We have already seen that Indians have a low risk appetite and that there are strong and valid economic reasons for the same. (Click here for the article).

Mutual Fund is not a long term product

There is another issue on which the financial planners are misleading the common public. They have been pushing mutual funds as an investment for the long term. Just to put this in perspective, long term for most financial planners is 5 years. But for those selling life insurance, long term is 15 to 20 years or even more.

For a period as much as 15 years or more, it is foolishness to plan an investment in a high risk product. The very nature of investment risk is that as the period of investment holding increases, the risk increases. I am sure you have heard the argument that if you want to make money in mutual funds, you should hold it for a long period of time. Please read And the Tortoise Wins. Holding a mutual fund for 15 or 20 years is no guarantee that you will make money. An investment that gives a steady return (even if lower) over a long period of time is more likely to give you more money at the end of 15 or 20 years, rather than an investment that experiences a high degree of volatility. Volatility eats into the money you have invested.

No prudent financial adviser who knows his or her subject (of financial management) will advise customers to invest in high risk products for the long term. Yet this is what mutual fund advisers do. You want to plan for children’s education or marriage, or you want to plan for retirement, mutual funds is presented as a solution for making tons of money. Any financial adviser offering such advice is misleading the investor. The advertising campaign Mutual Fund Sahi Hai also did that before SEBI put some breaks on the campaign.

The financial products for long term financial planning are different

In planning one’s finances one must clearly identify long term needs and shorter term needs. For long term needs investments should be made in a financial asset whose maturity matches the time-period of the need. For example, if money is required for retirement in 20 years time, the asset purchased to meet this need should also mature in 20 years. In financial management this is referred to as asset-liability matching (ALM). All prudent investors undertake ALM.

Short term maturities: High risk investments are made for the short term (usually less than 5 years time-horizon) very rarely stretching to 10 years. For short term needs, the investor has the option of various risk categories of investment. Low risk options such as post office, banks are available along with higher risk options such as mutual funds and shares.

Long term maturities: When it comes to the long term however, the investor only has life insurance endowment, pension fund, and provident fund – all with a low risk characteristic.

So how does the Indian investor invest with respect to the duration of holding. Please have a look at the RBI data and download it for your use. RBI Data 1997 to 2018

One-third of all savings is invested by individuals in long term financial assets

From the RBI data it can be seen that Indians invested 46 % of their savings in 2016-17 in long term assets such as life insurance, provident fund and pension funds. In 2017-18 the percentage was 36 %. The data for 2016-17 is not representative of the long term trends of long term investments, because a lot of cash that was held by individuals came into the banking and insurance sectors after demonetization. If we look at the years preceding 2016-17, the ratio is in the range of 30 % to 35 %.  In other words, roughly about one-third of all savings made by Indians has consistently been in low risk, long term investments.

The layman is not financially illiterate

Individuals, as investors, know how to plan. They know they have long term needs for which they should have a long term financial asset. And they have been consistently investing one-third of their investments in long term assets, as seen through the 48 years of data availability with RBI. They are voluntarily following an important principle of financial management – Asset Liability Matching. Investing basics does not require a MBA in Finance. It requires common sense and a discipline. The layman is a more prudent financial planner than most qualified financial planners!!! The financial planners otherwise would not suggest a short term financial product for a long term purpose, such as education, marriage and retirement.

Implications for life insurance sales persons – Take the Rs. 3 market

Sell traditional life insurance endowment confidently as a long term solution for all long term needs. There is hardly any competition in this segment. The data from the last 48 years shows that out of every Rs.10 saved by individuals in any year, Rs. 3 to Rs. 4 is invested in long term financial assets. Aim for the Rs. 3/Rs. 4 market. Do not worry about the balance of Rs. 7/ Rs. 6. Yours is the Rs. 3/Rs. 4 market.

Think long term, talk long term, conduct a discussion of long term needs before suggesting products

Your chances of ensuring adequate insurance is much better.