No guarantees

It is certainly a good thing that the Insurance Regulatory and Development Authority (IRDA), in a review of its regulations, proposes to do away with the guaranteed return of 4.5 per cent per annum on pension products. That sort of return ‘guarantee' is anyway meaningless in a scenario where inflation is averaging 8 per cent-plus and other investment avenues are offering far higher market-linked returns. Yet the new proposals fail to address issues such as the long lock-in period, lack of flexibility to switch between insurers and the absence of clarity on returns that make these products so unappealing to investors in the first place.

IRDA's original stipulation of a 4.5 per cent annual return (indexed to prevailing repo rates) was probably introduced to ensure that insurers delivered at least a savings-bank return on pension plans. In a bid to make pension products truly ‘long-term', IRDA had, last September, decreed that investors should not be allowed to make premature withdrawals from such plans. If the investor chose to surrender his plan, only a third of his investment value would be paid back, with the rest compulsorily used to buy annuities (pension payments). Surprisingly, it was the guarantee clause and not the lock-in period that attracted strenuous protests from insurers, who claimed that paying this return would hit at their very viability. Pension product launches dried up, triggering a drop in inflows. True, the concept of ‘guaranteed' returns has brought much grief to Indian investors in the past with money managers unable to predict the long-term direction of interest rates or the stock markets. However, insurance companies need to remember that, while they may be unable to put a precise number to returns, they cannot wriggle out of their basic mandate of generating a return higher than inflation if they want to manage long-term investor money.

Other stipulations in this draft also create complications. In place of a simple return guarantee, IRDA now asks insurers to provide one of three guarantees on every pension plan — a minimum return, a maturity benefit or a specific annuity. That effectively lobs the ball straight back to the investor, who will now have to make complicated calculations to figure out which pension plan will deliver the goods. Once he invests, even if the plan turns in a poor performance, he can do little about it. The rules require him to not only stay the course, but also to buy his future pensions (annuity) from the same insurer on retirement. As IRDA re-drafts its regulations, it can consider this: Offering investors simpler market-linked plans, with the flexibility to exit early may be the best way to ensure that insurers compete on the basis of actual performance. Once insurers have a track record in managing pension products, the guarantees they make – whether high or low, will scarcely matter.

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