MY LIFE, MY MONEY- The trap of life insurance

(This article appears in today's Asian Age/Deccan Chronicle) INSURANCE IS NOT INVESTMENT.. The IRDA finally seems to be telling the insurance companies to be more modest about what they should charge as commission or fees from the money that they collect as premium. It may not go beyond this. Of course, they are also imposing ‘fines’ on some companies for paying higher commissions or for delay or denial of claims. The biggest problem with the life insurance companies is that they hardly sell pure life insurance. In the guise of life insurance, they focus more on selling a combination of investment and insurance. Whilst I do not know about the reasonableness or otherwise of the life insurance cover charges, I can say with assurance that the investment products are unhealthy for the customers. The fees and the administrative charges etc amount to more than what a mutual fund or an ETF would charge you. And there is no reason to believe that the insurance companies deliver superior investment performance as compared to the mutual funds. If you have invested in ULIPs you will know about the issues. The insurance companies will only mention the performance with respect to amount invested by them and never on the money that you have shelled out. Even your friendly agent will not tell you what the returns on your own outgo are. There is absolute opacity in the way insurance companies do business. My view is that if at all one has to consider insurance, there are only two sorts of insurance. One is medical insurance and the other is pure life insurance. Both are expenditures and not investments. Do not look for returns. Often, the insurance agent will con you in to buying an investment product, by saying that you will get your money back. Do not fall in to the trap. It is like saying that I will return your money after thirty years, but do not ask me for interest. We see many online advertisements that keep shouting things like “only Rs.600 per month” or some such figure for a one crore life cover. Of course, there will be an asterisk etc so the actual number may come a bit higher. These kind of pure life policies are the best for an individual. Of course, if you have a lot of money and do not have to worry about what happens to your dependents financially after your death, then do not waste money on life insurance. After all, more people live beyond sixty than those who die before this age. So, the odds are in your favour in any case. Take a term policy that gives you life cover, say, till age 50 or 55. By that time, you should have been able to provide for your dependents. If not, it is unlikely you will provide anything more in the few years of earning that you may have. So, around that age, you should stop the expenditure on the life insurance business. Starting early is good, because it locks you in to a lower outgo. The older you are, the higher is the premium for the same value of risk covered. Insurance has to be a rational choice and not an emotional one. The biggest scam going around is ‘children’s policies’. Under normal circumstances, children will live beyond you. Second, if your child were to pass away unfortunately, there is no adverse financial impact on you. So, why do you insure your child? Now, your agent will tell you that the ‘policy’ will pay for education or marriage etc of the child. You have now got in to the realm of investment. Here, the insurance company is not as efficient as a mutual fund. So, invest the same amount in any mutual fund. You ask the agent about the rate of return on the amount you are expected to fork out every month/quarter etc and you will find that it has to be lower than a bank fixed deposit rate or any mutual fund investment. AVOID CHILDRENS INSURANCE POLICIES. If at all you do take a life insurance policy, ensure that you discontinue it once your dependents are financially secure or you have provided enough for them. I would have recommended a full life policy with payment of sum assured on death, provided there was a secondary market for trading in them. You could take the policy and sell it off in your sunset years to someone who will get the sum assured on your death. You could sell it at a discount and enjoy the money. Of course, you could buy such a policy if you want to leave behind a sum for your dependent. In such a case, make sure that your will mentions about who will / should get the insurance proceeds. Mere nomination is not enough, because the nominee merely is an agent to receive the money and it rightfully belongs to your legal heirs. Life insurance is a morbid topic and often agents play upon your emotions to sell you products that make no financial sense. Take some time before you commit in to anything long term. Take a piece of paper and do your homework. If in doubt, talk to others. R. Balakrishnan

Time to sell?

This appears in the recent issue of Moneylife. Has some extra comments A FALSE DAWN The gap up opening of the markets on Friday the 14th looks like a kind of a relief rally to me. With so much negativism around, this move by the government to hike diesel prices looks good. However, the flip side is where the negativism in the move lies. This move is not a move to reduce subsidies but a move to bring additional income in to government coffers. Given the extortionist levies on petrol and diesel, surely the ‘subsidy’ is an accounting illusion. People may not agree with me, but if you take a look at the selective subsidies that industry get where the benefit reaches only a few pockets, the fuel subsidy is a more equitable one. A diesel price hike of over ten percent is inflationary and is going to impact everything. Inflation in food prices is already running high and this move is (borrowed quote from a reader who commented on the QE 3 on a website) like ‘throwing wood in to a fire’ to douse the fire. The announcement of permitting FDI in retail and aviation has made people happy, but what it means is yet to filter in. The retail FDI ‘policy’ is a misnomer. One would have expected a government in power to not create a division between states. By saying that the centre will approve and then each state to approve is mindless. This will set a dangerous precedent for all future moves where economic liberalisation is needed. Borders between states are being thickened by such a thoughtless policy. In hard number terms, we will not see more than ten billion dollars flowing in over the next three years. As regards aviation, again it may provide relief and/or an opportunity to a couple of airline company promoters but it does nothing to change the The moves by the ECB and the US Federal Reserve give a reprieve to global markets. Perhaps it would mean additional cash to spare for emerging markets. Already, our markets have witnessed good inflows and the stock markets are on a decent run. The US markets crossed their 2007 highs. Presuming that there is no roll back of a significant nature by the time you read this, we will have a spike in inflation. Freight rates are surely set to go up. Captive power (most SMEs operate on diesel gen sets) costs would also go up. A spiral that would make the RBI even more reluctant to lower interest rates (unless pressurized by the government of India). The other negative impact of the global moves on easing liquidity would be to fuel up commodity prices. Easy availability of money at ridiculously low costs will see more speculative action in commodities. This and the high interest costs would tend to put pressure on corporate profits. The big worry for us would be whether this spike in commodity prices would extend to oil. Logic says that a feeling of wellness across the globe would push up oil prices further. However, the markets may actually go higher for some time. If the government sticks on to its announced price hike in diesel, the presumption would be that our government is serious about reining in fiscal deficit and bring in higher flows to the markets. There would be enough valuation arguments created to encourage this flow. The move by the government to hike diesel prices means an annualised additional recovery of around Rs.20000 crores. Surely, consumer price impact across the board would be far higher than this number. The BSE Sensex at around 18000 is trading at around 17 times FY 2011-12 earnings. For those who like to look at calendar year data, the return is close to 19% YTD for 2012. If earnings grow this year at around 12% (close to long term averages), we are talking about markets valued at nearly 15 times expected earnings for this financial year. Is it cheap? We have fixed income instruments available at eight times earnings. The difference in valuation represents our expectation of future earnings momentum in the stocks as well as a possible fall in interest rates. Should all this happen the rupee could strengthen. Whether it would be significant enough to make a dent on the trade deficit is not clear to me. Perhaps the rising commodity prices would offset the rupee gains. Inflation will be the biggest fight investors and consumers will face. Easing liquidity without doing anything to improve supply side is futile. Increased liquidity will simply chase the same volume of goods. You do not have to be an Einstein to figure out the outcome. So if markets are going to remain strong in the near term, I would reduce my exposure to equities by selling off some of my stocks/mutual funds. Maybe there would be some momentum in sectors that have fallen off heavily over the past six months to a year, but these moves would be without any strong backing on the earnings. The Indian market at 15 times plus forward earnings is expensive and leaves very little room for long term capital appreciation. Clearly, liquidity is driving markets and not corporate earnings. I know and hear that everyone is talking about markets having strength and poised for further highs. In fact there is talk of the BSE Sensex breaking old highs and forming a new high. I am happy to have people like that around so that they provide the exit to cowardly persons like me. R. Balakrishnan

Book Review: Growth in a Difficult Decade

FROM EMPLOYEE TO EMPLOYER- A MOTIVATIONAL COLLECTION Book: Growth in a Difficult Decade. 2012 Authors: Compilation by Minmetre.com and concept by Regus plc Published by : Regus. Price : GBP 19.99 Regus plc is a global business enablement partner. They make your transition from slave to entrepreneur easier by giving you fully equipped office space across nearly a hundred countries. Then there is a company called Mindmetre Research that is in to business and consumer analyses. Both these organisations are headquartered in UK. Regus is now present in India also. Both the firms have a keen interest in entrepreneurship. Looking at India, it is evident that the more the state tries to do something the less we achieve. World over, governments are thinking that they will print their way out trouble. However, sustainable growth can only be brought about by private enterprise. India has grown over the last two decades in spite of the government and not because of the government. Now, when the economy looks like staring at a potentially ‘lost’ decade, entrepreneurship is perhaps the way for nations to emerge out of the hole of ‘no growth’ that we seem to be staring at. Today, individuals are willing to take risks to become an employer rather than remain an employee forever. It is not essential that the drive being at age thirty or age sixty. Everyone can. Both the above organisations have put together a compendium of 64 entrepreneurs from across the globe. Six continents, sixty four snap shots. Unlike conventional biographies, this book is more a compendium from secondary and primary sources. The narrative style is unlike a normal book one reads. This book fleshes out the entrepreneurs with snapshots of their business growth as well as some quotable quotes that have been the driving forces for these entrepreneurs. The book is also like watching a trailer. Entrepreneurs like Marc Benioff who founded Salesforce.com or Leandro Rizzuto ( a must read section about a business that is in to aids for hair dressing ) can provide inspiration for those who want to cross the bridge from receiving a salary to setting up your own shop. The good part about the write ups is that there is a very brief write up about an entrepreneur and a commentary about the business growth. Each story is four to six pages on an average. You can read it at leisure, though if you are thinking of quitting being a slave or have just quit, you will read the book in one go. Some entrepreneurs and business stories that you find of more relevance will leave you with a sense of wanting to know more. So if you are expecting a life story of any business or businessman, don’t read this. However, if you want a pen portrait of entrepreneurial hunger, you can benefit by reading about this group of sixty four disparate personalities. The unifying thread is the fact that each one identified a gap in some business service or ventured in to something totally new. Reading about these varied people, one gets a sense of different thoughts bonded together by creativity, the ability to delegate, the need to choose the right team, the need to respect knowledge etc. In a sense, this book will help you look at all the factors that you may want to look at. There is reference to the website of each entrepreneur so that you can go for more depth of information if you desire. Entrepreneurship is about creating your own space. To create and nourish that space, you need to have your own guiding principles, some traits and skills. Here, you have a rich selection of people who share their thoughts with the reader and can help you to speed, up the learning curve. Importantly, this book showcases people who have created new spaces where none existed and in the process filled in some needs for the customer. Creativity, innovation, persistence and talent management seem to a common thread running through the sixty four chosen ones in this book. Most of us dream about having our own set up. We spend time dreaming and talking about it. However, not many actually venture out, due to a deep sense of insecurity and a fear of failure. And many will say that the economic conditions are not best to start a new venture or take risks. Andre Monteiro, co-founder of Compra3 (an innovative online shopping site) has this to say of risk taking, “Risk is part of an entrepreneur’s routine. The economic crisis is just another condition that highlights the risk, and entrepreneurs are used to these conditions. Most people are worried, but for the entrepreneur it’s just the natural habitat.” Among the cast of characters, there is also the flamboyant Donald Trump sharing some of his success mantras. Behind every brilliant idea and light hearted banter, there is also the extraordinary amount of hard work that people have put in to get to their goal. Sure, not everyone will make it, but if no one steps out the world stagnates. Do not look for too many details, since the focus of the book is to bring you the big picture and not the fine print. One important thing is that the revenues (presumably after costs) will be donated to the Red Cross. All the more reason for wannabe entrepreneurs to get a copy and dip in to the book at any place you can put your finger. Every page has some inspiration for you.

Keep Faith in Equities

EQUITIES DELIVER- DON’T LOSE THE FAITH The economy seems to be firmly in the grip of a slowdown. Growth is decelerating across sectors. On the other hand, we are seeing food prices climbing higher each day. Even the weather gods have decided to be hostile this year, with near drought like conditions. Corporate earnings are certainly slowing down, though the stock markets seem to have done very well this calendar year, so far. A weakening rupee, stubborn inflation and a central bank (RBI) that is reluctant to drop interest rates. All these do not portend well for investors. The stress on the populace is showing. The first sign of a troubled economy is the signs that the savings rates have started to fall. This is a sign that rising prices are forcing people to save less. An optimistic way of looking at this falling savings rate is to say that people are not slowing down the spending. I would carefully watch the sales trend in big ticket items like durables, automobiles and two wheelers. So far, people seem to be unconcerned about slowdown and are buying. Interest rates hopefully should start to fall. High interest rates are hurting corporate India badly. Profits growth has come down to single digit and threatens to go negative in terms of growth in this fiscal year. All the asset classes seem to have done well, indicating the easy money availability with investors who are happy to take risks. Of course, the FIIs and the LIC of India have also pumped in decent amounts in to the markets this year, so far. Equities have given good returns and so have fixed income. Gold took a breather, scaring off many late entrants and seems to have resumed its climb. Of course, a depreciating rupee has added its own kicker to the momentum. Many foreign investors have lost in dollar terms due to the strength in the dollar as well as the weakness in the rupee. All indications are that the dollar is likely to gather further strength as troubles dog the Euro zone with no solution in sight. Politically, this seems to be the worst of times since independence. Everything seems to be in a stagnation zone as the ruling party and the opposition trade charges and totally neglect the populace. Policy making has ground to a halt. The slim hope is that there is certainly a better man at the Finance Ministry in terms of capabilities. Infrastructure spending seems to be a thing of the past. In this context, I would certainly advise people to take some money off equities and put it in to either income funds or bank deposits. Of course, for those in direct equities, there will always be opportunities and it is likely that over the next twelve months or so, attractive bargains may be available. I am bullish on gold, so long as it is a small part of your overall asset allocation. Not on any intrinsic valuation, but purely taking a view on global fear and a weakening rupee. SIP returns (assuming termination in first week of august 2012) were as under: 5 year returns 4.66% 10 year returns 13.53% The above is for the NIFTY ETF. However, if you were in HDFC Top 200, the returns would have been 22 percent plus for ten years and over ten percent for five years. Clearly shows that a well managed equity fund delivers great returns. Yes, you have to be lucky and choose right. Over half the funds did worse than the index. I am not endorsing Top 200 or any other fund, but using it merely to show that your choice of a fund can make a significant difference to your final corpus. Clearly, a pointer that equities will give you modest returns over long term so long as you make investment a steady habit and eschew looking at prices daily. Of course, the returns will look higher when the termination is in a good phase like the present. Termination in a bad market will naturally mean worse returns. So, it is all a question of timing. Maybe it makes sense for an investor who is near his last leg of investing through the SIP route, to keep tabs on the returns and when he sees returns in excess of 13 or 14 percent on a compounded basis, close it out and put it in to a liquid fund. This will offer some protection against getting whipsawed by a poor market. For example, if I have been saving in equities for the last couple of decades and am in my seventies, with no further commitments, I should keep an eye on pulling out money from equities and moving it in to fixed income products. If I have direct equities, the objectives would be different. Of course, it all depends on how rich I am at that point in time. Ideally, I should not need that money in equities during my lifetime to sustain my daily needs. This year, there is a lot of hope left in the market. The biggest hope is that the interest rates will start to fall off. This will help us in two ways. One is that whatever we have invested in income funds or in bonds, will give us a capital appreciation as rates fall. The second is that it will signal an improvement in corporate earnings apart from an improvement in relative attractiveness of equities as opposed to fixed income. Keep your faith in equities alive. That is the only hope that we will either beat inflation or minimise our loss of capital.

OF CRR, SBI AND THE RBI

In the late eighties, the PSU banks were getting primed for global display. NPA provisioning was a function of available profits and more ignored than not. Slowly, the view of the mandarins in the banking turned to cleaning the Aegean stables. Huge write-offs and massive doses of capital infusion followed. At that point, the realisation dawned that the problems were mitigated by the high levels of SLR and CRR that were imposed on the banking system, which actually stopped the banks from frittering away all of the depositors money. The Era of liberalisation saw experts asking for lowering in the reserve requirements, to enable banks to lend more and have freedom over the resources. This process started gradually, with RBI being reluctant to let go. The important thing to note here is that the skill sets of the PSU Banks have not changed at all. It still continues to be at the whims and mercies of the government of India. Nothing has changed. PSU Banks still do not attract any serious talent. A look at the banks like HDFC or Axis or Yes Bank and you will know the differences. PSU Banks, with their rotten pay scales in relation to the private banks, will force poor talent that will feed itself on corruption and nothing else. The higher the lending, there will be exponential increase in NPAs for the PSU. In this context, the demand of the gentleman from SBI to do away with CRR is ridiculous. By now we all know that even if a peon of the SBI were to be made the CMD, the performance of the bank would not differ by a single paise. If the RBI wants to reduce reserve requirements, caution is advised. First change the pay scale system, get good talent and good skill sets. Then give them freedom. Dont let a driver of an Ambassador get in to the cockpit of a Boeing.

A GOVERNMENT IN EXILE- UPA 2

GOVERNMENT INERTIA “The policy of being too cautious is the greatest risk of all.” (Jawaharlal Nehru) When the UPA II was installed in to power at New Delhi, there was opinion that the ‘dream team’ of Dr Manmohan Singh, Mr P C Chidambaram and some key bureaucrats like Montek Singh was back and we could expect to revisit the 1991 reforms all over again. Euphoria was so much that on the day the election results came in, the markets opened gap up with a gain of over five hundred points. Since then, this government has been a series of disappointments. I do not want to debate here whether this dream team deserves any credit at all for what happened in 1991. But, suffice to say that this time around, they have left the markets and the investors high and dry. Initially, we all were led to believe by the government that the Euro crises were a western disease and that we would not catch any side effects. Then we were consoling ourselves that whilst our growth rate is slipping, we will still grow faster than other economies. The government officials were busy trying to persuade us that in the world of the blind, “one-eyed” is king. Inflation has been another area where the government policies have not been able to make any impact, except in perhaps a negative way. Populist moves that give away something free to others, generally tend to add to money supply, without doing much. The government policies (or lack of any impetus or fresh initiatives) have left the markets at the mercy of market forces of demand and supply. Central bank stance and the government stance seem to be at apparent conflict with each other. Which of them is right, time will tell. Our markets are witnessing a strange divide. There is a huge demand for high quality stocks (FMCG, Pharma etc) that have become very expensive. It is very unlikely that anyone will make serious money buying the stocks at present levels. At the same time, the high risk stocks have cooled off and will perhaps drive the next round of the market rally when it happens. By no stretch of imagination can this market be labelled as a bear market. The broad markets are trading at sixteen times earnings and it is possible that the earnings growth in the coming financial year may be in single digits. Stocks from the PSU universe continue to behave like yo-yos based on what one feels about government policy, each day. For example, when the government policy was interpreted as freeing the oil sector, the oil marketing companies looked good. However, when it was realised that the government is shy of addressing the subsidy issue, the same stocks looked not so attractive. Judicial activism also is at odds with market forces. We saw what happened to the stock of Indraprastha Gas which stands accused of making too much money. Government policies are in a kind of limbo at this stage. One is not clear whether the exit of Pranab Mukherjee from the Finance Ministry and the Prime Minister assuming the role will result in any improvement in the situation. The sharp deterioration in the rupee dollar exchange rate has led to tremendous losses for foreign investors who have already put money in to India. Given our inflation, the rupee can only weaken further. To nullify this, we have to attract FDI and / or FII money in a big way. That can come only if the government policies are stable and not capricious. The threat of retrospective taxation has shaken the faith of people across the globe. Perhaps this one factor (GAAR) has been the single largest contributor to the sad state our stock and currency markets. The real issue is that we have not had the government address anything with reference to economy or markets over the last three years. The expectations have gone so low that anything they do will be viewed as positive by our markets. In a sense, our markets presently seem to have priced in a view that this government will not do anything positive to boost the economy. So, fundamentals apart, the government policy changes, should hopefully bring cheer to the markets. I am not talking about more bail out or dole packages (like NREGA etc) but something positive like hiking diesel / kerosene prices, reducing any other subsidy or lowering interest rates or giving incentives to promote new industries etc. At this juncture, when it is clear to everyone, including the politicians, that India cannot be islanded from global troubles, we need positive or affirmative action from the government. This government has just two years left to complete its full term. With each passing day, the possibility of voluntary action to improve the economy seems to be reducing. There is only reaction to events. Hence, my take is that there is safety in fixed income. I don’t mind sacrificing the upside in equities (from here, there is not much upside left, though valuations are not very stretched except for the good quality stocks) for peace of mind. And inflation refuses to budge much lower, thus delaying the fall in interest rates.

INFLATION RULES

(This appeared in the Deccan Chronicle of 8th July, with a misleading headline) The battle against inflation seems to be a lost one for us. Nearly four years and there is no sign of abatement yet. Clearly, even in a flagging economy, the rate of inflation is a very clear indicator that there is a supply crunch. This high inflation also depreciates our currency quickly and compounds the problem as the import content in inflation (petrol, diesel, transportation etc). Following classical economics, the RBI wants to follow a tight money policy and not lower interest rates. At the same time, the ruling party in the government of India want to show that there are no issues and wants to give away freebies. This is a classic conflict that is playing itself around the world. In all this, the big winner has been inflation and no one else. Apart from impacting us on our spending habits, inflation and the consequential weakening of the rupee do have a bearing on some of the listed companies. Firstly, I have to take a view as to whether the rupee will weaken or strengthen from here. Logically, a country with a rate of inflation higher than the US and with continuing trade deficit will look at a consistently and continually falling currency. There can be relief to the currency from flows in to the country through migrant remittances, loans, FDI and FII investments. Whilst we had all these in the past, it has not stopped the rupee from falling. It merely delayed the process. In essence our need for dollars seems to be higher than the available dollars. It is logical to assume that companies that are net foreign exchange earners will gain. This is true, if they always earned in dollars and are able to hold their dollar prices for the goods or services that they supply. What happens in reality is that they get some immediate benefits and after that, competition results in a lower dollar price. Thus, over a reasonable time frame, the falling currency does not help anyone. There are those who say that a falling rupee is good for exporters and that a rising rupee hurts exporters. This simply is a reflection on the inefficiency of our exporters. If a rising domestic currency were to hurt, would Japan (the Jap Yen moved from over 300 Yen to the dollar to the present level of 80 Yen to the dollar over the last four or so decades) have continued to increase its exports? If we take the gem and jewellery industry, the value addition is very thin. Imports are in foreign currency. Thus, changes in exchange rates do not mean much except over the very very short term. Similarly, in the IT industry, there will be competitive pressures that will keep dollar prices falling as the rupee keeps weakening. Thus, the worst impact is on the Indian consumer due to our dependency on oil imports. Similarly, our import of unproductive but fear led gold contributes to the single largest reason for why our rupee is falling. If private gold imports were halted, we can address a major issue. Our passion for gold becomes a kind of self fulfilling proposition. The more the gold we import, the higher the pressure on the rupee and the more expensive gold becomes for the Indian. Out of our dollar shortage of nearly three hundred billion dollars, gold alone contributes to over one hundred billion dollars! And gold is intrinsically an unproductive asset. We may see some industries like natural resources lock in to a bit more money as domestic prices do tend to track global prices. Consumer price inflation also gets adversely impacted when the rupee is weak. Thus the FMCG companies will make a bit more money. The biggest fear all of us should have is about the monster called “Stagflation”. This happens when supply does not increase, but prices keep going up. Our economy is particularly vulnerable as demand continues to be high, driven by rising wages and the small base we have started from. In these times, it is tough to find investments that will grow faster than the rate of inflation. All consumer co stocks are expensive and more upside based on valuations are not on. At best, one can keep money in liquid funds or in bonds or debentures. The return can vary from seven to ten percent. One possibility is to hope for a cut in interest rates. This can happen either due to policy action or tapering off of demand or a combination of both. As this happens, investment in to income funds or debt instruments can also give some capital appreciation. This is not a bad option considering the valuations in the equity markets which make the risk reward equation unfavourable for equities right now. Returns from fixed income seem to be high enough to stop one from switching more money in to equities.