Articles

ONE OF the common fallacies that dogs the life insurance industry is that unit-linked insurance plans (ULIPs) are equity-linked plans and hence need bull markets to provide customers with high returns. This misconception impacts customer behaviour and customers perceive ULIPs in the same way as they perceive instruments such as stocks and mutual funds. Hence when the equity indices (NIFTY 50 and BSE Sensex) are low, customers are inclined to stay away from ULIPs. In truth, ULIPs are a totally different asset class with the unique combination of protection and investment.

One of the aspects that differentiate ULIPs from other investment instruments is the fact that the ideal investment horizon for ULIPs is long-term and goal-oriented. ULIPs can be used for preparing for retirement; planning for your child's future and for long-term wealth creation.

To illustrate the point let us imagine Rakesh Chauhan, 32, a middle management employee with a private firm. Rakesh is married with a daughter who is two years old. Rakesh envisages he will need money for his daughter's education in about 15 years and would need a corpus for retirement in about 25 years. Rakesh's goal horizons are longterm and hence ULIPs, in the form of a Child Plan and a Pension Plan, are a great investment option. The best time for Rakesh to invest is right away, irrespective of the state of the markets, because the more he delays it would impact his ultimate corpus (lower) or his premium amount (higher).

One of the biggest advantages of ULIPs is that they provide the customer with a great deal of control. This control can be used by customers to ensure the ULIPs are flexible enough to deal with changing circumstances in their life. ULIPs allow customers to increase their life cover in case their liabilities increase.

More importantly, ULIPs come with a choice of funds and the flexibility to seamlessly switch between funds with very little fuss. Most ULIPs in the market offer an equity fund, a balanced fund, a debt fund and a secure fund. The customer's money is invested in different funds. In an equity fund, as the name suggests, a large proportion is invested in equity instruments whereas in a secure fund, the corpus will be invested mostly in money market instruments. Each fund has a different level of risk attached to it and hence a different level of return.

The truth is that most customers do not pay enough attention to the fund choices available and blindly tick the equity option. If one was to analyse data available from last year during the market downturn, debt funds gave a very good return despite the market conditions.

A majority of customers either gets intimidated by the concept of taking charge of their money or lack the time to do so. For such customers, ULIPs provide features such as Lifestyle Funds or Invest Protect Options. A lifestyle fund is based on the assumption that customers can afford to take higher risks at a younger age. The initial equity investment percentage into this fund is usually calculated as 80 minus the policyholder's current age. So if a person is 30 years of age at the time of initial investment, 50% (80-30) of the money invested will be invested into equity instruments and the balance into relatively safer investments such as bonds and money market instruments. Every successive birthday, the investment in equity is reduced by 1%. During the last three years, the investment is systematically transferred into safer instruments.

Imagine a scenario where a customer had a pension plan with a vesting age of 60 years maturing in October 2008. Such a customer would have seen the value of his investments become half or less in a year. However, with a lifestyle fund option, this customer's investment would have stayed relatively safe.

Customers, when planning for their financial goals, should not let temporary market conditions affect their choice of investment. Customers would do well to remember that the earlier they start planning for their financial goals the greater their probability of achieving them. Postponement of a crucial financial decision may lead to their falling to achieve their goals or alternately paying too high a price in terms of premiums payable. Customers should always remember that market conditions are temporary and cyclical but long-term goals are constant. Hence in making a decision to invest for the longterm they should not look at either the bulls or the bears but only at their goals.