Ladies and gentlemen, thank you for standing by, welcome to the second quarter 2015 earnings teleconference. At this time, all lines are in a listen-only mode. Later, we'll conduct a question-and-answer session. Instructions will be given to you at that time. If you do need assistance during the call today, you may press star and then zero, and an operator will assist you offline. As a reminder, today's conference call is being recorded. I would now like to turn the conference over to Mark Finkelstein. Please go ahead.
Thank you, Cynthia. Good morning, thank you for joining our call. Representing Prudential on today's call are John Strangfeld, CEO; Mark Grier, Vice Chairman; Charles Lowrey, Head of International Businesses; Stephen Pelletier, Head of Domestic Businesses; Robert Falzon, Chief Financial Officer; and Robert Axel, Controller and Principal Accounting Officer. We will start with prepared comments by John, Mark, and Rob, then we will answer your questions. Today's presentation may include forward-looking statements. It is possible that actual results may differ materially from the predictions we make today. In addition, this presentation may include references to non-GAAP measures.
For a reconciliation of such measures to the comparable GAAP measures, a discussion of factors that could cause actual results to differ materially from those in the forward-looking statements, please see the section titled "Forward-Looking Statements and Non-GAAP Measure" of our earnings press release, which can be found on our website at www.investor.prudential.com. John, I'll hand it over to you.
Thank you, Mark. Good morning, everyone, thank you for joining us. Prudential reported strong second quarter results driven by solid fundamentals across our businesses. We achieved operating earnings per share of $2.62 after adjusting for market-driven and discrete items, representing a 4% increase over prior year earnings. This quarter's ROE is in excess of 15% as we continue to outperform our longer-term target of 13%-14%. Our operating results reflect solid core growth fundamentals across many of our businesses and favorable underwriting margins, which more than offset the headwinds presented by continuing low interest rates and adverse currency impacts. Net income for the quarter was modestly above operating earnings. I would also highlight that during the quarter, we completed our annual review of actuarial assumptions, this had a relatively benign impact on current quarter results.
Mark and Rob will walk through the specifics of our key drivers results and capital position. I will provide some high-level observations. To start, we are pleased with the core growth drivers across our enterprise. Retirement and asset management both had $6 billion of positive net flows. Retirement benefited from pension risk transfer cases that closed in the quarter, and asset management continues to attract assets based on its strong investment performance and proven capabilities. Our individual life insurance business produced 26% sales growth over the prior year. This was accomplished while achieving appropriate returns and meeting product diversification targets. We also completed our integration of the Hartford Life acquisition with targeted run rate annual savings of $90 million achieved and integration costs a little better, meaning lower, than our expectations.
We had solid sales results in our international business, producing overall sales growth of 6% over the prior year, with increases in both our Life Planner and Gibraltar businesses. I would highlight that Life Planner constant currency insurance revenue growth was a solid 9% over the prior year. Our annuities business continues to show stable sales results as we have carefully managed pricing and product features. Importantly, our product and risk diversification effort is showing success. Only about one-third of our total annuity sales this quarter include equity-focused living benefit guarantees where we retain the exposure. Over time, this should help lower the volatility in our annuities business. We also benefited this quarter from strong underwriting margins in several of our businesses, including our life insurance and retirement businesses, which produced underwriting results better than our average expectations.
Our group insurance business continues to benefit from pricing and underwriting actions in our disability block. Overall, as we look at our businesses and our opportunities for measured growth, we remain confident that we will continue to produce strong earnings that will generate substantial deployable capital that can be used to support outsized organic and inorganic growth initiatives and returns of capital to shareholders through dividends and buybacks, all while maintaining a strong balance sheet. Recall that we believe our business model generates cash flow equal to about 60% of operating earnings over time. Now, DOL. As most of you are aware, we filed a comment letter on July 21st with the Department of Labor in response to proposed regulations that effectively redefine who will be considered a fiduciary in transactions that involve certain plans, plan participants, and IRAs.
In that letter, we have requested clarification on certain provisions within the proposed regulation, as well as made suggestions for modifications to ensure that consumer access to important retirement products is not impeded. While we embrace effective regulation, like others, we are concerned about unintended consequences that could have a result from these proposed regulations. Having said that, we benefit from a diversified business model by geography, by product, and by distribution channel. So while the process is still very much in flux, we remain confident that we will successfully navigate whatever the ultimate outcome may be. Otherwise, we continue to work with our Federal Reserve supervisor and international regulatory bodies on capital frameworks, and remain encouraged with the dialogue in developing capital standards that reflect the unique attributes of insurance. With that, I'll hand it over to Mark.
Excuse me. Thanks, John. Good morning, good afternoon, or good evening. Thank you for joining our earnings call this morning. I'll take you through our results, then I'll turn it over to Rob Falzon, who will cover our capital and liquidity picture. I'll start with an overview of our financial results for the quarter, shown on slide two. On a reported basis, common stock earnings per share amounted to $2.91 for the second quarter, based on after-tax adjusted operating income. This compares to EPS of $2.49 a year ago. After adjusting for market-driven and discrete items in both the current quarter and the year-ago quarter, EPS was up 4%, amounting to $2.62 compared to $2.51 a year ago. Looking across our businesses, here are some highlights of this comparison. I'll mention four key items.
First, higher fees reflecting growth in average account values in our annuities business and greater assets under management in our asset management business. Second, improved claims and reserve experience in our U.S. insurance businesses. Excuse me. Third, a greater contribution from pension risk transfer case experience, which continued to be more favorable than our average expectation. Fourth, in international insurance, continued growth on a constant currency basis in our LifePlanner operations. These benefits were offset by three primary items. One, higher net expenses in several businesses. Two, a lower contribution from net investment results, with returns on non-coupon investments below our average expectations in the current quarter. Three, less favorable currency exchange rates in international insurance. I would also note the decreased corporate income tax rates in Japan drove a lower effective tax rate in the current quarter.
On a GAAP basis, including amounts categorized as realized investment gains or losses and results from divested businesses, we reported net income of $1.4 billion for the current quarter, modestly above our after-tax adjusted operating income. We've taken some steps to mitigate volatility of our reported net income in relation to the operating results driven by our business performance, particularly with respect to foreign currency exchange rate remeasurement. Book value per share, excluding accumulated other comprehensive income, or AOCI, and after adjusting the numbers to remove the impact of foreign currency exchange rate remeasurement, amounted to $71.09 at the end of the second quarter, up by $6.34 from year-end, after the payment of two quarterly dividends totaling $1.16 per share. This includes the benefit of the Closed Block restructuring in the first quarter.
Annualized ROE for the first half of the year was 15.6%, based on after-tax adjusted operating income, excluding market-driven and discrete items, using book value excluding AOCI and the impact of foreign currency remeasurement. This ROE reflects strong underlying business performance, bolstered by a net benefit that we would estimate at about 110 basis points from net favorable variances in comparison to our average quarterly expectations in a number of areas. These include the seasonal revenue pattern in our international businesses, pension risk transfer case experience, returns on non-coupon investments, and items that affected corporate and other results in the first quarter. I'll discuss the impact of these run rate items on the current quarter in reviewing our business results. Slide three presents the AOI impact of our assumption updates.
This year's annual review of actuarial assumptions had a net favorable impact of $117 million on pre-tax adjusted operating income, or $0.17 per share. The most significant items are a $68 million benefit in individual life to adjust amortization and reserves, including the impact of a mortality experience update on legacy business. $31 million in annuities, mainly driven by more favorable guaranteed minimum income benefit utilization experience, and $28 million in group insurance, primarily from more favorable disability claims resolution experience. As you'll recall, we moved up the annual actuarial review to the second quarter in order to have a refreshed view of our assumption update in place before the start of our year-end forecasting and capital planning cycle. Last year's review, completed in the third quarter, had a net unfavorable impact of $186 million on pre-tax adjusted operating income. Turning to slide four.
The remainder of this quarter's list of market-driven and discrete items included in our results consists of only two items, with a net benefit to results of $0.12 per share. In the annuities business, we released reserves for guaranteed minimum death and income benefits and adjusted DAC to reflect market performance and future expectations, resulting in a benefit of $0.13 per share. In individual life, we absorbed integration costs of about $0.01 per share related to the Hartford Life acquisition. The current quarter marks the substantial completion of the business integration and these costs. Over the two and a half years since the acquisition, we have integrated the distribution platforms and product portfolios and achieved our targeted $90 million of annual run rate cost savings, with the full impact commencing in the third quarter of this year. Excuse me.
Total integration costs amounted to $110 million, or $10 million less than our original expectation. During the year ago quarter, market-driven and discrete items produced a net charge of $0.02 per share. Moving to slide five. On a GAAP basis, our net income of $1.4 billion in the current quarter includes amounts characterized as net realized investment gains of $286 million and divested business results and other items outside of adjusted operating income amounting to a pre-tax loss of $43 million, comprised of the items you see on this slide. Of the larger items, product-related embedded derivatives and hedging activity had a positive impact of $510 million, as the benefit from the increase in interest rates in the quarter was partially offset by the application of credit spreads to our gross GAAP liability for variable annuity living benefits. General portfolio and related activities, mainly in our international operations, resulted in net pre-tax gains of $405 million. Mark-to-market losses on derivatives, including those used to manage asset and liability durations with values that reflect changes in interest rates, had a negative impact of $728 million. The current quarter loss from divested businesses of $57 million mainly relates to long-term care and includes interest rate-driven decreases in the market value of derivatives.
Moving to our business results and starting on slide six, I'll discuss the comparative results excluding the market-driven and discrete items I have mentioned. Slide six highlights individual annuities. Annuities results were $423 million for the quarter, up $29 million from a year ago. Slide seven gives a view of our trend in earnings and return on assets. Most of our operating earnings in the annuities business come from base contract charges linked to daily account values.
The 7% earnings increase exceeded the growth of average account values from a year ago, resulting in a higher return on assets, or ROA, in the current quarter. ROA for the quarter was 105 basis points, up from 101 basis points in the year-ago quarter. Lower interest expense and more favorable base amortization factors in the current quarter contributed to the higher ROA. Looking back over the five quarters shown on the slide, I would note that ROA tends to vary within a range, depending on the quarterly pattern of expenses and other nonlinear items. Slide eight covers our annuity sales. Our gross variable annuity sales for the quarter were $2.3 billion, compared to $2.7 billion in the year-ago quarter.
Our risk diversification strategy has resulted in a dramatic change in the mix of new sales, with just over one-third of our new business for the current quarter adding to our net exposure to equity market-linked Highest Daily, or HDI, living benefit guarantees, compared to 70% in the year-ago quarter. As we discussed on our investor day, effective on April 1st, we entered into an agreement with Hamilton Re to reinsure approximately 50% of our HDI 3.0 optional living benefit risk on new business for this year and 2016, up to a maximum of $5 billion. This agreement will effectively convert about half of our sales with the HDI rider to sales without optional living benefits. During the current quarter, we reinsured the living benefit rider risk associated with about $550 million of the $1.4 billion of total HDI sales.
In addition, we sold approximately $600 million of our Prudential Defined Income product, which directs a client's investment to a fixed income fund that we manage. Sales include about $350 million of products without a living benefit guarantee. Overall, only about one-third of our variable annuity sales in the quarter include living benefit riders with equity market exposure that we are retaining. Slide nine highlights the retirement business. Earnings for the retirement business amounted to $237 million for the current quarter, down by $49 million from $286 million a year ago. The decrease was driven by a $55 million lower contribution from net investment results. Current quarter returns from non-coupon investments were about $20 million below our average expectations, while the contribution to results for the year-ago quarter was about $10 million above our average expectations.
Fixed income returns were also lower in the current quarter, as the impact of lower earned rates on our institutional and full-service product portfolios more than offset the benefit of growth in our funded pension risk transfer business. The lower contribution from net investment results was primarily offset by a greater contribution from case experience on pension risk transfer business, which was about $25 million above our average quarterly expectation. Turning to slide 10, total retirement gross deposits and sales were $14.2 billion for the current quarter, compared to $6.6 billion a year ago. Standalone institutional gross sales were just over $9 billion in the current quarter, compared to about $2 billion a year ago.
Current quarter sales reflected the closing of four significant pension risk transfer transactions totaling about $7 billion, including roughly $5.5 billion of unfunded longevity reinsurance, as well as a $1.4 billion stable value wrap sale to an existing group life insurance client. Full service gross sales increased for the quarter, up from $4.5 billion a year ago. As we have commented in the past, sales of both full service and institutional retirement products can fluctuate meaningfully on a quarterly basis. Total retirement account values amounted to $373 billion at the end of the quarter, up by $42 billion or 13% from a year earlier, reflecting net flows of about $35 billion, largely driven by longevity reinsurance and funded pension risk transfer business together with favorable market performance. Slide 11 highlights the asset management business.
The asset management business reported adjusted operating income of $196 million for the current quarter, compared to $200 million a year ago. While most of the segment's results come from asset management fees, the decrease in earnings from a year ago was driven by a $9 million lower contribution from incentive, transaction, strategic investing, and commercial mortgage activities. This contribution, which amounted to $24 million for the current quarter, is inherently variable, since it reflects changing valuations and the timing of transactions. Asset management fees were $540 million for the current quarter, up by 7% from a year ago, largely tracking a 6% increase in unaffiliated third-party institutional and retail assets under management, which totaled $471 billion at the end of the quarter. Net inflows over the past year amounted to $14 billion, including $6.4 billion in the current quarter, which was largely driven by institutional fixed income mandates.
The benefit of higher asset management fees was largely offset by higher expenses. The higher level of expenses in the current quarter includes variable compensation reflecting performance, including our $3 billion increase in unaffiliated third-party asset under management net flows compared to a year ago, investments we are making to build teams and infrastructure to expand our product and distribution capabilities, and higher upfront commissions associated with a $2 billion increase in gross retail inflows for the quarter. Slide 12 highlights our U.S. Individual Life business. Individual Life earnings were $177 million for the current quarter, up by $11 million from a year ago. The increase in earnings was driven by more favorable claims experience in the current quarter, including reserve updates, mortality, and related amortization. The contribution to current quarter results was about $30 million more favorable than our average expectation.
This compares to a contribution from claims experience about $15 million more favorable than our average expectations a year ago on the same basis. The benefit to current quarter results for a more favorable claims experience was partly offset by a lower contribution from investment results and higher expenses, including distribution costs driven by increased sales. Slide 13 shows Individual Life sales based on annualized new business premiums, which amounted to $130 million for the current quarter, up by $27 million from a year ago. The higher level of sales reflects selective repricings to improve our competitive position where we saw opportunities to build business with appropriate returns, together with expanding distribution and product enhancements over the past year.
The increase of $19 million in Universal Life sales was mainly driven by greater sales in selected age bands where we made pricing changes earlier this year to bring our rates more in line with the market. Term insurance sales in the gray bars are up $6 million from a year ago, with a continuing benefit from pricing changes we made last August. We also saw an increase in Variable Life sales driven partly by product enhancements. Slide 14 highlights the Group Insurance business. Group Insurance earnings amounted to $47 million in the current quarter, essentially unchanged from a year ago. Benefits from continued improvement in group disability claims experience and more favorable Group Life underwriting results were largely offset by higher expenses and a lower contribution from investment results.
Slide 15 presents the trend of our Group Insurance benefit ratios after adjusting for the impact of the actuarial reviews in the current quarter and in the third quarter of last year. In group disability, favorable claims experience, mainly driven by resolutions of existing claims, produced an an improvement of about eight percentage points in the benefit ratio from the year-ago quarter. While the benefit from the actions we've taken, including pricing adjustments and enhancements to our claims management process, is now evident over several quarters, and we've recognized the history of improvements in long-term disability claims resolutions in our assumption update, we continue to expect that claims experience will fluctuate from one quarter to another. The Group Life benefits ratio was near the favorable end of our expected range and improved from a year ago, including a benefit from fewer new claims. Moving to International Insurance.
Slide 16 highlights our LifePlanner operations. Earnings for our LifePlanner business were $392 million for the quarter, up $10 million from a year ago. Excluding a $12 million negative impact of foreign currency exchange rates, which reflect our hedging of JPY income at JPY 91 this year versus JPY 82 a year earlier, earnings are up by $22 million, or 6%. Results benefited from continued business growth with insurance revenues, including premiums, policy charges, and fees, up by 9% from a year ago on a constant dollar basis. The benefits of results from continued business growth was partly offset by higher expenses, including technology costs and slightly less favorable mortality experience in the current quarter. Slide 17 highlights Gibraltar Life and other operations. Earnings for Gibraltar Life were $471 million for the current quarter, compared to $502 million a year ago.
Excluding a negative impact of $26 million on the comparison from foreign currency exchange rates, results were essentially unchanged from a year ago. Higher net expenses in the current quarter, largely driven by a benefit from fixed asset sales a year ago, more than offset a greater current quarter contribution of about $20 million from investment results. The benefit to current quarter results from non-coupon investments and mortgage prepayment income was about $30 million above our average expectation. Slide 18 shows the quarterly pattern of earnings for our International Insurance businesses over the past seven quarters. Looking at the trend, you can see the seasonality pattern that favors the first half of the year, which results from a concentration of annual mode premium revenues for our LifePlanner operations in the first quarter and for Gibraltar Life in the second quarter.
We would estimate that this benefited current quarter earnings for Gibraltar Life by about $40 million in relation to a quarterly average. Turning to slide 19. International insurance sales on a constant dollar basis were $777 million for the current quarter, up by $45 million or 6% from a year earlier. Sales by our LifePlanners in Japan, shown in the dark blue bars, were $183 million in the current quarter, up $12 million or 7% from a year ago. The increase reflected a 5% greater LifePlanner count, partly driven by our appointment of additional sales managers earlier in the year, and higher agent productivity as measured by the number of policies sold per agent per month. At a product level, the increase came mainly from greater sales of term insurance.
LifePlanner sales outside of Japan were up $14 million from a year ago, mainly driven by an increase in Brazil, where we've also grown LifePlanner count meaningfully. Gibraltar's Life Consultant sales, shown in the light blue bars, amounted to $204 million in the current quarter, down by $16 million from a year ago. This decrease was driven by lower fixed annuity sales as our reductions of crediting rates we offer on new business, which are continually updated to reflect market interest rates, made these products relatively less attractive than other investment-focused alternatives in the market. Our fixed annuities have been popular among retiring teachers, many of whom are clients of our Life Consultants, for investment of lump sum payouts upon retirement in the second quarter of the year.
Sales through the bank channel, shown in the gray bars, amounted to $191 million for the current quarter, up $30 million or 19% from a year ago. The increase was mainly driven by greater sales of U.S. dollar-denominated whole life insurance, reflecting broadening distribution among our Japanese bank relationships. Sales through independent agents, shown in the green bars, amounted to $81 million in the current quarter. The $5 million increase from a year ago was driven by greater sales of retirement products. Slide 20 shows the results of Corporate and Other Operations. Corporate and Other Operations reported a loss of $305 million for the current quarter, compared to a $341 million loss a year ago. The reduction in the loss came mainly from lower expenses in the current quarter.
Expenses in Corporate and Other are inherently variable, and current quarter costs for items including deferred compensation programs and employee benefit plans were below recent averages, accounting for about half of the reduction in loss. An additional benefit from investment income on remaining assets that were formerly associated with our Closed Block business and initially transferred to Corporate and Other when we completed the restructuring of that business at the beginning of this year, was largely offset by higher interest expense.
Now I'll turn it over to Rob.
Thanks, Mark. I'll now provide you an update on some key items under the heading of financial strength and flexibility. Starting on slide 21. We continue to manage our insurance companies to levels of capital that we believe are consistent with double A standards. For Prudential Insurance, we manage to a 400% RBC ratio. As of year-end, Prudential Insurance reported an RBC ratio of 498%, with total adjusted capital, with TAC, of $15 billion. While we don't perform a quarterly bottoms-up RBC calculation, we estimate that our June 30th RBC ratio remains well above our 400% target after giving effect to results for the first half of the year, including a $2 billion dividend to the parent company in May, following the completion of our Closed Block restructuring.
In Japan, Prudential of Japan and Gibraltar Life reported strong solvency margins of 844% and 882% respectively as of March 31st, their fiscal year-end. These solvency margins are comfortably above our targets. Looking at our overall capital position on Slide 22, we calculate our on-balance sheet capital capacity by comparing the statutory capital position of Prudential Insurance to our 400% RBC ratio target, and then add capital capacity held in Japan and other operations and at the parent company. As of year-end, we estimated our available on-balance sheet capital capacity at approximately $2 billion on a net basis. This represented about $4 billion of gross capital capacity, less $2 billion earmarked to reduce capital debt to arrive at our long-term targeted financial leverage ratio of 25%. Net capital capacity on the same basis increased to over $2.5 billion at the end of the first quarter.
During the second quarter, our estimated on-balance sheet capital capacity increased to over $3 billion. The current quarter increase was mainly driven by capital generated by our businesses and changes in interest rates, which had a modest positive net impact on our capital position. These increases to capital capacity more than offset about $500 million of distributions, including $250 million each from share repurchases and our $0.58 per share quarterly dividend. As I mentioned, during the quarter, Prudential Insurance paid a $2 billion dividend to PFI, the holding company. As a result of that dividend, as well as other sources of capital generated, we were able to reclassify about $2 billion from capital debt to operating debt, as this debt is no longer supporting capital needs within our businesses. As our outstanding debt matures, all else equal, funds will be available at the holding company to reduce overall borrowings.
As a result, our financial leverage ratio is now below our targeted level of 25%, there is no adjustment to earmark a portion of our capital capacity for reduction of capital debt to arrive at this target. Our overall level of borrowings is essentially unchanged from year-end, and our total leverage ratio is down modestly, reflecting the increase in our equity. The fair value of the Japan equity hedge, after subtracting the remaining unsettled amount that we locked in during the first quarter and already included in capital capacity, was about $2.2 billion at June 30th. Turning to the cash position at the parent company. Cash and short-term investments, net of outstanding commercial paper, amounted to about $5.6 billion as of June 30th.
The cash in excess of our targeted $1.3 billion liquidity cushion is available to repay maturing operating debt, to fund operating needs, and to redeploy over time for strategic and capital management purposes. I'll turn it back over to John.
Thank you, Rob. Thank you, Mark. We'd now like to open it up to questions.
Thank you. Ladies and gentlemen, if you wish to ask a question, please press star followed by one on your touch tone phone. You will hear a tone indicating that you have been placed in queue. You may remove yourself from queue by pressing the pound key. If you are using a speakerphone, please pick up your handset before pressing the numbers. Once again, for any questions or comments, press star and then one. Our first question will come from the line of Erik Bass with Citigroup. Your line is open.
Hi, thank you. I was hoping you could provide a little bit more detail around the drivers of the $500 million in improvement in excess capital, particularly the capital generated by the business, and maybe touch on any amounts from the settlements of the capital hedge that contributed to that.
Erik, it's Rob. Happy to do so. As I said, the capital that we generated this quarter was primarily from business earnings. There was a modest benefit from interest rates. The math is relatively straightforward if you think about the guidance that we've given before. If you look at our after-tax operating income, you net from that the buybacks and dividends that we provided during the course of the quarter. The rule of thumb that we use for business growth, the amount of capital that needs to be put back into our businesses to finance their growth, you come up with a number that's pretty close to the half a billion dollars that we generated. It comes primarily from that earnings that are generated at the business level.
The capital hedge, I presume in that case you're referring to the FX equity hedge, actually did not have a material impact in this quarter. If you'll recall, in the first quarter, we accelerated some of the, locked in, I should say, some of the gains associated with that. That included most of what we otherwise would have realized during the course of this quarter.
Yeah, thank you. That's helpful. Given the volatility that we've seen in the excess capital over the past three quarters, can you just talk about how comfortable you are in redeploying this capital? Does the volatility at all limit kind of your deployment options in terms of, I guess, how you would think about using that capital?
I think, Erik, the way I would respond to that is, I think the volatility was limited to a single quarter as opposed to volatility that you've seen on a consistent basis, first. Secondly, as we look at that capital capacity, I think our inclination and philosophy toward redeployment has not changed. We look at holding a prudent amount of it to ensure that we retain or maintain a strong balance sheet, and we otherwise look to redeploy that capital either to finance growth organically or inorganically, and to keep a balanced distribution back to our shareholders as well.
Thanks. Just a final question. Given the recovery in the excess capital position and the uptick that we've seen in interest rates, have you given any consideration to either reducing or eliminating the rate underhedge?
That particular underhedge is looked at in the context of our overall interest sensitivity across the enterprise. At this point, we're comfortable with where we stand on that position. I think as we've said before, we have a positive convexity toward interest rates, meaning that as rates rise, we will benefit, and we'll benefit more than we would suffer should rates decline. We like that position at this point in the cycle.
This is Mark. Let me just remind you that you need to take a broader view of that. That narrow product underhedge does go the other way from some other things in our income statement, and particularly, in my remarks, I commented on nearly $800 million of negative mark to market on basically duration hedging derivatives. You've got to think more generally about what goes the other way and how that's netted off before you start thinking about specifically the underhedge as a standalone, either view on rates or influence on our overall balance sheet.
Got it. Thank you for the comments.
Thank you. Our next question comes from the line of Seth Weiss with Bank of America. Your line is open.
Good morning, thank you. To follow up on the theme of capital, if we look at the parent company cash and short-term investment, the $5.6 billion, I believe this is the highest it's been in about two and a half years. I understand excess capacity you think about holistically in terms of Holdco and the statutory entities. Given the higher parent company cash position, should we think about that as any type of short-term opportunity to deploy, or are there near-term timing needs of cash that we should consider?
Seth, I would point to the comment I made in my opening remarks about our leverage position. Specifically, I would note that if you look forward to maturing operating debt that we've got during the course of this year, we've got about $2 billion worth of debt that matures in the second half of the year. We're sitting on a substantial amount, as you noted, cash at the holding company, we would expect to be able to pair those things off during the course of the year.
Okay. Is there no plan to roll those debts?
We have a lot of liquidity sitting at the holding company, and we would not, based on our current position, think that we would want to add to that liquidity by effectively rolling over our existing debt rather than look at the opportunity to just repay that as it becomes due in its natural course.
Okay, great. Thanks. If I could just follow up, one, in the retirement segment. I think we've seen positive case experience in the pension closeouts for several quarters or a couple of years now. Perhaps you could just comment, maybe give a little bit more granularity on where that positive case experience is coming from, and if that's something that, I know you're not guiding to anything sustainable there, you're being pretty specific about calling that out in both the releases and in the earnings calls here. Maybe just explain why that should normalize lower.
Seth, this is Steve. I'll comment on that. I'm not going to attribute the positive case experience to any particular transactions or any particular part of the book. I will say that we call it out because we recognize that these are liabilities with longer average duration, about nine to 10 years on the funded side, as we spoke about, and about eight to 12 years on the longevity side. We're not about to take the positive case experience and kind of bake it into our expectations. However, I will say that as you pointed out, the consistent positive case experience does serve to bolster our already high confidence that we've priced this business appropriately and assessed the risks accurately.
maybe just to follow up in terms of just the kind of risk characteristics of this. Is this something that will have quarterly volatility like a group or life that maybe we're a little bit more accustomed to, and that it's just been several quarters of good luck, or is there maybe just a better trend here that we could think about?
I wouldn't necessarily call it good luck. I'd call it, again, reflecting strong underwriting of the business. again, this would be something that we wouldn't expect to see the same type of number emerging from this every single quarter.
Thank you.
Thank you. Our next question comes from the line of Thomas Gallagher with Credit Suisse. Your line is open.
Thanks. The first question I had is, Rob, when you take the 60% ratio of free cash flow versus GAAP earnings that you all have put out there, then you compare it to the results you've had for the last few quarters, I get something closer to 90%. My question is, I don't know if that would be precisely the way you would calculate it, but I think directionally that's right. Where is that, we'll call it above average or above expectations capital generation, where is that coming from right now? Is that something going on within the Arizona VA captive? Is that broadly related to interest rates? Can you just expand upon how you're over-earning from a cash flow generation standpoint right now?
Tom, without benefiting from exactly how you're doing your calculations, I'd note a couple things that have positively benefited our cash flow ratio. The most significant of which would be the Closed Block transaction. As a result of that restructuring that we've talked about before, there's been a substantial freeing up of cash from the Closed Block business up to the parent holding company. We've seen the benefit of that in our cash flow. Hence, that may be skewing the numbers that you're looking at. Depending on the timeframe that you're looking at, if you look at the positive convexity that I'd mentioned that we have to interest rates, as interest rates have increased from their lows, we have benefited from that. That frees up capital in a way that you don't see it coming necessarily from earnings, but from outside of earnings.
I'm sorry, the one other point is the benefit from the yen hedge. That's outside of our AOI number, but winds up as we monetize that, we're able to get the cash from that. You've seen that. We've talked about that in the course of the first and second quarters. That yen has contributed to cash that has been available and is sitting at the holding company. The total of that on an after-tax basis in the first quarter we mentioned was $ several hundred million. While it was not material in the second quarter, we've benefited from that in the cash position.
Okay. Just to follow up, the Closed Block transaction in terms of how much that moved the needle to your overall enterprise view of leverage and excess capital was how much?
The dividend this year was $2 billion from PICA. About $1.25 billion of that was associated with the Closed Block. If you could do the math and figure out the attribution of that to our decline in the capital ratio. The decline in the financial ratio really came about by virtue of three things. That was the first. The second was we issued $1 billion of hybrids, and 25% of that hybrid goes toward equity attribution. That helps on the leverage ratio. The third was just the growth in our earnings during the course of the quarter that increased the denominator.
Okay, thanks. Just one last follow-up. I guess to get back on the question of interest rate sensitivity, overall capital position, would you guys be willing to provide sensitivities to this number, which is now $3 billion in terms of balance sheet capital capacity? How much sensitivity is there if we were to see, say around year-end this year, a decline in interest rates to either a 2% level on the 10-year treasury or 1.5%? Is that something that you could help frame for us? Because that's one of the main questions that I still get from people as to one of the concerns that they have.
We have not provided direct sensitivities of capital to interest rates, Tom. I think what we did say on Investor Day is that we've run stresses. I think what we ran was a 50 to 100 basis point decline in levels of interest rates, and looked at what that would do to our capital capacity. The result of that was a relatively modest impact to our capital capacity, and just a slight elevation to our leverage ratio. I would say that we feel reasonably comfortable that our capital capacity is sustainable in a declining interest rate environment.
Okay, thanks.
Thank you. Our next question comes from the line of Suneet Kamath at UBS. Your line is open.
Thanks. Good morning. I wanted to start with retirement, if I could. If I go back to the Investor Day, you showed a helpful slide that shows the profit emergence of PRT versus longevity transactions over time. My question is, what is the relative size of those two businesses? I'm not sure if what's the right way to do it in terms of reserves or capital or earnings, can you give us some sense of, given the deals that you've announced to date, the relative sizes of those two businesses?
Suneet, this is Steve. I'll speak to the business that we've done in this quarter. As Mark mentioned in his comments, we had about $7 billion in sales in the quarter, of which about $1.5 billion was funded business, and the remainder was in several different longevity transactions. In terms of the overall size of the book, we're looking for that data now and can provide it to you in due course.
Okay, great. I guess my follow-up question is just a follow-up to Seth's on the $2 billion of debt that's maturing that you're going to repay. I haven't done the math on what the implications are for the financial leverage ratio if you repay that debt. Just based on where you sit today, it would seem that you're going to be well below your 25% target that you use when you assess excess capital capacity. Just wondering what the thought is there. Are we going to at some point see a reduction in that target from 25% to something lower? How should we think about that?
The debt reduction would actually be in the total leverage ratio, would not affect our financial leverage ratio. We've already recharacterized the debt that's to be repaid from financial to operating. The $2 billion that's coming up will then repay operating debt. Our total financial ratio will decline from around 44% to around 42%, but there would be no impact on the reported financial ratio.
Okay. You're still going to travel around that 25% target that you've talked about?
That's our targeted number, and while we may bump above or below it, depending on any given quarter and particular situation or opportunity that we're looking at, our intent is to have it hover around that number, yes.
Okay, thanks.
Suneet, let me just follow up on your question. If you look on page 18 of the QFS, we do break out total account values for longevity reinsurance and group annuities and other products. You'll see those numbers there.
Okay. Is all that group annuity stuff PRT or there are other pieces in there?
There are some other products, and there's legacy PRT in there.
Okay. All right. I'll follow up later.
You do see the longevity, which is essentially the U.K. longevity block that we've added over the last couple of years.
Okay, thanks.
Thank you. Our next question comes from the line of Jimmy Bhullar with J.P. Morgan. Your line is open.
Hi, I had a few questions. First, on the FSA business, you've had positive flows now I think for three straight quarters, and this quarter was especially good. In the past, your outlook for the business and your view on market trends hasn't been that positive. I'm wondering if that's changed recently. On group benefits margins in both group life and disability, it seemed like they were unusually good. I'm not sure if it was an aberration or it's the result of pricing actions that you've taken. Is this somewhat of a sustainable level in margins into the second half, or would you expect margins to compress from these levels?
Jimmy, this is Steve. I'll address both your questions. We think the full service flows that we've seen reflect the investments we've made in the business to lower our unit costs and manage our unit costs more effectively, and to improve our persistency and our sales pipeline. We think that, like I said, the sales we've seen reflect our enhancement of our competitive position. By the same token, we still view this as a highly competitive business and one in which sales and flows will be fairly chunky over time. This quarter's sales did not reflect any particularly large jumbo cases on either the sales or on the withdrawal side. For example, it's been publicly announced, in July, we closed the State of Connecticut business, which was over $4 billion.
We still view this as something that will, like I say, have its ups and downs and that we see as a highly competitive business in which we're going to maintain our pricing discipline. On group benefits ratios, I'd segment it out into life and disability. In life, we think the guidance we've given of a target range for the benefit ratio between 88%-92% still holds. This was a good quarter at the lower end of that range, but still within the range. On disability, we've given a similar range of 88%-92%. Quite frankly, I do think that range is rather stale.
As we see our successful efforts in remediation of the existing book, as we in particular see our successful efforts in improving our claims management capabilities, we think there's the potential for, as things settle down in our remediation of this business, for revising that target ratio over time. I don't have a different type of figure for you yet, but I would expect that as we take a look at that, we'll come up with something that is in between the 88-92 range at the high end, and where we are today at the low end.
Okay. Then for Mark, on the Department of Labor fiduciary standards, how much of an impact do you expect the standards, if they are approved in final form, similar to how the preliminary guidance was, how much of an impact would you see on your business, and what are the specific product lines that you think will be the most affected?
That's actually a question for Steve.
Jimmy, I'll respond to that. I think some people have been asked on their calls, do they see the DOL impact as a net negative or a net positive? We see it as a net negative on the marketplace that we serve. We see the risk of individuals having restricted access to advice and certain types of solutions, in particular around guaranteed retirement income solutions. Just to give you a little bit of a flavor, the regulation itself is certainly voluminous, so is the industry commentary that has been made in response to the regulation. I think it's far too early to anticipate exactly what changes will ultimately be enacted and to give you an estimate of the impact of those changes. I can say that in our own comments, we highlighted a few different areas
That really need clarification or outright amendment. To highlight a couple of those. Like many in the industry, we believe that the fiduciary definition in the regulation as drafted is too broad, encompassing activities such as traditional marketing that were really never viewed as or intended to be fiduciary in nature. We also share concerns expressed by many others that the Best Interest Contract Exemption, as it's written and as it could be interpreted, would be highly problematic and could entail higher compliance burdens and costs, and potentially higher legal exposures for industry participants. We also highlighted where the DOL really needs to clarify and sharpen the distinction between education and advice.
For us in Prudential, as I highlighted on our last earnings call, we do believe that our market position, our mix of businesses, and the strength of our franchise will help us to adapt to any regulatory framework that emerges. We think that there are some aspects of our particular business model that benefit us in this regard. For example, most of our DC record-keeping business is with cases with over 100 participants already, and that's relatively less impacted in this regulation. The investment platform supporting both our retirement and our annuities businesses already operate on very much of an open architecture basis. Our own agency force, Prudential Advisors, sells a range of proprietary and non-proprietary products. We think we're relatively well-positioned to deal with an emerging regulatory framework.
However, we still do view this, as I say, as something that has the potential for unintended negative consequences on the marketplace and the clients that we serve.
Okay, thank you.
Thank you. Our next question will come from the line of Eric Berg with RBC Capital Markets. Your line is open.
Thanks very much. I'd like to start by talking about the retirement business. Just eyeballing the set of column charts on the right on slide 10. I'll let you get to that. It looks like the real growth in the business is on the longevity reinsurance side as opposed to the funded side. Is that right? If so, why are clients gravitating towards that option?
Eric, this is Steve. I think we've seen growth on both fronts. I think that naturally speaking, the longevity reinsurance business, being reinsurance activities at its core, tends to be in higher tickets, higher transaction sizes. As we've spoken about before, both in terms of earnings attribution and in terms of capital attribution, the funded business has higher earnings per dollar of account value and higher capital attribution. In terms of the solutions and what kind of marketplace is developing more rapidly, I would say that the U.K. longevity reinsurance industry has been established for several years now. There's a regular stream of transactions in the marketplace in what has become a relatively well-established business. The pension risk transfer business on the funded basis in the U.S. tends to be more episodic in nature.
We still view the business as having developed very nicely over the past couple of years, but particularly in the large case market in which we tend to do most of our business, that's naturally going to be episodic in nature.
And-
Eric.
Go ahead, Mark
The longevity reinsurance transactions are more attractive to clients in the U.K. for structural and cost reasons. In the U.S., we've actually done much better on the fully funded deals. It's not that clients choose one or the other. You're kind of seeing two different places here.
Yeah.
Okay.
The longevity reinsurance business really has not yet emerged in the U.S.
Before turning to a question about annuity, I just want to ask one quick one further about retirement. Just to make sure I understand, what exactly we mean by case experience here being favorable? Is the idea plainly and simply that deaths of plan participants are happening at a greater rate than you priced for, so you're ceasing payments to annuitants sooner than you priced for? Is that what you mean by favorable case experience?
That's primarily it, Eric. There's also an impact from investment experience as well.
One last question regarding the annuity business. I'll be wrapped up. One of the things I noticed in your supplement is that despite what has now been a multi-quarter effort to de-risk the annuity business, the relationship between the two sets of account values, those with higher risk and those with less risk, whether they're reinsured or don't have equity risk, hasn't really changed. That's what at least I'm taking away from the supplement. Is that right? If so, why hasn't this ratio changed?
Well, Eric, I think on that front, this is Steve again, it's just more a matter of the math. We have a very large in-force book. We have been embarked on this product diversification effort for basically two years now. We've had, I think, remarkable success in altering our sales pattern over those two years, as Mark highlighted in his business commentary. The plain mathematical fact of the matter is that it will take time
For that altered sales pattern to have a significant impact on the nature of the in-force.
Very good. I'm all set. Thanks very much.
Cynthia, we'll take one more question, please.
Certainly, that will be the line of Michael Kovac with Goldman Sachs. Your line is open.
Great. Thanks for taking my question. I was just wondering, on the assumption review this quarter, if you could walk us through in a little more detail, relative to last year, what some of the underlying changes that you made were and specifically thinking about long-term and shorter-term interest rate assumptions embedded in some of your products.
Michael, it's Rob. I'll try to tackle that. First, let me answer the latter part of it. We actually brought down our long-term reversion rate, both in the U.S. and Japan by 25 basis points. That had a negative impact on our assumption update for the year. Offsetting that were positive drivers that we had, and if I had to sort of summarize them across the businesses, it would be that mortality was a positive impact both in our life and our corporate and other business. The annuity utilization rate, specifically on our GMIB product, was a positive impact. Then we had a positive impact from long-term disability termination rates. If you look at the AOI impact of that, I think as Mark highlighted, that was a positive of about $117 million.
Importantly, on a GAAP net income basis, it was also a positive of about $60 million. While it had less of a positive impact on a GAAP basis, we nonetheless had a positive outcome there as well. Does that answer your question without getting into specifics on any individual business? We'd be happy to do so if you're looking for more detail.
Yeah. I can follow up on the individual businesses. I was looking at the rate level. Then one more question on the annuities business, thinking about a run rate for this, you called out some of the one-time items. Is scale really driving this to a more reasonable, maybe $425 run rate on a quarterly basis? That's part one on the annuities. Then second, when you think about sales going forward with now the reinsurance in place, do you expect to be able to accelerate the pace of sales in this business going forward?
Michael, it's Steve. I'll tackle that. In regard to how we view a run rate for the business, I'd guide you to my comments that I made earlier about ROA. We're pleased with the progress on that front, but we still view this as a business where the sustainable ROA over time will be in the low 100s, ranging up to 105. In regard to reinsurance, we view that as a risk management initiative and tool. We do not see it as something that we intend to use to lever up our HDI sales. That's not how we view it at all. We continue to price our HDI product without regard to the reinsurance contract, for example, and conduct ourselves in the market accordingly. I really emphasize that the reinsurance arrangement is purely a risk management tool, one of several at our disposal.
Great. Thanks.
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