Life Insurance - Notes

What is a Life Insurance?

Life Insurance is a contract between you and a life insurance company, which provides your beneficiary with a pre-determined amount in case of your death during the contract term.

Roles of Life Insurance

Role 1: Life insurance as "Investment"

Now, let us compare insurance as an investment options. If you invest Rs. 10,000 in PPF (Public Provident Fund) in India, your money grows to Rs. 10,800 at 8 percent (rate gets realigned to market rates every quarter) interest over a year. But in this case, the access to your funds will be limited. One can withdraw 50 per cent of the initial deposit only after 5 years. However, the Insurance Product (with the Dynamic Floor Fund option) can provide you the exposure of equity market (historical return of Indian Equity Markets is around 13-14.5% annually compounding) and limit your downside risk.

Role 2: Life insurance as "Risk cover"

First and foremost, insurance is about risk cover and protection - financial protection, to be more precise - to help outlast life's unpredictable losses. Designed to safeguard against losses suffered on account of any unforeseen event, insurance provides you with that unique sense of security that no other form of investment provides. By buying life insurance, you buy peace of mind and are prepared to face any financial demand that would hit the family in case of an untimely demise.

Role 3: Life insurance as "Tax planning"

Tax rebates can be availed u/s 80C and the capital gains during the maturity of the product is tax-free u/s 10(10D).

Types of Life Insurance

Term Policy

 A term insurance policy is a pure risk cover for a specified period of time. What this means is that the sum assured is payable only if the policyholder dies within the policy term. For instance, if a person buys Rs 2 lakh policy for 15-years, his family is entitled to the money if he dies within that 15-year period. A term policy is useful during the following circumstances:

· You are looking for a low cost life cover without any savings benefits attached. Or

· You are at that stage in life where insurance cover is vital but you cannot afford high premium payment due to low income.

· You have taken a loan and do not want to put the burden of repayment to your family members in case of your demise

Perhaps the best and the most rational form of Insurance. You can get high cover paying very less cost. 

Endowment Policy

Combining risk cover with financial savings, endowment policies offers you the sum assured on demise or even if the insured survives the policy term.


Unit Linked Policy (ULIPs)
Again this is a combination of Risk Cover and Investments. In case of the policy holder’s demise during the term, his beneficiary will be paid the higher of the Sum Assured or the Fund Value (according to the terms in the contract). The maturity benefit includes the total of the Fund Value plus survival bonuses.

Benefits of ULIPs:

Flexibility - Flexibility to choose Sum Assured. Flexibility to choose premium amount. Option to change level of Premium /Sum Assured even after the plan has started.Flexibility to change asset allocation by switching between funds.

Transparency - Charges in the plan & net amount invested are known to the customer.Convenience of tracking one’s investment performance on a daily basis.

Liquidity - Option to withdraw money after few years (comfort required in case of exigency).Low minimum tenure.Partial / Systematic withdrawal allowed

Fund Options - A choice of funds (ranging from dynamic floor fund, equity, debt, cash or a combination). Option to choose your fund mix based on desired asset allocation. 

However, kindly note that ULIPs are subject to market fluctuations and have pretty high charges (as compared to Mutual Funds) associated with them, so it might not be a great idea to mix your investment and insurance.

How much should be your life cover?

Thumb rules says that one must insure one’s life for at least 12 times your current annual income. Insuring yourself for 12 times your current annual income with a ULIP or an endowment plan is likely to cost you a bomb. That gives you another reason to go for the low cost Pure Risk Cover Term Life Insurance.


(Disclaimer: This document is created by Booombaastic. Reproduction of any part of this document by any medium is strictly prohibited and suitable actions will be taken against the errant)

Making efficient utilization of the Capital earned (India)

Dear Friend:

Warm Greetings!! As rightly said: “Ignorance is bliss and so is supreme knowledge; it’s the transience that causes all worries”. As I gallop towards quenching my thirst for supreme knowledge in the domain of finance, I am taking this opportunity to pass on my knowledge (on an as-on basis) to clear the ignorance of my peers and friends and their friends (make them more worried about their personal financesJ , till they too strive to reach the state of supreme knowledge). I have a belief that this would turn out to be a mutually beneficial exercise, biased towards my side.

OK, enough talk. Now let’s try and understand how we can make an efficient utilization of the capital we earn. Other than having an efficient personal expenditure pattern, we can also

·         Prevent unnecessary outflow of capital (Tax savings)

·         Put our capital at work (investments) “intelligently” for increasing future capital inflow

Handing over money to the taxman is hardly the most pleasant of tasks and feelings. However, many of us pay more tax than necessary, mainly because of a combination of ignorance and laziness. Moreover, we do not assess the risk/return profile of the investment instrument we choose and many a times end up losing capital there too. Hence, lets first shortlist for ourselves, what are the various instruments we have.

Remember: Each instrument (even though under same heading) is different and should be chosen based upon individual requirement only after proper investigation or consultation.

Instruments for Tax savings

1. Public Provident Fund (PPF) (U/s 80C)
2. ULIPs/Life Insurance (U/s 80C)
3. Tax saving Mutual Funds (ELSS) (U/s 80C)
4. Home Loan (U/s 80C and 24B both)
5. NSC (U/s 80C)
6. Post Office Time Deposit (U/s 80C)

Asset Classes for Investments

1. Fixed Income Instruments (Debt Instruments)
2. Equity Instruments
3. Alternative Instruments

Characteristics of these asset classes:

1. Fixed Income/ Debt Instruments: Returns moderate around 8-10% per annum. Deviation of returns (risk) is zero. Hence the name.
2. Equity Instruments: Returns very high approx 30-40% (during bull market) and very low minus 25- minus 35% approx (during bear phase of the market). Deviation of returns (risk) is very high.
3. Alternative Instruments: Sophisticated instruments requiring specialized knowledge.

Fixed Income Instruments

1. Fixed Deposits (FDs)
2. Bonds
3. Kisan Vikas Patra
4. National Savings Certificate (NSC)
5. Public Provident Fund (PPF)
6. Debt Mutual Funds
7. Fixed Maturity Plan (FMPs)
8. Money Back Endowment Insurance Policy

Equity Instruments

1. Stocks
2. IPO Investment (First day selling)
3. Futures, Forwards, Options (Derivatives)
4. Equity Mutual Funds (Diversified, Sector, Index, Market cap oriented, Quant, fund of MF)
5. Exchange Traded Funds (ETFs)
6. Unit Linked Insurance Plans (ULIPs)

Alternative Instruments

1. Investment Commodities
2. Consumption Commodities
3. Real Estate
4. Hedge Funds / Fund of Hedge Funds
5. Private Equities
6. Film Funds, etc

Now, let’s analyze a situation; a layman (say Rakesh) wishes to save income tax and simultaneously increase his wealth. What are the instruments available with him? Following:

• Public Provident Fund (PPF) (U/s 80C & Debt Instrument)
• ULIPs/Life Insurance (U/s 80C & both Debt and Equity Instrument or combination)
• Tax saving Mutual Funds (ELSS) (U/s 80C & Equity Instruments)
• NSC (U/s 80C & Debt Instrument)

Although all of will give him similar tax benefit (U/s 80C), however when it comes to wealth creation these instruments will behave accordingly to whether they are Debt Instruments or Equity Instruments. But here lies the million dollar dilemma; if he invests in a debt instrument, he will miss out on the exponential capital appreciation prevalent during bull market whereas if he invests in an equity instrument, he runs the chances of losing a lot of his capital during a bear market. So what should he do?  Some of his well-wishers may suggest him to have two investments, in either instrument. However, if we crunch the numbers for future returns we will find that there is a more efficient approach. So what is this efficient approach?

“Put your money in an instrument which invests in equity during bull market and automatically realigns itself as a fixed income instrument if the volatility of the market increases/market enters a bearish phase.” Hence, Rakesh, who went ahead with this innovative instrument, got the double benefit of exponential capital appreciation during bull market and downside capital protection during bear market within a single instrument. A clever choice I must admit.

So, if you stay any where in India or abroad and wish to know more about this instrument or any other instruments mentioned above, do contact me:

Either, drop a mail to mabhik@gmail.com  (preferable)

Global Credit Crisis 2008

The Genesis:

An investment bank uses its own money to lend others and invest. It started with the sub-prime crisis. Banks like Lehman, buy mortgage loans from other banks and then package them to sell bonds against the loan pool. Often they add cash to make the loan pool more attractive, so that the bonds can be sold at a higher price.

Example: Suppose mortgage was earning 6%, these bonds are sold at 4%. The difference is the spread which the investment bank earns. By selling these structured bonds, it raises money and frees capital. However, when homebuyers started defaulting, these bonds lost their value. It all began like this, and then the virus spreads across markets.

The Acceleration:

Owing to the financial chaos of this magnitude, banks refrain from lending each other, fearing that the money would get stuck. Thus the liquidity dries up and further leads to something called as “Domino Effect”. For Example:  Suppose Lehman faces redemption and has to repay another bank it has borrowed from. If it sells the mortgage-backed bonds, whose prices have fallen, it will not raise as much as was earlier expected. So, it sells some of the other good assets or bonds which may have nothing to do with mortgages. But since the bank starts dumping these assets, prices of these bonds also dip.

This is when the crisis spreads from being sub-prime to prime.

Underlying Technicalities:

Many of these instruments are over-the-counter (OTC) instruments unlike exchange traded (like stocks). Here two consensual parties come together and get into a buying/ selling agreement as per their own set rules.

However, this arrangement has a marked-to-model architecture unlike the market-to-market (for exchange traded instrument), which is based on the rules of demand and supply (bid-ask). 

What the bank does is construct a model, feeds the available market price of these variables in the computer, to arrive at what the market price of the OTC instrument could or should be. This is an artificial model-generated price.

The trouble is when the bank actually goes out to sell them, it discovers that there are no takers. And, even if there are buyers, they are willing to pay just a fraction. In other words, there is a sea of difference between the price that is being offered in the market and the high artificially-generated price thrown up by the model. So, when the bank ends up selling the instrument, the loss suffered is far in excess of the mark-to-market loss.

As an Investor:

If you are an investor, sit on cash. Or a better way, invest in Liquid Funds . Or if you are little adventurous, search for other asset classes. Or if you want as much excitement as Bungee Jumping.. Try equity markets..