That terrible 70s feeling again. This time in Ulip rules4 min read . Updated: 07 Jul 2015, 07:33 PM IST
It would be a regressive move for Irdai to use household funds to meet objectives that have nothing to do with good returns for household money
The Insurance Regulatory and Development Authority of India (Irdai), in its draft Investment Regulations released on 2 July 2015 (http://mintne.ws/1dJok3K) , has proposed that the unit-linked insurance policy (Ulip) investment rules be modified and that at least a quarter of the assets under management be invested in central government securities (G-secs). This is a strange time for such a 1970s kind of a proposal. The 70s, if you remember, was the decade when state control took on harshly repressive tones. As a Financial Express editorial points out, this draft flies in the face of the attempts to make institutional investing more market-linked. For instance, there is pressure to get the Employees’ Provident Fund to invest more in the stock markets and to remove the restrictive 50% in equity investment threshold in the National Pension System. At such a time for the insurance regulator to announce a rule that hobbles investment choices of households is strange.
The current rules around investing in life insurance allow Ulips to invest in what are called ‘approved investments’, which are wide enough to include bank deposits on one side, and equity shares of any listed company in the CNX 200 or S&P BSE 200, on the other. Insurance companies launch policies in which the investor chooses to invest in an all-equity portfolio, a moderate risk-portfolio or a conservative one. For guarantee-seeking investors who want to take the life insurance policy route to bundling their risk mitigation and corpus building, the traditional plan already exists. Traditional plans already need to invest at least a quarter of their money in central government securities and at least half their money in central government, state government and other approved securities. Such plans mostly return 2-3% a year over a 10-15 year period.
There is widespread disbelief in the industry on this draft and there are various stories doing the rounds as to why this rule has been thought of. One says that it is the central government leaning on Irdai to fork over more of the life insurance funds for infrastructure building. It is good to remember that as on 31 March 2014, all life insurance companies in India held 5.18 trillion worth of central government securities; this is up from 4.41 trillion as on 31 March 2013. In addition, as on 31 March 2014, all life insurance companies held a stock of 2.55 trillion worth of state government and other approved securities, up from 2.14 trillion in FY13. The other story is about this being the regulator’s way of risk mitigation. Of course, whoever is making the rules has not heard of more contemporary risk mitigation tools in the market and needs to revert to the 70s kind of rule making. The third story is of the old mind-set that wants to kill the Ulip product and move the market totally back to traditional plans. Ulip market share fell from a high of about 70% in FY09 to around 10% in FY14—the traditional numbers are the inverse of the Ulip numbers. Traditional plans are opaque and companies are able to get away with obfuscating both returns and costs to give investors a bad deal. Investors have begun to figure this out and Ulip sales have picked up in the past 12 months.
There are several problems with this regulatory thought process. One, you are forcing investors into a product that returns less than 8% before costs. Count the costs of an insurance company in, and the returns go down to 2% or 3%. When there is already the traditional plan route that offers the guaranteed return option, why force the market-return seeking investors into a restricted product? Two, the move smells of financial repression, that wonderful tool for the government that it uses to suck out cheap household savings with the carrot of a guarantee. The price is paid in terms of negative post-tax real returns for the household and a crowding out of private sector borrowing by the massive government borrowing programme. Three, this reduces consumer choice. Products like bank deposits have a certain declared return rate and the deposit holders have no view on where the bank invests. Banks hold 21.5% of their deposits in G-secs due to the statutory liquidity ratio (SLR) requirement. As on 26 June 2015, they held 26 trillion of G-secs. For such products, where the return is fixed, it matters little what the rules of investment are. But for products that leave asset allocation choice to investors, to then go and fix the asset allocation into sub-optimal products is absurd.
If indeed the government needs money for infrastructure, instead of leaning on a regulator to fork over household money, the government could go directly to households by listing government bonds on stock exchanges and making it easy for a retail investor to buy. The other route will be a long-term government bond offering with a guaranteed return and tax breaks. Those who remember the IDBI and ICICI long-term bond issues of 1995 would recall their huge success. Give investors a good product and they will line up to buy. It would be a regressive move for Irdai to use household funds to meet objectives that have nothing to do with good returns for household money.
Monika Halan works in the area of financial literacy and financial intermediation policy and is a certified financial planner. She is editor, Mint Money, Yale World Fellow 2011 and on the board of FPSB India. She can be reached at firstname.lastname@example.org