Why LIC Ulips are so precious

One can understand the apprehension about investing in Ulips because of the seemingly incomprehensible moves of the stock market, to which its performance is linked.

           First of all, let me deal with why Ulips are necessary in the present day. The average inflation (CPI) over the last 30 years has been 7.53%, whereas the latest fixed deposit rates today are below 7%. So if one were to mainly invest in similar instruments, then taking the income tax on interest into account, the real return today, would be negative. So the basic purpose of investing in these instruments would be defeated.

          On the other hand, to put a major part of one’s savings into stock market linked instruments would also seem really frightening, to the uninitiated.

           Let me therefore try and remove some of the misapprehensions. People are generally wary of the stock markets because of the volatility and uncertainty of returns. But if one were to take a longer term view, then the volatility and uncertainty would both disappear.

          For example, the Sensex since its inception in 1979, has given an average return of 16.06% as on 31/03/19. More amazingly, this average has never dipped below 15%, ever, throughout its 40 year history!

          Since most of our goals are long term in nature, like children education, marriage, house, retirement, it makes great sense to invest in market linked instruments from the very beginning. The additional incentive would be that the returns would be absolutely tax free as Ulips with Life cover are tax free under Sec 10(10)D.

          But before one commits his entire savings one also needs to have certain safeguards in place, such as –

·        At least six months expenses to be put aside in an emergency fund

·        Adequate term insurance cover as per human life value

·        Adequate mediclaim/health insurance cover

The surplus savings, after covering for the above as well as expenses, can then be fully committed for investment purposes.

            Because of the vagaries of the stock market, it is never a good idea to invest in lump sum, since timing the market is impossible for the ordinary investor. However, even if someone does not have much surplus in hand, it is always possible to invest small amounts every month, systematically, through the ECS mode in Ulips and build an incredible corpus over the long term, to fulfill any goal!

            To substantiate my case, if someone were to have invested Rs.10000/- in the Sensex, every year, since inception, the accumulation would have amounted to Rs. 2,09,08,750, as on 31/03/2019, giving a compounded annual return of 15.07%. Also, appreciate that during this period, the Sensex had crashed 13 times and yet such an incredible return was possible!

           Another feature to understand is that, the longer the duration of investment, the fewer the losses. In fact, if one were to invest by lump sum and stay invested for 12 years and more, the probability of loss totally disappears. However, an investment by SIP for 10 years, ensures a minimum return of 13%, over any market period! So, ideally, the term of a Ulip should never be less than 10 years.

             People are also not aware of the superb performances of Ulips over the years. Let us compare the performances of Ulips over a similar period with the Sensex. Since Ulips are not 100% invested in equities, so strictly speaking, a comparison is not possible. However, if an Ulip is say 80% invested in equities and we have a similar “pro rata” column for the Sensex, then a comparison becomes possible. Amazingly, almost all Ulips have outperformed the Sensex on “pro rata” basis as on 31/07/2019. Also, notice that Bima Plus, Money Plus 1, Market Plus 1, Endowment Plus  have outperformed the Sensex on their own and Future Plus, Jeevan Plus, Child Fortune Plus,Jeevan Sathi Plus, Pension Plus, Flexi Plus and New Endowment Plus are only marginally short.

               Another perception about Ulips is that expenses are too high. This misconception has arisen due to the fact that mutual funds allot units on the basis of daily NAV. So to the investor, it appears that no charges have been levied. That is not so. Mutual fund expenses are deducted before declaring NAV. In fact, the Annual Expense Ratio of mutual funds vary from 1.75%-3% per annum for equity schemes. Investors can easily check this out at www.valueresearchonline.com

             On the other hand, on a comparable basis, the expenses of Ulips are substantially less. If we refer to the benefit illustration chart of the latest Ulip. If we total up the premium and expenses side and take a ratio, the “Annual Expense Ratio” comes to roughly 1.53%. If we do the actual math, then it comes to 1.43%. (For a projection of 4% growth)

             So, Ulips in the long run are actually cheaper than MFs and therefore certain to outperform any comparable MF over 10-15 years. However, do not make the mistake of comparing Ulips with comparable MFs with a term of 10 years or less. Know that, Ulip charges are front loaded and are heaviest in the first 6 - 9 years, whereas MF charges are constant throughout. This is why, even after 5 years a Ulip should not be surrendered, as the returns are likely to be only slightly higher than the charges.

             Let me now address a very real fear of investors.

What happens if an Ulip is in the final year of the term and the stock market also tanks that year?

             The fear is that all the gains would be wiped out. A very real problem but nevertheless there is a solution. Every non-pension Ulip has a built in safety feature, where the investor is allowed to opt for “settlement option”, that is, extend the term by 5 years, by applying at least one month before maturity. If the investor feels that market conditions are not conducive, all he has to do is opt for settlement option. Thereafter, he can withdraw at any time during the five year period, whenever the market recoups all the losses.

         What about pension Ulips? Here the solution is to switch to a Bond Fund, before the market tanks!

How is it possible to know in advance that the market is going to tank?

The history of the stock market shows that whenever the Sensex/Nifty PE Ratio crosses 22 substantially, it is always followed by a crash, and it does not happen overnight. So investors will get plenty of time to switch but at the same time they should not get greedy and try to time the switch.

         Right now (23/08/19), the Nifty PE is 26.79 and reached its highest level on 03/06/19 (29.90); and Sensex PE is 25.62 and reached its highest level on 03/06/19 (28.89). So, if it’s the last year of an Ulip and he needs the money immediately, at maturity, or a pension Ulip, my advice would be to immediately switch to a Bond Fund. To get these ratios simply google “Nifty PE Ratio/Sensex PE Ratio today”.

         For new entrants, at this level, it would be prudent to first opt for the Bond Fund and wait patiently for the market to correct substantially (PE Ratio 11-12) and rise, then switch to the Growth Fund. This waiting period may take one and quarter years to one and half years.

        To sum it all up, an Ulip investor needs to be aware of these factors and fearlessly invest for the long term to achieve incredible fortunes. He should link the long term goals like children education, marriage, house, retirement with the term of the Ulips and ride the downturns with the surety that they give them the opportunity to buy cheaply. Investors should instead of becoming fearful, welcome corrections because they give them a chance to average down their cost of buying, which in turn leads to profits once the market recovers.