Through an ordinance issued on June 18, the Central government amended, in one stroke, the Reserve Bank of India, Insurance, Securities and Exchange Board of India and Securities Contract Acts just to clarify that unit-linked insurance products come under life insurance business. This 90-degree tilt towards the Insurance Regulatory and Development Authority would have taken many by surprise.
The government's action was perhaps influenced by the fear that any dilution of IRDA's control over ULIPs might adversely affect the stock market sentiment. What is the origin of this unit-linked insurance, the focus of the current unseemly dispute between two regulators?
Unit-linked insurance was introduced in the 1950s in the U.K. — not by the life insurance industry but by unit trusts. Life insurance companies entered the field only in the 1980s. Between 1990 and 1999, new premium income under life insurance (both linked and non-linked) grew at an average rate of 17 per cent, an impressive performance in a country with a high level of insurance penetration.
This growth was aided mainly by buoyant market conditions, with the FTSE Index (U.K.) moving from 2144 to 6930 in nine years, an average growth of 14 per cent. However, this growth in FTSE, fuelled mainly by speculation and sentiment, could not be sustained and the index began falling. Now, more than a decade later, it is still well below the peak reached in 1999. Perhaps, as a consequence, the unit-linked insurance market has also not shown much growth.
The traditional insurance market is a shambles as insurers are not interested in marketing a class of insurance under which shareholders bear a major portion of the investment risk but get only 10 per cent of the profit. In the case of unit-linked insurance, while the entire investment risk is passed on to policyholders, the entire profit goes to the shareholders.
The Indian scene
Let us look at the Indian scenario. During the same period (1990-99), the Bombay Stock Exchange sensitive index, Sensex, rose steadily (barring a few hiccups) from 783 to 3060, an average growth rate of 16.4 per cent. The ULIP entered the Indian life insurance market in a significant way only in 2003. Between January 1, 2003, and January 1, 2008, helped by fund flows from ULIP and foreign institutional investors, the index rose from 3391 to 20301, an average growth rate of 43 per cent. The peak of 20827 was reached on January 11, 2008. Then came the long expected U.S. sub-prime crisis and the index crashed and is still well below that peak level.
The high average growth rate of 43 per cent was due purely to heavy inflow of funds. The contribution of unit-linked policies during this period to this surge in stock indices and explosive growth of the life insurance market cannot be denied. But it is wrong to presume that ULIP funds can perpetually sustain such high growth. The surrender rates under this class of insurance are always very high and the average life time of a unit-linked policy is well below 50 per cent of that of a traditional policy. Consequently, renewal premium income will start declining. Though new premium income may continue to show impressive growth, total premium income will not and, as a result, the impact on stock indices will tend to weaken.
Unhealthy practices
The traditional products are supposed to be non-transparent. But they carry a guarantee and, every year, the surplus arising during the year is distributed among these policies in a scientific manner.
The unit-linked policies are supposed to be transparent. But they carry almost no guarantee and the investment risk too is passed on fully to policyholders. The way they are designed and marketed leaves much to be desired.
Two years ago, when the stock market reached its peak, agents of all insurers went around with pamphlets indicating that a rate of return of more than 30 per cent can be obtained through ULIP. Who produced these pamphlets?
No one knew. As the regulator and professional agents looked on helplessly, lakhs of people fell prey to these pamphlets and crores of rupees were lost.
The IRDA may be asked to publish figures regarding the number of unit-linked policies sold during that three month period, the total premium collected till now and the total market value of the funds, as at present, under those policies.
This would show the extent of loss suffered by the public. Continuing to allow this class of policies to grow in an uncontrolled fashion will adversely affect the financial security of middle and lower middle-class sections of the society.
The recent SEBI action directing new ULIPs to be launched after registering with it forced the government to take note of the serious deficiencies in the ULIP market. SEBI need not feel frustrated by the invasion of its turf by life insurance companies. It is not very difficult to return the compliment by enabling mutual funds to enter the life insurance market, indirectly.
What the mutual fund industry needs today is dynamic leadership and not mere sermons.
If properly guided, with sympathy and understanding, this industry can provide an alternative to the life insurance industry in the ULIP market and thereby act as a benign balancing force.
