Tuesday, July 17, 2007

Financial Dilemma

Recently I have been reading up a lot on the capital markets, personal finance and related stuff. And with this half knowledge and no experience in dealing with live cases, there is a huge dilemma that I have come into.

When I first started to work last year, I was acutely aware that insurance is a must for all middle income groups and the earlier you opt for it, the lesser premium you need to pay for it on a yearly basis. So I went looking for advice and talked to lots of insurance agents, all of whom were interested in selling me only ULIPs (Unit Linked Insurance Plans). Well at that time I took what I found to be the best plan, although all were almost the same. So I took a ULIP from Max NewYork Life.

Features of my ULIP:
  • Life Invest
  • Premium : Rs. 60000 p.a.
  • Sum Assured : Rs. 15,30,000
  • Fund Type : Growth (max 70% equity, rest in money market instruments and cash)
So far so good. But then I started reading about personal financial planning, asset allocation and related stuff and some of it has started to make sense. Wherein I landed up in comparisons between ULIP and SIP (Systematic Investment Plan) from Mutual Fund houses. And therein lies my dilemma.

Most of the subject matter dealing with comparisons between these topics advice to take a pure term plan for insurance and put the rest of the money in a Mutual Fund SIP. Essentially separate the insurance component of your financial planning from the investment component. Yet the more I think on this topic, the more I am convinced that for a person like me it is the best investment vehicle. What follows is a completely biased view on why I should continue with my current insurance-cum-investment policy.
  • I tend to splurge on occasions. Which means I might at some point of time reach a level of debt wherein I find that stopping the investment option for sometime would help me recover from the debt. And that is the worst mistake that one can do when targeting long term wealth creation.
  • Even the growth fund in the ULIP is relatively secure because they are completely governed by strict IRDA guidelines. Now most financial advisers would advice that out of your portfolio of stocks, some should be such that they are blue chip, or stalwarts or similar companies. So while these regulations do take care of my balanced part of my portfolio, it leaves me free to invest in high risk stocks without having to think about mitigating risk using my own judgment.
  • In the future sometime I might want to go in for higher studies. Then it will be very easy to cull the investment process and use the money for expenses incurred during the non-income period. Again such a move is not recommended from the perspective of long term wealth creation.
  • Different studies for the performance of the stock market over the last century have found that the annualized gain is around 15% on an average. If that is the case, then my insurance house would do good enough.
  • There are other aims in my life like traveling, reading. Given a free reign with the money I can very easily divert it to such activities and not accumulate funds at all for any kind of wealth creation.
As I sat down to think of these above points, I also realized that there were lots of cons too with this approach. Most notably:
  • For an amount of approximately Rs. 10,000 I can get a pure term insurance (an insurance plan that just gives cover and does not give any money back at any stage). So the rest of the Rs. 50,000 can be invested in a good fund which would give far superior returns. But would I put all my money in just a equities fund over the long term and would I be able to select the best performing fund year-on-year??
  • The first three years after I go for the tax saving Mutual Funds, I can churn the money into the fourth year. Which leaves me a clear amount for later better investment opportunities.
As I was writing this post I also simultaneously watched a TV show on the annual Himalayan Odyssey organized by Royal Enfield India. Realization dawned that wealth creation is eventually about being able to align your psyche to such a goal. While I realize the need to do so, I might not be disciplined enough to keep the approach on my own. I think I will stick to my ULIP, which would enforce the investment discipline in me.

If you are reading this, and the above makes any sense to you, please do enlighten me with your inputs.

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