Through the article, we realize that the biggest determinant of the policy performance is in the investment return of the participating fund.
This is because the participating fund is the investment fund that provides the return for the policy.
Typically, to be able to sell these endowment or retirement policies, the insurance salesperson would need to make some projection of the investment return that you are able to earn.
So how is the return in reality compare to the investment projections in the past?.
Today, we look at some historical returns.
What You Need to Know About Your Insurance Policies’ Participating Fund
For the uninitiated, we can group insurance protection into 2 groups:
- Those policies with cash values
- Those policies without cash values.
Your whole life insurance, limited whole life insurance, insurance savings endowments, and universal life policies are policies with cash values.
When you purchase such policies with cash values, you are TRANSFERRING the job of building wealth to the insurance company.
Your insurance premiums paid contribute to participating funds, which are either the main funds or sub funds formed by the investment managers in the insurance companies to meet the objectives of the various cash value insurance policies.
How well your insurance policies do eventually in terms of returns will depend on the performance of the participating funds.
The participating funds invest in a combination of:
- government and corporate bonds
Every year, if your policy has some sort of cash value that links to a participating fund, they will provide an update on investment returns and their current allocation to these asset classes.
Here is an example of the allocation of the participating fund of my Tokio Marine Limited whole life plan.
The following is taken from the Benefits Illustration (BI) , which explains your policy in detail.
The surrender value illustrates to you the projected surrender value you could get, if you liquidate your policy at that specific year, or age.
Notice that there are 2 sets of figures, one for projected at 3.25% investment return and one 4.75% investment return.
This is to give you an illustration of the potential of your policy.
The sales conversation often is lead in such a way that the insurance adviser and the client were discussing as if the 4.75% return is given.
In their annual update, the insurance company will also provide you with the latest performance.
Here is how mine look. One thing you will realize is that… on a short term basis, the net investment return look not so different from your other unit trust portfolio.
These returns are abstracted away from you. They are published only once a year. Thus, unlike your unit trust or stocks, you are unable to see the volatility in the portfolio so much.
This is not the net return that will into your endowment or whole life plan. There are still commission and other costs to net off.
The insurance companies will also smooth out the returns that you will eventually see. This means that they reserve returns during the good years so that they can supplement those years where returns don’t do so well.
Net Investment Returns is Not the Returns You will Eventually Get
If you read your benefits illustration, they will tell you that your projected returns depend on the investment performance of the fund.
There are cost deductions from the returns of this fund.
What this means is that the returns that you will see are LOWER than the net investment returns you see in the illustrations.
The best way to think of the net investment returns is:
If it hits 4.75%, you will likely see what was projected in the benefits illustration when the policy was first sold to you.
If it hits 3.25%, then most likely the returns will be at the lower end.
Let us take a look some data.
The Investment Return Performance of Participating Fund Year on Year
Various sources have provided the historical net investment returns of the participating funds.
Here is my own compilation.
The first observation is that while you do not experience any volatility, what underlies your policy is no different from equities and bonds.
Their returns fluctuate over time.
I tabulated the best and poorest performing fund for the year. What we observe is that they do not stay constant.
There do have some constant names. AXA appeared the most in the poorest years. Prudential appeared the most in the best years.
Some Insurers Were Able to Clear the 4.75% Hurdle over Long Term
If we observe the 12 to 14-year average, some insurer was able to hit 4.75%:
- Tokio Marine
No surprises as Tokio Marine and Prudential appeared the most in the best returns in the previous table.
Lower Bond Rates Will Affect Future Insurance Participating Fund Returns
The market returns for the past 5 years have been respectable.
However, if we look at the shorter average, you cannot find one insurer that can consistently hit 4.75% a year return.
Based on MAS Guidelines, most participating funds will hold more bonds than equity.
Typically, the equity to bonds/cash/property allocation is 35% to 65%.
In such a low yield environment, it will be rather challenging for the funds to achieve that 4.75% returns unless they
- Shift more to the more volatile equities
- Take on bonds at a higher end of the risk spectrum (like high yield, emerging market bonds)
Comparing the Performance of Insurance Participating Fund Versus a Portfolio of Low-Cost Index Funds
There are a lot of propoonents that believe that you could do better than this if you invest on your own.
Not everyone can invest on their own. However, the closest thing to a passive investment is to add on to a portfolio of low-cost index funds or ETFs.
The biggest problem I feel is that they are not doing an apple to apple comparison.
They will compare the participating fund returns versus a 100% equity ETF.
This to me is unfair because the 100% equity ETF is more volatile, higher in the risk spectrum. Part of the investment objectives of the participating fund may be to ensure that the volatility is lower so that the returns are more predictable.
This is a constrain and you have to factor that in when you are comparing.
A more appropriate comparison would be either a
- 40% MSCI World Index 60% Bloomberg Barclays Aggregate Bond Index
- 35% MSCI World Index 65% Bloomberg Barclays Aggregate Bond Index
So that is what I did:
On the right, I have included the performance of MSCI World and BBGA (Bloomberg Barclays Global Aggregate Bond) in SGD as well as the two different allocation.
If you compare the average growth and CAGR, the passive option might not be better.
The returns are lower.
I got a feeling that by using MSCI World, it might not be fair. The funds in this region like to invest in Asia ex Japan.
Comparing against MSCI Asia Ex Japan might be a better proxy. That will be for the next update.
My conclusion is that those who say they can do better, yet be more passive, are doing an unfair comparison.
Here are some general takeaways that I hope you will have:
- The cash value of your policies are determine by the performance of the insurers’ participating funds
- Each insurer can have more than one participating fund. Some of their paritcipating fund may be more conservative in their investments
- If you peel off the layers, what drives your returns are no different from your unit trust, stocks and bonds. The difference is that it is managed differently by someone
- Peeling off the layers, the investment returns follow market forces.
- Think of the projection as a hurdle rate rather than the returns you will see
- Most partcipating funds have a high proportion of bonds. Current bond yields indicate future total returns that you can get from bonds. This likely points to lower future participating fund returns unless they take on more risk
If you would like to find out how is the performance of some matured insurance savings plans of my friends and family, you can read Does your insurance savings plan give you 3% to 5% returns?
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