Highest NAV Guaranteed But Not Highest Returns

A lot of times, sales agent might have convinced you for highest NAV guaranteed plans. But have you looked into these plans? How much this highest guaranteed NAV is highest or guaranteed? Do they give higher returns as compared to other plans available in market? The answer is ‘No’.

The highest NAV guaranteed plans like LIC Wealth Plus, ICICI Prudential Pinnacle, Reliance Highest NAV Guaranteed Plan, etc., were launched amid recessionary period when investors’ interest was low in investment plans and investors were desperately looking for some kind of guarantee of returns. Many investors, without understanding the nitty-gritty of such plans, jumped in for better returns.

Working of Highest NAV Plans

Highest NAV guaranteed products invest premium, after deducting charges, in funds where they are free to put 100 per cent of money in debt or equity. These funds are usually named as ‘Return Guaranteed Funds’ (RGF). NAV guaranteed plans guarantee the highest NAV achieved by the fund in first 7 policy years. To keep the money safe, they invest a major part of the investor’s money in debt funds.

Example:

A person has invested Rs 100 in highest NAV Guaranteed Plan, at an inception NAV of Rs 10. Initially all money, after deducting charges, will be used in buying equity units.

Scenario 1

Let’s us assume that highest NAV of your fund moves to Rs 15 in first seven years. This means that the company is liable to pay you at the rate of Rs 15 at maturity. According to the insurer, if this growth is sufficient, there are chances that it will move the funds to debt funds to secure the investors’ money.

Here, insurer will apply a strategy — ‘Constant proportion portfolio insurance’ (CPPI) — under which, out of Rs 15 earned, such an amount will be invested in debt so that after 6 years, Rs 15 has to be the maturity value.

It is important to remember that most of highest NAV guaranteed plans adopt a conservative approach and hence are more focused towards securing the growth, instead of investing that money for better returns. The future returns may be higher or lower than highest NAV attained in first seven years, making the highest NAV plans not good for aggressive investors.

Scenario 2

The insurer can also invest a portion of money in debt and equity combination, so that the highest NAV, decided in first seven years will be attained with the combination of both. For instance, let’s assume that the highest NAV of first seven years is Rs 18; at this point, insurer will use CPPI, where it will invest Rs 13 in debt and rest (Rs 6) in equity to attain this value by maturity. If the investment in debt is done before seven years, the returns of debt will also be reflected in investors’ returns.

The advantage of this type of investment is that in case the market goes down, the investor will still be paid at the rate of Rs 18. However, most plans take highest NAV of first seven years but it is not mandated by IRDA. The insurers can change this term in different plans.

Also, in case the market goes up and the NAV of fund grows, the insurer will rebalance the portfolio once again towards debt, so that it will be able to provide that highest NAV. This process will be repeated in consecutive years also so as to achieve the objective of capital protection.

If repeated, the strategy shows that the composition of investment in debt increases each time NAV rises. This means, whenever market will go up, the debt portion will increase. In case the market does not go up, still the position of debt has to remain, resulting in no cent per cent allocation in equity. This will decrease the possible returns that one can generate with equity investments.

Charges

On charges front, highest NAV plans work differently. Apart from the charges generally levied by unit-linked products, these plans charge you extra for the guaranteed returns. Following is an indicative list of guarantee charges levied by different plans.

Guarantee Charge:

Unsuitable For

The problem with the strategy is that if you are aggressive, these plans are not suited to your profile as the approach adopted by fund managers of these plans is conservative. As NAV rises due to increase in market, approaches like Dynamic Hedging and CPPI will limit the scope of investments in equity by transferring the money into debt funds.

Also, these plans are ‘Highest NAV Guaranteed’ and not ‘Highest Returns Guaranteed’. As NAV captures the performance of the fund, instead of market, it may not be really high in an open market scenario. In other words, if the market is doing very well, highest NAV may be low.

Guarantee applied?

Majority of investors are of the view that highest NAV guaranteed is applicable at all times, whereas the fact is that it is not. The fact is highest NAV is applicable only in case of maturity and does not apply to:

• Death benefits

• Partial withdrawal

• Surrender benefits

This means that when you withdraw money as partial withdrawal or surrender, NAV of that date will be applicable on the refunds, which is most likely to be lower as compared to highest NAV of the fund.

Similar is the case of death benefit, where fund value will be calculated on the basis of NAV on the date of death, rather than highest NAV achieved in first 7 years. In case, where guarantee will not be applicable, these products will end up giving you returns, which are even lower than a regular debt plan due to the additional guarantee charges levied.

Best Suited For

These plans are most suited for middle-aged conservative investors.

They do not suit young investors as young people have the cushion to take aggressive decisions and have ample time at their disposal to time the market. On the other hand, these plans focus more on capital preservation rather than timing the market. In addition, they do not give switching option to switch from one fund to another to maximize your returns.

In addition, highest NAV plans are futile for elderly investors as well. The reason being that elderly investors might require withdrawing facility in interim period, and hence, will not be able to reap benefits of highest NAV, for which they are paying extra in the form of charges.

However, in case, you have an emergency or liquid fund to take care of your unplanned expenses and are sure of not taking withdrawal or surrender facility, you can go in for these plans.

Hence, highest NAV plans are suitable for investors who do not mind foregoing higher equity returns and paying extra charges for the sake of guarantee.