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Posted: 09/Apr/2007 at 10:41pm
The risk ladder
The first step on the road to prudent investment is to understand the shades of risks you face.
However secure and comfortable we may feel within our homes, virtually all of us who engage with the external world must, some time or the other, move out of our safe cocoons. That process of leaving home and stepping out onto the road requires us to deal with a higher level of ‘risk’, the possibility of sustaining damage or loss. But even that higher level of risk can be managed to an extent if we are familiar with traffic rules–and abide by them.
The same is true of investments. There are times when even those of us who value and prefer ‘safe investments’ are compelled to move a rung or two higher up the ladder of risk. This can be an unsettling experience. But a familiarity with the nature of the risks we will encounter on that road, and with the rules of risk management, will help us navigate the higher-risk territory with a degree of caution.
The risk band. In the context of investments, risk relates to the uncertainty of returns and, on occasion, even the safety of the principal. Investments in which there is a high likelihood of partial or total loss of principal are classified as high-risk investments. And, likewise, investments that offer a credible guarantee of return of principal (and of payment of an assured return on it) are considered extremely safe. Between these two ends of the spectrum are various degrees of risks associated with various classes of investments.
The potential returns from an investment are directly linked to the level of risk it entails. Typically, low-risk investments offer low returns–although, paradoxically, there are still some absolutely safe investment options that offer moderate returns. But the obverse of that statement doesn’t hold true. That is, high-risk investments don’t automatically mean high returns. They have the potential to yield higher returns than low-risk investments, but there’s also the possibility that you might lose some or all of your money in them.
For instance, a start-up business is a high-risk investment: if it succeeds, it can make you a fortune, but if it folds up, it can sink all your investments. In contrast, an investment in, say, the Post Office Monthly Income Scheme (which offers 8 per cent interest, payable monthly) is absolutely safe–it comes with sovereign guarantee–but it won’t make you a fortune.
Zero-risk is Risky
Ironically, one of the most common investment risks that investors take is of not taking adequate risk. Fearing loss of principal from investments that offer market-linked returns, they tend to invest in what they believe are zero-risk investments: absolutely safe instruments, with sovereign guarantee of return of principal and perhaps even assured returns. But the returns on such investments barely keep pace with inflation. So, even if the goal of capital preservation is met through such zero-risk investments, investors are leaving themselves open to the far more serious risk of not generating enough returns to meet their financial goals.
Rating it right. Conservative methods of rating risk tend to view direct investments in stocks and other equity-related instruments and in unrated (or lowly rated) company deposits as being in the high-risk category. Investments in various classes of mutual fund schemes, company deposits with a good rating and real estate are traditionally considered medium-risk avenues. And among the safest investments are small savings instruments (which come with a sovereign guarantee and, in most cases, assured returns), bonds that come with sovereign backing (like the RBI Bonds and capital gains bonds issued by central entities) and bank deposits.
Assigning such a blanket risk rating to clusters of investments may help investors set up a first level of filters to assess investment options, but it does no justice to the nuanced differentiations within an asset class. Even though equity is seen as being more risky than debt instruments, it is possible to argue that in some ways a well-managed company that has a record of paying high, regular dividends is in practical terms a safer investment than a lowly rated company deposit. We shall explore these arguments in later modules.
There are specific risks associated with specific classes of investment:
Market risk. Investments in stocks and mutual funds are susceptible to market risk. Even if you’re invested in is a sound company, its stock price may be depressed by overall market sentiments.
Default risk. A company that issued a bond may be unable to pay its obligation.
Interest rate risk. When overall interest rates rise, the value of existing bonds and other fixed-income securities falls.
Prepayment risk. And when interest rates fall, a company may exercise its prepayment option on its bonds and return your principal–which you’ll now have to park at lower rates.
Liquidity risk. This is the risk of your being unable to convert your investments into cash at short notice. Debt instruments with lock-in clauses and investments in illiquid stocks expose you to this risk.
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 06/Sep/2006
Location: India
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Posted: 09/Apr/2007 at 11:20pm
I just found a really great tool for anyone wanting to gauge his financial strength for retirement purposes. Anyone interested in early retirement(mentally at least) or is close to it, can check it out here.
Njoy!
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 02/Sep/2006
Location: India
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Posted: 09/Apr/2007 at 11:28pm
Ohhhhhhh.....OM jee, I thought you were looking for Portfolio Insurance only! Now it seems you've become an expert on Life & General Insurance already!
Great work, nice informative posts, anyway.
Life can only be understood backwards—but it must be lived forwards
Joined: 06/Sep/2006
Location: India
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Posted: 09/Apr/2007 at 11:37pm
No Kulman ji, I am as usual a student learning from around me, especially from all TEDdies. As they say, Necessity is the mother of Invention.
Jai LokNath baba!!!!
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 06/Sep/2006
Location: India
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Posts: 5966
Posted: 19/Apr/2007 at 12:05pm
Cover for the Diabetics
Finally, two insurers are offering this in India. There are more in the offing. But does it really make sense to buy?
The World Health Organisation estimates there are 35 million diabetics in India today and the number would swell to 52 million by 2010. Of these, 95 per cent are Type II diabetics—their bodies do not produce enough insulin. Type I diabetics do not produce any. They face a far more serious problem and insurers don’t give them cover. That used to be the case with Type II patients, too, but not any more.
ICICI Prudential Life Insurance and Bajaj Allianz General Insurance are providing diabetes covers now. The rest do not cover diabetes if it is a ‘pre-existing’ disease. However, you can get mediclaim cover if the disease develops after the policyholder has had the insurance for three years continuously. Also, India’s only pure health insurer, Star Health Insurance, is in the process of submitting its proposed diabetes policy for Insurance Regulatory and Development Authority approval.
Type II diabetes can cause heart attacks, retinopathy (which can cause decreased vision and blindness), nephropathy (damage to or disease of the kidney) and gangrene (loss of tissues due to lack of blood supply, particularly in fingers and toes). ICICI Diabetes Care covers six critical illnesses—heart attack, coronary artery bypass surgery, kidney failure, stroke, cancer and major organ transplant. Bajaj Allianz covers all the diseases associated with diabetes under its critical illness policy.
Before giving diabetes cover, Bajaj Allianz puts a patient through a medical examination and charges extra over the premium for the critical illness policy. In terms of premiums, ICICI Prudential’s policy is more expensive, but pushes the policyholder to control the disease. It includes three free blood sugar checks a year at its diabetes centres and lowers the annual premium by 20 per cent if the disease is under control. The policy is about three times more expensive than mediclaim.
So, should diabetics buy them? A coronary bypass or kidney failure surgery costs over Rs 1 lakh, laser treatment for retinopathy about Rs 6,000, and amputation about Rs 50,000. Just medication would set you back by Rs 5,000-10,000 a year, says V. Mohan, chairman and chief diabetologist, Dr Mohan’s Diabetes Specialties.
Experts say chances of getting a diabetes related disease, except for heart attacks, are lower as they develop slowly. If the risk is high, says Mohan, no insurer will want to cover it.
What then should, say, a 40-year-old diabetic do? Mohan says it would depend on how he manages his diet and physical activity, and how long he has had the problem. With a near sugar-free diet, regular walks and sugar level checks, he can cut the risk of diabetes-related ailments. But chances of getting such a disease go up with age.
H. Srinivasan, a 77-year-old doctor, has had diabetes for 15 years. But he has kept sugar down by controlling his diet and taking regular exercise. He, probably, does not need a diabetes cover. But can everyone be as disciplined?
Sugary deals
Sum Assured
Age (in years)
35
40
45
50
55
60
ICICI Prudential Life Diabetes Policy
3 lakh
11,250
13,764
16,072
19,625
23,900
28,840
5 lakh
14,036
18,206
22,017
27,937
35,011
44,535
Bajaj Allianz Critical Illness Policy
3 lakh
900
1,650
2,400
3,600
5,250
9,000
5 lakh
1,500
2,750
4,000
6,000
8,750
15,000
Figures are premiums in rupees per year unless mentioned otherwise. Bajaj Allianz covers type II diabetes under its critical illness policy (CRI). Additional premium is charged over and above the CRI depending on the age of the person, sugar levels and other health parameters.
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 06/Sep/2006
Location: India
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Posted: 19/Apr/2007 at 12:27pm
Tasteless toppings
One good thing about some of the latest fast food joints is the variety they offer. You can choose from a host of toppings, dips and spices to make your own dish. That's the kind of 'customisation' that has caught the fancy of the life insurance sector, which has been offering a series of riders that you can attach to your basic policy - for a price, of course - to weather unanticipated calamities. But do they really work as efficiently for you as most insurers claim?
Riders are typically meant to provide you with additional benefits in case of an accident, critical illness or a disability, and are taken over and above the basic policy to supplement your financial needs. Being attachments, you can take them only when you buy a policy, not later. Besides, they can be taken for a term less than or equal to, but not more than, the basic policy term. The premium is factored into your overall premium cost and the sum assured that you can opt for is capped to that of your basic policy - not exceeding Rs 10 lakh in some cases.
There are a number of variants that come along with different policies. The main riders, however, are critical illness, accidental death or dismemberment, waiver of premium, income benefit and term assurance. Let's see what they offer - and whether you should buy them.
Critical illness
A hot favourite with agents, this rider covers you against critical illnesses like cancer, heart attack, kidney failure and major organ transplant. It is available to you only during the tenure of your basic insurance policy. Once the policy matures, the rider goes too.
Your need for life cover would end when you retire, as you would have met all your financial goals by then. But that's also the time when you are most vulnerable to acute ailments. So when your insurer withdraws this rider from you because your policy has matured and it is too late to get medical insurance at that stage of life because you've become a risky proposition, won't you feel that you've been left in the lurch?
Says Mumbai-based financial planner Kartik Jhaveri: "The critical illness rider makes little sense as it is only available till age 60 - when you require it the most. Besides, some insurers even terminate your basic policy if the rider is invoked."
The rider is no substitute to health insurance. Buy to supplement an existing medical policy - invoke the rider, if required, and continue to earn the 5 per cent bonus on your standalone health plan.
Accident and disability
This one normally covers you for three eventualities that could result from an accident: death, total permanent disability and partial permanent disability. Most accidental benefit riders, however, do not offer cover against total temporary disability, unlike the standalone accident policies offered by general insurers, which cover all four risks and cost around Rs 1,000 for a comprehensive cover of Rs 5 lakh. The accidental rider, on the other hand, would cost Rs 1,000 for three covers.
Waiver of premium
With this rider, if you have a permanent total disability, future premiums on your basic policy are waived off. There are two instances when it is important to keep the policy going, which is when this rider is useful: when you are leaning heavily on your insurance plan to meet your future financial goals and in children plans. Typically, this rider costs Rs 3-5 per Rs 1,000 of the base premium.
Income benefit
This works more or less like accident insurance in the sense that it provides an income stream if you are unable to earn due to an accident, sickness or injury. This rider would only amount to duplication if you already have a personal accident cover. Besides, this rider is expensive - ICICI Prudential charges Rs 1,655 for a sum assured of Rs 5 lakh. A typical accident insurance would cost Rs 1,000 for the same sum insured.
Term assurance
This is an option worth considering. A term rider is essentially a term plan that comes with investment-cum-insurance products. More often than not, the cost of insurance in products like Ulips and endowment plan is quite high. Ulips offer very little life cover -- as low as five times the premium. A term rider here would take care of your insurance need.
Illustratively, for a 30-year-old, a 20-year term plan from Tata AIG Life would cost Rs 4,550 for a sum assured of Rs 10 lakh. A term rider, on the other hand, would cost around Rs 3,720. But Jhaveri argues, "This doesn't mean a term rider is cheaper. To get a term rider, you have to first buy a primary policy, which defeats the purpose. If you want life insurance, term insurance is still the cheapest deal going."
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 06/Sep/2006
Location: India
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Posted: 22/Apr/2007 at 1:04am
What does SBI Life Shield offer?
Due to the mis-selling prevalent in the insurance industry, many individuals are saddled with policies that provide them with an insurance cover at a relatively higher cost. Insurance seekers are rarely informed about term plans which can help them obtain an insurance cover at a lower cost.
Term Plans A term plan provides financial security to the nominees of the insured, in the event of him meeting with an eventuality. The sum assured is payable if the insured’s death occurs during the tenure of the policy. Conversely, no payment is made if the insured survives the tenure.
Since term plans do not offer maturity benefits (i.e. there is no savings element), premiums are lower. This is what makes them the cheapest form of life insurance vis-à-vis others like endowment plans and unit linked insurance plans (ULIPs). The latter offer a return either on the insured’s death or in event of maturity of the policy. Since term plans are not burdened with the cost of providing a return (which means that nearly the entire premium goes towards providing risk cover), term plan premiums are relatively low.
For individuals, who don’t necessarily want a return from their insurance plan, term plans are an ideal way to insure themselves for a higher sum assured at a relatively affordable premium. However in most cases, insurance seekers desire a return on their insurance plans. To achieve this, they are even willing to pay a higher premium and settle for a lower risk cover. This scenario suits unscrupulous insurance agents just fine since they make higher commission earnings on endowment plans than term plans.
In this article, we profile an innovative term plan – SBI Life Shield Plan which should appeal to insurance seekers looking for a pure risk cover.
SBI Life Shield Plan Like all term plans, Shield Plan offers tax benefits under Sections 80C (on premium payments) and Section 10(10D), on the maturity proceeds. More importantly, it offers some interesting options, which is more than what one can say for most term plans.
First option: Increase in sum assured by 5% every year Under this option, the basic sum assured increases by 5% (of original sum assured) every year. In case of the insured’s death during the tenure of the policy, the nominee will receive the enhanced sum assured. The increased sum assured is calculated taking into account the number of completed policy years.
Second option: Increase in sum assured by 50% every 5 years Under the second option, the basic sum assured increases by 50% (of original sum assured) every 5th policy year.
Third option: Regular level cover Under the third option, the sum assured remains constant throughout the tenure of the policy.
An illustration should help us better understand the same. The table shows the varying insurance cover (sum assured) under different options over a 10-Yr policy tenure, assuming that the sum assured at the commencement is Rs 500,000.
Insurance Cover: Changing with the times
Sum Assured (Rs)
Policy Year
Level Cover
Rises by 5% per annum
Rises by 50% every 5 years
1
500,000
500,000
500,000
2
500,000
525,000
500,000
3
500,000
550,000
500,000
4
500,000
575,000
500,000
5
500,000
600,000
500,000
6
500,000
625,000
750,000
7
500,000
650,000
750,000
8
500,000
675,000
750,000
9
500,000
700,000
750,000
10
500,000
725,000
750,000
The table below shows indicative premiums under the 3 options. It has been assumed that the policy has been issued to a healthy, male individual for a term of 25 years; premium payments are made annually for a sum assured of Rs 500,000.
Annual Premium Payments
Annual premiums (Rs)
Age of entry
Level Cover
SA rises by 5% per annum
SA rises by 50% every 5 years
18
1,083
1,353
1,588
20
1,083
1,441
1,706
25
1,240
1,804
2,191
30
1,632
2,534
3,166
35
2,338
3,778
4,807
40
3,475
5,738
7,355
(SA: Sum Assured)
An interesting aspect of the policy is that in each of the options, the premium remains constant throughout the term of the policy. The varying premiums across options are on account of an increase in sum assured (under the 5% and 50% life cover enhancement options) over the policy term.
Despite the higher initial cash outflows under the increasing sum assured options, the same would prove more cost-effective vis-à-vis an individual opting for higher insurance cover at comparable time intervals. In other words, if an insurance seeker were to opt for additional insurance cover to match the one offered under the increasing sum assured options, he would end up paying a higher premium as compared to the one under the increasing sum assured option.
The enhanced sum assured option can prove to be particularly useful because opting for insurance is not a one-time activity. Ideally, individuals must regularly assess their insurance needs in light of lifestyle changes and increase in liabilities/responsibilities, among other factors. In such a scenario, it would be convenient to have a term plan that enhances the life cover at regular intervals, rather than opting for a new term plan every time the human life value is reassessed. Also the constant premium payments, makes it easy to plan one’s finances.
At Personalfn, we have always maintained that a financial planner/advisor has a vital role to play in aiding individuals achieve their financial goals and objectives. Insurance plays a vital role in the financial planning exercise. Individuals would do well to consult their insurance advisor to determine the suitability of any insurance plan and then make an investment decision.
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
Joined: 06/Sep/2006
Location: India
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Posted: 04/May/2007 at 10:13pm
Insurance: Life Queries
Ragini Malhotra asked: Can the proceeds of a policy be protected against creditor’s claims in the event of the insolvency of a policyholder?
The proceeds of a life insurance policy can be protected against the claims of creditors under specific circumstances. One, if the policy is issued under the Married Women’s Property Act and, second, if the policy is legally assigned in favour of a third party. The option of taking a policy under the MWPA has to be exercised at the time of taking the policy. It cannot be done later. A policy that has been legally assigned in favour of somebody becomes that person’s or assignee’s property and, therefore, cannot be attached by the creditors of the policyholder.
Meenal Dubey I had taken a loan from my existing life insurance policy, which I repaid along with my quarterly premiums. Will my final returns from the policy be affected in any way?
Once you take a loan on a life insurance policy, it is independent of the returns under the policy. Insurance companies charge interest on the amount of loan advanced against the policy. Once the principal amount, along with the interest, is repaid, it does not have any affect the final returns from the policy.
M.R. Rao What are ‘with profit’ and ‘without profit’ insurance plans?
Policies that participate in the profit of an insurance company are called ‘with profit’ policies, while the policies on which the amount of bonus is fixed at the time of issue itself are called ‘without profit’ policies. This means that irrespective of the profit earned by the insurers, the policyholders of without-profit policies will get fixed returns on the amount they have invested. Whereas, in the case of with-profit policies the amount of bonus payable is based on the net surplus earned by the insurers. Therefore, returns on these varies from year to year and can be more or less than the returns on without-profit policies.
Mridul Srivastava My pension plan is maturing next month, but I am already getting a government pension. Is it possible to get the returns in bulk so that I can invest the amount somewhere else?
To get a lump sum amount you can always withdraw a portion, though not the whole amount, of your pension receivable under the policy. This type of withdrawal is called commutation. This amount would be tax-free and can be invested elsewhere by you. Normally, it is possible to commute up to one third of your pension amount. You can receive a lump sum amount against the commuted portion and the balance amount will come in the form of monthly pension. The exact amount available for commutation, however, depends on the terms and conditions of your pension plan.
Anjum Jah Four years back, I bought a money-back endowment plan. The first money-back instalment is due next year. Now, I am finding the annual premium of Rs 10,000 too expensive, and don’t want to continue with the policy. Should I surrender the policy at this stage and switch to a term insurance policy, which is cheaper?
If you surrender the policy at this stage, you will get only the surrender value, which will be just about 50 per cent of what you have already paid. Therefore, in my view it is not advisable to surrender the policy at this stage. It would be best to continue. You can meet some of your premium obligations from the periodic money-back instalments that you will get under the present plan.;
The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it
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