Today a Relationship Officer from my bank visited me to educate me on how to use the surplus fund in my salary cum savings account. I actually didn’t have any expectation that he would be able to help. However, I felt that there is no harm in listening to him.

What he ended up glorifying was – Highest NAV guarantee ULIP plan. The way he was pitching the product anyone could have fallen in the trap without actually understanding the product’s nitty-gritty. I thought I must write on this subject to make people aware about the actual pros and cons of this product. (Before this, read – understanding ULIP)

Understanding Highest NAV Guarantee ULIP

Let’s understand this product with the help of ICICI Prudential’s highest NAV ULIP plan – “ICICI Pru Pinnacle Super”. Following description is taken from their website -

*Highest NAV Fund B provides 110% of the “highest daily NAV” of the fund in first 7 years, guaranteed at maturity. This guarantee is applicable only at maturity and is not available on partial withdrawal, surrender and death. There will be an additional charge for the cost of investment guarantee of 0.50% per annum. This will be made by adjustment to the NAV.

Some examples of Highest NAV ULIP products

  • Birla Sun Life Insurance’s Platinum Plus II
  • Tata AIG’s Invest Assure APEX
  • SBI Life’s SMART ULIP
  • ICICI Pru Pinnacle Super
  • Reliance Life Highest NAV Guarantee Plan

All these plans offer guaranteed maturity unit price.

Is Regulator Worried?

“The concern I have as a regulator is that the communication mechanism for the highest NAV products might lead to misconceptions among buyers. Therefore, it’s a risky product.” – J Hari Narayan Chairman, IRDA

Let us understand why he has made such a remark for such a hot selling insurance product. I will try to keep it as simple as possible. However, if you have any question regarding highest NAV products, leave a comment below.

Analyzing Highest NAV Products

Concepts used

Constant proportion portfolio insurance (CCPI)

Say you have a portfolio of Rs. 100 crores on which you want capital guarantee.

You must back-calculate the amount to be invested in fixed income securities to fetch Rs. 100 crores on maturity, say after 7 years. Assume the rate of interest to be 8%. The calculation will be 100 crores/(1+0.08)^7 = 58.35 crores. Thus the remaining amount 41.65 crores (=100-58.35) can be invested in risky assets.  This is an oversimplified example to explain CPPI.  Explore the concept further on Wikipedia

Dynamic Asset Allocation

It is a highly active portfolio management strategy where the fund manager looks for more profitable instruments with respect to current market direction and performance. It involves constant/frequent adjustment of investments with respect to market and instrument performances.

Highest NAV and not highest return

First of all what the insurance company promises is the highest NAV achieved during the tenure of the policy which is generally 7 years for such plans. Highest NAV will be obvious only in retrospect. Remember in this type of policies NAV doesn’t move in sync with equity markets. Any guaranteed product works for investors who do not want a risk to their principal amount, but would like a small upside of equity. Mind the word “small”. If you are looking for a Nifty or Sensex-linked return product with zero risk, that’s not realistic. Such products do not exist.

Survive the term

One has to survive the full term of the policy to be eligible for the highest NAV. Otherwise his or her survivor just gets the fund value. Other things remaining same, this product’s fund value will be lesser than simple ULIP product because of high charges attached to this policy.

Cap on Downside as well as Upside

Good thing about this product is that your initial capital is guaranteed. The fund manager of such highest NAV products is given the liberty to invest up to 100% in equity and shift the entire 100% into debt. Initially such funds start with higher equity exposure.

If the equity market moves up and so does the portfolio, such funds are likely to keep booking equity gains and moving them into debt over the tenure of the plan. This, in a way, will ensure that the equity gains are cashed in, the NAV does not go to very high levels, and the loss on account of the guarantee, if any, is minimal. Thus, it results in increase in debt proportion and decrease in equity component. This limits the probable future return from the fund as funds cannot be transferred back to equity for higher return.

If the equity market falls, insurers will move funds into debt to protect the guarantee.

Real life situation

Source : Mint Research

The above picture proves the above points. Share your experiences of ULIP plans with highest NAV guarantee.

 

Related posts:

  1. Understanding ULIP
  2. ULIPs or Mutual Funds – Comparison
  3. Financial planning: Tips to help you get financial success