Highest NAV Guarantee Plans - The complete story

I was introduced to an interesting product by my friend the last day – the ‘Highest NAV Guarantee’ Plan. These funds are currently pretty popular and most major ULIP providers have a product which offers the ‘Highest NAV Guarantee’. The name sounded so appealing and the fact that the fund house will guarantee me the highest NAV seemed too good to be true. But the real crux of the plan lay in the fine print. And going through the details of the plan, I must say that the Highest NAV Plan is just another marketing gimmick of selling a mediocre product to gullible customers.

To start with, it is a known fact that stock markets and ‘guaranteed returns’ do not go hand in hand, yet the fund managers of such plans claim to have found some magical formula through which they could perform this impossible task. However Highest NAV guarantee plan is based on the constant proportion portfolio insurance (CPPI) model. Though it is a fancy name, according to this model, the fund would invest in fixed-income type of securities in order to maintain a certain minimum unit value. When the fund value exceeds this floor value, the surplus is placed into stocks. With constant rebalancing of the portfolio, the aim of the fund manager is to not let the unit value fall below a certain base value.

Similarly, the proceeds in highest NAV guarantee plans would be invested in equity, fixed income and money markets instruments. However, in such plans, there is no specific asset allocation that the fund manager has to adhere to, unlike a mutual fund or ULIP. Since such plans are a new product, there is no historical data to evaluate the performance of the said funds.
As the policy guarantees you the highest NAV, a fund manager may follow a conservative approach and allocate the money into money market and fixed income instruments and ensure that you get the highest NAV without much trouble. Also you don’t get the highest returns from the stock markets but rather the highest NAV reached by the fund. Besides the returns from these funds lie between 9-10%, viz. slightly higher than the 100% debt funds. Again, if you decide to surrender the policy after 3 years or you die within a couple of years of starting the policy, you don’t get the highest NAV but the current value of your investment.

The insurance component in highest NAV guarantee works merely as a supplementary portion to the entire plan as these plans provide limited cover (normally 10 times the annual premium viz. pretty low compared to a term plan). Secondly, the highest NAV guarantee terminates past the grace period when you stop paying your premiums (got this info from the net). The exit from the plan or partial withdrawals is possible only after 3-5 years. Also, there are no options for partial withdrawals or surrenders (which attract a high exit charge).

As with any other ULIP, highest NAV guarantee funds have the following charges:
1. Premium allocation charge
2. Mortality charges
3. Policy administration charges
4. Fund management charges

Having said all this, my advice to an investor is to avoid these funds. Paying high charges for modest returns doesn’t make any sound investment sense to me! And remember that guarantees and stock markets do not work together. So view any plan which promises you guaranteed returns from stocks with scepticism.