Manulife Financial Corp (MFC) 2011 Q4 法說會逐字稿

Good afternoon, and welcome to the Manulife Financial Q4 2011 financial results conference call for February 9, 2012. Your host for today will be Mr. Anthony Ostler. Mr. Ostler, please go ahead.

Thank you, Ann, and good afternoon. Welcome to Manulife's conference call to discuss our fourth-quarter 2011 and full-year 2011 financial and operating results. Today's call will reference our earnings announcement, statistical package and webcast slides, which are available in the Investor Relations section of our website at Manulife.com.

As in prior quarters, our executives will be making some introductory comments. We will then follow with a question-and-answer session. Available to answer questions about their businesses are the heads of Japan, the US, Canada, Investments and General Account Investments.

Today's speakers may make forward-looking statements within the meaning of securities legislation. Certain material factors or assumptions are applied in making forward-looking statements and actual results may differ materially from those expressed or implied. For additional information about the material factors or assumptions applied and about the important factors that may cause actual results to differ, please consult the slide presentation for this conference call and webcast, available on our website, as well as the securities filings referred to in the slide entitled Caution Regarding Forward-Looking Statements.

When we reach the question-and-answer portion of our conference call, we would ask each participant to adhere to a limit of one or two questions. If you have additional questions, please requeue, as we will do our best to respond to all questions.

With that, I would like to turn the call over to Mr. Donald Guloien, our President and Chief Executive Officer. Donald.

Thank you, Anthony. Good afternoon, everyone, and thank you for joining us today.

We are joined on the call by our CFO, Michael Bell, as well as several members of our senior management team, including our US General Manager, Jim Boyle; our Canadian General Manager, Paul Rooney; our Japan General manager, Craig Bromley; Warren Thomson, our Chief Investment Officer; Scott Hartz, our Executive Vice President, General Account Investments; Cindy Forbes, our Chief Actuary; and Rahim Hirji, our Chief Risk Officer.

This morning we reported our fourth-quarter 2011 and full-year 2011 financial results. We are pleased with our improved full-year 2011 net income, which was CAD129 million, an improvement of CAD1.8 billion over the prior year.

With the end of 2011, I am pleased to announce that we have achieved our three-year product mix repositioning in all three of our geographies. We have led our industry in repricing and redesigning products for the current interest rate environment, which has us well-positioned for sustainable growth.

We are also pleased with the underlying growth of our businesses against our strategic priorities. In all three geographies, we generated sustainable growth of less risky, higher return new business. And as of December 31, 2011, we achieved a record CAD500 billion -- that is CAD0.5 trillion -- in funds under management.

This growth was driven in large part by the investments that we have been making in distribution and in branding. We significantly expanded our equity market and interest rate hedging programs in the first half of the year, and mitigated most of the equity market and interest rate risk as financial markets became increasingly volatile in the second half of 2011. In fact, our hedging programs offset nearly CAD3 billion of potential market impact.

We exceeded our 2014 interest rate reduction goal in 2011. Our sensitivity to a 100 basis point decline in interest rates, including the AFS bond offset, is now CAD200 million.

We are also ahead of our 2012 risk reduction goal for equity markets and now stand at 93% of our 2014 goal.

Throughout 2011, we maintained our strength. We've bolstered our capital ratio through the divestiture of our Life retrocession business, successful non-common equity capital issuances and a significant reinsurance transaction.

The MCCSR of our operating company, the Manufacturers Life Insurance Company, was 216% at the end of 2011, and as of third quarter 2011 continued to lead our peers. This ratio does not reflect the benefits of our equity hedging program, which reduces the downside risk to our capital position, but is not directly reflected in the capital ratio formula.

In summary, we are pleased with the progress we made in 2011 against our strategic plans. We achieved our three-year product repositioning; our hedging programs are having a positive impact in volatile markets; and our businesses are delivering underlying growth of less risky, higher return new business.

Also noteworthy are the almost equal contributions of Asia, Canada and the United States to our operating results, a highly balanced portfolio.

Thanks to these efforts and initiatives, I am confident of Manulife's strength and that we are well-positioned to pursue more sustainable, better diversified growth going forward.

Before I turn it over to Michael Bell, our CFO, I would like to say that when Michael joined Manulife almost three years ago, he moved his family to Toronto from their home in Philadelphia. Last June, his family returned to Philadelphia, which is obviously not an ideal situation from a perspective of his interests or those of the Company.

Today, we have announced that Michael will be leaving Manulife. He has agreed to remain with Manulife to oversee the Company's annual 2011 financial reports and to continue beyond that time to allow us to hire a replacement CFO and allow for an orderly transition.

Although we will have plenty of time to say our goodbyes to Michael, I would like to thank him for his substantial ongoing contributions to Manulife. He has done a superb job in building strong financial teams across our geographies and relating our financial position to our investors and analyst community. We are very appreciative that he has agreed to stay with us until a replacement CFO is hired and to assist in the transition.

With that, I will turn it over to Michael Bell, who will highlight our financial results and then open the call to your questions. Thank you.

Thank you, Donald. Hello, everyone. First of all, I would like to thank you, Donald, for those very kind words of support. It has been a tremendous pleasure and privilege to work with the great people at Manulife and to live here in Canada. We've made tremendous progress as a company in the last three years under Donald's leadership, and I am confident that we will have even more success in the future.

Since my transition timetable is open-ended, I'll just reinforce that I will be fully engaged for as long as I am here, and will likely have plenty of time for goodbyes at a later date.

So in terms of our full-year results, we earned net income of CAD129 million in 2011, and that compares to a CAD1.66 billion loss in 2010. Included in the 2011 results are the impact of unfavorable interest rates and equity markets, the charges related to our actuarial basis changes and a goodwill impairment charge that we had discussed last quarter.

Due to these notable items, I would like to stress that our 2011 reported earnings are not indicative of our view of our expected run rate earnings going forward.

We ended the year with MLI's MCCSR at 216%, and we view this level as comfortable, particularly in light of our expanded hedging programs.

Our earnings in capital in 2011 benefited materially from the significant hedging actions over the last five quarters. As of year-end 2011, we have exceeded our 2014 goal for reduced interest rate sensitivity, and we continue to be ahead of our timeline for reducing sensitivity to equity markets. We are pleased to have benefited significantly in 2011 from our decisions and actions in this area.

Turning to slide 8, you'll note that there were a number of notable items impacting the fourth-quarter results. In the fourth quarter, we experienced a CAD40 million net gain due to the direct impact of equity markets and a CAD113 million net gain due to changes in interest rates. Higher realized equity market and interest rate volatility were the primary cause of a CAD193 million charge related to the VA block that is dynamically hedged. Tracking error and items not hedged also contributed to the amount.

The expected cost of our macro equity hedging program, based on our long-term valuation assumptions, was CAD97 million after-tax in the quarter. And the pretax amount was CAD116 million for the quarter.

In the fourth quarter, we also recorded investment-related gains that amounted to CAD279 million. Finally, there was a CAD665 million goodwill impairment charge for the John Hancock Life Insurance business, primarily resulting from the low interest rate environment and our derisking activities.

Slide 9 is our Source of Earnings. Expected profit on in-force increased relative to the third quarter of 2011. Fee income from asset-based businesses was lower in the fourth quarter, but was more than offset by favorable currency impacts.

The impact of new business strain increased due to the lower interest rates and increased sales of business, with higher new business strain in reaction to our announced price increases.

Experience gains in the fourth quarter primarily reflect favorable investment gains and seg fund experience, partially offset by losses from expenses and macro hedges.

Management actions and changes in assumptions include the impact of the goodwill impairment and the expected cost of macro hedging. Earnings on surplus increased sequentially, reflecting a favorable currency impact and the non-reoccurrence of losses on alternative assets in the third quarter of 2011.

On slide 10, you will see our insurance sales. For the full year 2011, sales of our targeted insurance products grew by 11% compared to 2010 on a constant currency basis. In Asia, we delivered record insurance sales in 2011, which were 13% higher than 2010. This was driven by record performance in six of our 10 businesses.

Our expanded distribution capacity contributed to the sales growth in Asia. As of year-end 2011, the number of contracted agents was 18% greater than 2010, and we also expanded our bancassurance arrangements in six of our businesses.

In Canada, 2011 sales of insurance products targeted for growth were in line with 2010. Affinity travel insurance and our small-business segment in the Group Benefits business delivered record sales for the year. Individual insurance successfully repositioned its sales mix to products with a more favorable risk profile.

In the US, we had strong sales of the new Universal Life products launched in 2011. These new products helped increase our 2011 sales of insurance products targeted for growth by 28% over 2010, and we view this product repositioning as a major success.

So overall, we are pleased with our sales of insurance products.

Turning to slide 11, 2011 sales of our targeted wealth products grew by 11% over 2010. Sales of wealth products targeted for growth in Asia increased 17%. This growth was driven by China, Taiwan and Japan.

In Canada, Manulife Mutual Funds delivered record sales of CAD2 billion in 2011, a 45% increase versus 2010.

2011 was also a strong year for Manulife Bank, which exceeded CAD20 billion in assets, which is a record level for our bank.

In the US, full-year sales for John Hancock Mutual Funds reached our highest level ever at CAD12 billion, a 29% increase versus 2010.

Our 401(k) business retained its leading market position in the small case market despite 2011 sales declining 7% compared to 2010. So overall, we are pleased with our significant growth in non-guaranteed wealth sales.

On slide 12, you can see that we have successfully transitioned our business mix. For the full year 2011, total Company premiums and deposits increased 4% versus 2010, and this was driven by growth in targeted wealth and insurance products, which grew 10% and 7%, respectively.

Because sales of products not targeted for growth now represents a relatively small portion of overall sales, the categorization of products as targeted for growth and not targeted for growth will be discontinued in 2012.

Turning to slide 13, you will see that our diversified asset mix of our investment portfolio remains high quality. Our invested assets are highly diversified by sector and geography, and have limited exposure to the high-risk areas noted on the slide.

We continue to view our investment management as a significant competitive advantage.

Turning to slide 14, you will see that we experienced some downgrades and impairments in the fourth quarter. But more importantly, for the full-year 2011, we booked a net credit experience gain relative to our expected assumptions.

Moving on now to slide 15, this slide summarizes our capital position for MLI. Our capital ratio for our main operating company was 216% at the end of the fourth quarter. There were a number of items in 2011 that impacted MCCSR and contributed to the 33-point decline versus the year-end 2010. These included regulatory and accounting changes that together reduced our MCCSR by 18 points; business growth and MLI dividends paid in excess of earnings reduced our MCCSR by approximately 13 points; the mechanics of required capital in a declining interest rate environment reduced MCCSR by another 12 points; and the sale of our Life Retro business and the additional third-party reinsurance together added 10 points to MLI's MCCSR.

I would remind you that the phase-in of IFRS Phase 1 is expected to further reduce MLI's MCCSR ratio by an additional two points by the end of 2012.

We continue to believe that we have a substantial buffer versus our policy obligations, particularly in light of our significant provisions for adverse deviation and our increased hedging.

As you can see on slide 16, we have hedged 60% to 70% of the estimated current earnings sensitivity for equity markets. We have achieved our year-end 2012 goal and are close to our year-end 2014 goal. As of December 31, our estimated earnings sensitivity to a 10% decline in equity markets was CAD600 million to CAD780 million, a much better result than our peak sensitivities in 2008 and 2009.

On slide 17, we see that our hedging program is working well and mitigated much of the variable annuity and equity markets related risk in 2011. For the full year 2011, we had nearly CAD3 billion in after-tax gains from the hedges in place, which partially offset the CAD4.8 billion after-tax impact due to the combination of unfavorable equity markets and interest rates.

Turning now to slide 18, we have exceeded our 2014 goal for the reduction in our interest rate sensitivity. Our estimated sensitivity to a 100 basis point decline, after 100% of the AFS bond offset, was reduced to CAD200 million at the end of the fourth quarter. Before the AFS offset, our estimated sensitivity was reduced to CAD1 billion, ahead of our year-end 2014 goal of CAD1.1 billion. We are very pleased with this progress in reducing our interest rate sensitivity.

Turning to slide 19, you will see some of the potential future impacts of a prolonged unfavorable low interest rate environment. This is the same slide that we presented last quarter. And given the effect of these impacts on our industry, we wanted to bring it to your attention again this quarter.

As we have discussed before at length, the Canadian mark-to-market regime has caused us to recognize the impact of the low interest rate environment much faster than we have been required to under US GAAP. Overall, we are pleased with the work we have done to ensure that our Company can operate effectively in this low interest rate environment and that we are well-positioned compared to many others in our industry.

I'll now address two topics, listed here on slide 20, which may be on investors' minds. The first is about our 2012 earnings outlook and our 2015 financial objectives. I will start by reminding everyone that we will not be providing earnings guidance for 2012, which is consistent with our past practice. Nevertheless, there are a few items that investors should keep in mind for 2012.

First, as I had highlighted in the third quarter conference call, continued low interest rates into the future will put pressure on the ultimate reinvestment rate, or the URR, for our fixed income investments. I continue to expect there to be a significant hit of over CAD500 million after-tax in 2012 for the URR adjustment if the current interest rate environment continues.

Last quarter, we also discussed the potential for a change to the interest rate scenarios used in calculating reserves in Canada and Japan should rates fall further. If rates declined to a level where we were required to change the reserving scenario, our earnings would become more sensitive to interest rates and corporate spreads in the absence of any mitigating management actions.

Regarding 2015, we have not changed our management objectives of CAD4 billion in earnings and 13% ROE, but there continue to be several headwinds and risk factors. As a result of the deterioration in the economic conditions and global instability, our 2015 objectives no longer include a cushion for further unfavorable conditions. Therefore, the additional risk factors summarized in our public disclosures may result in an inability to achieve such objectives.

These additional risk factors include the first and second order impacts of a declining and/or sustained low interest rate environment that we've highlighted. It also includes the risk of a period of unfavorable investment returns relative to the rates assumed in our valuation assumptions, as well as the impact of actions that we may take to bolster near-term regulatory capital.

So our 2015 management objectives have not changed, but they no longer have a cushion for additional unfavorable conditions.

The second topic is MLI's MCCSR ratio. As I mentioned earlier, we ended 2011 with an MCCSR ratio of 216%. We view our capital buffer to be stronger today than it was a few years ago as a result of our significantly expanded hedging programs and improved new business mix.

As discussed earlier, while our current MCCSR is lower than year-end 2010, 30 points of the decline were the result of MCCSR rule changes and the impact of lower interest rates on the amount of required capital.

So overall, we view our capital position as strong, particularly in light of our expanded hedging and our significant provisions for adverse deviations, or PfADs, in our actuarial reserves.

Regarding management actions, we do issue preferred shares and other capital instruments from time to time to bolster our capital ratio, as we believe this action is prudent when faced with uncertain market and economic conditions. While our capital position remains strong, we recognize that there could be pressure on our common share price and our bond spreads if our published MCCSR declines.

So by way of summary, over the past three years, we have consciously changed our business mix to reduce our risk profile and to ultimately increase our ROE. I am very pleased to say that we achieved a much better sales mix in 2011.

Because sales of products not targeted for growth now represents a relatively small portion of overall sales, the categorization of products as targeted for growth and not targeted for growth will be discontinued in 2012.

Overall, we are financially strong, particularly in light of our expanded hedging. We have significantly reduced our earnings sensitivity to equity market and interest rate movements. In 2011, we also invested in enhancing our brand awareness in key markets globally. And finally, we continue to deliver strong growth in our targeted businesses in 2011.

This now concludes our prepared remarks. Operator, we will now open the call to Q&A.

(Operator Instructions) Tom MacKinnon, BMO Capital Markets.

Thanks very much. Good afternoon, everyone. This is a question really here about how we are going to get to the core earnings kind of growing going forward. I guess there is some debate as to what they are. But if we want to look at earnings excluding some notable items, and define that kind of as a core number, we should -- as you shift this business into more of these targeted for growth areas, which I understand would be more profitable and presumably would have less strain, when would we start to see the core number kind of pick up here going forward? And when would that happen?

I understand you probably have some price increases -- price hikes to come through in your book of business, as well. So if you can comment on that, I would appreciate it.

As you know, many people define core earnings a little bit differently. So we have obviously discontinued the use of the defined term adjusted earnings from operations.

But if I think about your question and I think about the underlying earnings power of the book, there are a number of reasons why we would expect, certainly over the fullness of 2012, that our underlying earnings run rate would be stronger, for example, than what we saw in Q4.

And there are three or four items that I would highlight there. First of all, if you look at the new business strain, you saw that new business strain increased sequentially approximately CAD40 million after-tax Q4 to Q3; it was a little less than that, but a round number is about CAD40 million after-tax. As we've been increasing prices and more of those price increases kick in here in 2012, I would anticipate that new business strain would improve.

Now obviously, if interest rates decline further, that would lead to another series of price changes. But again, barring a major change in interest rates, I would expect new business strain to improve as a result of the price increases.

Importantly, as well, assets under management are higher here for January 1, 2012 than they were for October 1, 2011. And so as a result of that higher starting point, I would expect that we would have higher fee income in first quarter than we had in fourth quarter. And again, as long as the markets didn't materially reverse, I would expect that to persist here in 2012. And then --

Would you be able to quantify that difference in the fee income?

Well, round numbers, it was about CAD35 million lower after-tax in Q4 versus Q3. So, again, obviously there are mix changes, and you got some books growing and others declining. But, again, that was the magnitude Q4 to Q3, and again, precisely what it will be in 2012 is anybody's guess. But it would be that kind of magnitude, which, when you annualize that number, it is obviously a big number.

Then lastly, Tom, it is important to note that we did have a number of one-off items in the quarter. I think these were identified on page 13 of the press release. We had a number of tax and operating expense items -- for example, severance, we had a number of those items in the Q4 that we would not expect to recur. We also had approximately CAD40 million reversal of an after-tax gain that was incorrectly booked in Q3 that then became a minus 40 in Q4.

So those kind of one-off items are another CAD100 million of after-tax headwind in Q4 that I would not expect to be a recurring item in 2012.

You have addressed a little bit of -- just in terms of that assets under management, I guess that would show up in the in-force, expected profits on in-force, and then the price hikes would show up in terms of less strain.

Is there anything else, other than, okay, we are going to reprice some of our business going forward, and that is the way we are going to develop our core earnings? I mean, what is the sort of natural rolloff of the expected profit on the business in-force assuming everything is consistent with the underlying actuarial assumptions. With those big, fat PfADs, presumably there has got to be some juice there.

There is certainly juice, Tom, in just the fact that our overall business is growing. With the kind of top-line growth that we've had in the fee-based, less risky business, we do expect that to be juice for earnings growth, and certainly we are counting on that in the trajectory to the CAD4 billion earnings objective for 2015. So again, I would expect that to be a natural tailwind as we go throughout 2012.

And how do we see this core earnings progress? Would it be more in the second half of the year, or -- assuming everything rolls out in a macro environment as anticipated?

Again, I think there are a couple of different pieces here. First, the one-off things that I mentioned in Q4 I would expect to not recur here in first quarter. So again, I think we are going to get just some natural uptick in Q1 because of the non-recurrence of those items.

I would expect that new business strain will likely really improve in Q2 as the price increases that we put in effect for 1-1-2012 -- to really be essentially fully in effect.

And then in terms of the assets under management, again, it will depend upon market conditions of course. But I would expect that to be more of a gradual increase. Let me see if Cindy or if any of the GMs want to add here.

It is Paul Rooney here. The only thing I would say is that since we've done our last round of price increases to reduce our strain, we have seen interest rates come down further. And so should we need to make some adjustments, those would -- any increase in strain would be less than we've seen in the past and we could moderate that in the second half of the year.

Okay. Thanks very much.

Michael Goldberg, Desjardins Securities.

Thank you. I would like to just follow up on Tom's question, and maybe we can put some numbers -- aggregate some numbers. I understand that there were a number of items that negatively impacted your fourth-quarter earnings. Aside from the items noted on page 13 of the press release and slide 8 of the presentation, overall, can you quantify what the effect of these other one-time items would be in total?

First of all, we are really trying to move away from this notion of sort of adjusted earnings from operations. We certainly flag in the notable items those that are major items that are worth highlighting.

Again, beyond that, as I mentioned earlier, the sum total of these, the combination of the tax and operating expenses and the reversal of the gain that was incorrectly reported in Q3 that we then had to reverse in Q4, those were worth CAD100 million after-tax. So we didn't highlight that in the notable items, but that would be the quantification of that.

You can see that the new business strain, as I mentioned earlier, was worth nearly CAD40 million after-tax. And the drop in the assets -- excuse me -- in the fee income from the decline in the assets under management because of market conditions was approximately CAD35 million after-tax sequentially. So those items together would be approximately CAD175 million.

Now again, you are obviously going to maybe use your own judgment on how you want to model that going forward into 2012, but that would be the quantification beyond the notable items that I would flag.

Okay, that's great. Secondly, you note also in your disclosure that the net impact of 100 basis point rate decline on MCCSR would be about 13 percentage points. Presumably, there is a convexity if rates were to decline even more.

And so what I would like to do is to try and think of -- let's call it a breakeven level, where I think of 180% MCCSR as being breakeven analogous to a mining company with a price of commodities that it produces. How much would rates have to drop in order to get to 180% MCCSR?

That is a complicated question, and there really isn't a clear-cut answer; we haven't done the analysis ourselves that way. Although I would note that some of the instruments we've put on to hedge our interest rate risk, such as a swaps, actually moderate some of that convexity. So we don't necessarily end up in a position where we break through the barriers that you articulated of 180% MCCSR.

But things change, and change quite a lot quarter to quarter, so it is also an answer that wouldn't -- would change over time. But at this point in time, I'm not sure that we would have such a thing as breakeven interest rate.

The other thing maybe to note with respect to the 13 percentage points, and as noted in the opening remarks, where only the income impact or the impact on available capital of a decline of 100 basis points is only CAD200 million for the quarter, after the AFS bond offsets. Most of the interest-rate sensitivity is actually coming from increases in required capital, due to interest rate declines.

Okay. I only mention it because given how low rates are right now, it would appear that rates could pretty much drop to 0.

Yes, that could well be the case. And as I was saying, you may never get to the point. But things change over time. So that is a sort of a bold statement to make, but you certainly would have a lot of protection against having interest rates take you down to 180.

The other piece I would add, I mean, one of the reasons we feel some trepidation to trying to give you that precise of an answer to your hypothetical question is that by the time you get to a scenario where interest rates are truly close to zero, not only, number one, is that relatively unlikely in the near term, but then the second-order impacts that are laid out on the slide likely kick in in one way, shape or form.

So we are not trying to evade your question, but I just think that it ends up being very hypothetical, because the world probably looks very different if truly rates have dropped to something like zero. Chances are there are other bad things going on in the world.

Thank you.

Doug Young, TD Securities.

Good afternoon. I guess the first question is probably for Cindy. I know that you -- on page 26 of the release, I know you highlighted this in Q3, but I thought I'd ask it now.

The CIA is reviewing some of the calibration parameters used when setting up reserves for different products and so forth. And I'm just wondering, can you give us more insight in terms of what is being reviewed and what the potential impact could be here and how material this could be?

Well, the CIA is reviewing the calibration criteria for seg funds, for reserves. And, you know, would have the impact of, in all likelihood, reducing returns, or in fact probably making the tail of the distribution a lot wider. So that would mean higher reserves and higher required capital.

But we really can't answer the question as to the impact, because they are still working on it, and so it hasn't been exposed to the membership of the CIA to know exactly what the changes might be.

We do know they are bringing -- they are incorporating experience up to 2010, market experience up to 2010, which is a more volatile period and probably will have sort of a moderate impact, I would guess, on the calibration factors.

When you say -- I mean, is this essentially you are assuming every year a return of -- I'm just going to use a number -- 5% to 7%, depending on the market that you are in -- is that what they are tweaking, or they are potentially going to tweak?

It would be the combination of the return and also the volatility. So you would have an impact on the number of scenarios or the returns and the tails of the scenario. And the number just basically reduces -- the returns and the tails of the distribution, I should say, that would increase reserves.

For Manulife, if you had to assume up to 2010 market environment, where would your -- because we know what your existing assumed return assumptions are. Where would those return assumptions go to? Can you give us a sense on that front?

It is not directly applicable, because when we look at our returns for general account funds, we are looking at the mean; whereas this is also looking at the volatility. So you can't do direct translation from one to the other.

So as I was saying, we are not expecting it to be -- would say it would be a moderate impact on our seg funds. But we really can't give you a range, because we are not -- we haven't -- the CIA has not exposed their research paper.

Then I guess last on this one, but would you expect that to be phased in? Has that been discussed as well?

I'm sorry, could you repeat that?

Would you expect the impact to be phased in over a period of time, like we've seen with other changes?

No, I would not expect that. I would expect it to apply for reporting periods after October 15 of 2012.

Okay. And then just second on the interest rate, Michael, you mentioned obviously the URR impact, and you also mentioned the impact of changing your scenarios. Just on the URR, I guess we should be expecting that impact to be coming through in Q2, similar to your normal process.

And then on the change of scenarios, have you bumped into new scenarios in any different geography? I think you have. And if you had to bump into the new scenarios in all your geographies, can you tell us where the interest rate -- or give us a sense of where that interest-rate sensitivity might go to?

Sure, Doug. First, on the URR question, you are right. Our standard practice would be to update that annually, effective on June 30. So I would anticipate that being a Q2 item, if nothing else changed.

In terms of the reserve scenarios, we have not at this point had to change to the alternative scenario. You will recall that we talked about this last quarter, that if rates fell further in Canada and Japan, there would be the likelihood that in both of those geographies we would move from the current reserving scenario that grades the current rates to the URR -- we would move from that scenario potentially to the scenario that says take rates that are in place today and assume those forever, without change. Because again, if rates dropped further in Canada and Japan, that would be a more conservative scenario than the current URR scenario.

We have tried to estimate that in our hedging program and also in the interest rate sensitivities that we have given you to 100 basis point parallel change in interest rates. Now that is -- I also don't want to give you the sense of false precision. I mean, it is a very complicated calculation with a lot of moving parts. But we've done our best job in estimating that. Let me see if Cindy wants to add further.

No, sounds like that is it, Doug.

Okay. Thank you.

Peter Routledge, National Bank Financial.

Thanks very much. Just a question on page 29 of the shareholder report. Looking at the amount at risk for GMWB, and it jumps about CAD3.5 billion. Most of that looks to me to be an increase in the guarantee value. So I guess the first question is is that -- or how much of that is just the automatic step-ups in the US or Japanese variable annuity blocks?

I think that we maybe would have to get back to you on the question, but I suspect that a lot of the change in guaranteed value quarter-over-quarter is driven by currency change.

By currency.

Not by fundamentals.

Okay. How vulnerable -- you know, I know a lot of this business was written in the mid-2000s, so when we get into the mid-teens, presumably it will be in the money at the expiry date. How much policyholder behavior risk do you have? Could that net amount at risk flow out by more than your hedging might compensate?

Well, we definitely are exposed to policyholder behavior on these products, in terms of how many people lapse, how long it takes people to start drawing income, what percentage of their allowable benefits they draw. So there is certainly exposure to policyholder behavior.

But I actually -- I don't think it would have a large impact on the net amount of risk, but more would have an impact on the reserves. And it could have an impact on hedge effectiveness, to the extent that actual policyholder behavior is different than what we assumed in the hedging program.

Okay, okay.

Donald here, we monitor those things very closely. We have updated the assumptions around lapses and so on. We think we have a good dose of conservatism in our assumptions. But it is something that we monitor very closely for all the reasons that have been identified.

As we approach the middle part of the decade, have you -- at least to date, have you seen any material changes in how policyholders are behaving?

I would say that if you look back on our basis changes over the last couple of years, we certainly have had basis changes relating to strengthening policyholder behavior.

Now these products are relatively new, so some of that may just be that our estimates of how they would behave when we priced the product was not -- needed to be corrected, you could say, versus changes in behavior. So it is hard to separate those two aspects. But we have seen changes in policyholder behavior over time.

But no step change?

No, not that I would say. No, not a step change.

There have been people that have speculated. I think we've all heard it on the calls, about people managing their contracts, as if they were highly sophisticated racing horses or something. And we don't see any sign of that, managing partial withdrawals to maximize their gain.

There have been scenarios -- they are theoretically possible, but they don't seem to be -- these tend to be fairly small contracts. It is not like it is everybody's life savings in one contract, so they would be full-time managing these contracts to be in our worst interest.

Okay, thanks for that color.

John Aiken, Barclays Capital.

Good afternoon. I'm surprised it has taken this long to get addressed, but Michael, since you are staying on, did you get any sort of guarantee from Don the search process would take less than, say, five years?

Actually, my real question is for Jim. On the Long-Term Care, really two parts. One, is there any impact from Unum stepping away from the business? And second, can you address the profitability that we've been seeing over the last couple quarters, and what magnitude is driven by the pricing increases that have been approved by the States?

Okay, John. As to Unum, that was announced earlier. I don't think that really has any impact on us whatsoever, as we look at the Long-Term Care industry. Today we have about an 11% market share, and there is ten really solid competitors there and some new entrants, some of the big mutuals are there. So we like where we are positioned, and I don't think the Unum announcement will affect us much.

From a profitability perspective, obviously, last year we had a significant basis change. We went through our mortality and morbidity and had to update our assumptions. As we sit here today -- and we've repriced the product over the course of the year to deal with those assumption changes, as well as the reduction in interest rates.

We are happy to report here in the fourth quarter we actually had an experience gain of CAD18 million in long-term care, and the profitability of the business we are putting on the books exceeds the Company's hurdle rate. So we are comfortable with the returns and the assumptions we have there, and obviously the demographics in that segment are quite good.

Great. Thanks, Jim.

Darko Mihelic, Cormark Securities.

Thank you. A couple of questions. Michael, with respect to cost of hedging and your expected cost of hedging, you've made no -- or you haven't discussed the possibility that the macro hedge cost comes down. So should we assume -- is it correct to assume that on a go-forward basis we should continue to see a macro cost of hedging somewhere in the neighborhood of CAD100 million per quarter?

Darko, it's Mike. First, I would not expect the costs on the macro hedging program to come down anytime soon. And in fact, as we steadily expand the macro hedging program, particularly in Japan, I would anticipate that the cost of the macro hedging program would increase.

Now over the long term, over the long term, we would expect to replace those macro hedges with the dynamic hedging program. But as we've talked about before, we need really a combination of higher interest rates, higher swap rates in particular, as well as higher market levels to make that economic.

So over the near term, I would not anticipate a decline; and in fact again, with the steady addition of TOPIX hedges, I would expect an increase.

How much of an increase? I mean, is it material yet?

Again, as you know, we make our hedging decisions -- we've got a combination of judgment and time-based triggers and market-based triggers. So it is, again, a multifaceted judgment process each quarter. So at this point, I wouldn't try to give you a specific projection. But again, I think you ought to anticipate an increase over the course of 2012.

Thank you. And perhaps just an unrelated question. With respect to Long-Term Care, perhaps provide an update on premium rate increases in terms of how many states have now approved for prior blocks.

And I guess where I'm leading with that question, maybe a more generalized question, is when I look at your slide 19, you discuss all of the future impacts, a declining sustained low interest-rate environment. And generally, whenever we hear discussions regarding future earnings prospects, we typically hear about earnings headwinds. But some of your competitors actually talk about possible offsets, like we have plenty of mortality reserves to help us offset interest rate declines and so on, and yet we never hear that kind of discussion with Manulife.

Can you perhaps provide a little bit of context around where it is or -- you kind of alluded to PfADs, but why is it that Manulife never actually discusses any possible tailwinds or any possible offsets to this very difficult interest rate environment?

And again, whether you want to discuss the actual amount of reserves that could be released from Long-Term Care or what have you, is there anything out there that I am missing? Or is it plain and simple that all Manulife faces headwinds and not a lot of reserves are left over to help offset?

Darko, I'll start, and I'll see if Cindy wants to add. In the case of the Long-Term Care price increases, we've now secured rate increases on the retail block from 29 of the states. We feel great about that progress. We are still in active discussion with the remaining states.

So at this point, again, certainly not ready to update any reserve assumptions, but at this point we feel very good about how that work is going.

In terms of the impact of the management actions related to the drop in interest rates, it is certainly the case that we have been increasing prices a lot faster than most of our insurance company competitors. And we feel good about that and that is certainly a conscious strategy is to stay leading edge in terms of price increases to offset the impact from the drop in interest rates.

As we've talked about consistently over the last three years, we've also been steadily changing our mix of business to emphasize insurance products that have less interest rate risk than what we've had in the past. So, therefore, that is obviously less of an impact. And as Cindy reinforced in one of her questions, between the combination of the surplus bonds that we've gone long on with particularly long Treasuries and all the forward starting swaps that we've put in place, we've really materially reduced our interest rate risk.

It is not zero, but as we noted on the slide, it is now CAD200 million after-tax for a 100 basis point decline, which is materially lower than it has been in the prior year. So we've really been in risk mitigation mode.

In terms of your question on how come there aren't reserve releases to offset that? Again, first I try to stay away from exactly what other companies do, but I think some of the impact is different for us because of the Canadian GAAP -- or excuse me, the Canadian actuarial standards that require us to relook at all actuarial assumptions each year. And we've certainly had mortality releases in the last several years in several of the businesses.

But I would say at this point we feel like our assumptions are reasonably current, so there is not an obvious source of gold out there to release if other things go poorly.

Let me see if Cindy wants to add anything.

That's a good answer, Mike. And I would add, as Mike just said, or reiterate that we do review our assumptions every year. We have had releases from mortality in the past. With the introduction of mortality improvements in the reserves, the impact of future mortality improvements will be less than they otherwise would and that will impact all companies in Canada.

So I think that that is just the nature of our block of business. And some other companies in Canada may manage their affairs somewhat differently with embedding in margins to cover changes in interest rates. But we really can't comment on other companies' approaches.

Okay. Thanks very much.

Robert Sedran, CIBC.

Good afternoon. I would like to return to the issue of interest rates, and I guess I will take the role I don't normally take, is that of the optimist. And let's say rates do back up 100 basis points. It doesn't seem crazy, given that the yields have already started to drift a little bit higher here.

A couple of questions. First of all, the AFS offset, how committed are you to recognizing AFS losses in an environment where you're actually releasing reserves related to interest rates?

And then Michael, if you are able -- and I know you are probably not able to pin it down to a very close number -- but what might be the impact on the URR charge or the impact even on strain in terms of order of magnitude if we did close the year at 2.75% or 3%?

First, on the AFS piece, Robert, we would anticipate in normal quarters reaping the AFS realized capital losses on a reasonably symmetrical basis with how we read AFS gains in a declining interest-rate environment. I mean, we have to manage it both ways if it is truly going to be a mitigant, because we have to keep that in balance to keep then the changes for the subsequent quarter as available powder.

Now having said that, obviously, we reserve the right to not make that formulaic. We will use judgment, depending upon what else is going on in the environment and what else is going on in the Company. So it is not going to be a rigorous formula.

But certainly, I would anticipate in most normal quarters if you see interest rates go up, the benefit of that would be at least partially mitigated by realized capital losses on AFS bonds.

On the question URR and strain, unfortunately, Robert, there are just so many different factors that go into that, I don't know that I would necessarily try to give you a rule of thumb. Because any rule of thumb I would give you would be wrong, because it is so multifaceted in terms of what sales volumes are, what the mix of business is. So again, let me see if Cindy wants to add. But I would avoid trying to give you a very specific formula at this point.

Is it fair to say the 2012 URR charge is probably not going to be that affected by whatever happens to interest rates this year?

I think that's fair, because again, it is a rolling average, and so a lot of that is baked. We only have between now and June 30, so I would not anticipate it to move materially. On the other hand, stranger things have happened.

Thank you for that. And just to follow up on one comment you made. And I'm not sure I understood correctly, so I want to double check. I think you said we no longer have a buffer for unfavorable -- for additional unfavorable market conditions to our 2015 targets. Does that suggest that if we were to stay in the environment we are in, that 2015 numbers or targets may still be achievable? Did I understand that correctly?

Sure. What I was trying to get at, Robert, is that consciously, at the November 2010 Investor Day, consciously we had built contingency into the 2015 objectives. We did that very thoughtfully and we acknowledged that at the Investor Day November 2010.

Unfortunately, the combination of equity markets underperforming in that period means things like fee income is down below the trajectory that we had originally projected, so that's an obvious headwind. The drop in interest rates means that the projected interest on surplus is less now for 2015 than we had anticipated. We now have built into 2015 a URR hit, because if interest rates stay low, we are going to have a steady diet of URR hits over the next several years. So there are now a number of headwinds for 2015 that were not evident at the November 2010 Investor Day.

The good news is we had built in contingency for the items that have happened subsequent to November 2010. The issue, however, is that there is not any more cushion left in our current outlook relative to those objectives.

Now, your question -- if things stay exactly the same could we still achieve those targets? Yes, if I did not think those targets were achievable, we would have said that. But the problem is now it would not take much in terms of a new negative to be forced to have to adjust that number.

And as an example, if we went out and took significant action to bolster our capital ratio, most of those actions do come with a price tag. And so that would be the kind of example that could conceivably push us off the CAD4 billion. But for now, we remain with the CAD4 billion objective.

Remember, that is a target. I don't want people to impute too much precision to that. To get to that target, we assume -- we're investing a great deal in business growth right now. We are hoping that is going to be sustained over a number of years. We make assumptions about where our expenses are going and where we are going to save money. A whole variety of assumptions go into that, and we are still very committed to that target, but that is no guarantee that that will be the outcome.

Got it. Thanks.

Mario Mendonca, Canaccord Genuity.

Michael, could you help me think through how much leverage capacity you feel Manulife has if the need was there to boost the MCCSR, and your feeling was you didn't want to do it through common equity?

First, our leverage -- our long-term leverage target has remained unchanged at 25%. We do believe that is the appropriate long-term target, and we do anticipate managing our affairs to that long-term target, again, over the long term.

It is not lost on us that our leverage ratio at year-end was approximately 33%. It is not lost on us that the earnings coverage ratio, again, depending upon exactly what your outlook is for 2012, would be reasonably close to six times, again, depending upon what you view as run rate versus one-off items that really shouldn't be counted in an earnings coverage ratio.

And so I would anticipate that we've got a little bit of headroom left in the leverage ratio and a little bit of headroom left in the earnings coverage ratio, but not a substantial amount, before we would start to see some ratings pressure.

And again, I think that ratings pressure, if it was something that was evident for the entire industry, would not be that big of a deal. But we are very serious about our ratings, because our ratings are indicative of our core financial strength. And financial strength is really the basis of our brand, the Manulife brand and the John Hancock brand.

So a long-winded answer to your question. I think there is some room, not a huge amount of room, not CAD5 billion of room. But I would rather not be more precise than that.

I think the rating agencies [down here], Mario -- I think the rating agencies are starting to really recognize the amount of derisking that we have implemented, both in terms of the product mix and in terms of the hedging activities, and how we have attenuated the volatility of earnings and are giving real credit for that, despite the fact that we get no credit for that -- or no direct credit for that in our MCCSR calculation.

So not all MCCSRs are created equal, and Manulife had an MCCSR 200% with no hedging in place, and 216%, with so much hedging in place. And then as Cindy and Mike are always reminding people, approximately 30 points for that ratio disappeared due to absolute changes in the measurement criteria. It is hard to compare them. It is a pretty solid ratio, and I think that is being recognized by the rating agencies.

Donald, is there anything you can offer that would help me think through whether you would accept a downgrade before having your shareholders, say, eat another capital raise -- common equity raise?

Well, I'm not going to answer that one definitively, but we are conservative people. We don't like operating at a high leverage ratio. On the other hand, we are loath to go to capital markets to raise equity, especially if we don't think it is necessary, to either fund a deal going forward or some other positive reason, or really believe that there is some prudential issue. Again, our capital ratio is a very comfortable level. Pretty high relative to that of the Canadian industry. And people have to judge us by the amount of risk mitigation that we have put in place, not just the raw ratio.

And I think that is, again, increasingly being recognized, not only by rating agencies, but by investors and regulators as well.

My second question relates to Japan. We saw the macro hedging increase by CAD300 million this quarter, CAD600 million to CAD900 million. Is that -- this is a tough one, I think -- but is that a normal pace of increase, or was this a particularly strong increase?

It was a little faster than what we would normally do. Warren, do you want to speak to that?

Sure. We actually have sort of what I would characterize as a measured pace to be put in place, and that would be a faster pace than we would normally expect. But again, we will look at this. And as I think Mike mentioned earlier, it is a combination of looking at sort of our time-based requirements to actually put in place hedging, as well as looking opportunistically at how the market is performing. So it is a mixed call.

We are pretty bullish on Japan, actually. But when there are issues in Europe, Japan sometimes acts like a beta, too, against the rest of the world. You know, they've had so many challenges. I mean, my view is it is one of the most undervalued markets in the world.

But at some stage, you got to, we do have a commitment to get to those targets and we take them very seriously. So we will be doing a regular amount every quarter regardless of what markets do. But when market opportunities provide it, we will increase the amount that we are hedging.

Thank you.

Steve Theriault, Bank of America Merrill Lynch.

Thanks. Just to follow on the macro hedging for a second. Mike, you talked about adding more TOPIX, and that maybe, you may add some more, well certainly sounds like will add some more over time. With the S&P 500 up I think 11% in the quarter, you didn't add anything to the US. Am I safe to conclude here that you are where you want to be in the US, and while you might not be rolling any of that off anytime soon, that we shouldn't see more increased hedging costs from bigger macro hedges out of the US?

We are largely done on most of our global markets in terms of things performing in a normal manner. I basically still reserve the right for management judgment. If we thought that the markets rallied extraordinarily, we might want to put a small amount in place to mitigate sort of a retreat from those new levels. But I think for most global indexes right now, the only index that we are actually following a time-based program at this time is the TOPIX.

Okay. And then going back to, Michael, you were discussing about the capacity to issue debt and preferreds. And at the end of your commentary there, you said you're not sure if you could do CAD5 billion. When I look at the debt to total capital, a couple of billion would get you to a debt to capital, by my calculations, of about 37%. Is that the sort of level you think the rating agencies would continue to be comfortable with? Can you push it up closer to 40%, or is it more modest than that, the capacity at the current ratings?

I don't think there is a bright line on the part of the rating agencies. Again, I just don't think it is that precise. I don't think it's that at 37% it is okay and 38%, it is a problem, or 36%, it is okay, but 37%, it is a problem.

I think it is a multifaceted judgment that the rating agencies have. Having said that, 37% would be higher than any of our material benchmark competitors. And therefore, that would be higher than what I would anticipate being comfortable at. So I mean, never say never, because who knows what the world is going to look like. But I would not anticipate going to that kind of level under a normal environment.

If I could wrap up with one quick one on sales. The targeted for growth sales in wealth were down a fair bit. Canada and the US looked fine, but there was a pretty big decline from the Asia division. So maybe for Bob Cook, can you talk a bit about the nature and the sustainability of the decline there?

Bob Cook is not with us today, but there was -- Donald here -- there was a lot more volatility in the Asian markets more recently, and they felt the effect of that. And it is coming back quite nicely, and we are very optimistic about growth for 2012 and beyond.

But there was more volatility in Asia. People got really spooked by some of the things going on in Europe and speculation about China slowing down and where the US was at that time. I think the news since then has been reasonably positive and we would hope that tone would continue throughout the rest of the year.

It was fairly broad-based, not specific to any particular geography?

No, it was pretty broad-based.

Okay. Thank you.

Ohad Lederer, Veritas Investment.

Thank you. Good afternoon. I am looking at page 38 of the press release. I am just wondering about the sensitivity to assumption changes, thinking ahead to the third-quarter, looking at non-fixed income. I guess two questions about the sensitivities that are listed on this page.

Between zero and 100 basis points, is that essentially linear? And then the second question would be, as we get further into kind of a QE world, where more and more assets go into non-fixed income, prices go up, I assume returns will eventually possibly come down. Is this something -- what kind of things should we be looking for to say that those return assumptions may have to come down, the way we've seen unsatisfactory equity returns in the past?

I'll start with your second question and see if Cindy wants to answer the first question on the linearity.

On your second question, I certainly don't anticipate a material change in the near future, like 2012. And the reason for that is that if you look at over the last five years or look at over the last 10 years, our NFI has actually outperformed our best estimate assumptions. And between that and the fact that the NFI is not really a single asset class -- it's really a collection of asset classes -- that basket, if you will, of different investments has really performed very admirably and is not over a long period of time, not been correlated heavily to interest rates. So I would not draw the conclusion that by necessity, that would decline.

And between that and the fact that our five-year experience has been positive, our 10-year experience has been positive, I think that is unlikely to change in the near term. Obviously, it is something that we monitor all the time. Obviously, it is something that we look at on an ongoing basis. But at the current time, I would not anticipate a material change anytime soon.

Let me see if Cindy wants to talk about the linearity.

Thanks, Mike. We haven't really looked at linearity, so I'm going to pass on that question. I would say that the sensitivity is largely, the sensitivity is very much related to where interest rates are and not current, say, risk-free and corporate rates are, and not only the NFI return. So it is very much driven by the gap between risk-free rates and the fall in industry rates has been what has driven up the sensitivity.

Thank you. Can I sneak one more in, on IAS 19? The Company has talked -- I think there's some commentary in the MD&A about a potential hit to capital. Is that just a straight take the CAD1 billion unrecognized actuarial loss and put that against your available capital; that's about 7 points? Is that the way to think about it?

It is not quite that clear-cut. First of all, this would be measured at 1-1-2013, so really at year-end. I wouldn't take the stale number that you are describing.

You also want to tax effect that as well, so it wouldn't be the pretax number that you are citing. You would want to tax effect that.

I do think it appears that OSFI -- we do expect at this point that OSFI may make us take this as a hit to the MCCSR. I would anticipate if OSFI followed prior rules that this would be transitioned in perhaps in 2013 and 2014. So again, I don't think it is as clear-cut as what you are describing.

Incidentally, just to add an editorial comment, we don't think that makes a lot of economic sense. This is an accounting change, not an economic change. We've had this pension plan for several decades now that -- there is no change in our risk profile. There is no change in funding requirements for the pension plan. We think this is sort of silly. But it does appear to be a risk factor, and that is why we strengthened the disclosure on that at year-end.

I understand that it is a year out and the number is stale, but I guess that would be pro-cyclical, right? If rates continue to go down and equity markets go down, that CAD1 billion will grow, and vice versa should markets do better?

You are right, and again, how silly is that? Because it is not synched up with the actual funding requirements of the pension plan. It is just a new accounting measure that, again, I think I've said what I want to say.

Thanks.

A really long-tailed plan, right, closed plan. So, anyway.

Gabriel Dechaine, Credit Suisse.

Just a quick one on the hedge. Can you tell me that the switchover from macro to dynamic, what do we need to see specifically? What should I be focusing on as far as which bond yields, which segments of the curve, and what levels would we need to get before we start thinking of an increased shift over from macro to dynamic?

And then on the strain, it looks to me like the pickup was mostly driven by the low rate environment, rather than the spike in older products, sales of older products. And like you are suggesting, in Q2, that could start to see more of an improvement. Is that because you've got sales of those products that are going to be closing in the first quarter, and then you are hitting the 100% sales of new products by Q2? Is that how it is going to work?

I will start on the second question and then Jim Boyle can add to that, and then we will give it to Warren on the VA hedging. On the new business strain, what I was referencing there is that we did put in place another material price increase for the US life insurance business that was put in place at the end of 2011. And I would anticipate that by the time we get to Q2, we would see the bulk of the benefit -- maybe not every single penny -- but we would see the bulk of the benefit in Q2 as the business being sold within -- be sold at the higher rates and therefore have less strain. So that is really what I was referencing there.

In addition, again, over the last two years, Paul Rooney and company have done a great job of really leading the market on price increases for life insurance in Canada. Again, I would anticipate if rates continue to stay low that we would -- that that would be another area that we would look at as well. Let me see if Jim wants to add anything there.

Just speaking to the US a little bit, we did make good progress 2010 to 2011 where we brought strain from CAD315 million down to CAD156 million. In the first two quarters of '11, the strain was pretty negligible, about CAD16 million a quarter.

But you can only reprice so fast, and rates kept dropping and whatnot. So we will see some improvement in Q1 and more improvement in Q2. I'll give you two quick examples. We discontinued the sales of our Group LTC product because we couldn't get new pricing filed in time, and we knew the older prices were out of date. Contractually, we had to sell some of that business in the fourth quarter. We sold CAD7 million of Group LTC that had CAD23 million of strain associated with it.

We've made a lot of strides on the No-Lapse Guarantee business. Our product, if you look in the US, because we've raised prices so much, is probably clearly in the fourth quartile from a competitive perspective. And it was less than 12% of our sales in the fourth quarter.

Having said that, we still sold CAD17 million of NLG in the fourth quarter, which had CAD36 million of strain. So between the two of those items, CAD59 million. We've made the decision on the Group product, and a little bit trickled in in Q4, and we might see a little bit more in Q1.

On the NLG, we announced January 1 that we were raising prices another 12%, so that is going to kick in. There is some timing there with applications and the underwriting cycle. But we've done a good job keeping up with it. But this environment requires us to continue to keep up. And I think we've done what we need to do, and we will see improvement throughout the course of the year.

Jim, as he talks about the environment, reminds me of a point that I guess I would like to raise, which is, I think, a bit of tailwind for us. And that is the FASB is making clear -- they haven't determined their ultimate policy -- but they've been making clear to the US industry that regardless of the end of the debate between IASB and FASB, whether they come together or not over time, that it is very clear that US companies are going to have mark-to-market accounting on a quarterly basis for interest rates and other factors, kind of like what we have here in Canada.

So the good news of that mark-to-market is sort of spreading south. That, I think, is raising people's awareness of this issue in a more concerted basis. Now, it is a long ways out, but it is drawing attention to it.

I guess the other thing is we are seeing -- and I'm not going to go into any specifics, but if you look at some specific companies, I think you will see what I'm talking about -- we are seeing actions taken by companies in the United States that are in some ways analogous to what we are doing and in some cases totally unique behaviors, and cutting back in some of the same products that we have been working on for the last three years. So there is increasing signs of, I think, a better competitive environment in the United States over time, which will enable us to do some of the things that Jim spoke to.

Maybe to move in on the movement from macro hedging program to the VA hedging program. Obviously, it is both a function of where equity markets are and interest rates with a particularly long swap rate. We would need to see a meaningful rise in both equity markets and the long swap rate to move into a hedgeable territory.

The primary exposure that we have open, which is the only one that we are actually talking about doing the time-based hedging, is the TOPIX. We are pretty satisfied on an overall basis where we sit vis-a-vis our hedging, from both the macro and VA program. And most of the other markets -- Canada is in very good shape, and like I say, on the S&P, on the US [context] -- In the TOPIX, we would have ultimately some VA hedgeable blocks, but it would be very material rises in both the long rate and the equity markets to move from macro to dynamic in those markets.

And it's mostly in Japan.

It is mostly -- Japan is where we've got the largest -- the least probability probably of moving in the foreseeable future into the dynamic program.

Got you. As far as the US goes, is there any -- I need to see the 10-year at 3% or something like that? Or is it more complicated than that, obviously?

It is a multifactor decision. We've got a number of criteria. We actively monitor the blocks constantly in terms of when they may become hedgeable. But I can't really want to put it down to sort of a single factor or a single point as to when we would move it out of the macro into the dynamic.

Okay. Thank you.

Joanne Smith, Scotiabank.

I actually can't believe that I actually have questions left to ask, but I will try this one. I was just wondering -- you've been using US Treasuries to bridge the duration gap on the portfolio. And I was wondering if you could just talk a little bit about what the trade-offs are for that type of a strategy, if there are any at all. I have some in my mind, but I'm not sure if you would confirm those. So if you could talk a little bit about that.

And secondly, can you tell us where the duration mismatch stands today, unless it is in one of the disclosures that I missed?

Joanne, I'll start, and I will see if Warren and Scott want to add. First, just to be clear, I would not characterize this as a duration mismatch. I think that is a misnomer. This is really, again, the difference between Canadian GAAP actuarial rules that now get applied to IFRS relative to US GAAP. Again, in Canadian GAAP, it is different, because we've literally got to take future premiums that we haven't even collected yet, project those out and make an assumption on how that money is going to be invested. That is wholly different from US GAAP.

So it really is not a duration mismatch, the way I would think about it and I think the way you would think about it and a traditional US company would think about it. This is really a strange artifact of the Canadian GAAP rules.

In terms of what we've done to mitigate the interest rate sensitivity to the Canadian GAAP modeling, you mentioned US Treasuries. That is certainly true. It is also very important, though, to note we've put on a substantial amount of forward starting swaps, which increase then our sensitivity to corporate spreads in the future. But it is not just Treasuries. It is a combination of the Treasuries and the forward-starting swaps.

On your question on the Treasuries, the main issue there is that we are giving up spread for the Treasuries. So we've priced this business in many cases assuming normal spreads or conservative spreads in the future. You go out and buy a 30-year Treasury, then all of a sudden the reserving assumes that we are not going to get any spread above Treasuries for that period of time. So it is a substantial economic hit. As a result, we really would like over time to move more of those Treasuries into corporates. On the other hand, we don't want to sacrifice our strong underwriting standards that have served us so well. Let me see if Scott wants to add there.

What I would add to that is it depends what you move from into those long Treasuries. And it was a combination. Part of it was cash we moved out to long Treasuries, so actually it was an income pickup there; because of the yield curve, you weren't earning spread on the cash. But we did also sell some short corporates and move that into long Treasuries, and that was maybe more of a push, giving up spread, but picking up the yield curve.

And as Michael points out, there is real opportunity there now to add income going forward. Now, we struggle to find appropriate long-term investments, so that will moderate a bit what we can do there. But as we talked about last quarter, one thing we are doing is adding some credit default swaps on to sort of create a synthetic bond with those Treasuries, where we are more comfortable in lending to companies for five years in the five-year CDS market, and it also opens up a bigger set of names that we can invest in as well.

Just as a follow-up to that, with all of the speculation about the Volcker Rule, with respect to the swap market, I am just wondering what would happen to your ability to kind of write those credit default swaps on the Treasuries in the event that the corporate CDS market were to decline significantly because of the Volcker Rule.

I guess that is a risk, but I think we think the bigger risk is in the cash market. I think credit default swaps are much more liquid than the cash market. And through the financial crisis, we saw those continue to trade, while the cash market did not. So the Volcker Rule is concerning in that it will decrease liquidity everywhere, but probably more concerned about the cash market.

And just one last question on the Treasuries. When should we think about you switching out of that strategy into more of a corporate bond strategy? Is there like an interest rate level that you would begin to move away from that strategy?

No, I don't think so. I think we want the interest rate protection that gives us. So it is really a function of when we could find appropriate long corporates. And so we are trying to do that, and we would hope to make incremental progress over time. But it's not something I would expect to have a big influence in any given quarter.

Just to reemphasize, hopefully, the obvious, that is upside earnings opportunity for us. As we move those, round numbers, CAD7 billion of Treasuries to corporates, that would be incremental earnings. But as Scott said, this isn't going to be just a 2012 kind of item.

Okay. Thank you very much.

Sumit Malhotra, Macquarie Capital.

Thanks for taking my question. It is hypothetical for Donald, around the topic of acquisitions. Don, you've talked about your interest in growing Asia in the past, and more recently there has been some press reports that have spoken to it as well. Without getting too specific, wanted to ask about what you've heard from your regulator. We haven't seen much capital deployment from the Canadian life insurance sector over the last number of years for obvious reasons.

And the first part of my question would be, what has your regulator communicated to you in terms of their willingness to see the Company deploy material forms of capital? That's number one. And number two, as CEO, how would you feel? You had mentioned in an earlier comment issuing capital -- or issuing stock on acquisitions. With the stock trading where it is right now, would it be possible to make a transaction accretive in the near-term? Obviously, I know it would depend on pricing, but just speaking generically here.

I'm not going to talk to the specifics that have been rumored by the press, but it is no secret that we've been pretty good at executing acquisitions, and we are trying to grow in Asia. So we would look at properties there.

I can't speak for the regulator, but I would not anticipate an issue from the regulator, providing that we did our due diligence appropriately, which we always do, and providing that we had it funded in the appropriate way. And I guess that is all I would say about it.

Your comment about accretiveness and so on, accretiveness is, yes, one factor that you take into account. But there is a lot of things you look at in terms of the attractiveness of an acquisition and whether they add to long-term strategically, as well as the calculation. We tend to be fairly conservative on those calculations, to not -- people can play with the numbers and show things to be accretive that will never be and vice versa. We look at the overall attractiveness relative, obviously, to whatever impact that would have in terms of the capital raise.

So just to be clear, and I'll wrap it up here, as far as your discussions with OSFI are concerned, if there was a transaction or an acquisition that you were looking at that diversified the risk profile of the Company, even if it was a material-size outlay, they are not averse to you going down that road at this point?

I think you are trying to put a little bit more there. I mean, I wouldn't be in a position to tell you the specific discussion we would have if I did, and I think they would be a little bit upset with me if I was to communicate their attitude on a call. But I guess what I'm saying is I don't see that as a significant impediment.

Thanks for your time.

Thank you. This concludes today's question-and-answer session. I would like to return the meeting back over to Mr. Ostler.

Thank you, Ann. We will be available after the call if there are any follow-up questions. Have a good afternoon, everyone, and goodbye.

Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.