Edunology - Saumya Aggarwal

Beware - New Highest NAV schemes may hit you as well

Innovation is the key in financial markets. We can see new innovated products, so called Highest NAV Guaranteed Plans . The only thing companies are trying to cash in here is huge marketing with as always confused investors. The belief looking at such schemes is that we will get highest returns, which is not the case here. Please read on.

In this article, I have tried to analyze the working of Highest NAV Guarantee ULIP’s work, and please appreciate that schemes are structured to allow fund managers to access your amount from 0 to 100%. The catch is that companies keep schemes with high lock in period.

The working of these schemes-

Strategies like Dynamic Hedging and CPPI (Constant proportion portfolio insurance) from derivatives world are being used. But, let me explain a simplified version of the process.

In the beginning, let’s assume a NAV of Rs 10, and the Asset allocation is 100% in equity and 0% in debt . Now suppose, the market moves up and NAV goes upto Rs 15 by the end of the first year, at this point, try to understand what Insurance company has to provide – they have to make sure, that they provide at least Rs 15 as the return after 6 yrs . Now in order to achieve this, all they have to do is keep X amount in debt instruments which will mature in next 6 years and provide Rs 15 at the end of 6 yrs, so assuming the debt return at 7%, they need to put around Rs 10 in Bonds , so that the maturity of the bond is Rs 15 at the end of 6 yrs .

=> 10 * (1.07)^6

=> 15.007

They can now invest the rest Rs 5 in Equity as Rs 10 is allocated to Debt . So, now they’ve made sure that whatever happens to the market, they get Rs 15 for sure at the end of 6 yrs. Now, there are two possibilities

Case 1 : Market Goes down : If market goes down, the NAV will go down correspondingly, but as per the strategy, the maturity value will be at least Rs 15.

Case 2 : Market Goes up again : If market goes up at this point and the NAV rises above 15, for example say to Rs. 18, now again they will pull out money from Equity and allocate such an amount to debt, that the maturity at the end of total 7 yrs would be Rs 18 and so on…

Note :
* These highest guaranteed schemes do not provide wide range of product categories, such as equity-oriented growth funds, balance funds and debt funds.
* Guarantee on highest NAV is available only if you survive the term.

At present, there are six schemes available in the market namely Birla Sun Life Platinum Plus-III, Bajaj Allianz Max Gain, SBI Life Smart Ulip, Tata AIG Apex Invest Assure, LIC Wealth Plus and Reliance Highest NAV Guarantee Plan.

The most instructive thing in this whole business of guaranteed highest NAV products is the contrast between the illusions spun by those peddling complex financial products and the reality of simple, straightforward investing. It just reinforces one's belief that financial products are being designed whose goal is nothing more than to create a marketing hype which can manipulate the psychology of the ordinary saver.