you have to put on a governor to control the growth to some degree?
Hi, John. It's Bill Mullaney. Just to give some comment on the quarter overall for VA sales. Obviously a strong quarter, up 38%. We think the market grew fairly significantly in the quarter, too. We don't have the full fourth quarter numbers, but we think year-over-year, the market could be up somewhere between 10% and 20%. Obviously we saw our share improve. We continue, we believe, to be the number 2 player in VAs, and we've talked about the fact that we want to be in the top 3. We feel very comfortable with the level of business we wrote in the fourth quarter. I think some of the changes to the macroeconomic environment that you referenced have helped. The improvement in the S&P and improvement in interest rates have brought the returns on the business that we're writing now up into the target range.
We feel pretty good about that. As we've talked about before, there is some risk associated with this product, and it's a product that we continue to look at very closely and look at the risks that we're taking. We continue to hedge, and we're also continuing to look at what product features we might bring in to continue to manage the risk appropriately. We feel pretty good about the business we're writing right now.
Great. Thank you very much.
Our next question comes from the line of Chris Giovanni with Goldman Sachs. Please go ahead.
Thanks so much. Can you guys talk some about the impact that the move up in rates had on C3 Phase II calculation? I think in December you talked about it maybe being a 20-point drag given where rates were at the time.
I'm just trying to remember when I would have said that, what the C3 Phase II impact would have been a 20-point drag. That's not my recollection. C3 Phase II, for everybody's benefit, is a stochastic model, stochastic calculation we have to do at year-end, and it's complicated. It obviously takes into effect the things like interest rate movement for our overall domestic business. I can't tell you off the top of my head exactly where C3 Phase II came out for this year, though it was pretty benign, and you would expect it to be, given the move up in interest rates. Chris, I think we'll have to get back to you with something more specific about that.
Okay. Maybe one for Bill Toppeta in terms of the conversion from branches to subsidiaries of ALICO, how that process is going and timeline.
Sure, Chris. I would say it's going according to plan. It's a project that's going to take a number of years. I would say, certainly two years and maybe plus. As you may recall, the agreement that we have, the closing agreement gives us three years to complete the process. I'd say we're on track, and it's going well, particularly in the more significant jurisdictions.
Okay. Sorry, one quick one for Bill Mullaney, just in terms of the ROIs that you pointed to and the VAs being weaker in the back half of the year and leading to some repricing. Can you comment sort of the move up in rates, some of the repricing, what you expect that to do to the ROIs?
Sure, Chris. What I said in an earlier call, it was either for the second quarter or the third, was when interest rates were down and equity markets were not performing. We thought that the ROIs were in the low teens, but we were covering our cost of capital. Since the macroeconomic environments have improved, we're seeing our ROIs now in the mid-teens.
Thank you very much.
We have a question from the line of John Nadel with Sterne Agee. Please go ahead.
Hi, good morning, everybody. I wanted to come back to the capital and potential for capital management, maybe slightly differently, Bill. Given the credit performance, especially in the quarter, if we look past the derivatives, and look at the true credit metrics, can you give us a sense for how that performance, maybe it's for the full year 2010, but certainly in the back half of the year, is comparing against some of the expectations from the key rating agencies and whether you think that could potentially alter the outlook here?
Yeah. I would hope it will alter the outlook. Let me put it that way. Just for everybody's benefit, obviously, two years ago, we went through a pretty difficult credit cycle. Though I think, our losses were, given where people's expectations are, our losses ended up being obviously on the low end of that. Really for the last three quarters of 2010, our credit loss expectations are where our actual results were way below that. The credit story was really quite good. If you recall, last summer, when we started, commenced our equity financing for ALICO, we ended up having to raise incremental $1 billion of common as part of the financing mix to kind of satisfy some of the rating agency concerns about potential losses, especially in the real estate area.
I think we said at the time, and we've been pretty consistent on this, that we did not expect material losses in real estate. Of course, in the two plus quarters since then, the story's been fantastic in terms of delinquencies and how our reserve is built up. We've actually been forced to release some of our loss reserve in the real estate area. The story just couldn't be much better. Certainly those fears that some of the rating agencies had about losses have not occurred. Our outlook for 2011 is that our investment performance from a loss perspective is going to be pretty consistent to what it's been the last couple of quarters, two, three quarters. We think that, as a capital adequacy issue, it's not a big deal. We're doing very well.
I think that will probably help influence the rating agency outlook. To go kind of to your base question, is this going to change views about capital management? I think it will, but I think it does take a little time to have that happen, but I suspect it will change how the rating agencies feel.
I think then, just to follow up on that, put that together with the expectation that the federal government sort of stress tests too. Have you guys submitted your information? Is that supposed to be sort of done here in the next couple of months?
Yeah, you got it right. We have submitted our report about our stress test calculations based on their guidelines. We've submitted those to the Fed. Though I don't know if there's an official report back date, I think people's expectation is that we'll hear something from them by the end of the first quarter. I don't think, however, that those results are ever, unlike the stress test that occurred in 2009, I don't think those results are ever going to be made public.
Okay.
My guess is people will be able to puzzle out who did well and who didn't pretty quickly.
Okay. Final question is just on one of the businesses. I was hoping you guys could discuss the underwriting results in non-medical a little more depth. When I look at most of your competitors, the majority of them have seen stable to improving results in their comparable business lines this quarter. It's still not great, but it's at least relatively stable. Your results kind of stand out in contrast to that, maybe a little more color there.
Sure, John, it's Bill Mullaney. Let me give you some perspective on the major businesses. First of all, dental continues to perform well. Claims are stabilizing there, and as we've talked about, we implemented some price increases in late 2009 that are taking effect throughout 2010. Dental is performing at expectation. Disability, although we're seeing some modest improvement, as Bill Wheeler talked about in his comments, continues to lag what our expectations are. Incidence continues to be high, and recoveries are starting to improve a little bit, which is helping the results. It has improved over the year-ago quarter, but still below where we would want it to be.
We also had on some of the smaller businesses in that segment that we don't talk about very much, some volatile claim activity in our accidental death business, as well as in our individual disability business, some high claims there. That had some impact on the results. The last thing I will say is we did have higher expenses in the quarter in that segment. There were some one-time charges that we took associated with our decision to no longer sell new business for long-term care. Those expenses showed up in the fourth quarter, and we don't expect them to show up in 2011. The guidance that I talked about at Investor Day for 2011 for that segment, we continue to feel very comfortable with.
Okay. That was going to be sort of my follow-up. If you look at some of that, you use the term volatile claim activity and these higher expenses. Is that enough, if that were to dissipate, to get you back to your guidance range? Okay. Thank you.
Our next question comes from the line of Mark Finkelstein with Macquarie. Please go ahead.
Hi, good morning. I guess I wanted to start on a general question. Really since December, you've seen equity markets up, rates higher, you got the active financing exception legislation. We can all do the math on what that means for estimates, and I'm not really getting at kind of changes in guidance or anything. When we think about those items, and they are pretty meaningful, what are the offsets? What are the areas of softness that are in there that we should think about in terms of maybe moderating expectations somewhat?
Mark, well, I'm glad you asked that question. Well, obviously, we've had a lot of good news since Investor Day, both in terms of interest rates, the stock market, tax relief. A lot of good news. There are a couple of offsets, I would say. One is our PGAAP. At Investor Day, we said PGAAP wasn't done. It was close to done. It is now just finishing up getting finalized. I think our PGAAP accounting adjustments are going to be slightly less positive in terms of ALICO accretion. It's not that material, but it's a little less positive. The other thing I'd say is one offset from higher interest rates is the bank's profitability. MetLife Bank's profitability is probably going to be a little lower than what we originally forecast on Investor Day. That has to do with both higher mortgage rates.
There's going to be less volume, as well as I think margins will be affected a little bit. There are some offsets. Obviously, it's still a net positive story. That what I would say are the two big areas of weakness.
Okay. That's helpful. I guess you gave a good story on ALICO in the month in November, but it was one month. I guess, is there anything you can kind of give us in terms of just how December or even January looked from a sales perspective?
Mark, it's Bill Toppeta. Again, a month or two doesn't make a trend, I would say that what we're seeing is positive and certainly consistent with the plans that we gave you on Investor Day. I would say good as far as we go, again, I would underline what Bill said earlier. A month or two doesn't make a trend.
Okay.
Okay?
All right. Thanks, guys.
Thanks.
Our next question comes from the line of Jeff Schuman with KBW. Please go ahead.
Good morning. Let's go first back to ALICO. You talked about the very strong sales this quarter. Can you give us a little bit of a sense of what you are doing there? Does this essentially represent ALICO just getting fully back on its feet and kind of reclaiming its historical position with historical products, or are there some new things that you have done there to kind of stimulate that?
Yeah. It is Bill Toppeta. I think the story is mostly attributable to ALICO getting back to its pre-crisis levels. You remember on Investor Day, we gave you a chart on lapses and surrenders, we said that the trend was getting back and below pre-crisis levels. That trend, I am happy to say, continues since Investor Day. With respect to sales getting back up to pre-crisis levels, that trend continues. I would say, as Rob said at the beginning, the focus really is on the fundamentals of the business. It is on life insurance sales, accident and health sales through the three or four strong channels that we have. Certainly face to face, but also a comeback in the bank channel and in the direct marketing channel. It is basically a focus on the fundamentals, core products, core distribution, and getting back to pre-crisis levels.
Okay, thank you. Then Bill, can we circle back a little bit more on the banking? You talked about 2011 guidance being at risk. In fact, I think if we annualize the fourth quarter, it would suggest that we are below that run rate. Is the fourth quarter kind of the run rate you are thinking of now for 2011, or is there downside from that level?
It's probably close to the run rate. I think for what we're expecting for the full year now, if you took the fourth quarter times four, I think you'd come up with about $190+ million of earnings. It's possible it might end up a little softer than that. I think it'll really, in my mind, depend a little bit on the overall macroeconomic recovery of the country in terms of what will housing starts ultimately do and new house buying activity. That'll obviously influence a little bit. People are expecting that the terms of the new residential mortgage volume that's going to get originated in this country this year is going to be the lowest it's been in 30 years. It's not a very good environment.
Part of what happened in the fourth quarter, it looks like OpEx came up quite a bit sequentially. Was that an aberration or is that indicative?
I'm sorry, Jeff, I couldn't quite catch that.
Operating expenses came up, I think, quite a bit sequentially in banking. Is that at the new level or was that an aberration?
Well, a little of both. There is some unusual expenses spending activity going on as we're revamping some administrative issues in terms of how we process new mortgage applications. There is some spending going on there. Some of it is an aberration. It has to do with, remember how we pay commissions and how commissions get paid in that business when volume occurs. At the beginning of that quarter, we had probably some of the highest volumes of the year when interest rates were still very low. It tapered off very quickly, but the commission still had to get paid in that fourth quarter.
Okay. Just lastly, pension closeout sales came up in the fourth quarter. Is that indicative of a trend or was it just a good quarter?
Well, it's hard to say whether it's indicative of a trend. It's Bill Mullaney. What I would say is interest rates going up certainly helps the environment for that business, and the equity markets going up certainly helps the funding level of pension plans. I would say as the macro environment continues to improve, that's certainly good for that business. As Rob said in his remarks, the closeout sales were up sequentially for the last few quarters. It's mostly a collection of smaller deals, fairly well balanced between the U.S. and the U.K. We continue to have discussions with plan sponsors and intermediaries about pension closeouts. We think that over time, that's going to continue to be a good market for us.
Okay. Thank you very much.
Our last question comes from the line of Ed Spehar with Bank of America Merrill Lynch. Please go ahead.
Thank you. Good morning. A couple questions. First, Bill, I was wondering if you could help us on statutory earnings going into 2011, the $3.4 billion. It sounds like maybe a little bit of that was unusual. Can you tell us roughly what you think that run rate is heading into 2011?
Yeah, I think our estimate for 2011 is somewhere between $2.5 billion and $3 billion.
If we looked at the comparable number for ALICO, what would that be?
Roughly $8 billion. The piece you're still not catching is MetLife International, Legacy International. I don't have a conservative number on that. For the Legacy business, too.
That's in the $1 billion or not in the $1 billion?
No, the billion is ALICO standalone. I'm not sure exactly what the number is for Legacy International. I would think it's something like $400 million or something like that, maybe half a billion.
Okay. What's the target right now in terms of what you want to hold? The $2.7 billion at the holding company, what's the amount again that you want to hold?
I think the minimum that we have to hold is roughly $1 billion.
Okay. One question on interest rates. Rates obviously have come up a lot. How high is too high for the 10-year Treasury? When does it become an issue of it turning from a positive to a negative?
That's not an easy question to answer. We were discussing this last night because obviously somebody asked us this last night. Taby thinks that if it gets to 6%, if the 10-year Treasury gets to 6%, maybe we should start thinking about that. We went and looked up when the last time the 10-year Treasury was at 6%, it was right around the year 2000. Basically a decade ago. Needless to say, we have a long ways to go. It's hard to discuss that these upward moves, especially in long rates, are just anything except good. Obviously, it's a positive development for us.
I'm assuming that it would make a difference if that 6% occurred in one year versus two years.
Yeah, absolutely right. I mean, a very abrupt move probably causes some disintermediation in some blocks of business, at least for a period of time. The net result would still be we'd take that and still be thrilled.
Okay. One really quick one. Can you just remind me again why when the market's up 10%, we have a negative DAC adjustment for the equity market?
Well, you have a DAC true-up in terms of DAC amortization, right? You have a big move in the stock market, your DAC amortization should slow, right? That's the true-up because of the market performance. That's a good guy. Offsetting that, and more than offsetting that for us is our hedging activity for the SOP reserve that we have in our GMIB annuity, which is all above the line. Because there, we think that the reserve that GAAP makes you put up is probably not the true economic reserve, and we're trying to hedge to the economic reserves in our GMIB annuities. You get a little mismatch between sort of what we think of our economic hedging activity versus the GAAP reserve or GAAP accounting.
We've just decided that it's more important to hedge the economics of the situation versus somehow. Unfortunately, that causes a little GAAP noise.
Okay, perfect. Thanks a lot.
Okay, thank you, everyone.
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