American Express 2002 Annual Report Download - page 51

AEFA has two primary exposures to the general level of equity markets: asset management fees and customer crediting rates
based upon the returns on equity markets. AEFA earns fees from the management of equity securities in variable annuities,
variable insurance, proprietary mutual funds and other managed assets. The amount of fees is generally based on the value of
the portfolios, and thus is subject to fluctuation with the general level of equity market values. To reduce the sensitivity of AEFA’s
fee revenues to the general performance of equity markets, AEFA has from time to time entered into various combinations of
financial instruments that mitigate the negative effect on fees that would result from a decline in the equity markets. In addition,
AEFA writes and purchases index options to manage the margin related to certain investment certificate and annuity products
that pay interest based upon the relative change in a major stock market index betwen the beginning and end of the product’s
term. At December 31, 2002, equity-based derivatives with a net notional amount of $208 million were outstanding to hedge
equity market exposures.
The negative effect on AEFA’s pretax earnings of a 10 percent decline in equity markets would be approximately $57 million and
$81 million based on assets under management, certificate and annuity business in-force, and index options as of December 31,
2002 and 2001, respectively.
AEFA’s owned investment securities are, for the most part, held by its life insurance and investment certificate subsidiaries,
which primarily invest in long-term and intermediate-term fixed income securities to provide their clients with a competitive
rate of return on their investments while controlling risk. Investment in fixed income securities is designed to provide AEFA
with a targeted margin between the interest rate earned on investments and the interest rate credited to clients’ accounts. AEFA
does not trade in securities to generate short-term profits for its own account.
AEFA’s life insurance and investment certificate subsidiaries’ investment committees regularly review models projecting various
interest rate scenarios and risk/return measures and their effect on the profitability of the company. The committees’ objectives
are to structure their investment security portfolios based upon the type and behavior of the products in the liability portfolios
to achieve targeted levels of profitability within defined risk parameters and to meet contractual obligations. Part of the com-
mittees’ strategies include the use of derivatives, such as interest rate caps, swaps and floors, for risk management purposes.
AMERICAN EXPRESS BANK
Results of Operations
STATEMENTS OF OPERATIONS
Years Ended December 31, (Millions) 2002 2001 2000
Net revenues:
Interest income $ 606 $ 698 $ 735
Interest expense 246 396 484
Net interest income 360 302 251
Commissions and fees 215 203 214
Foreign exchange income and other revenues 170 144 126
Total net revenues 745 649 591
Expenses:
Human resources 236 247 257
Other operating expenses 244 255 273
Provision for losses:
Ongoing 147 65 28
Restructuring related —26 —
Total provision for losses 147 91 28
Restructuring charges (3) 70 —
Total expenses 624 663 558
Pretax income (loss) 121 (14) 33
Income tax provision (benefit) 41 (1) 4
Net income (loss) $80 $ (13) $ 29
I49 AXP IFINANCIAL REVIEW