Khota Paisa

ULIP – A 3 Year Love Story

Posted in Investment by khotapaisa on December 30, 2009

The single biggest reason for the extraordinary success of ULIP plans is the 3 year lock-in period. This feature of ULIP is disastrous as far as financial logic is concerned. But it is a masterstroke in terms of financial behaviour of humans. When a risky investment product like ULIP is presented to investors, you would expect the ever cautious investor to generally keep away from it. But the flexibility to stop paying premium after 3 years is what attracts the common investor. The common man actually sees the ULIP as a 3-premium-with-continued-benefit policy. And this explains the common practice of paying premiums only for three years.
The first three years are the costliest in terms of various charges that the investor pays. To cover this loss, the investor must remain invested for the full term of the ULIP. Calculations show that it is only after 10 years or so that this loss of income (by the way of high front end charges) is covered. The figure of 10 years also alignes well with the concept that any equity investment must be held for atleast a full equity cycle(typically 10 years). Another fine print that people fail to see is related to the idea that the benefits of ULIP (insurance or protection) continues even if you stop paying after first three premiums. It is actually not the case. All the protections that the ULIP offers, go away when your corpus falls below a certain value. So if market performs really bad during a certain period, you may stand to loose the insurance benefit from the ULIP if your corpus falls too low.

If you are one who is planning to take ULIP plan then make sure that –

1. Your premium paying term is more than 10 years.

2. You pay all the premiums.

3. You invest in all-equity fund option within the ULIP plan until you are 3-5 years away from maturity.

Loan Prepayment – To Do Or Not To Do!

Posted in Calculators by khotapaisa on December 21, 2009

Here is a nifty tool that I am posting for all of you who want to see the benefit of loan prepayment, full or partial. The tool will tell you how much you will save if you prepay a loan. It also tells you how many less EMIs you need to pay if you prepay partly.

Loan Prepayment Calculator (Opens in a new window)

Gold ETF vs Coins?

Posted in Investment by khotapaisa on December 10, 2009

In a previous post, I talked about investing in physical gold (coins or bars). This resulted in few mails/comment(s) about the advantages of investing through Gold ETFs. It is common to see people advising in favour of Gold ETFs. ETFs seem to have all the advantages and hence appear to be the preferred choice of investment. I don’t necessarily see it that way. Though there might be some fundamental risks/costs associated with investment in physical gold, it still has it’s own set of advantages.
The following chart shows you the often quoted advantages of ETFs over physical gold.

Now lets try to see if the picture is really all that rosy for the Gold ETFs.

Now that we can see that ETFs are not the holy grail of gold investment, lets try to see the effective charges of ETF vs coins over a long period. When you invest in physical gold, you typically pay 1% VAT, ~4% overhead charges and some fixed charges, in all say 6% as charges. The same charge for ETFs is around 1% (or less) in terms of transaction charge. You will also pay a fixed fee (say 1000/- per year) for storing your gold coins/bars in the bank locker. For ETFs, you will pay ~1% of the total investment as expense. If you plot the cost of investing (and holding) in gold for long term (say 10-20 years), you will see ETFs are not that cheap. The following graph show that over 10-12 years, gold coins become cheaper investment option in comparison to ETFs. This may come as surprise, but the main reason for ETFs losing in long term is the expense ratio of 1-1.25%

Even with a 4% selling overhead (not always), investment in physical gold proves to be cheaper to ETF over long term (18-20 years). For a common investor, the relative lack of ease in selling gold coin may prove to be beneficial as it would resist the non-so-rare urge to sell to cover common expenses.
Keeping in mind that gold by nature is a long term investment, it may not be that bad to buy gold coins every year.

Note : If you have a demat account &  you use (and intend to use it for long) it, I would still suggest you to invest thru gold ETFs unless you prefer the good old way of buying gold.

Public or Private Insurers?

Posted in Insurance by khotapaisa on December 4, 2009

I have got more than few mails/comments on this topic. Even I have often wondered earlier whether I should go for public insurance company (say LIC) or private ones. In theory, there is no difference. The same regulations applly to both and they are equally monitored by the concerned authorities. But then in the financial world, nothings is guaranteed to work just because there are rules. This question is more important when you go for pure insurance(term plan) which has no investment in it. So the performance of the plan is not a valid criteria for selection. To figure out an answer to this question, I downloaded some figures from IRDA site. Based on the data, I prepared these graphs. The first graph shows the ratio of annual expenses vs premium allocated. It doesn’t need rocket science to figure out the lesser the better for the company & the customers.

The follwoing graph shows the ratio of claims settled vs premium collected. So, the higher this ratio, better it is for policy buyers.
For obvoius reasons, I have not given the names of other insurers. But if you see the no. of bars (each representing one insurer) in the graphs, you will realise that it pretty much covers most of the insurers today.
Some of the differences between LIC & the rest can be explained in terms of size & age of the company. But that doesn’t make the point less valid. Also, most of the private insurers are making loss. They might start making profit in coming years, but there is no guarantee or strong sign of it.
The catch is that LIC charges more premium for the same sum insured. But then, I would say that it is better to pay a little extra if it gives you peaceful night.