Investments: Looking beyond gold

It was regulatory changes that kept investors away from insurance and mutual fund products. Govt panel now wants investments in such products more attractive than gold

Written by Ritu Kant Ojha | Published:February 27, 2012 2:06 am

Is there a life beyond gold? The Economic Advisory Council to the Prime Minister says Indians,known to be good savers,need to look at other financial assets beyond traditional avenues like real estate,gold and bank deposits. And how will you take the conservative savers away from gold? The panel’s panacea: make investments in life insurance and mutual funds attractive in order to limit the investors’ appetite for gold. The council — worried over the ever-rising gold imports and its huge impact on current account deficit — believes that the best means to limit the appetite for gold is to “work towards making other kinds of assets more attractive” or as “attractive as they were in March 2010”.

While various government agencies have in the past spoken about the need for deepening the financial markets,experts feel,not much has happened on the ground. Instead of making insurance and mutual fund products attractive,regulatory gaps and overlaps have negatively impacted the growth of the financial markets. There’s no wonder gold gained at the cost of insurance and mutual fund products. It’s now time to reverse the process.

Regulatory changes

The years 2004 to 2007 saw Indian equity markets breaking all previous highs. From 5,500 in August 2004,the BSE Sensex crossed 20,000 by December 2007. This was the period of high growth for Indian economy which reflected in the bull. In the rush towards gaining greater share in the rapidly growing pie of investors,mutual funds and insurance companies launched several new products and schemes.

However,the crash of 2008 opened eyes of a large number of investors. Many realised that to earn higher commissions,agents sold them ‘expensive’ products. There was a need felt by regulators to tighten the financial markets to control mis-selling. The changes in the regulatory framework in the last two years,both by the Securities and Exchange Board of India (SEBI) and the Insurance Regulatory and Development Authority (IRDA),changed the dynamics of both the mutual fund and insurance businesses. In August 2009,the SEBI banned the entry load on the mutual funds which drastically reduced the agents’ commission making it almost nil. The IRDA followed the SEBI next year and changed the charge structure on insurance products which reduced the commissions of insurance agents by one-third.

“Large number of agents have quit the business due to low incentives,” said Anisha Motwani,chief marketing officer,Max New York Life Insurance.

Experts believe that commissions on some of the insurance products were absurdly high leading to rampant mis-selling of such products which put pressure on the regulator to take tough stand on the issue. In early 2011,the IRDA introduced a fixed return component in the pension fund category under which the insurers were supposed to provide a minimum return of 4.5 per cent.

“Because of the guarantee clause,the insurance companies stopped selling pension products which accounted for over 30 per cent of total life insurance business,” said G V Nageswara Rao,MD and CEO, IDBI Federal Life Insurance. The IRDA had to scrap the 4.5 per cent clause later in the year.

If we look at the April to November period,the total life insurance premium underwritten rose from R 1,39,386 crore in 2009 —10 to R 1,62,994 crore in 2010 —11 but dropped (first time in a decade) to R 1,55,770 crore in 2011—12.

The entry load of over 2.5 per cent on mutual funds investments went as a commission to the agents,before it was banned. A large number of agents stopped selling and switched to other professions due to absurdly low commissions — R 4 on an investment of R 1,000.

On the other hand,the assets under management of the equity funds as on December 31,shows that it stood at R 1,74,681 crore in 2009,rose marginally to R 1,81,224 crore but fell sharply in 2011 at R 1,40,612. This was a clear reflection of lack of confidence in financial markets among investors.

“The draft Direct Tax Code is also playing spoilsport as a significant portion of life insurance products and ELSS would lose the tax advantage. People want to wait till the clarity emerges,” says Motwani.

However,experts believe that there were other significant reasons such as high interest rates and poor performance of equity markets which added to the lack of investor interest. “Inaction on policy front and low confidence among people are driving investors away from the capital markets,” says Dhirendra Kumar,CEO,Value Research.

The biggest beneficiary,as an asset class,of the economic uncertainty in 2011 was gold. While the BSE Sensex gave a negative return of 25 per cent last year,gold gave a whopping 31 per cent positive return.

Financial innovation

Gross financial savings of households had peaked at 17.9 per cent of the GDP in 2006— 07,from where it steadily fell to 13.6 per cent in 2010—11. In 2006 — 07,the largest share (10 per cent of GDP) was in deposits. In the years that followed,the share of deposits has declined and that allocated to insurance and provident funds increased. In 2009 — 10,deposits were down to 7.2 per cent,while that of insurance funds had risen to 4 per cent of the GDP. The amounts additionally accruing to insurance and provident funds in this period was 1.4 percentage points of the GDP. In 2010 — 11,the savings mobilised by insurance fell to 2.8 per cent and that in provident funds from 2 to 1.5 per cent of the GDP.

The fund mobilised by mutual funds,shares and debentures were negative in 2010-11. Offsetting increases include household direct savings in physical assets and in investments in the form of valuables (gold and silver). “There is clearly a need to examine and rectify the situation so that the household savings come back to the organised financial market,” mentions PMEAC report.

The regulatory gaps and overlaps along with low tolerance for financial innovation are the biggest reasons,according to experts,which negatively impact the deepening of financial markets and slow down the process of introducing new products.

“The government can provide fiscal incentives to promote long-term savings. There is a need for a level playing field where all products compete equally. Regulators should encourage financial innovation and create suitable environment for that,” suggests Dhirendra Swarup,a former bureaucrat and member—convener of Financial Sector Legislative Reforms Commission set up by the Government of India.

Experts feel that there is an urgent need for effective steps towards increasing financial literacy and introduce hybrid products to attract investors. The average annual bank savings by Indians is about $ 65 billion and even a small part of it could work wonders for the equity markets. Steps such as better tax sops for long-term savings could divert a large part of the domestic savings to other financial assets. Increased domestic inflows would help bring stability in the equity markets which is currently largely dependent upon the inflows from foreign institutional investors.

ritukant.ojha@expressindia.com

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