Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
GENERAL
The nature of our business exposes us to market risk relative to our invested assets and policy liabilities. Market risk is the risk of loss that may occur when changes in interest rates and public equity prices adversely affect the value of our invested assets. Interest rate risk is our primary market risk exposure. Substantial and sustained increases or decreases in market interest rates can affect the fair value of our investments. The fair value of our fixed maturity portfolio generally increases when interest rates decrease and decreases when interest rates increase.
The following table summarizes net unrealized gains and losses as of the dates indicated.
December 31, 2020 December 31, 2019
(In thousands) Amortized
Cost Fair
Value Net Unrealized Gains Amortized
Cost Fair
Value Net Unrealized Gains
Total fixed maturity securities $ 1,321,487 1,489,383 167,896 1,293,853 1,377,959 84,106
Total equity securities $ 19,529 22,102 2,573 15,055 16,033 978
MARKET RISK RELATED TO INTEREST RATES
Our exposure to interest rate changes results from our significant holdings of fixed maturity investments and policy loans, both of which comprised over 94.8% of our cash and investment portfolio as of December 31, 2020. These investments are mainly exposed to changes in U.S. Treasury rates. Our fixed maturity security investments include bonds issued by U.S. Government-sponsored enterprises, U.S. treasury bonds, securities issued by government agencies, state and municipal bonds, corporate bonds and other asset-backed securities. 27.5% of the fixed maturity securities at market value at December 31, 2020 were classified as state and political subdivisions, which are primarily municipal holdings. These holdings are diversified over several states with 21.4% of our state and municipal securities concentrated in Texas.
Changes in interest rates typically have a sizable effect on the fair value of our debt and equities securities. The interest rate of the ten-year U.S. Treasury bond decreased to 0.93% at December 31, 2020, from 1.92% at December 31, 2019. Net unrealized gains on fixed maturity securities totaled $167.9 million at December 31, 2020, compared to $84.1 million at December 31, 2019, based upon bond interest rates in relation to the U.S. ten-year Treasury yield.
To manage interest risk, we perform periodic projections of asset and liability cash flows to evaluate the potential sensitivity of our investments and liabilities. We assess interest rate sensitivity on an annual basis with respect to our fixed maturity security investments using hypothetical test scenarios that assume either upward or downward shifts in the prevailing interest rates. The Company performed an analysis of fair value changes using assumed 100 basis point shifts in interest rates, noting that the fair value of our fixed maturity investment portfolio of $1.5 billion would decrease by approximately $142.9 million to a fair value of $1.3 billion upon a 100 basis point increase. The following table shows the effects on the fair values of our fixed maturity investments based upon these scenarios.
Fair Values of Fixed Maturity Investments
(In thousands) -100 0 +100 +200 +300
Assumed fair value $ 1,641,227 1,489,383 1,346,483 1,228,908 1,126,496
December 31, 2020 | 10-K 65
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CITIZENS, INC.
While the test scenarios are for illustrative purposes only and do not reflect our expectations regarding future interest rates or the performance of fixed-income markets, it is a near-term change that illustrates the potential impact of such events. Due to the composition of our book of insurance business, we believe it is unlikely we would encounter large surrender activity due to an interest rate increase that would force us to dispose of our fixed maturity securities at a loss.
Our fixed maturity portfolio is exposed to call risk as a significant portion of the current holdings are callable. A decreasing interest rate environment can result in increased call activity as experienced over the past several years, and an increasing rate environment will likely result in securities being paid at their stated maturity.
There are no fixed maturity securities or other investments that we classify as trading instruments. All fixed maturity securities were classified as available-for-sale based upon fair value at December 31, 2020. At December 31, 2020 and 2019, we had no investments in derivative instruments or subprime loans.
MARKET RISKS RELATED TO EQUITY PRICES
Changes in the level or volatility of equity prices affect the value of equity securities we hold as investments. Our equity investments portfolio represented 1.4% of our total investments at December 31, 2020, with 70.3% invested in diversified equity and bond mutual funds.