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How to tide over market volatility with ULIPs

July 18, 2018

The fear of market volatility often keeps retail investors away from equity investment. It is this fear that deprives millions of investors from the benefit of tax-efficient and often double-digit returns that equities can offer in the long run.
Some retail investors who do get attracted by the stories of multi-bagger stocks (these are stocks which give you returns several times their cost) invest a lump sum amount in already-run stocks, get caught on the wrong side of the cycle and end up losing money. Predictably, these investors never return to equity markets.

Follow a Disciplined Investment Approach

Predicting the direction of equity markets, which moves up and down due to hundreds of factors, is a tough task, so much so that even the best of analysts might go wrong with their bets.

Therefore, it is futile to try to time the entry into and exit from the equity market. For retail investors to make real gains in the equity market, a disciplined approach to investment is vital. Regular investments over an extended period in equities without getting disturbed by the market ups and downs is the best way a retail investor should invest in equity markets.

This approach works well in the long run as it averages out losses due to market volatility over the long term. This method uses the concept of Rupee Cost Averaging, in which you invest a fixed amount at regular intervals.

To understand how regular investment help in minimising losses in a volatile market, let's consider you purchase Rs 5,000 worth of a stock on a fixed date every month for a year. (See the table)

No. of months Monthly investment (Rs) Unit cost/stock price (Rs) No. of units bought in the month Total number of units Value of investment (Rs)
1 5000 50 100 100 5000
2 5000 48 104.17 204.17 9800.00
3 5000 47 106.38 310.55 14595.83
4 5000 45 111.11 421.66 18974.73
5 5000 46 108.70 530.36 24396.39
6 5000 46.5 107.53 637.88 29661.57
7 5000 47 106.38 744.27 34980.51
8 5000 50 100.00 844.27 42213.31
9 5000 49 102.04 946.31 46369.05
10 5000 50 100 1046.31 52315.35
11 5000 49 102.04 1148.35 56269.05
12 5000 48 104.17 1252.51 60120.70
Total 60,000        

From the above table, at the end of 12th installment, the value of Rs 60,000 invested is Rs 60,121 despite the fact that stock price has fallen from Rs 50 in the first month to Rs 48 in the 12th month.

Imagine if all of the Rs 60,000 was used in the first month to buy 1200 shares at Rs 50. In the 12th month, the value of the investment would have Rs 57,600.

ULIPs: The Right Choice

ULIPs, as a product, is designed to inculcate the habit of disciplined long-term investment. It has a minimum lock-in period of five years, and hence the investor pays and remains invested for a longer term.

They also offer monthly, quarterly, half-yearly and annual payment modes for customers to choose from. However, a monthly option is best suited for retail investors as it fits into their monthly budget, and the volatility risk is lowered since the payments are spread across a longer period due to which any short term extreme market movement does not impact the overall portfolio.

ULIPs are not only an investment product but also provide a life insurance cover i.e., the proceeds are paid to a legal heir on account of death of the insured.

Above all, such sum received by a legal heir is tax exempt under the provisions of section 10(10D) of the Income-tax Act, 1961. Additionally, ULIPs also provides tax benefit in respect of contribution made to the plan and proceeds received by the insured subject to satisfaction of conditions under the relevant provisions of the Income-tax Act, 1961.

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