Insurance, mutual fund returns aren't comparable, here's why

In recent times, many insurance fund managers and industry experts have started comparing returns of mutual funds and insurance schemes. The pitch has been that insurance schemes, especially online unit-linked insurance schemes (Ulips) have given better returns than mutual funds. Says Yashish Dahiya, co-founder and CEO of “Over the long term, around 85 per cent of the charges in a financial product comprises of fund management charge. Whereas mutual funds charge an annual expense ratio of 2.25-2.5 per cent, the online Ulips only charge 1.35 per cent. A difference of one percentage point creates a huge difference over the 10-15-year horizon when you consider compounding.” However, comparing mutual funds and insurance schemes cannot be a purely apple-to-apple comparison for many reasons.

Cost is not the only factor: The new-age online Ulips have done away with policy administration and policy allocation charges. They levy on fund management and mortality charges. Some insurers also add 1 per cent of the annual premium to the fund from fifth year onwards though it’s not a significant amount. So, many online Ulips are charging between 1.25 per cent and 1.35 per cent as cost. Mutual funds, on the other hand, are purely transparent. Smaller funds, with a corpus of up to Rs 750 crore, are allowed to charge between 2 per cent to 2.25 per cent. However, most of the big schemes (over Rs 5,000 crore) cannot charge more than 1.5 per cent annually. And if you are an index fund investor, it could be even less than 1 per cent.      

Decoding returns: Conceptually, insurance funds has the potential to offer better returns as they receive long term money. But that’s not the case. According to Edelweiss Tokio Life Insurance, the average five-year returns of equity large-cap insurance funds are at 12.9 per cent annually. For mutual funds, the category average returns of large-cap funds are 13.2-13.3 per cent for the period. According to data from Value Research, the five-year average return from the mid-cap category of insurance funds are at 18.7 per cent, whereas for mutual funds it is at 19.4 per cent. “It’s difficult to say that one product has done better than the other. Both insurance and mutual funds have schemes that are well-managed and have done exceptionally well and vice versa,” says Anup Seth, chief retail officer, Edelweiss Tokio Life Insurance. 

What if an investor has to choose between the two, based on performance? “At present, it’s would not possible. Only a few insurance companies disclose complete details about their funds. Many only provide limited disclosures as mandated by the insurance regulator,” says Kaustubh Belapurkar, director, fund research, Morningstar India. 

In mutual funds, performance is the only criteria for selection. But an individual opts for Ulips for various reasons. Some buy it for only because of tax savings, some for insurance, product features or long-term investments. “While fund performance is an important criterion in choosing an Ulip, it’s not the only reason why someone would opt for it,” says Prashant Sharma, chief investment officer (CIO), Aviva Life Insurance.

Similar but with many differences: While insurance funds and mutual funds invest in the same instruments, there’s a lot of difference in the regulations that govern their investments. “Insurance companies, for example, need to cap their exposure to Banking, financial services and insurance (BFSI) segment to 25 per cent of their total exposure in a fund,” says Akhilesh Gupta, CIO, Reliance Nippon Life Insurance Company. Mutual funds only have stock restrictions. If there’s a rally in the stock market led by the banking sector, the mutual fund will give better returns compared to insurance funds. Mutual funds are allowed to take exposure in futures and options (F&O) which insurance funds cannot. In a volatile market, exposure to F&O can protect downside risk.

In addition, mutual funds now need to stay within their mandate all the time after the re-categorisation. A mid-cap fund, for example, needs to have a minimum of 65 per cent of the corpus in equity and equity-related instruments of mid-cap companies. The market regulator has also standardised the definition of large-cap, mid-caps and small-caps. Insurance funds don’t have such restrictions. In times of volatility, the mid and small-cap insurance fund can increase large-cap exposure.

Matter of transparency, flexibility: Many investment advisors have pointed out that insurers need to be more transparent. For competitive reasons, many insurers don’t disclose the performance of their funds entirely. Some have turned down the request from wealth management companies to meet the fund management teams to understand investment philosophy and processes followed. In many Ulip products, investors find it difficult to understand how the charges were levied. When an insurer takes premium, some part of the fees such as policy allocation charges is deducted upfront. The rest of the money is added to the fund. Then, every month, mortality charges and policy administration charges are adjusted in the net asset value (NAV) of the fund, which makes it difficult for an investor to understand the charges.

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