“All animals are equal, but some
animals are more equal than others”
—George Orwell, Animal Farm
Jandhyala Hari Narayan, chairman of Insurance Regulatory and Development Authority (Irda), has termed the order of the Securities and Exchange Board of India (Sebi) barring 14 private life insurance companies from raising unit linked insurance plan premiums as being against public interest.
But does Hari Narayan himself, or for that matter Irda, have public interest in mind? Or are they only interested in protecting the business interests of the life insurance companies that they are supposed to regulate?
More likely they are serving the industry’s cause, much less that of investors. Here’s why:
1. Highest NAV guaranteed plans: Insurance companies have been launching and raising crores in new premium through highest net asset value (NAV) guaranteed Ulips. Ulips are investment plans carrying a dash of insurance. Typically, highest NAV guaranteed Ulips are 10-year plans. Some of these plans guarantee the investor the highest NAV they achieve for the first seven years of the plan and others guarantee the highest NAV for the entire duration of the plan.
There are a number of issues here
First, how can a regulator which claims to have “public interest” in mind clear an insurance plan that has the flexibility to invest up to 100% of the total money it collects in the stock market and yet offers a guarantee? Guarantees and stock markets don’t go together. Those in doubt can recall the case of the once much loved but now almost defunct institution called the Unit Trust of India (UTI). UTI had around Rs 17,000 crore invested in its assured return schemes and all these schemes had to be shut down in 2002 when things started to go haywire.
Second, the insurance companies in their promotional literature haven’t elaborated on how they plan to manage the guarantee. As the recent financial crisis shows, there are no holy cows in the world of finance.
Third, highest NAV guaranteed Ulips are being blatantly sold and advertised as a stock market product, giving an impression that all the money collected will be invested in the stock market and there it shall stay for the entire period of the plan, and the highest NAV will be guaranteed. Of course, no insurance company will take on the risk of having to pay off investors out of its own pockets. So it will in all likelihood have a higher exposure to equity initially and gradually move the investments into debt as the date of maturity nears.
If Irda had public interest in mind, it would never allow any of this. More so, considering it only benefits the insurance companies, who find it much easier to raise money by using the world guaranteed in their product.
Sebi does not allow mutual funds to use guaranteed returns. In fact, till sometime back mutual funds used to give indicative returns on fixed maturity plans to solicit investment. Even that has been stopped now.
2. Joining the Ulip sales pitch: Recently Irda put out advertisements in newspapers using taxpayers’ money, asking people to invest in Ulips. Is that a function of an industry lobby or a regulator which has public interest on its mind?
3. Identifying the best Ulip: Irda should work on building an infrastructure to help investors figure out which of the Ulips in the market is the best at any given point. In a mutual fund, the difference between the net asset value between two points of time can tell the investor how well a scheme has performed. This is primarily because the expense structure of mutual funds is more or less the same. The expense structure of Ulips offered by different insurance companies is widely different. Therefore, there is no way an individual can figure out which is the best performing Ulip going. This essentially ensures that insurance agents can push anything they want to. Now who does that help? Definitely not the investor!
4. Front loaded commissions: Most Ulips come with a top-loaded commission structure. This means insurance companies offer a significantly higher commission in the first two years of the policy. This has led to a situation wherein insurance agents, which include big banks, get investors to exit their existing Ulip policies once the lock-in is over, and get them to invest in new Ulips. This ensures that agents can continue to earn a high commission. As highlighted earlier by DNA Money (Guess what got Sebi’s goat?, April 13, 2010), the premium collected in latter years of insurance policies is not significantly different from the premium collected in the first year. Irda, as a good industry lobby should, has turned a blind eye towards this. In fact, spreading around the commission equally throughout the tenure of the policy will ensure that insurance agents do not go around mis-selling.
Over and above this, currently a life insurance agent is allowed to sell products only from one company. This has led to a situation where some big banks have switched insurance companies just because of more commission being offered. This obviously left a lot of current investors in Ulips in the lurch. A staggered commission structure will take care of this problem as well to some extent. But then that may not be.
5. Switching Ulips: If the Ulip an investor has invested in delivers mediocre returns, switching to another Ulip is a very expensive process. This is primarily because the commissions in the first two years of any policy are very high. So the investor has to pay the high commission all over again.
A staggered commission structure was in place, an investor could easily switch Ulips. This would ensure that insurance companies will compete on their performance as well, rather than the current situation where it is more a question of who has the better distribution system, pays higher commission and can get a bigger celebrity to endorse its product.
Mutual funds are currently not allowed to use celebrities to advertise their products.
6. ‘The commission-free structure will kill the insurance industry’: Irda chief Hari Narayan has gone on record with this statement after the recommendations of the Committee on Investor Awareness and Protection headed by D Swarup, the last chairman of the Pension Fund Regulatory and Development Authority, was released. The committee, which had members from the ministries of finance and corporate affairs, the Reserve Bank of India, Sebi and Irda, recommended that all retail financial products should go no-load and hence no-commission by April 2011. It recommended that upfront commissions given by insurance companies should fall to 7% by April 2010 and 0% by 2011. Now, that’s keeping “public-interest” in mind, for this would benefit the Ulip investor rather than the insurance company. Is Irda on the investor’s side?