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Home > Business > Special

Cover risk as you rake in moolah

Falaknaaz Syed | February 12, 2007

The investing community is divided over the choice of various investment avenues. There are many who prefer unit-linked insurance plans, while there are those who swear by mutual funds.

It is best to compare their returns and thus find out which one is faring better. Well, for the past one year, the numbers clearly favour ULIPs.

A ULIP is a combination of investment and insurance cover. For the investor, it is like a closed-end mutual fund. And if the investor goes for a ULIP that invests largely in equities, then the ULIP can be compared with an equity-linked savings scheme, as one invests in it for a long term because of the nature of the product and the tax benefits. So, from the investor's viewpoint, it is possible to compare it to such funds.

Closed-end MF schemes have been in vogue since Sebi's circular in April last year, directing open-end schemes to meet expenses out of entry load but permitting closed-end schemes to charge 6 per cent new fund offer expenses.

As a result, there have been over a dozen launches of closed-end schemes over the past year compared with just one fund launched between 1999 and 2005.

The closed-end funds are for a period between three and five years. However, these funds do not have a one-year track record, so a comparison with ULIPs is possible only for the ELSS, which have a longer history.

ULIPs come on top with one-year returns between 34 and 45 per cent from a sample of six schemes studied. In the same period, the average ELSS yielded 27.34 per cent returns, with the best fund generating 43.07 per cent and the worst fund 3.93 per cent returns for the year ended February 9, 2007. Let us draw some comparisons between ULIPs and closed-end funds and ELSS.

Getting systematic: While both ULIPs and ELSS have the option of systematic investment plan, it is not available in closed-end funds. In the latter, investors need to time the market, as entry at the wrong time could affect them adversely.

This is contrary to the broadly-accepted view that an SIP, in the form of smaller, regular investments, makes for a better average values and long-term returns.

Switch or withdraw: Though ULIPs do not allow withdrawal of funds for three years, they offer the flexibility to switch between schemes.

Depending on market movements, the investor can get out of equities and switch to an income (debt) scheme in a ULIP, which is not possible in a mutual fund, unless the investor withdraws from a closed-end scheme and bears the exit charges.

By switching between funds, retail equity investors can capitalise on their profits regularly in ULIPs. This is not possible in ELSS or closed-end schemes. In a ULIP, an investor can also inject a lump sum amount of up to 25 per cent of the cumulative premium already paid, which is not possible in a closed-end fund. On the other hand, any amount can be invested in an ELSS.

Charges: The charges of a ULIP are, however, higher than those of a mutual fund.

Says Jayant Pai, a chartered financial planner and vice-president of Parag Parikh Financial Advisory Services, "Insurance companies deduct around 30 per cent of the premium in the first year towards marketing expenses (including commissions payable to the agents).

Although over time, the annual charges reduce to about 3.5-4 per cent a year over the entire tenure of the policy, this back-ending of charges compels the policyholders to stay with the ULIP scheme for a much longer period (a minimum of eight-ten years), while in case of a mutual fund, it will be three-five years."

Pranav Mishra, vice-president (products), ICICI Prudential Life Insurance, says, "Wealth creation through equity investments has been proven successful over the long term through disciplined and systematic investments. Since closed-end schemes are a one-time investment plan, they do not offer this benefit to investors. ULIPs not only offer flexibility but are also transparent in nature." Of course, there is no life cover in mutual funds.

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