Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
We are exposed to interest rate risk related to borrowings in various businesses. These risks result primarily from changes in SOFR rates and the spread over SOFR rates related to the credit risks of our businesses.
For fixed rate debt, interest rate fluctuations generally affect the fair value of our liabilities, but do not impact our earnings. Therefore, interest rate risk does not have a significant impact on our fixed rate debt obligations until such obligations mature or until we elect to prepay and refinance such obligations. If interest rates have risen at the time our fixed rate debt matures or is refinanced, our future earnings could be adversely affected by additional borrowing costs. Conversely, lower interest rates at the time of maturity or refinancing may lower our overall interest expense. As of December 31, 2022, the Company had $125 million of general purpose fixed rate debt outstanding maturing in 2057.
For general purpose floating rate debt, interest rate fluctuations primarily affect interest expense and cash flows. If market interest rates rise, our earnings could be adversely affected by an increase in interest expense. In contrast, lower interest rates may reduce our interest expense and improve our earnings, except to the extent that our borrowings are subject to interest rate floors. The floating interest rate risk of asset based financing is generally offset as the financing and the purchased financial asset are generally subject to the same interest rate risk. For floating rate risk of other asset based financing such as borrowings to finance acquisitions of real estate, we generally hedge our exposure to the variability of the benchmark index with an interest rate swap.
As of December 31, 2022, Tiptree’s holding company had no general purpose floating rate debt as it was repaid in June 2022. As of December 31, 2021, we had $114.1 million of general purpose floating rate debt with a weighted average rate of 7.75%.
Our consolidated results include investments in bonds, loans or other interest bearing instruments. The fair values of such investments fluctuate in response to changes in market interest rates. Increases and decreases in interest rates generally translate into decreases and increases in fair values of these instruments. Some of these investments bear a floating rate of interest which subjects the Company to cash flow risk based upon changes in the underlying interest rate index. As noted above in the discussion of risks related to floating rate borrowings, the Company mitigates a significant amount of our floating rate risk by matching the funding of such investments with borrowings based upon the same interest rate index. Additionally, fair values of interest rate sensitive instruments may be affected by the creditworthiness of the issuer, prepayment options, relative values of alternative investments, the liquidity of the instrument and other general market conditions.
As of December 31, 2022, we had $706.4 million invested in interest bearing instruments, which represents 61% of the total investment portfolio (including cash and cash equivalents). The estimated effects of a hypothetical increase in interest rates of 100 bps would result in a decrease to the fair value of the portfolio by $24.8 million. As of December 31, 2021, we had $658.8 million invested in interest bearing instruments, which represented 72% of the total investment portfolio. The estimated effects of a hypothetical increase in interest rates of 100 bps would result in a decrease to the fair value of the portfolio by $20.0 million.
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Credit Risk
We are exposed to credit risk in the form of available for sale securities, investments in loans, and other investments as follows:
($ in thousands) As of December 31,
2022 2021
Available for sale securities, at fair value (1)
Obligations of state and political subdivisions
$ 49,454 $ 58,660
Corporate securities 161,999 144,877
Asset backed securities 15,349 17,447
Certificates of deposit
756 2,696
Obligations of foreign governments 2,362 2,590
Loans, at fair value (2)
Corporate loans 14,312 7,099
Other investments (3)
Corporate bonds, at fair value 42,080 38,965
Debentures 23,853 21,057
Trade Claims — 19,737
Other 230 216
Total $ 310,395 $ 313,344
(1) The Company also holds investments in U.S. Treasury securities and obligations of U.S. government authorities and agencies of $382.1 million and $351.2 million as of December 31, 2022 and 2021, respectively. These investments do not represent a credit risk and are excluded.
(2) The Company also holds investments in mortgage loans held for sale of $50.5 million and $98.5 million as of December 31, 2022 and 2021, respectively. These investments do not represent a credit risk and are excluded.
(3) The Company also holds other investments of $6.9 million and $88.7 million as of December 31, 2022 and 2021, respectively, primarily comprised of vessels and other investments. These investments do not represent a credit risk and are excluded.
Credit risk within the Company’s investments represents the exposure to the adverse changes in the creditworthiness of individual investment holdings, issuers, groups of issuers, industries, and countries. As of December 31, 2022 and 2021, 76% and 72%, respectively, of the investments subject to credit risk had investment grade ratings. A widening of credit spreads by 100 bps for the investments subject to credit risk would result in a decrease of $5.8 million and $6.3 million to the fair value of the portfolio as of December 31, 2022 and 2021, respectively.
In addition, our mortgage business also underwrites mortgage loans for the purpose of selling them into the secondary market. Due to the relatively short holding period, the credit risk associated with mortgage loans held for sale is not expected to be significant.
See Note (6) Investments to the consolidated financial statements for more information regarding our investments in loans by type.
Market Risk
We are primarily exposed to market risk related to the following investments:
($ in thousands) As of December 31, 2022 As of December 31, 2021
Insurance Tiptree Capital - Other Total Insurance Tiptree Capital - Other Total
Invesque
$ 2,670 $ 12,784 $ 15,454 $ 6,015 $ 28,799 $ 34,814
Fixed income exchange traded fund 56,256 — 56,256 53,154 — 53,154
Other equity securities 14,066 — 14,066 50,515 — 50,515
Total equity securities $ 72,992 $ 12,784 $ 85,776 $ 109,684 $ 28,799 $ 138,483
A 10% increase or decrease in the fair value of such investments would result in $8.6 million and $13.8 million of unrealized gains and losses as of December 31, 2022 and 2021, respectively.
As of December 31, 2022 and 2021, we owned 17.0 million shares of common stock, respectively, or approximately 31%, of Invesque, a real estate investment company that specializes in health care real estate and senior living property investment throughout North America. The value of our Invesque shares is reported at fair market value on a quarterly basis. Invesque historically paid monthly dividends until April 2020, when dividends were discontinued. A loss in the fair market value of
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our Invesque shares or a reduction or discontinuation in the dividends paid on our Invesque shares could have a material adverse effect on our financial condition and results of operations. As of December 31, 2022 and 2021, the fair value of the Invesque shares was based on the market price.
See “Risk Factors — Risks Related to our Business - Our investment in Invesque shares is subject to market volatility and the risk that Invesque changes its dividend policy”.
Foreign Currency Exchange Rate Ris k
We have foreign currency exchange rate risk associated with certain assets and liabilities related to our foreign operations. At December 31, 2022 and 2021, 93% of our invested assets were denominated in United States (U.S.) Dollars. At December 31, 2022 and 2021, 93% and 94%, respectively, of our combined unpaid premiums and deferred revenue were denominated in U.S. Dollars. At that date, the largest foreign currency denominated balance was a fixed income exchange traded fund in British Pound Sterling reported within equity securities.
Counterparty Risk
We are subject to counterparty risk to the extent that we engage in derivative activities for hedging or other purposes. As of December 31, 2022 and 2021, the total fair value of derivative assets subject to counterparty risk, including the effect of any legal right of offset, totaled $4.3 million and $8.2 million, respectively. We generally manage our counterparty risk to derivative counterparties by entering into contracts with counterparties of high credit quality.
Total reinsurance receivables were $1,176.1 million and $880.8 million as of December 31, 2022 and 2021, respectively. Of those amounts, $603.3 million and $533.6 million, respectively, related to contracts with third-party captives in which we hold collateral or receive letters of credit in excess of the reinsurance receivables. The remainder is held with high quality reinsurers, substantially all of which have a rating of A or better by A.M. Best. As of December 31, 2022, the non-affiliated reinsurers from whom our insurance business has the largest reinsurance receivable balances represented $189.2 million, or 16.1% of the total, and included: Allianz Global Corporate & Specialty SE (A.M. Best Rating: A+ rated), Canada Life Assurance Company (A.M. Best Rating: A+ rated), and Canada Life International Reinsurance (Bermuda) Corporation (A.M. Best Rating: A+ rated). A majority of the related receivables from these reinsurers are collateralized by assets on hand and letters of credit; receivable balances from authorized reinsurers do not require collateral. Allianz Global Corporate & Specialty SE and Canada Life Assurance Company are authorized reinsurers in the states in which Fortegra’s U.S. based insurance entities are domiciled. The Company monitors authorization status and A.M. Best ratings of its reinsurers periodically. As of December 31, 2022, the Company does not believe there is a risk of loss due to the concentration of credit risk in the reinsurance program given the collateralization.
We were also exposed to counterparty risk of approximately $191.1 million and $157.9 million as of December 31, 2022 and 2021, respectively, related to our retrospective commission arrangements; associated risks are offset by the Company’s contractual ability to withhold future commissions against the retrospective balances. In addition, we are exposed to counterparty risk of approximately $121.3 million and $89.8 million as of December 31, 2022 and 2021, respectively, related to our premium financing business. The risk associated with such arrangements is mitigated by the fact that we have the contractual ability to cancel the insurance policy and have premiums refunded to us by the insurer in the event of a counterparty default.
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