Sun Life Financial Inc (SLF) 2008 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Sun Life Financial Q2 2008 results conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. (Operator Instructions). I would like to remind everyone that this conference call is being recorded today, Thursday, July 31, 2008.

And I would now like to turn the conference over to Mr. Paul Petrelli, Vice President, Investor Relations. Mr. Petrelli, please go ahead.

Thank you, Patrick, and good afternoon, everyone. I would like to start by introducing the members of the management team present for today's call. Hosting the call we have Don Stewart, Chief Executive Officer of Sun Life Financial, and Rick McKenney, Executive Vice President and Chief Financial Officer. Also available to answer questions are Dean Connor, President, Sun Life Financial Canada; Bob Salipante, President, Sun Life Financial U.S.; Kevin Dougherty, President, Sun Life Global Investments; Paul Kirwan, Chief Financial Officer, MFS; Jim Anderson, Executive Vice President and Chief Investment Officer; Bob Wilson, Senior Vice President and Chief Actuary; and Colm Freyne, Senior Vice President and Controller.

As many of you know, while the primary purpose of our call today is to update equity analysts and investors on our results and answer their questions, our audience also includes media, industry peers, rating agencies, our regulators, our employees and our distributors, and we welcome them.

The slides to which the speakers will be referring are available on the Sun Life Financial website. Turning to slide 2, I draw your attention to the cautionary language regarding use of non-GAAP financial measures and forward-looking statements which form part of this afternoon's remarks. This slide reviews the reasons why forward-looking statements could be rendered inaccurate by subsequent events.

And with that, I will turn things over to Don.

Thank you, Paul, and good afternoon, everyone. Earlier today, Sun Life Financial reported second-quarter 2008 fully diluted operating earnings per share of C$0.91, down 12% from the second quarter of 2007. Excluding the currency impact, the decline in the fully diluted earnings per share over the year was 9%. Operating return on equity for the second quarter was 12.9%, which is also down from levels delivered over the last few quarters. Notwithstanding volatile markets, these are disappointing results.

Turning to the dividend, our Board of Directors approved a dividend of C$0.36 per common share, representing a dividend payout ratio of 39%, close to the top end of our target range of 30% to 40%.

In the light of continuing economic uncertainty, management and the Board of Sun Life felt it prudent to maintain the dividend at its current level. At C$0.36, this is at a 2008 run rate which is 9% above calendar year 2007. We continue to regularly return capital to our shareholders through our share buyback program and our currently high dividend payout ratio. We will revisit our dividend rate as the economic picture evolves.

The second quarter of 2008 was characterized by market volatility and economic uncertainty. Rising energy and food costs, increasing concern by central banks [have] upward pressure on inflation rates, and fears of a US recession fueled a general downward movement in equities and contributed to rising interest rates.

In our view, it is very possible that economic difficulties will intensify over the remainder of 2008 and extend into 2009. The situation in the United States appears particularly challenging, and this may start to directly impact the Canadian economy. As we said last quarter, these conditions will impede growth in the near term. Over the midterm, we continue to aim for an average of 10% annual growth in operating earnings per share and for a 15% ROE.

As I noted during our first-quarter call, both of these objectives are subject to the assumptions and conditions we specify in our annual management's discussion and analysis. These assumptions and conditions may be summarized as requiring an annual increase in equity markets approaching 8%, stability in interest and exchange rates, and a normal credit environment. Second-quarter economic conditions have been very different from these fundamental assumptions and do not appear likely to improve in the near term.

Nonetheless, we continue to target the specified financial objectives over the three- to five-year horizon. In this volatile environment, Sun Life Financial's business units returned a mixed performance in the second quarter. In our home market of Canada, the quarter was resilient. Earnings in SLF Canada were up close to 6% year over year. Introduced last year, SunWise Elite Plus segregated funds surpassed C$1 billion in assets under management.

While MFS results were down, reflecting the market's impact on assets under management, as well as a stronger Canadian dollar, MFS achieved net positive flows of C$1 billion in the quarter. However, these positive results were more than offset by results from the annuities line in SLF US. Our CFO, Rick McKenney, will provide more information on the factors impacting the results in that line of business, including information on our US investment portfolio.

Although aspects of our annuities business are being challenged in the current environment, it is within the context of successful execution of our US growth strategy over the past several years. We have augmented our organically grown group benefits platform through the successful acquisition and integration Genworth's EBG business. We have added major US distribution capabilities in our individual life business. And we have invested in expanded distribution and product innovation capabilities in the variable annuity business.

Over the five-year period to the end of last year, the sales and net income of our US-based protection businesses have grown at an average annual compound rate in excess of 20%. We have also built a highly successful offshore annuities and insurance business. Many opportunities exist to leverage our US expertise in our other operations around the world.

And with that, I will hand over to our Chief Financial Officer, Rick McKenney, who will walk you through the quarter results in more detail.

Thank you, Don, and good afternoon. Turning to slide 6, earlier today we reported fully diluted operating earnings of C$0.91 per share and return on equity of 12.9%. Our earnings remain depressed in the face of challenging economic conditions, the impact of which was most pronounced in our US operations, to which I will speak to shortly.

When we look at a Company-wide basis, we saw similar impacts to the first quarter from each of the key market influences. The appreciation of the Canadian dollar impacted this quarter's results, reducing net income by C$17 million or C$0.03 per share. Given where the Canadian dollar stands today relative to the third quarter of last year, currency should be less of an issue than it has been.

Each of the other macroeconomic conditions also negatively impacted our earnings this quarter, including credit, which cost us C$0.06 per share; interest rates, C$0.04 per share; and equity markets, C$0.01 per share. This broke down very differently by geography, which we will give more detail to in the segment result.

On slide 7, we highlight our sources of earnings. This view of our sources excludes the earnings-neutral impact of our par book and Canadian tax rules that are in place but not yet substantially enacted. Our expected profit on in-force business is up C$20 million over last year and up C$65 million in constant currency. This is primarily from higher in-force operating earnings and business growth, partially offset by reductions over the last 12 months in the equity markets.

Moving next to the impact of new business, we saw an increase in new business stream, driven in large part from our expansion efforts in Asia and in particular in India. Our other businesses saw a similar amount of strain to what we would have experienced in the past.

Looking now to the experience gains and losses, you can see the impact of difficult market conditions and the contrast to prior year's results. The C$75 million experience loss is primarily the result of the unfavorable impact of rapid moves in interest rates, a decline in equity markets, the impact of continued credit challenges, as well as unfavorable mortality in our reinsurance business. These were partially offset by the positive impact of increased interest rates and increases in equity markets in SLF Canada.

Our experience this quarter was in complete contrast to the second quarter of 2007, where one year ago we saw broad-based experience gains across the Company from good equity markets and favorable interest rates and mortality. Management actions and changes in assumptions were up from the second quarter of last year, primarily from updates to cash flow testing in a number of businesses across the Company.

And lastly, before leaving the sources of earnings, I will comment on our taxes for the quarter. Our tax rate this quarter appears lower on the face of the income statement than it is in reality. Adjusting for the two income-neutral items mentioned previously, that is par -- the par business and Canadian tax rules not yet enacted, we have a quarterly tax rate of 15%. This is slightly lower than we would normally expect for the quarter, but not too far outside of the low end of our stated range of 18% to 22%, and we are firmly within our range for the first half of 2008.

Moving to premiums and deposits on slide 8, we saw a sizable decline from a strong comparative sales of institutional business in the second quarter of 2007. Total premiums and deposits were down C$3.9 billion, with currency accounting for C$1.1 billion or 29% of the decline.

Analyzing the change in premiums and deposits on a constant currency basis, life and health premiums and deposits are up 29% for a large case BOLI sale made during the quarter, as well as higher premiums in our North American businesses, primarily from the EBG acquisition.

We continued to see strong wealth segregated funded sales in SLF Canada during the quarter from broad distribution of our SunWise Elite product. However, vastly different economic conditions which prevailed in the second quarter of 2008 compared to one year ago drove mutual fund sales lower, resulting in an overall decline in wealth deposits.

And finally, managed fund sales, which represent institutional sales at MFS and McLean Budden, were down 33%. Despite strong fund performance and positive net flows this quarter at MFS, market disruptions since the second quarter of 2007 have made year-over-year comparisons difficult.

Looking at slide 9 and the value generated by sales over the past 12 months, the value of new business grew by 13% to C$872 million. We're benefiting from our EBG acquisition last year, as well as continued growth in our Asian operations and increased segregated fund sales in both individual wealth and group wealth in SLF Canada.

Total Company assets under management of C$481 billion, which are depicted on slide 10, are flat relative to the first quarter of 2008 and down 6% from one year ago. Currency movements and declining equity markets have reduced assets under management in excess of C$30 billion over the past 12 months and have been offset only modestly by net sales of mutual, managed and segregated funds.

Turning to slide 11, you can see that we have maintained a solid MCCSR ratio for Sun Life Assurance Company of Canada at 209%, which is unchanged from the first quarter of 2008. Income earned during the quarter helped to offset the continued phase-in impact of investment accounting rules that will continue until the end of this year.

We continue to maintain excess deployable capital of over C$1 billion and will focus on deploying our capital to generate value for shareholders via organic growth, dividends, share repurchases and selective acquisitions.

As Don mentioned earlier, we felt that it was not the time to further increase the dividend this quarter, and with our Board of Directors approving a dividend of C$0.36 per share, we have increased the dividend 13% on a trailing 12-month basis. In addition to dividends, we returned a substantial amount of capital to shareholders through buybacks this quarter. Year to date, we have repurchased approximately C$200 million in common shares and paid just over C$400 million in common share dividends.

Moving on to our business groups on slide 12, net income in our Canadian operations is up 6% compared to what was a very strong second quarter 2007. Individual insurance and investments benefited from higher interest rates and improvements in Canadian equity markets, while our group benefits business experienced favorable morbidity during the quarter.

On the sales front, individual insurance sales in Canada were up slightly from the second quarter of 2007, while individual wealth sales were up 16%. Volatile equity markets dampened sales in mutual funds during the quarter, but made guarantees associated with our segregated fund products popular, and in particular our SunWise Elite product, which crossed the C$1 billion in assets under management since its launch in the first quarter of last year.

Looking now at our Canadian grew businesses on slide 14, you will see both blocks of business continue to grow nicely. Within our group retirement services business, assets under management grew by 5%, including several large case installations over the past 12 months. We continue to be the market leader in the defined contribution space, capturing over 40% of all market activity in the first quarter of 2008. Our group benefits business in force increased by 7% over the second quarter of 2007, driven by growth within our existing block of business and supported by our strong retention experience.

Moving on to our US operations on slide 15, our overall earnings were low this quarter, but reflect the volatile US capital markets. If you first look at our individual insurance and employee benefits group businesses, they overcame market headwinds, delivering earnings that were largely unchanged from the second quarter 2007. However, our annuity earnings dropped substantially, and I will take some time to discuss this in detail.

In general, the decline in annuity earnings was attributable to two major factors. The first is the movement in interest rates and the associated impact on our hedging programs, and the second is credit and its impact on the portfolio of assets backing our fixed annuity block. I will speak to each of these in turn.

Movements in interest rate impact both our variable annuity as well as our fixed annuity blocks. However, the most significant impact from interest rates this quarter came from our fixed annuity block. While we managed the matching of our assets and liabilities on an economic basis, Canadian reserving standards take a shortened view of our liabilities. That is to say, we have different expectations relative to that.

This leaves us in a long asset position on an accounting basis. In a period of rising interest rates like we experienced in the second quarter, this mismatch creates a more pronounced movement in the value of the assets relative to the movement in liabilities, creating an accounting loss.

With a rapidly changing interest rate environment and steepening of the yield curve, this line also experienced more volatility than we would have expected. Results were further impacted by credit spreads on the assets backing this block of business. As you will recall from Q1, credit spreads on the asset portfolio backing the fixed annuity block have widened considerably between year end and March 31 of this year. They widened slightly further in the second quarter.

The asset portfolio is comprised of a mix of corporate bonds and asset-backed securities. This includes commercial mortgage-backed securities and residential mortgage-backed securities. We have provided additional disclosure concerning our asset-backed securities portfolio in the appendix to the slides and in our Q2 MD&A.

The portion of this portfolio supporting the fixed annuity block is fairly seasoned, but has some single-A and BBB credits, where the spread widening over the past year has been particularly severe and has not come in. We also encountered a number of credit downgrades and losses on sale of assets in the portfolio backing the fixed annuity block, which further depressed earnings in Q2.

Going forward, our fixed annuity earnings will continue to be impacted by changes in interest rates and credit movements. As an example, the ratio of Moody's downgrades to upgrades is currently 3 to 1, and until the environment turns, fixed annuity earnings will continue to be under pressure.

There are actions that can be taken in this block to improve earnings and dampen volatility, and management is actively exploring these options to improve our results.

Turning to annuity sales on slide 16, our US variable annuity sales for the quarter were C$510 million in the US, down from C$805 million a year ago. Tough market conditions continued to impact sales activity in this product line. Our income on demand sales are holding up and accounted for over 50% of this quarter's sales.

Despite our lower sales, preliminary industry data for the second quarter of 2008 indicate that we have maintained our variable annuity market share from Q1 and have lost only minimal share since the second quarter of 2007.

Looking at net sales activity on the right-hand side of the page, our annuity block as a whole did benefit from fewer redemptions, and the negative flows this quarter are primarily the result of lower sales activities, driven by the market conditions.

Moving on to slide 17, core sales of individual life insurance are lower as we continue to shift our product mix away from no-lapse guarantee products through our expanded distribution network. Sales of no-lapse guarantee products made up 65% of this quarter's core sales compared with 95% of the full year 2007. Our COLI/BOLI sales were up, with a large case sale made during the quarter.

On the right-hand side of the page, our EBG business in force is consistent with the second quarter of 2007 at $2 billion.

Turning to our asset management business in the US, on slide 18, our earnings were down 11% to $55 million from $62 million one year ago on lower net average assets as a result of declines in the equity markets. Our margin has held in at 34%, and we have continued to invest in our growth initiatives.

On the sales side, we experienced positive net flows of $1 billion for the quarter. Gross sales were down from the second quarter of 2007 related to the absence of some institutional sales as a result of a deterioration in the financial markets. However, we also had better redemption experience relative to the prior year.

While we are pleased with the direction of the flows in the quarter, we aren't drawing conclusions around trends, given some of the prevailing market conditions. But having said that, our fund performance remains quite strong. As an example, 100% of our international global equity funds rank in the top half of their respective three-year Lipper categories as of June 30.

Turning to our Asian operations on slide 20, earnings were lower by C$5 million relative to the second quarter of 2007. We saw some benefit from reserve changes around interest rate assumptions during the quarter, but this was offset by increased investment and growth in India and the impact of higher interest rates on policyholder demand deposits in Hong Kong.

Looking at the sales on the right-hand side of this slide, you can see that the sales were up significantly, driven primarily from strong growth in India, where we continue to invest heavily.

Turning to slide 21, I would like to conclude by reiterating that 2008 will be a challenging year. Most of our businesses have held up well through a period of challenging market conditions. However, we do not anticipate that macroeconomic conditions will improve in the near term, and credit could be a drag on US earnings for the remainder of 2008.

Despite this tough outlook, we will continue to focus on the execution of our strategy and invest in growth initiatives, leveraging our solid capital base. I must also reiterate that we aren't just blaming the markets. The management of Sun Life will address the challenges in our annuity business in the US, and we are actively looking at ways to overcome issues in this business.

And finally, despite the environment, we believe that the fundamentals of our overall business remain strong, and we are committed to delivering on our medium-term objectives.

This concludes my formal remarks. And with that, I will turn it back to Paul, who will begin the Q&A. Paul?

Thanks, Rick. Before we open the call to questions, I would ask each of our participants to limit him or herself to one or two concise questions and then to requeue with any additional or follow-up questions. We will make every effort to take all your questions during the allotted time this afternoon.

With that, I will now ask Patrick to please poll the participants for questions.

Jim Bantis, Credit Suisse.

Just some questions on the annuity business in the US. Rick, just following up on your last couple of comments in terms of management actions to limit the volatility in earnings here, can you elaborate what you've got planned to execute on over the next couple of quarters?

I will give you a couple and then I will turn it over to Bob, which is, fundamentally, as we look at this business, I reiterate that we have been hedging this on an economic basis and impacted by some of the volatility in the markets. Granted that, there are actions that we can take as we look at this business. And I will turn it over to Bob. Maybe it would be best, Bob, if you could talk about a couple of those.

Jim, I think one we're looking at seriously is whether we make some adjustments to our hedging regimes. That would be a principal one. We're looking at ways that perhaps we can more closely align the valuation basis of assets and liabilities to reduce some of this basis different that Rick described. So there are a few.

Okay. Having said that, now, if you do implement these type of actions, what would the core earnings power be of this division going forward? It seems you had benefited from having this credit portfolio that had a little bit of a bias to single-A and BBs. Obviously, the hedging policy had helped as well. But if you execute on these changes, what do you think the core earnings power of the annuity division can be in normalized terms?

This is Bob Salipante again. I am not going to put a forecast out there or indicate a run rate. If you compare to where we were a year ago, the big change is the change in credit, change in credit spreads. Rick mentioned that we have had both downgrades and write-offs come through. Also, our earned spread is down due to write-offs. And so clearly, we are operating at a lower run rate at this time . Until the credit environment improves, we expect it will remain at a lower run rate.

And just my second question would just be on reinsurance. Rick, can you elaborate in terms of the loss on reinsurance and what exactly happened with respect to the reserve adjustment or the mortality issues?

Yes, sorry about the mortality side. I didn't say it's -- I wouldn't call it normal fluctuation. It was actually quite high mortality experience. There's nothing that we can look through that says there's any type of issue there, but it was higher than we usually experience or would expected to experience in the future. And then also, we had some reserving changes due to some interest rate adjustments to our methodology which impacted us in the quarter.

Michael Goldberg, Desjardins Securities.

You went very quickly in talking about the per-share impacts of the various macroeconomic items, and I am wondering if you can just go through them a little bit more slowly. I caught the Canadian dollar reducing earnings by C$0.03 on a year-over-year basis, and then there was credit, interest rates and equities. Can you run through those again?

Sure we can. So let me go through, and this is across the Company. So as we talk about different results, you'll see offsets, actually, within the Company portfolio. But starting with credit, that would be C$0.06 per share, where we actually had a difficult credit environment in the US. C$0.04 per share were due to interest rates, a difficult environment in the US, and actually had some favorability in Canada. And then the equity markets were C$0.01 per share.

And I guess on the equity markets, it would've been negative in the US and positive in Canada?

Slightly. One second. Yes, actually, we had about C$0.03 positive in Canada, and with rounding, it would be C$0.01 positive overall.

Okay. On the credit front, can you split that out between spreads, downgrades and impairments?

Certainly. So to start with, credit spreads was actually positive on the quarter, and I'm at the overall level, so we're talking a lot about the US, which actually had a negative impact of C$0.01, but C$0.02 overall positive to the Company. On the credit rating side, about C$0.03 negative impact. And then from equity -- or from write-downs, about C$0.04.

Mario Mendonca, Genuity Capital Markets.

It is important to understand what is going on on this fixed annuity business just a little bit better. You explain that there is this difference, this difference in the duration of the liability accounting versus what you would do economically. And I think it was the same issue you referred to last quarter.

This quarter, you seem to be mentioning a little more about your hedging, and Bob Salipante, you suggested that you would revisit your hedging regimes. What is it about the hedging of your fixed annuities? And presumably we're talking interest rates. What happened this quarter from a hedging perspective that wasn't appropriate?

As you know, Mario, we manage this business and the hedges on an economic basis. And so, in the fixed annuity business, when we rebalance to stay matched, we do it on an economic basis. On an accounting basis, we get a different effect. And so what's impacting us right now in the current capital markets is a steep yield curve. And so on an accounting basis, we are not able to reflect the benefit from that rebalancing that we get on an economic basis.

What derivatives are you referring to that were put on?

Keith Gubbay is here, and so I will ask him to address that.

I think we normally use shortening swaps in a rising rate environment to rebalance the duration. And the valuation given with the Canadian reserving method to those swaps is not particularly helpful in a steep yield curve environment.

So I think that part of the effect here is to look at the kinds of instruments we use, and we may look at swaptions and other kinds of instruments. And part of it will also be to look at whether we want to modify the hedging approach to deviate a little from the economic basis in order to mitigate some of the accounting volatility. So we haven't come to any decisions on that, but those are questions that we are exploring.

Presumably, in setting up these hedges, you feel like you are gaining something from an economic perspective. Is the gain from an economic perspective better matching of the assets and liabilities? Is that -- that is the point.

That is the point. The hedging is done on the best-estimate cash flows that we can project, and we hedge on a market economic basis.

I will stop pretty soon, but I just wanted one final thing to really wrap this up for me. If you look at every credit spread that I could point to this quarter, Q2 '08, whether it is CMBS, corporate, bond spreads, Canada, US, the IG9, every credit spread that I could sort of rustle up before this call was flat or up -- sorry, flat or down this quarter in Q2 '08. So I was surprised to hear higher credit spreads being an issue this quarter.

Bob Salipante. So on the fixed annuity portfolio, and I will address the US fixed annuity portfolio because that is where we mentioned this. On an aggregate weighted average basis, we were up 16 bips. And the areas where it was up in our portfolio dramatically was in RMBS, which was up over 100 bips, and ABS, which was up almost 300. So that is what is driving that effect. And those two represent about a fifth of the assets backing that portfolio.

What is the underlying on the ABS? You just referred to a 300 basis point move?

I think the principal piece there are home equity instruments.

It is Jim Anderson, Mario. It is made up of a bunch of -- a collection of assets, asset-backed auto loans, credit cards. We've got some receivables, some student loans. It is a wide variety of asset-backed securities, including both agency and nonagency residential mortgage-backed securities.

Just finally, what index would you have me or have us check on a quarterly basis to see if these are moving up or down in a quarter?

The index that it actually tracks closest to is the home equity index.

The Markit one, M-a-r-k-i-t?

I believe that is it.

I will check that. Thank you.

Colin Devine, Citi.

Two questions. First, for Bob Salipante with respect to the index annuity market, there is seen to be a lot of chatter going on down here as to whether these are going to become registered products with respect to the SEC and what that may mean for your business.

And the second, for Don, it seems that again this quarter, Canada does what is expected, international has some strong growth, MFS continues to rebuild, and we're spending most of the time on the US. Strategically, can you comment on what you think it is going to take to get Sun to the next level? I think a year ago you tried undertake something transformational. You've still got a strong valuation today. Does M&A need to be part of this to get, as I say, Sun up to the level that perhaps your peers at Manulife have achieved?

It's Don Stewart. I think we will take the questions in reverse order. I did point out that we've had pretty good organic transaction growth in our protection businesses. So if you look over the last five years, you've got 20% growth in top and bottom line. And we continue to see in 2008 a reasonably good delivery from both of these businesses, from the group business and the individual business. So I think the focus is more on the US annuities business as opposed to on the US business.

In terms of where we are going forward, we are in the deal stream. We demonstrated that with the EBG acquisition. And we can see ourselves in the right combination of circumstances getting to a continued sustained place, but it will take some time at these levels. The 20% growth I alluded to, if we can keep that up for the next several years, that will take us to a better and stronger position. But I can't obviously comment on specific transaction, and I'm sure you're unsurprised by that response.

Maybe to follow up, though, when do we get to the point where it may be better to go with what is working and build your protection businesses and call it a day with respect to annuities? Because it seems to me that unless you can pull off something transformational, clearly shareholder value is going to be created more focusing on the protection businesses than the retirement one.

I think we are always keeping our portfolio under active review. Last year, in 2007, we sold two businesses in the United States to refocus on the existing businesses. We also alluded to the fact that we have a strong international business in this particular segment, and we continue to grow that.

So I think, Colin, the focus is right now fixing and improving our annuities business, continuing to grow our protection business, but we keep all of our businesses under strategic review, as we demonstrated in the 12 months of 2007. And I can assure you we will continue to do that.

Don, I think you've been fixing the annuity businesses since you became CEO back in the Keyport days. But we can turn it over to Bob Salipante.

Colin, on the fixed index annuity business, you've been watching our sales there over the last several quarters, last several years. And we've been deemphasizing that line. We have not been making major investment in that line. Our investment and focus has been on VA. My view is, my personal view is if the SEC prevails with this latest position, it will be a smaller fixed index annuity business going forward.

John Reucassel, BMO Capital Markets.

Rick, could you, in the US annuities business, you talked about the two segments, the movement in interest rates and credits that hurt the earnings. Is the contribution to the lower earnings about 50-50 for each, or should I take it on this EPS, that it is a little more credit than the interest rates?

It actually comes out to be about 50-50. We're talking about C$0.07 credit, C$0.08 interest.

Okay. So I guess another, to rephrase the previous question a little bit for Don, I've always taken a bit of a -- maybe naively a dim view of the fixed annuity business, just because it seems so price sensitive, and then you invariably end up with the credit risk. Why -- the ROEs, you've got -- they're capital intensive and you've got low ROEs. Why have to explain to me and put the capital there, like, philosophically in that business? Why not just focus on VAs or protection? What is it philosophically that attracts you to fixed annuities?

I think rather, John, we are managing the business at around its current level as opposed to accelerating the growth of the business. I think that is an important piece of context. As Bob mentioned, in the case of the fixed index annuity business, that is a business that really hasn't been growing with us over the last little while, and as you would have noted, subject to certain environmental pressures.

The fixed business is an intermediation business, and some of the skills that are necessary to run it apply to all of our intermediation businesses. So I think you have to view it in a wider context. Having said that, we are endeavoring to run that business at its most optimum as opposed to growing it, or indeed managing it down at this juncture, because it is a business that works better for us if we improve, as was mentioned earlier, the hedging as opposed to building it or declining it right now.

Tom MacKinnon, Scotia Capital.

Maybe just to follow up out of the -- deemphasizing the fixed annuity business, your sales actually almost doubled quarter over quarter in the US fixed annuity stuff. But the question has to do with this C$0.07 in terms of credit in the US fixed annuities line. I think we've got downgrades, we've got a loss on the sale, and then we've got spreads widening. So how can that C$0.07 that you elaborate, how can we put that into those three buckets?

The changing credit spreads is about C$0.01. You have the changing credit ratings and the downgrades, about C$0.03, and I've got some rounding in here, but the credit and equity write-downs of C$0.04.

And what were the write-downs? Is there any specific names you can share with us?

There are specific names, but I actually would rather not share them.

Are they related to the fact that you've got some ABS or MBS? Does it relate to any of that?

It's Jim Anderson here. It is not related to that, no.

Okay. Now, if I look at this business as well, you got stung before when interest rates went down because you had spread compression on it. Now you're getting stung when interest rates are going up, and because you have tried to hedge both to protect yourself in a down interest rate environment and you can't spread it, credit spread duration as well. I mean, it just seems like you just can't win for losing with respect to this line.

Is there any way -- and it sounds like even then, you're actually even growing the sales, if I look even just quarter over quarter. What is the long-term plan for this line? Is there anybody you can sell this thing off to, or do you want to really make a go of it here, or what?

Tom, it will not surprise you that we are not about to enter into a transaction discussion on a conference call. I think we -- listen, we hear you loud and clear, that under a variety of economic conditions, this particular line of business had some challenges. And I think that would be the best place to leave the conversation.

Darko Mihelic, CIBC World Markets.

Actually, that last point helped quite a bit, Rick, with the breakdown. I guess the question I have relates to a question I similarly asked last quarter, which is with respect to expenses, because I do notice that they are down quite significantly this quarter versus last quarter and last year. And I guess my question is the same as it was last quarter. Can you -- should we view the new expense level as something that is sustainable, or can we maybe perhaps think of other ways which can counter-effect some of the weakness you are having with simple cost-cutting exercises?

Yes, a couple things to that, Darko. I think that, as we said last quarter, costs are certainly a focus. Some of the things that we're talking about here are the market impacts we won't be able to offset with cost controls, but we are being very diligent on that front. The big changes that you're seeing there are actually sales of some, I believe, are sales of some of our businesses. So you've got some expenses just coming out of the run rate. But you would see some expense savings, although it wouldn't be very significant, on the quarter over quarter. But as we said last quarter, we continue to be very tight on our expense controls.

Mario Mendonca, Genuity Capital Markets.

I think when you were talking about these downgrades, losses on sales and spread widening, obviously the discussion was in the context of assets backing policyholder liabilities. That would be true, right, Rick?

That would be true. I'm trying to look at our AFS, our available for sale. But I think the majority of that is, yes, in the [helper trading] backing policies.

So there is also the issue of securities that are available for sale, so essentially not backing policy-held liabilities, but backing your surplus. And on page 20 of your report to shareholders, you refer to C$7.9 billion of temporarily impaired securities for the unrealized losses, C$678 million. And I'm not suggesting for a second that that's a bad thing. On a balance sheet as large as Sun Life's, that's probably admirable.

But what I am getting here is, what are the sort of rules you folks use when you think about that? Is it a security? Is, say, 20% below book for a particular period of time, call it six months or 12 months, it's impaired, or do you have something a little bit more robust than that in deciding when to impair an available-for-sale security?

Let me turn that over to Colm Freyne.

We follow the Canadian accounting rules, and we have categories that we have in place, internal categories, different levels for the securities. We certainly monitor the external events so that we take account of -- we have credit watchlists where we review activities externally. So we follow the various rules. An element of judgment, of course, is required. Certainly the impairment on the bonds needs to be evaluated, and we go through that in a rigorous fashion.

So is there a bright line there -- 20% below book, six months, it's impaired?

No, there is no bright line. Under US GAAP, there tends to be more of a bright line, although in the case of US GAAP, as you probably know, there is also some variation. But in the US, they do take more of a view to time and distance to recovery, whereas those rules are not in place under Canadian GAAP.

So what is the single most important criteria used for the Company in deciding whether to impair that C$7.9 billion or that C$678 million GAAP there, unrealized loss? What is the most important criteria?

I think it really does come down to a review credit by credit as to the specifics. The market movements, as you know, will fluctuate. Certainly we look at the intent and ability to hold. And as they back surplus, we do have the ability and intent to hold.

Michael Goldberg, Desjardins Securities.

I know it's not Canadian reporting convention, but on a US basis, what would your Level 3 assets and liabilities be?

It's Colm Freyne here again. I'll take that question. We do not do a US GAAP reconciliation on a quarterly basis. We do the annual reconciliation. So while we have work underway to do that and we have a sense of that, it is not a number that we would be in a position to report on at this point. But it is not a very large number.

Mr. Petrelli, there are no further questions at this time. Please continue.

Thank you very much, Patrick. I would like to thank all of our participants on the call today. If there are any additional questions, we will be available after the call. And should you wish to listen to a rebroadcast, it will be available from our website later this afternoon. With that, I will say thank you and have a good afternoon.

Ladies and gentlemen, this concludes our conference call for today. Thanks for participating. You may now disconnect your lines.