The maxim “higher the risk higher the return” is getting replaced by “lower risk and higher return” in financial behavior of many investors.Look at the large amounts mobilized under ponzy schemes like sharada. The business models of some ponzy schemes are simple; Deposit Rs1,00,000/- lumpsum and get 10% every month. After 2/3 months, the office is closed. Many believe they can not be taken for a ride like this. But rarely one has evaluated packaged financial products. Ready-made financial products packaged for a specific need can be disastrous!!!
Look at endowment pension plans of Life Insurers! They are bought for retirement planning. Many plans in the category offer negative real rate of return and is a cause for wealth erosion in post retirement phase. We do not try to understand that the Insurers can not offer higher return due to regulatory(IRDA) guidelines on investment on pension plans which stipulates that a minimum of 60% have to be invested in Govt securities.Further the expenses of management comes between 2.5 to 4% leaving low rate of return on investments. Without understanding these, we get attracted because it uses the word pension in product name. Further there is tax liability on pension when received. By the time these are realized it is too late already.
Similar is the case with child plans offered by insurers. It is a combination of investment and insurance.In case of child endowment plans, it also generates negative real rate of return.Very few realise that it will be win win, if we go for investment and insurance separately.When we save in Bank FDs, rarely we buy without comparing the interest rates.But how many of us enquire about the return we will get on our investment in the child plan at the time of buying?
Although Mutual Funds score over Insurance in transparency, packaged Mutual Fund Schemes can also be misleading.Recently CEO of a Mutual Fund while explaining the rationale behind offering an insurance cover with the retirement plan told that “It will help investors to save for retirement along with protecting their life. We want to provide one stop solution through our retirement plan.The plan is packaged with a life insurance plan”. We must ask “Does a retire person need life insurance?”
Why should one say no to packaged financial products?
- The need is compromised for easy solutions.
- Inflation should be recognized as the no 1 enemy;Wealth erosion can be disastrous and Wealth preservation should not be compromised
- Cost benefit analysis many times does not factor post tax return.
- Package products sold as a tailor-made solution is likely to have a lock-in and exit-load.
- Liquidity is a big casualty since money is locked until the child is 18! What will you do if you need money at 17?
Reproduced with permission from SEBI RIA, Mr Prakash Praharaj
About the Author
Shri Prakash Praharaj topped the university during his graduation and post graduation in Commerce and has been awarded two gold medals. By training, he is an MBA and he has been awarded a Diploma in Treasury, Investment and Risk Management besides CAIIB from the Indian Institute of Bankers. He is also a CERTIFIED FINANCIAL PLANNER CM and a Certified Personal Financial Adviser with 30 years of experience in the financial services sector under his belt, which include service at financial sector pillars like the Reserve Bank of India, United India Insurance Company, State Bank of India and SBI Life Insurance Company.
During the year 2010, he promoted Max Secure Financial Planners to provide fee-only financial planning advisory services and promote financial literacy. Today, he is a SEBI-registered Investment Adviser and helps plethora of investors to plan their financial lives and achieve their aspirations.
Mr Praharaj is listed on finvestor.in and you can ask him a query at finvestor.in
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Bhoi Smrutirekha Dharanidhar