The ULIP row & regulatory malfunctions

The last few days have seen some unprecedented events in India’s financial services industry. Two regulators appointed by the Centre are locked in a struggle over which of them will regulate unit-linked insurance plans (ULIPs), the primary product of insurance companies. Market regulator Sebi has issued an order which asks insurance companies to register themselves with it. And the insurance industry regulator Irda has asked insurance companies to disobey Sebi’s order. I’m sure this is unprecedented in India’s history.

At one level, this conflict represents a comprehensive failure of the basic architecture of India’s financial regulations. This architecture is based upon Irda regulating insurance companies and Sebi regulating all investment vehicles which expose investors to market risk.

The conflict arises from the fact that market-linked securities form a bulk of the business of insurance companies. The conflict is sharpened by the very different rules for products which are almost identical. SebiI-regulated mutual funds are far lower in cost, and higher in transparency and customer-friendliness than Irda-regulated ULIPs.

Better deal for customers
Sebi’s approach has generally been focused on ensuring a better and better deal for customers, whereas the Irda is comparatively more worried about the health and well-being of the insurance companies and agents.

Nevertheless, this problem is, at its root, an indictment of the finance ministry, Irda and Sebi. It should have been noticed and dealt with the day the first market-linked product from an insurance company came up for approval. That was the day that someone should have sat up and said that our regulatory structure does not reflect the underlying reality so let’s fix it. Instead, close to a decade has passed and a massive problem has been allowed to grow to unmanageable proportions.

I don’t know how this will get resolved or whether it will get resolved at all. However, I’m sure of one thing –– for financially literate and knowledgeable investors, this problem is irrelevant. It may sound strange but the reason I am saying this is that the question of whether the ULIPs currently sold by India’s insurance companies are an investment-worthy asset class is crystal clear, and has been so for some time now. India’s investing public is made up of a large mass of financially illiterate people who obligingly buy whatever is being sold and advertised most intensively.
These people are the ULIP market, and they have been a rich source of funds for insurance companies and their agents. If the regulatory system is not overhauled, these are the people who will continue to gift away their hard-earned money to the insurance industry. There’s nothing any one will be able to do about it.

Savers & investors
However, there is also a small proportion of savers and investors who understand enough to know that the only thing worthy of being called insurance is term insurance. Beyond that, there are a large number of investment options which are suitable for different people in different proportions.

No one needs this bizarre ULIP combination of a high-cost mutual fund with front-loaded commissions into which a tiny amount of insurance has been added in order to avoid coping with a pro-customer regulator.

So if you belong to the minority of investors who understand and appreciate the real picture then you can just ignore this whole sorry mess. You are wise enough to have ignored ULIPs till now, and that’s what you should continue doing in the future.
The current controversy is a turning point in the regulation of India’s consumer finance products. Either the government will decide that the savers’ financial being is the most important thing, or, the rich and powerful insurance industry will settle down with its hands deep in the pockets of ordinary Indians who are completely dependent on the government to protect them. As far as I can see, the hardest part seems to be admitting the mistakes of the past, of recognising how deeply misguided insurance regulation has been in India. I’m not really sure if the powers that be have the courage to do that.
The writer is the Founder & CEO of Value Research, a firm dedicated in research of mutual funds