CHAPTER 1

INTRODUCTION

1.0

INTRODUCTION

Definition of Hybrid Securities: Securities whose proceeds are accorded some degree of equity treatment by one or more of the nationally recognized statistical rating organizations and/or which are recognized as regulatory capital by the issuer's primary regulatory authority. Hybrid securities are designed with characteristics of debt and of equity and are intended to provide protection to the issuer's senior note holders. Hybrid securities products are sometimes referred to as capital securities. For 2006 this definition of hybrids specifically excludes: - Surplus notes - Subordinated debt issues which have no coupon deferral features - "Traditional" preferred stocks including (but not limited to) issues which: a) Do not allow tax deductibility for dividends; and b) Are issued as preferred stock of the entity or an operating subsidiary, not through a trust or a special purpose vehicle.

1.1 Classifying hybrid securities as equity or liability?

By examine the investor beliefs about liability vs. equity classification of hybrid securities using a laboratory experiment that varies whether (1) The Financial Accounting Standards Board mandates uniformity or allows manage-ment discretion in the classification of hybrid securities. (2) The Financial Analyst Federation rated the quality of managements past financial disclosures as good or poor. (3) Management classified the newly issued hybrid securities as liabilities or equity on the firms balance sheet. 2

The liability and equity classification of hybrid securities are equally credible in a mandated environment, and that the credibility of the classification in this environment is unrelated to both managements reporting incentives and their reporting reputation. In an environment where classification is at managements discretion, managements classification choice is considered more credible when it is inconsistent with managements reporting incentives.

Investors considered information about managements reporting reputation informative only in a discretionary environment, and in that environment only when managements classification choice was consist with their reporting incentive. Finally, it is found that when managements classification choice is considered good news, higher levels of credibility are associated with higher assessments of financial performance. In contrast, when managements classification choice is considered bad news, credibility does not relate to assessments of financial performance. In an economic context hybrid-issuing firms would be more inclined to report their hybrid instruments under a classification that reflects less risk to the firm. For example, in the case of Lehman Brothers the NAIC unit evaluated the security at the request of the New York State Insurance Department, an insurance regulator with authority to direct the review of investments held by insurance companies to the Securities Valuation Office, and concluded that the filing of the $300 million hybrid instrument as debt was not warranted. It appears that an equity classification of security held by an insurer ratchets up its risk weighting, making it more expensive to hold the instrument. Furthermore, a classification as debt or equity has implications due to increasing or decreasing firms proximity to the costly violation of debt contract covenants. Classifications will ultimately affect the risk portfolio of a firm but a pre-requisite for revising the stock prices should be a clear understanding of the nature of the instrument. Given that it may not be feasible to assess the true nature of an instrument in the absence of a regulatory requirement for firms to classify the instruments according to their economic substance, any improved classification guidance provided by an accounting 3

standard should reduce information asymmetry regarding the economic substance of hybrid instruments and provide users with information that enables more confident and more accurate assessments of systematic risk. The critical feature in differentiating a financial liability from an equity instrument is the existence of a contractual obligation on one party to the financial instrument (the issuer) either to deliver cash or another financial asset to the other party (the holder) or to exchange another financial instrument with the holder under conditions that are potentially unfavorable to the issuer. Further the accounting classification of preference shares with particular redemption, conversion or dividend rights. The traditional dichotomous classification of convertible financial instruments (e.g., convertible notes and preference shares convertible at the issuers discretion) as either debt or equity may not reflect the economic substance of the transaction. The substance of the contractual arrangements to be contemplated and the debt and equity components of the instruments to be valued at issue date with the debt (equity) component classified as a liability (equity). Fundamental component valuation will significantly alter the key financial statement amounts compared to the current accounting treatment. Barth, Landsman and Rendleman (1998) find that component value estimates are a large part of a bond's par value and change key figures in financial statements. Hybrid securities pose a challenge to financial reporting. Given that balance sheet classifications alter investor perceptions of firms risks, moving from an unregulated to regulated environment for hybrid securities classification is expected to alter investors risk perceptions. A significant reduction in systematic risk after accounting pronouncements prescribed that firms should classify hybrid securities according to their economic substance indicate that issuance altered market perceptions of hybrid securities. The change in the systematic 4

risk supports arguments that regulating the classification of hybrid securities will provide investors with more relevant and reliable information.

1.2 The Evolution of Hybrid Capital Securities

There was a time, not long ago, that investors could fairly easily differentiate between xed income and equity securities. Even the differentiation between bonds and preferred securities was reasonably clear cut. However, over the past decade, the traditional distinctions between debt securities and preferred securities have blurred, with newer capital securities, commonly called hybrid securities, taking on features of each. Traditionally, preferred securities have had three important characteristics: interest

deferability, deep subordination and perpetuity. Today, newer hybrid capital securities reside on more of a continuum between traditional debt and traditional preferred securities. Nonetheless, many features render them more debt-like than they have been in the past, and therefore make them appropriate for inclusion in xed income strategies. Additionally, the inclusion of certain of these issues in the Lehman Credit Index and the recent rapid rise in issuance means that this is an investment issue that we must address. According to Lehman Brothers, 2006 issuance of hybrid securities is estimated to be $65 billion, with similar estimates for the coming year. The recent increase in issuance can be traced to a 2005 decision by Moodys Investor Service to liberalize its views on longerdated instruments with interest deferability, allowing some equity treatment for the securities. Newer hybrids maintain each of the typical three characteristics of preferred securities in order to receive partial equity credit from rating agencies and, when applicable, from regulators. However, certain features of these newer hybrid securities also differentiate them from traditional preferred stock. While newer hybrid securities allow for interest deferability, that deferability can be addressed with other features. Some hybrid issues do not allow dividends to be paid on 5

the companys common stock if the interest on the hybrid issue is skipped; other securities require the company to issue common stock in an amount similar to the missed interest payment, with proceeds set aside for bondholders. Additionally, in some cases, share repurchases are also prohibited if the coupon is deferred. Newer hybrid securities also can have long-dated maturities or can be perpetual. Most are callable in ve, ten or thirty years, and most have incentives for the issuer to call the securities. In some cases, the issuer will lose the tax deductibility of the interest payment after the call date, making it more expensive economically to leave the issue outstanding. Some hybrid securities have explicit coupon step-ups if the securities are not called, while others provide bondholders the highest then-prevailing interest rate benchmark if the issue is not called (higher of then-current treasury rates or LIBOR, for example). Other hybrid securities require the company to issue common stock if the securities are not called.

Hybrid securities are similar in deep subordination to traditional preferred securities, but the two types of differentiating features outlined above still make these more akin to traditional bonds than to preferred securities in our opinion. Therefore, we view these securities as xed income instruments for investment purposes. Fundamentally, these hybrid securities are just newer versions of trust preferred securities and surplus notes, which we have been investing in for some time. When investing in hybrid capital securities, we typically select high quality issuers in the nancial sector, where reputational risk and ready access to the bond market are important factors in weighing interest deferral options for issuers. These issuers are also less likely to be in a situation where the deep subordination is likely to be an issue. In summary, as securities continue to evolve in complexity, investors will continue to seek out opportunities to add value through new structures while still staying true to our xed income disciplines.

1.3 Unit Linked Insurance Plans

A type of insurance vehicle in which the policyholder purchases units at their net asset values and also makes contributions toward another investment vehicle. Unit linked insurance plans allow for the coverage of an insurance policy, and provide the option to invest in any number of qualified investments, such as stock, bonds or mutual funds. A unit linked insurance plan acts just like a savings vehicle, but also has the benefits of an insurance contract. When an investor purchases units in a ULIP, he or she is purchasing units along with a larger number of investors, just like an investor would purchase units in a mutual fund. ULIP are a category of goal-based financial solutions that combine the safety of insurance protection with wealth creation opportunities. In ULIP, a part of the investment goes towards providing you life cover. The residual portion of the ULIP is invested in a fund which in turn invests in stocks or bonds; the value of investments alters with the performance of the underlying fund opted by you. Simply put, ULIP are structured in such that the protection element and the savings element are distinguishable, and hence managed according to your specific needs. In this way, the ULIP offers unprecedented flexibility and transparency.

1.3.1 Types of ULIP

The ULIP are classified according to their investment objective. The various types are as described below

ULIPS FOR RETIREMENT PLANNING Retirement is the end of active employment and brings with it the cessation of regular income. Today an increasing number of people have stated planning for their retirement for below mentioned reasons Almost 96% of the working population has no formal provisions for retirement With the growing nuclearisation of family structure, traditional support system of the younger earning members is no longer available. Developments in the healthcare space have lead to an increase in life expectancy. Cost of living is increasing at an alarming rate Pension plans from insurance companies ensure that regular, disciplined savings in such plans can accumulate over a period of time to provide a steady income post-retirement. usually all retirement plans have two distinctive phases1) The accumulation phase where saving and investing in earning years to build up a retirement corpus and 2) The withdrawal phase when you actually reap the benefits of your investment as your annuity payouts begin. In a typical pension plan there is the flexibility to make a lump sum payment or a regular contribution every year during earning years. Money is then invested in funds of choice. Investor can opt to receive the annuity at any time after vesting age (age at which investor becomes eligible for pension chosen by him at the inception of the plan). Most of the Unit linked pension plans also come with a wide range of annuity options which gives choice in structuring the post-retirement benefit pay-outs. Also at the time of investing investor can make a lump sum tax-exempted withdrawal of up to 33 per cent of the accumulated corpus.

In a retirement plan, the earlier you begin the greater the post retirement gain due to the power of compounding. ULIPS FOR LONG TERM WEALTH CREATION ULIP are the right insurance solutions for you if the investor is looking for a strong wealth creation proposition allied to a core insurance benefit. Such plans are ideal for people who are in their late 20s and early 30s and by investing in such a plan get the flexibility of using it to fund any of their long-term financial goals such as purchase of a house or funding their childrens education. The added element of life cover serves to make these plans a wholesome financial investment option. Wealth Creation ULIP can be primarily classified as Single premium or Regular premium plan, depending upon investor needs & premium paying capacity. Investor can either opt for a single premium plan where he need to pay premium only once during the term of entire policy or regular premium plans where he can pay premium at a frequency chosen by him depending upon convenience. Guarantee plans/ Non guarantee plans: Today there is wealth creation ULIPS which also offer guaranteed benefit. These plans are ideal insurance-cum-investment option for customers who want to enjoy the potentially higher returns (over the long term) of a market linked instrument, but without taking any market risk. On the other hand non guarantee plans comes with an in - built range of fund options to choose from ranging from aggressive funds (Primarily invested in equities with the general aim of capital appreciation) to conservative funds (invested in cash, bank deposits and money market instruments with aim of capital preservation) so that you can decide to invest your money in line with your market outlook, time horizon and your investment preferences and needs.

Life Stage based / Non life Stage based: Life Stage based ULIPs factor in the fact that investor priorities differ at different life stages & hence distribute the money across equity & debt. Here the initial allocation is decided as per age since age is a significant indicator of risk appetite. Such a strategy ensures that the asset allocation at all times is in sync with age and changing financial needs. ULIPS FOR CHILDRENS EDUCATION One of the most important responsibilities as a parent is to ensure that child gets the best possible education that can be provided. Apart from conventional schooling, it becomes important to expose child to different activities such as dance, painting and sports training for holistic development. As a parent, investor wants to ensure that their development is not hampered either due to rising costs or unforeseen circumstances. Today there are ULIPs that offer money at key milestones of child's education thus ensuring that your education continues unhampered even if something unfortunate happens to parent. While, the death of a parent is an irreparable emotional loss, child education plans safeguard the child against the financial ramifications of the death of a parent. Apart from above mentioned benefit, child plans also offers below mentioned features. Flexibility of adding on various riders like Income benefit rider, disability rider etc to get additional benefits .For e.g. In case of income benefit rider, In the event of the death of the parent, the child will receive a regular pre-determined amount every year to meet the educational expenses. In case of unfortunate incidence of the death of a parent, not only will the child receive the sum assured immediately but will also continue to receive money at the key educational milestones. 10

ULIPS FOR HEALTH SOLUTIONS The young and working investor saves for various goals like marriage, education, retirement etc. but saving for health care is never considered or left for later. But with increasing cost of healthcare, proportion of this spend is increasing at an alarming pace. This is forcing families to borrow or sell assets to meet expenses during medical emergencies. And during old age health care expenses increase due to health deterioration because of age and higher incidence of chronic illness. Thus it is important to invest in health insurance today so that tomorrow you are fully prepared to meet rising healthcare expenses, which would be incurred during old age, with the right health insurance plan. Health ULIP is a recent innovation from the health insurance industry. In a health ULIP part of your premiums are allocated for investment designed specifically to build a health fund to meet future health related expenses. It aims to create a health savings kitty by investing in a long term flexible savings plan with multiple fund options. The health fund thus created allows claiming for health related expenses of any kind and also funding future health insurance charges. Investor can also avail of tax benefit on premium paid u/s 80D.

1.3.2 Steps to successful ULIP investment

It is important that the ULIP and amount chosen should be able to fulfill our financial objectives successfully. The various steps to make successful ULIP investment is as followsCHOOSING APPROPRIATE SUM ASSURED Unit Linked Insurance plans are designed to help financial goals by ensuring the value of investments, or nominee sum assured, which is the life cover of policy. To make sure that ULIP is truly working to assure goal, a life cover should be chosen that provides investors family with adequate finances and hence security even in your absence, so that important life goals of your family are always secured.

11

CHOOSING THE RIGHT FUND OPTION Unit-Linked Insurance Plans (ULIPs) come with an in-built range of fund options to choose from ranging from aggressive funds (primarily invested in equities with the general aim of capital appreciation) to conservative funds (invested in cash, bank deposits, and money market instruments with the aim of capital preservation) invest money in line with market outlook, time horizon, and investment preferences and needs. Additionally there is also the advantage of switching fund options to make investments work in tandem with the market. These days, various ULIPs also offer the options of life stage funds which keep dynamically altering themselves without monitoring on own. STAYING WITH ULIP FOR LONG TERM

Unit-Linked Insurance Plans (ULIPs) are meant to guarantee financial goals over the long-term. As a short term investment tool, they will not give considerable return on investments, because of a product cost structure which is higher in the initial years. However, overall charge structure for the term comes down substantially over a long period of time thus allowing greater allocation of premium in the chosen funds. Also in long term investment in ULIPs are less affected by temporary market fluctuations since data shows that over a long-term, market linked investments not only yield very attractive returns, but also have the least downside to them. To get the best out of ULIP, funds should remain invested in the ULIP for the long-term of at least 8-10 years. This way investment will truly experience the power of compounding and thereby create greater wealth for you to fulfill your important goals.

12

UNDERSTANDING THE CHARGE STRUCTURE Unit-Linked Insurance Plans (ULIPs) are designed to meet two of most important financial needs: protection and investment. Both these benefits have some charges attached to them. The charges applicable to ULIP is known through the followingSales benefit illustration: A sales benefit illustration illustrates various charges, year by year, for the term of the plan so that you know exactly how much money is deducted as charges & what is invested. Brochure: A brochure informs investor about the various charges & their purpose applicable on the ULIP policy. Advisor: The investor can also enquire about charges applicable to particular ULIP form the Insurance advisor. Although ULIPs offered by different insurers have varying charge structures, broadly important charges that investor should know are: Policy administration charges These charges are deducted on a monthly basis to recover the expenses incurred by the insurer on servicing and maintaining the life insurance policy like paperwork , work force etc. Premium allocation charges These charges are deducted upfront from the premium paid by the client. These charges account for the initial expenses incurred by the company in issuing the policy- eg. Cost of underwriting, medicals & expenses related to distributor fees. After these charges are deducted the money gets invested in the chosen fund. 13

Mortality charges Mortality expenses are charged by life insurance companies for providing a life cover to the individual. The expenses vary with the age and either the sum assured or the sum-atrisk which is the difference between sum assured and fund value of the insurance policy of an individual. Mortality charges are deducted on a monthly basis. Fund management charges A portion of the ULIP premium, depending on the fund chosen, is invested either in equities, bonds, G-secs or money market instruments. Sometimes it is a combination of these. Managing these investments incurs a fund management charge (FMC). The FMC varies from fund to fund even within the same insurance company depending on the underlying assets in the fund. Usually a fund with higher equity component will have a higher FMC Surrender Charges A surrender charge may be deducted for premature partial or full encashment of units wherever applicable, as mentioned in the policy conditions. Fund Switching Charge Generally a limited number of fund switches may be allowed each year without charge, with subsequent switches, subject to a charge. Service Tax Deductions Before allotment of the units the applicable service tax is deducted from the risk portion of the premium.

14

The important thing to note about ULIPs is that the overall charge structure for the plan comes down substantially over a long term. However it may be noted that insurers have the right to revise fees and charges over a period of time.

1.3.3 The ULIP Edge

ULIPs are dynamic plans and are flexible by nature and hence allow for changes and high degree of customization in the plan as opposed to most of the financial plans which once purchased cannot be modified. It is because of embedded characteristics of transparency, flexibility, liquidity & goal based savings that ULIPs have emerged as preferred investment option today.

Flexibility

Flexibility to change your life cover: ULIPs gives the flexibility to choose sum assured (insurance cover) at the time of policy inception. Moreover, some ULIPs allow to increase sum assured over the term of the plan. This is crucial as your protection needs keep on changing with time .Typically, greater the financial liabilities you have such as repayment of a home loan, greater will be your need for protection. Flexibility to change premium amount: With ULIPs you can easily change premium amount as most ULIPs provide you the option to increase or reduce premiums after a certain period of time to match your premium paying capability. Another distinguishing feature of ULIP is Top up which is an additional contribution over & above regular premium so that if you receive extra money today you can invest the amount in your policy & maximize your investment gains.

15

Flexibility to opt for a rider: ULIPs also enable you to customize the policy with optional riders to enjoy additional protection. Riders are additional or supplementary benefits that are bought along with the main insurance policy. Some of the commonly offered riders by most insurance companies are critical illness benefit rider, accident & disability benefit rider, waiver of premium rider etc. For ex. a critical illness rider cover major critical illnesses like heart attack etc. In case of contracting any of the above illness, the insurance company pays the insured amount. Flexibility to choose your fund option: Most of the ULIP come with an in - built range of fund options to choose from ranging from aggressive funds to conservative funds so that you can decide to invest your money in line with your investment preferences and needs. Whats more, ULIP even come with the option of switching between different schemes.

Transparency One of the key advantages that ULIP offer is complete transparency which makes the working of a ULIP abundantly clear to the investor. Thus investor can make informed decisions on how to best use ULIP. One of the key advantages that ULIP offer is complete transparency which makes the working of a ULIP abundantly clear to the investor. Thus investor can make informed decisions on how to best use ULIP. Sale Benefit Illustration As a customer it is right to ask for a sales benefit illustration. Sales benefit illustration will help understand how premium paid by the unit holder is utilized & what are the charges deducted year by year, by the insurance company for the term of the plan . It will also illustrate how policy will grow in accordance with the chosen sum assured & premium. In fact IRDA has mandated that all insurance companies use two scenarios with 6 % & 10 % return rate to depict future returns.

16

Brochures and key feature documents While benefit Illustrations play a significant role in explaining the quantitative aspects of ULIP, it is also important for you to know the other features and benefits which the ULIP offers. All insurance companies come out with brochures for prospective customers to go through & understand the plan thoroughly. Once a policy gets issued, the insurer will send a key feature document capturing all the essential features of the plan. This is to ensure complete comprehension of the plan purchased. Free-look period ULIPs also offer you a distinct feature that no other financial product offers as of now. It is called Free-look period which is a 15 day window during which unit holder can close the policy & get paid back the entire premium less charge borne by company in issuing the policy in case you are unhappy with the product. Net Asset Value It is critical to monitor the performance of policy on a regular basis. This will help to ascertain whether investment is on right financial track or not. To help do so all life insurance companies publish the NAV of different fund options on their website on a daily basis to track the performance of policy on a regular basis. This will also help to make informed decisions when it comes to comparing fund performances. Goal Based Savings Everyone needs to save for their important life goals. One of the prudent ways to do so is by investing in ULIP which are long-term systematic investment options designed to address key financial goals. ULIPs help you cultivate a disciplined savings pattern which ensures that the money being set aside will go towards the fulfillment of the specific 17

objective. In the absence of such a focused approach, there is a high possibility of savings towards one objective getting utilized for an immediate short-term requirement, thus jeopardizing the long-term goal. ULIPs are a potent safeguard against such a tendency. Tax Benefits ULIPs are an efficient tax saving instrument too .The tax benefits that can be availed in case of investment in ULIPs are described below: Life insurance plans are eligible for deduction under Sec. 80C Pension plans are eligible for a deduction under Sec. 80CCC Health insurance plans and critical illness riders are eligible for deduction under Sec. 80D The maturity proceeds or withdrawals of life insurance policies are exempt under Sec 10(10D), subject to norms prescribed in that section

1.3.4 Other ULIP Charges ULIPs can easily be customized to suit ones needs & requirements. This is primarily due to range of features that ULIPS offer to the customer. Below mentioned are few charges applicable in case you have opted for an additional feature.

18

ULIP BENEFITS

APPLICABLE CHARGES

RIDERS: Riders are additional or supplementary benefits that are bought along with a main life insurance plan. Some of the commonly offered riders are critical illness benefit rider, accident & disability benefit rider, waiver of premium rider etc.

Insurance companies levy rider charges in case Investor opt for riders.

SWITCH: ULIPs not only allow to invest money in fund options with various debt equity exposure but also gives the option to switch between different funds. For example, you can switch money from a fund with 100% equity to a balanced portfolio, which has 60 per cent equity and 40 per cent debt.

Insurance company may charge you a fee for switching funds. Generally only a limited number of fund switches are recommended in a year as a ULIP is a long-term investment tool therefore most of the companies allow a certain number of switches each year free of charge, with subsequent switches, subject to a minimal charge. Insurance companies deduct a certain percentage from the top-up amount as charges. These charges are usually lower than the regular charges that are deducted from the annual premium. Surrender charge may be deducted for premature partial or full encashment of units wherever applicable, as mentioned in the policy conditions. These charges are levied as a percentage of the fund value or as a percentage of the premium.

TOP UP: One of the unique features offered by ULIP is Top Up where you can make additional contribution over & above the regular premium.

SURRENDER: You may decide to surrender (premature partial or full encashment of units) your policy before the term of the plan.

19

1.3.5 HOW TO CHOOSE A SUITABLE ULIP

The wide range of ULIPs available in the market might make it difficult for a consumer to choose the correct ULIP. However if you were to follow a few simple steps choosing the right ULIP can be a smooth process.

Understand the concept of ULIPs thoroughly The Investors should do homework well and read as much as about ULIPs before investing. They should read the literature available on ULIPs on the web sites and brochures circulated by insurance companies. This will help to know the benefits and structure of the ULIP. Focus on your requirements and risk profile Identify a plan that is best suited for keeping in mind risk appetite of the investor. In case you have a high-risk appetite, opt for a more aggressive fund option (an option that invests higher percentage in equities) and vice versa. Understand the peculiarities of the plan Understand all the charges levied on the product over its tenure, not just the initial charges. A complete charge structure would include the initial charges, the fixed administrative charges, fund management charges and mortality charges. Examine the performance of the plan Compare the performance of the plan with benchmark indices like BSE Sensex or Nifty in 20

the past two or three years to get a better idea about the performance. Ensure that it is possible to easily get information about NAV when you needed. Thoroughly understand the flexibility and redemption conditions of an ULIP. Understand the charges levied on the product Understanding all the charges levied on the product over its tenure, not just the initial charges. A complete charge structure would include the initial charges, the fixed administrative charges, the fund management charges and mortality charges. Investors not only need to understand the charges in the first year but also through the term of the policy. Compare ULIP products of different insurance companies Compare products of different insurance companies in terms of premium payments, cost structure, performance of the scheme (equity as well as debt schemes), additional facilities such as top-up premium and free switch between different fund options, flexibility in terms of increasing or decreasing protection, reporting structure and flexibility in redemption.

1.4 Systematic Investment Plan

Systematic Investment Plan is not a type of mutual fund. It is a method of investing in a mutual fund. The following are the features of the systematic investment plans a) A specific amount should be invested for a continuous period at regular intervals under this plan. b) SIP is similar to a regular saving scheme like a recurring deposit. It is a method of investing a fixed sum regularly in a mutual fund.

21

c) SIP allows the investor to buy units on a given date every month. The investor decides the amount and also the mutual fund scheme. While the investor's investment remains the same, more number of units can be bought in a declining market and less number of units in a rising market. d) The investor automatically participates in the market swings once the option for SIP is made. Minimum Investment in SIP In a one time investment the minimum amount to be invested is Rs 5000. Whereas in SIP the amount can be in the denominations of 1000, 500, 100 or as low as 50 per month. Frequency of InvestmentIt would depend on the fund. Some insist the SIP must be done every month. Others give the option of investing once in three months or once in six months. They also give fixed dates. So the investor will get the option of various dates and will have to choose one. If the investors pick the 10th of the month, then on that day, the decided amount to be invested in the fund has to be credited to mutual fund. Mode of Payment: The investor can either do E- transfer through banks or issue cheques. Benefits of Systematic Investment Plan Power of compounding: The power of compounding underlines the essence of making money work if only invested at an early age. The longer one delays in investing, the greater the financial 22

burden to meet desired goals. Saving a small sum of money regularly at an early age makes money work with greater power of compounding with significant impact on wealth accumulation. Rupee cost averaging: Timing the market consistency is a difficult task. Rupee cost averaging is an automatic market timing mechanism that eliminates the need to time one's investments. Here one need not worry about where share prices or interest are headed as investment of a regular sum is done at regular intervals; with fewer units being bought in a declining market and more units in a rising market. Although SIP does not guarantee profit, it can go a long way in minimizing the effects of investing in volatile markets. Convenience: SIP can be operated by simply providing post dated cheques with the completed enrolment form or give ECS instructions. The cheques can be banked on the specified dates and the units credited into the investor's account. The SIP facility is available in the Principal Income Fund, Monthly Income Plan, Child Benefit Fund, Balanced Fund, Index Fund, Growth Fund, Equity fund and Tax Savings Fund.

23

1.5 The Global Financial Crisis

The market we are watching today is a byproduct of the market of six years ago. In 2001, when fear of global terror attacks after Sept. 11 roiled an already-struggling American economy, one that was just beginning to come out of the recession induced by the tech bubble of the late1990s. In response, the Federal Reserve began cutting rates dramatically, and the fed funds rate arrived at 1% in 2003, which in central banking parlance is essentially zero. The goal of a low federal funds rate is to expand the money supply and encourage borrowing, which should spur spending and investing. The idea that spending was "patriotic" was widely propagated and everyone - from the White House down to the local parent-teacher association - encouraged to buy, buy, buy. It worked, and the economy began to steadily expand in 2002.Real Estate Begins to Look Attractive as lower interest rates worked their way into the economy, the real estate market began to work itself into a frenzy as the number of homes sold - and the prices they sold for - increased dramatically beginning in 2002. At the time, the rate on a 30-year fixed-rate mortgage was at the lowest levels seen in nearly 40 years, and people saw a unique opportunity to gain access into just about cheapest source of equity available. Investment Banks and the Asset-Backed Security If the housing market had only been dealt a decent hand - say, one with low interest rates and rising demand - any problems would have been fairly contained. Unfortunately, it was dealt a fantastic hand, thanks to new financial products being spun on Wall Street. These new products ended up being spread far and wide and were included in pension funds, hedge funds and international governments. And, as we're now learning, many of these products ended up being worth absolutely nothing.

24

A Simple Idea Leads to Big Problems The asset-backed security (ABS) has been around for decades, and at its core lies a simple investment principle: Take a bunch of assets that have predictable and similar cash flows (like an individual's home mortgage), bundle them into one managed package that collects all of the individual payments (the mortgage payments), and use the money to pay investors a coupon on the managed package. This creates an asset-backed security in which the underlying real estate acts as collateral.

Another big plus was that credit rating agencies such as Moody's and Standard & Poor's would put their 'AAA' or 'A+' stamp of approval on many of these securities, signaling their relative safety as an investment. The advantage for the investor is that he or she can acquire a diversified portfolio of fixed-income assets that arrive as one coupon payment. The Government National Mortgage Association (Ginnie Mae) had been bundling and selling securitized mortgages as ABSs for years; their 'AAA' ratings had always had the guarantee that Ginnie Mae's government backing had afforded. Investors gained a higher yield than on Treasuries, and Ginnie Mae was able to use the funding to offer new mortgages. Widening the Margins Thanks to an exploding real estate market, an updated form of the ABS was also being created; only these ABSs were being stuffed with subprime mortgage loans, or loans to buyers with less-than-stellar credit. Subprime loans, along with their much higher default risks, were placed into different risk classes, or tranches, each of which came with its own repayment schedule. Upper tranches were able to receive 'AAA' ratings - even if they contained subprime loans - because these tranches were promised the first dollars that came into the security. Lower tranches carried higher coupon rates to compensate for the increased default risk. All the way at the bottom, the "equity" tranche was a highly speculative investment, as it could have its cash flows essentially wiped out if the default 25

rate on the entire ABS crept above a low level - in the range of 5 to 7%. All of a sudden, even the subprime mortgage lenders had an avenue to sell their risky debt, which in turn enabled them to market this debt even more aggressively. Wall Street was there to pick up their subprime loans, package them up with other loans (some quality, some not), and sell them off to investors. In addition, nearly 80% of these bundled securities magically became investment grade ('A' rated or higher), thanks to the rating agencies, which earned lucrative fees for their work in rating the ABSs. As a result of this activity, it became very profitable to originate mortgages - even risky ones. It wasn't long before even basic requirements like proof of income and a down payment were being overlooked by mortgage lenders; 125% loan-to-value mortgages were being underwritten and given to prospective homeowners. The logic being that with real estate prices rising so fast (median home prices were rising as much as 14% annually by 2005), a 125% LTV mortgage would be above water in less than two years. Leverage Squared The reinforcing loop was starting to spin too quickly. Record-low interest rates had combined with ever-loosening lending standards to push real estate prices to record highs across most of the United States. Existing homeowners were refinancing in record numbers, tapping into recently earned equity that could be had with a few hundred dollars spent on a home appraisal. Meanwhile, thanks to the liquidity in the market, investment banks and other large investors were able to borrow more and more (increased leverage) to create additional investment products, which included shaky subprime assets.

26

Collateralized Debt Joins the Fray The ability to borrow more prompted banks and other large investors to create collateralized debt obligations (CDO), which essentially scooped up equity and "mezzanine" (medium-to-low rated) tranches from MBSs and repackaged them yet again, this time into mezzanine CDOs. By using the same "trickle down" payment scheme, most of the mezzanine CDOs could garner an 'AAA' credit rating, landing it in the hands of hedge funds, pension funds, commercial banks and other institutional investors. Residential mortgage-backed securities (RMBS), in which cash flows come from residential debt, and CDOs were effectively removing the lines of communication between the borrower and the original lender. Suddenly, large investors controlled the collateral; as a result, negotiations over late mortgage payments were bypassed for the "direct-to-foreclosure" model of an investor looking to cut his losses.

However, these factors would not have caused the current crisis if the real estate market continued to boom and homeowners could actually pay their mortgages. However, because this did not occur, these factors only helped to fuel the number of foreclosures later on. Teaser Rates and the ARM With mortgage lenders exporting much of the risk in subprime lending out the door to investors, they were free to come up with interesting strategies to originate loans with their freed up capital. By using teaser rates (special low rates that would last for the first year or two of a mortgage) within adjustable-rate mortgages (ARM), borrowers could be enticed into an initially affordable mortgage in which payments would skyrocket in three, five, or seven years. As the real estate market pushed to its peaks in 2005 and 2006, teaser rates, ARMs, and the "interest-only" loan (where no principle payments are made for the first few years) 27

were increasingly pushed upon homeowners. As these loans became more common, fewer borrowers questioned the terms and were instead enticed by the prospect of being able to refinance in a few years (at a huge profit, the argument stated), enabling them to make whatever catch-up payments would be necessary. What borrowers didn't take into account in the booming housing market, however, was that any decrease in home value would leave the borrower with an untenable combination of a balloon payment and a much higher mortgage payment. A market as close to home as real estate becomes impossible to ignore when it's firing on all cylinders. Over the space of five years, home prices in many areas had literally doubled, and just about anyone who hadn't purchased a home or refinanced considered themselves behind in the race to make money in that market. Mortgage lenders knew this, and pushed ever-more aggressively. New homes couldn't be built fast enough, and homebuilders' stocks soared. The CDO market (secured mainly with subprime debt) ballooned to more than $600 billion in issuance during 2006 alone - more than 10-times the amount issued just a decade earlier. These securities, although illiquid, were picked up eagerly in the secondary markets, which happily parked them into large institutional funds at their market-beating interest rates.

Cracks Begin to Appear However, by the middle of 2006, cracks began to appear. New homes sales stalled, and median sale prices halted their climb. Interest rates - while still low historically - were on the rise, with inflation fears threatening to raise them higher. All of the easy-to-underwrite mortgages and refinances had already been done, and the first of the shaky ARMs, written 12 to 24 months earlier, were beginning to reset.

28

Default rates began to rise sharply. Suddenly, the CDO didn't look so attractive to investors in search of yield. After all, many of the CDOs had been re-packaged so many times that it was difficult to tell how much subprime exposure was actually in them.

The Crunch of Easy Credit It wasn't long before news of problems in the sector went from boardroom discussions to headline-grabbing news. Scores of mortgage lenders -with no more eager secondary markets or investment banks to sell their loans into - were cut off from what had become a main funding source and were forced to shut down operations. As a result, CDOs went from illiquid to unmarketable. In the face of all this financial uncertainty, investors became much more risk averse, and looked to unwind positions in potentially hazardous MBSs, and any fixed-income security not paying a proper risk premium for the perceived level of risk. Investors were casting their votes en masse that subprime risks were not ones worth taking.

Amid this flight to quality, three-month Treasury bills became the new "must-have" fixedincome product and yields fell a shocking 1.5% in a matter of days. Even more notable than the buying of government-backed bonds (and short-term ones at that) was the spread between similar-term corporate bonds and T-bills, which widened from about 35 basis points to more than 120 basis points in less than a week.

These changes may sound minimal or undamaging to the untrained eye, but in the modern fixed-income markets - where leverage is king and cheap credit is only the current jester a move of that magnitude can do a lot of damage. This was illustrated by the collapse of several hedge funds.

29

Many institutional funds were faced with margin and collateral calls from nervous banks, which forced them to sell other assets, such as stocks and bonds, to raise cash. The increased selling pressure took hold of the stock markets, as major equity averages worldwide were hit with sharp declines in a matter of weeks, which effectively stalled the strong market that had taken the Dow Jones Industrial Average to all-time highs in July of 2007. To help stem the impact of the crunch, the central banks of the U.S., Japan and Europe, through cash injections of several hundred billion dollars, helped banks with their liquidity issues and helped to stabilize the financial markets. The Federal Reserve also cut the discount window rate, which made it cheaper for financial institutions to borrow funds from the Fed, add liquidity to their operations and help struggling assets. The added liquidity helped to stabilize the market to a degree but the full impact of these events is not yet clear. Impact of Financial Crisis on India The turmoil in the international financial markets of advanced economies that started around mid-2007 has exacerbated substantially since August 2008. The financial market crisis has led to the collapse of major financial institutions and is now beginning to impact the real economy in the advanced economies. As this crisis is unfolding, credit markets appear to be drying up in the developed world. India, like most other emerging market economies, has so far, not been seriously affected by the recent financial turmoil in developed economies. While the overall policy approach of the RBI has been able to mitigate the potential impact of the turmoil on domestic financial markets and the economy, with the increasing integration of the Indian economy and its financial markets with rest of the world, there is recognition that the country does face some downside risks from these international developments. The risks arise mainly from the potential reversal of capital flows on a 30

sustained medium-term basis from the projected slow down of the global economy, particularly in advanced economies, and from some elements of potential financial contagion. In India, the adverse effects have so far been mainly in the equity markets because of reversal of portfolio equity flows, and the concomitant effects on the domestic forex market and liquidity conditions. The macro effects have so far been muted due to the overall strength of domestic demand, the healthy balance sheets of the Indian corporate sector, and the predominant domestic financing of investment.

As might be expected, the main impact of the global financial turmoil in India has emanated from the significant change experienced in the capital account in 2008-09 so far, relative to the previous year . Total net capital flows fell from US$ 17.3 billion in April-June 2007 to US$13.2 billion in April-June 2008. Nonetheless, capital flows are expected to be more than sufficient to cover the current account deficit this year as well. While Foreign Direct Investment (FDI) inflows have continued to exhibit accelerated growth (US$ 16.7 billion during April-August 2008 as compared with US$ 8.5 billion in the corresponding period of 2007), portfolio investments by foreign institutional investors (FIIs) witnessed a net outflow of about US$ 6.4 billion in April-September 2008 as compared with a net inflow of US$ 15.5 billion in the corresponding period last year.

Similarly, external commercial borrowings of the corporate sector declined from US$ 7.0 billion in April-June 2007 to US$ 1.6 billion in April-June 2008, partially in response to policy measures in the face of excess flows in 2007-08, but also due to the current turmoil in advanced economies. With the existence of a merchandise trade deficit of 7.7 per cent of GDP in 2007-08, and a current account deficit of 1.5 per cent, and change in perceptions with respect to capital flows, there has been significant pressure on the Indian exchange rate in recent months. 31

Whereas the real exchange rate appreciated from an index of 104.9 (base 1993-94=100) (US$1 = Rs. 46.12) in September 2006 to 115.0 (US$ 1 = Rs. 40.34) in September 2007, it has now depreciated to a level of 101.5 (US $ 1 = Rs. 48.74) as on October 8, 2008. With the volatility in portfolio flows having been large during 2007 and 2008, the impact of global financial turmoil has been felt particularly in the equity market. The BSE Sensex (1978-79=100) increased significantly from a level of 13,072 as at end-March 2007 to its peak of 20,873 on January 8, 2008 in the presence of heavy portfolio flows responding to the high growth performance of the Indian corporate sector. With portfolio flows reversing in 2008, partly because of the international market turmoil, the Sensex has now dropped to a level of 8000 in March, in line with similar large declines in other major stock markets. As noted earlier, domestic investment is largely financed by domestic savings. However, the corporate sector has, in recent years, mobilized significant resources from global financial markets for funding, both debt and non-debt, their ambitious investment plans. The current risk aversion in the international financial markets to EMEs could, therefore, have some impact on the Indian corporate sectors ability to raise funds from international sources and thereby impede some investment growth. Such corporates would, therefore, have to rely relatively more on domestic sources of financing, including bank credit. This could, in turn, put some upward pressure on domestic interest rates. Moreover, domestic primary capital market issuances have suffered in the current fiscal year so far in view of the sluggish stock market conditions. Thus, one can expect more demand for bank credit, and non-food credit growth has indeed accelerated in the current year (26.2 per cent on a year-on-year basis as on September 12, 2008 as compared with 23.3 per cent a year ago). The financial crisis in the advanced economies and the likely slowdown in these economies could have some impact on the IT sector. According to the latest assessment by the NASSCOM, the software trade association, the current developments with respect to the US financial markets are very eventful, and may have a direct impact on the IT 32

industry and likely to create a downstream impact on other sectors of the US economy and worldwide markets. About 15 per cent to 18 per cent of the business coming to Indian outsourcers includes projects from banking, insurance, and the financial services sector which is now uncertain. In summary, the combined impact of the reversal of portfolio equity flows, the reduced availability of international capital both debt and equity, the perceived increase in the price of equity with lower equity valuations, and pressure on the exchange rate, growth in the Indian corporate sector is likely to feel some impact of the global financial turmoil. On the other hand, on a macro basis, with external savings utilisation having been low traditionally, between one to two percent of GDP, and the sustained high domestic savings rate, this impact can be expected to be at the margin. Moreover, the continued buoyancy of foreign direct investment suggests that confidence in Indian growth prospects remains healthy.

1.6 Fund Evaluation using Performance measures:

Many investors mistakenly base the success of their portfolios on returns alone. Few consider the risk that they took to achieve those returns. Since the 1960s, investors have known how to quantify and measure risk with the variability of returns, but no single measure actually looked at both risk and return together. We have four sets of performance measurement tools to assist us with our portfolio evaluations. The Treynor, Sharpe Jensen and Fama ratios combine risk and return performance into a single value, but each value has a unique significance.

33

Treynor Measure Jack L. Treynor was the first to provide investors with a composite measure of portfolio performance that also included risk. Treynor's objective was to find a performance measure that could apply to all investors, regardless of their personal risk preferences. He suggested that there were really two components of risk: the risk produced by fluctuations in the market and the risk arising from the fluctuations of individual securities. Treynor introduced the concept of the security market line, which defines the relationship between portfolio returns and market rates of returns, whereby the slope of the line measures the relative volatility between the portfolio and the market (as represented by beta). The beta coefficient is simply the volatility measure of a stock, portfolio or the market itself. The greater the line's slope, the better the risk-return tradeoff. The Treynor measure, also known as the reward to volatility ratio, can be easily defined as: (Portfolio Return Risk-Free Rate) / Beta The numerator identifies the risk premium and the denominator corresponds with the risk of the portfolio. The resulting value represents the portfolio's return per unit risk. To better understand how this works, suppose that the 10-year annual return for the S& 500 (market portfolio) is 10%, while the average annual return on Treasury bills (a good proxy for the risk free rate) is 5%. Then assume there are evaluating distinct portfolio managers with the following 10-year three results:

Managers Manager A Manager B Manager C

Average Annual Return 10% 14% 15%

Beta 0.90 1.03 1.20 34

Now, we can compute the Treynor value for each: T (market) = (.10-.05)/1 = .05 T manager A) = (.10-.05)/0.90 = .056 T manager B) = (.14-.05)/1.03 = .087 T manager C) = (.15-.05)/1.20 = .083. The higher the Treynor measure, the better the portfolio. If we had been evaluating the portfolio manager (or portfolio) on performance alone, we may have inadvertently identified manager C as having yielded the best results. However, when considering the risks that each manager took to attain their respective returns, Manager B demonstrated the better outcome. In this case, all three managers performed better than the aggregate market. Because this measure only uses systematic risk, it assumes that the investor already has an adequately diversified portfolio and, therefore, unsystematic risk (also known as diversifiable risk) is not considered. As a result, this performance measure should really only be used by investors who hold diversified portfolios.

Sharpe Ratio The Sharpe ratio is almost identical to the Treynor measure, except that the risk measure is the standard deviation of the portfolio instead of considering only the systematic risk, as represented by beta. Conceived by Bill Sharpe, this measure closely follows his work on the capital asset pricing model (CAPM) and by extension uses total risk to compare portfolios to the capital market line.

The Sharpe ratio can be easily defined as: (Portfolio Return Risk-Free Rate) / Standard Deviation 35

Using the Treynor example from above, and assuming that the S&P 500 had a standard deviation of 18% over a 10-year period, let's determine the Sharpe ratios for the following portfolio managers:

Manager

Annual Return Portfolio Standard Deviation 0.11 0.20 0.27

Manager X 14% Manager Y 17% Manager Z 19%

S(market) = (.10-.05)/.18 = .278 S(manager X) = (.14-.05)/.11 = .818 S(manager Y) = (.17-.05)/.20 = .600 S(manager Z) = (.19-.05)/.27 = .519. Once again, we find that the best portfolio is not necessarily the one with the highest return. Instead, it's the one with the most superior risk-adjusted return, or in this case the fund headed by manager X. Unlike the Treynor measure, the Sharpe ratio evaluates the portfolio manager on the basis of both rate of return and diversification (as it considers total portfolio risk as measured by standard deviation in its denominator). Therefore, the Sharpe ratio is more appropriate for well diversified portfolios, because it more accurately takes into account the risks of the portfolio. Jensen Measure Like the previous performance measures discussed, the Jensen measure is also based on CAPM. Named after its creator, Michael C. Jensen, the Jensen measure calculates the

36

excess return that a portfolio generates over its expected return. This measure is also known as alpha. The Jensen ratio measures how much of the portfolio's rate of return is attributable to the manager's ability to deliver above-average returns, adjusted for market risk. The higher the ratio, the better the risk-adjusted returns. A portfolio with a consistently positive excess return will have a positive alpha, while a portfolio with a consistently negative excess return will have a negative alpha. The formula is broken down as follows: Jensen's Alpha = Portfolio Return Benchmark Portfolio Return Where: Benchmark Return (CAPM) = Risk Free Rate of Return + Beta (Return of Market Risk-Free Rate of Return) So assuming a risk-free rate of 5% and a market return of 10%, what is the alpha for the following funds is

Manager Manager E Manager F

Average Annual Return 15% 15%

Beta 0.90 1.10 1.20

Manager D 11%

First, we calculate the portfolio's expected return: ER(D)= .05 + 0.90 (.10-.05) = .0950 or 9.5% return ER(E)= .05 + 1.10 (.10-.05) = .1050 or 10.50% return ER(F)= .05 + 1.20 (.10-.05) = .1100 or 11% return

37

Then, we calculate the portfolio's alpha by subtracting the expected return of the portfolio from the actual return: Alpha D = 11%- 9.5% = 2.5% Alpha E = 15%- 10.5% = 4.5% Alpha F = 15%- 11% = 4.0%. Manager E did best because, although manager F had the same annual return, it was expected that manager E would yield a lower return because the portfolio's beta was significantly lower than that of portfolio F. The rate of return and risk for securities (or portfolios) will vary by time period. The Jensen measure requires the use of a different risk-free rate of return for each time interval considered. So, let's say you wanted to evaluate the performance of a fund manager for a five-year period using annual intervals; you would have to also examine the fund's annual returns minus the risk free return for each year and relate it to the annual return on the market portfolio, minus the same risk free rate. Conversely, the Treynor and Sharpe ratios examine average returns for the total period under consideration for all variables in the formula (the portfolio, market and riskfree asset). Like the Treynor measure, however, Jensen's alpha calculates risk premiums in terms of beta (systematic, undiversifiable risk) and therefore assumes the portfolio is already adequately diversified. As a result, this ratio is best applied with diversified portfolios, like mutual funds.

Fama and French Three Factor Model

A factor model that expands on the capital asset pricing model (CAPM) by adding size and value factors in addition to the market risk factor in CAPM. This model considers the fact that value and small cap stocks outperform markets on a regular basis. By including

38

these two additional factors, the model adjusts for the out performance tendency, which is thought to make it a better tool for evaluating manager performance. Fama and French attempted to better measure market returns and, through research, found that value stocks outperform growth stocks; similarly, small cap stocks tend to outperform large cap stocks. As an evaluation tool, the performance of portfolios with a large number of small cap or value stocks would be lower than the CAPM result, as the three factor model adjusts downward for small cap and value out performance. There is a lot of debate about whether the outperformance tendency is due to market efficiency or market inefficiency. On the efficiency side of the debate, the outperformance is generally explained by the excess risk that value and small cap stocks face as a result of their higher cost of capital and greater business risk. On the inefficiency side, the outperformance is explained by market participants mispricing the value of these companies, which provides the excess return in the long run as the value adjusts. The Eugene Fama model is an extension of Jenson model. This model compares the performance, measured in terms of returns, of a fund with the required return commensurate with the total risk associated with it. The difference between these two is taken as a measure of the performance of the fund and is called net selectivity. The net selectivity represents the stock selection skill of the fund manager, as it is the excess return over and above the return required to compensate for the total risk taken by the fund manager. Higher value of which indicates that fund manager has earned returns well above the return commensurate with the level of risk taken by him. Required return can be calculated as: Ri = Rf + Si/Sm*(Rm - Rf) Where, Sm is standard deviation of market returns. The net selectivity is then calculated by subtracting this required return from the actual return of the fund. 39

Among the above performance measures, two models namely, Treynor measure and Jenson model use systematic risk based on the premise that the unsystematic risk is diversifiable. These models are suitable for large investors like institutional investors with high risk taking capacities as they do not face paucity of funds and can invest in a number of options to dilute some risks. For them, a portfolio can be spread across a number of stocks and sectors. However, Sharpe measure and Fama model that consider the entire risk associated with fund are suitable for small investors, as the ordinary investor lacks the necessary skill and resources to diversified. Moreover, the selection of the fund on the basis of superior stock selection ability of the fund manager will also help in safeguarding the money invested to a great extent. The investment in funds that have generated big returns at higher levels of risks leaves the money all the more prone to risks of all kinds that may exceed the individual investors' risk appetite.

Conclusion Portfolio performance measures should be a key aspect of the investment decision process. These tools provide the necessary information for investors to assess how effectively their money has been invested (or may be invested). Remember, portfolio returns are only part of the story. Without evaluating risk-adjusted returns, an investor cannot possibly see the whole investment picture, which may inadvertently lead to clouded investment decisions.

40

CHAPTER 2 RESEARCH DESIGN & METHODOLOGY

41

2.1

STATEMENT OF PROBLEM

Hybrid Securities has been very popular among investors till recently as they felt that their risk is hedged and returns are protected. But after the recent financial crisis, the financial market scenario in India as changed abruptly. A hybrid fund whose NAV was around Rs.38 during oct 2007 has been reduced to Rs 25 in January 2009. Also the credibility of the ULIPs has been lost. Thus the question has been raised whether Hybrid securities are really a low risk yields as they are generally perceived. This study will make a attempt to find out effectiveness of these hybrid investments compared to Market as a whole.

2.2

TITLE

To find out Performance of Hybrid investments on the basis of risk and return during economic downturn.

2.3

LITERATURE REVIEW

The paper Pricing of Hybrid securities : The case of Malaysian ICULS by Bacha, Obiyathulla I. Published by MPRA, Paper no. 12764, 2004 This paper provides an indepth analysis of Irredeemable Convertible Unsecured Loan Stocks or ICULS. This paper presents the first empirical evidence on the pricing of ICULS. Systematic Risk effect of Hybrid securities by Chalmers, Keryn & Godfrey.May 2007. In this paper an investigation has been done on the risk effect of an accounting standard regulating the classification of Hybrid securities according to their economic substance rather than legal sense. Convergence of Insurance and Financial Markets: Hybrid and Securitized Risk Transfer Solutions by Cummins, David & Weiss, Mary on July 14, 2008. This paper explains the 42

developments that has taken place due to convergence of insurance and financial services industry in the capital market

Hybrid financial instruments, cost of capital and regulatory arbitrage - an empirical investigation by Carlin, Tyrone M, Finch, Nigel published by Journal of applied research in accounting and finance, Vol. 1 , Issue 1, p.43-55, Macquarie Graduate School of Management,2006. The paper explains about popularity of Hybrid funds has Capital raising tools.

2.4

OBJECTIVES OF THE STUDY

The objectives of the study are as follows To identify the Popular hybrid securities in Indian financial market To understand the Investors perceptions of hybrid securities. To analyze the risk level of Hybrid securities over a stated period. To Measure the returns of Hybrid securities over a stated period To evaluate the performance of Hybrid securities using various Performance measures. To identify whether Hybrid securities have been effective in recessionary times.

2.5

SCOPE OF STUDY

The research may be used for further evaluating the modern investment avenues and innovative investment tools.

2.6

OPERATIONAL DEFINITION

Hybrid Securities- A security that combines two or more different financial instruments.

43

ULIP or Unit Linked Insurance Plan - A type of insurance vehicle in which the policyholder purchases units at their net asset values and also makes contributions toward another investment vehicle. SIP or Systematic investment plan- A tool or methodology to invest say Mutual funds.

NAV or Net Asset Value A funds price per share.

2.7

RESEARCH DESIGN

Types of research proposed

Basic Research- To be conducted to know about the various Hybrid securities in

global scenario as well as in India.

Analytical Research- To be conducted to analyze the data collected through

secondary data and interpret the results.

Data Collection Method

The secondary data is mainly collected by visiting the Funds websites and databases having the returns of the fund

44

Data Source This study has been based on both secondary data. The data so collected is both quantitative & qualitative.

Sampling Unit The selected Investments schemes under the categories of ULIPs, SIPs, and other Hybrid funds.

Sampling Method Convenience sampling would be used for this research

Sample Size The monthly returns of the selected Investment schemes for the period of 1-01-06 to 3112-2008.

2.8

TOOLS FOR CALCULATIONS

Microsoft Spreadsheet (Excel) was used to calculate Returns, Risk Beta and various performance measures.

2.9

LIMITATIONS OF THE STUDY

The limitations of the study are as follows The results obtained are pertained to selective investment schemes and is not universally applicable to all the funds Investment objective of each Hybrid security may be different. 45

2.10 REVIEW OF CHAPTER SCHEME

Chapter 1: Introduction Chapter 2: Research design & Methodology Chapter 3: Industry Profile Chapter 4: Data Analysis & Interpretation Chapter 5: Findings, Suggestions, Conclusion & Learning

CHAPTER 3

INDUSTRY PROFILE

46

3.1 Introduction to Indian Finacial sector

A financial system, which is inherently strong, functionally diverse and displays efficiency and flexibility, is critical to our national objectives of creating a market-driven, productive and competitive economy. A mature system supports higher levels of investment and promotes growth in the economy with its depth and coverage. The financial system in India comprises of financial institutions, financial markets, financial instruments and services. The Indian financial system is characterised by its two major segments - an organised sector and a traditional sector that is also known as informal credit market. Financial intermediation in the organised sector is conducted by a large number of financial institutions which are business organisations providing financial services to the community. Financial institutions whose activities may be either specialised or may overlap are further classified as banking and non-banking entities. The Reserve Bank of India (RBI) as the main regulator of credit is the apex institution in the financial system.

47

Other important financial institutions are the commercial banks (in the public and private sector), cooperative banks, regional rural banks and development banks. LIC, GIC, UTI, Mutual funds, Provident Funds, Post Office Banks etc. As regards the capital market, the resource mobilization from the primary market by nongovernment public limited companies has declined in the recent past from the high levels witnessed between 1992-93 and 1996-97. Resource mobilization of these companies in the public issues market stood at Rs. 5,692 crore in 2001-02 registering an increase of 16.4 per cent over the amount mobilized during the previous year. Non-bank financial institutions include finance and leasing companies and other institutions like

48

The public issues market has been dominated by debt issues both in the private and public sectors in the recent past. In recent years, private placement has emerged as an important vehicle for raising resources by banks, financial institutions and public and private sector companies. Such placements continued to dominate the primary market although the pace of growth of the private placement market has slackened during the last two years. Resource mobilization by mutual funds is an important activity in the capital markets. Although there has been a decline in the net resource mobilization by mutual funds to the extent of 28 per cent during 2001-02, according to SEBI, outstanding net assets of all mutual funds stood at Rs.1,00,594 crore as at end-March 2002. The strong potential of the capital market as an area of resource mobilization needs no emphasis and this segment of the financial sector would continue to play a significant role in the future.

The quantum of resources required to be mobilised, as the economy grows in complexity and generates new demands, places the financial sector in a vital position for promoting efficiency and momentum. It intermediates in the flow of funds from those who want to save a part of their income to those who want to invest in productive assets. The efficiency of intermediation depends on the width, depth and diversity of the financial system. 49

Till about two decades ago, a large part of household savings was either invested directly in physical assets or put in bank deposits and small savings schemes of the Government. Since the late eighties however, equity markets started playing an important role. Other markets such as the medium to long-term debt market and short term money market remained relatively segmented and underdeveloped. In the past decades, the Government and its subsidiary institutions and agencies had an overwhelming and all encompassing role with extensive system of controls, rules, regulations and procedures, which directly or indirectly affected the development of these markets.

World wide experience confirms that the countries with well-developed and marketoriented financial systems have grown faster and more steadily than those with weaker and closely regulated systems. The financial sector in general and banking system in particular in many of the developing countries have been plagued by various systemic problems which necessitated drastic structural changes as also a re-orientation of approach in order to develop a more efficient and well functioning financial system.

3.2 Insurance Sector:

Insurance, in law and economics, is a form of risk management primarily used to hedge against the risk of a contingent loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another, in exchange for a premium. An insurer is a company selling the insurance. The insurance rate is a factor used to determine the amount, called the premium, to be charged for a certain amount of insurance coverage. Risk management, the practice of appraising and controlling risk, has evolved as a discrete field of study and practice. The insurance sector has been an important source of low cost funds of long-term maturities all over the world. In the Indian context, however, the insurance companies, particularly in life insurance, apart from covering risk are also committed to repayment of the principal with interest although with long maturities and thereby tend to act as investment funds. 50

One of the reasons that this has happened is that the average premium charged by the insurance companies in India tends to be relatively high due to obsolete and rigid actuarial practices and inefficient operations. There is pressing need to reorient the insurance sector in a manner that if fulfills its principal mandate of providing risk cover. The opening up of the insurance sector to private participation, including banks in August 2000 has been able to instill an element of competition which would in turn promote efficiency and professionalism and enhance consumer choice through product innovation.

The Insurance Regulatory and Development Authority (IRDA) is vested with the power to regulate and develop the insurance and re-insurance business. The IRDA has prescribed stringent licensing criteria and solvency margins, with guidelines for investment of the larger part of resources in Government securities and other approved investments (including infrastructure) and exposure norms for other investments. The liberalisation of the insurance sector impacts the functioning of the financial system through the inter-linkages with the existing financial institutions and financial products. However, a critical issue to be addressed is increasing the insurance penetration to make it comparable to the other emerging market economies, including enhanced coverage of the rural sector. Insurance Companies In India providing ULIPs

Bajaj Allianz Life Insurance Company Limited Birla Sun Life Insurance Co. Ltd HDFC Standard life Insurance Co. Ltd ICICI Prudential Life Insurance Co. Ltd. ING Vysya Life Insurance Company Ltd. Life Insurance Corporation of India Max New York Life Insurance Co. Ltd Met Life India Insurance Company Ltd. 51

Kotak Mahindra Old Mutual Life Insurance Limited SBI Life Insurance Co. Ltd Tata AIG Life Insurance Company Limited Reliance Life Insurance Company Limited. Aviva Life Insurance Co. India Pvt. Ltd. Sahara India Life Insurance Bharti AXA Life Insurance Future Generali Life Insurance IDBI Fortis Life Insurance Canara HSBC Oriental Bank of Commerce Life Insurance Religare Life Insurance

3.3 Banking sector

The banking Companies Act of 1949 section 5(b) banking as Accepting for the purpose of lending or investment of deposits from the public, repayable on demand or otherwise and withdraw able by cheques, drafts orders or otherwise.

52

An area of concern which impacts this industry is the relatively high interest rate structure that prevails in the country. Interest rates are no doubt related to inflation in a trend sense but this relationship is primarily with respect to the rates received by the savers. With a decrease in inflationary expectations in the economy the nominal deposit rates should be amenable to reduction without materially affecting the expected real returns to the savers. The Government would have to clearly signal an anti-inflationary stance in a credible manner and also the actual rate of inflation would need to be brought down to its target level and maintained there for a sufficient period of time for inflationary expectations to be adjusted downwards. A beginning has been made by reducing the interest rates on small savings schemes run by the Government as well as on bank deposits. However

53

interest rates paid by borrowers are also dependent on the level of efficiency of the financial system. The spread between the deposit and lending rates in India is high by international standards and reflects both the constraints faced by and the relatively low level of efficiency in the financial intermediation system. Although in recent years there has been considerable liberalisation in the banking sector with tightening of prudential norms and accounting practices which have led to an improvement in the health of the banking sector, there are some areas of concern which need to be examined.

The banking industry has a high level of non-performing assets (NPAs) to contend with. High NPAs raise the cost of bank operations and thereby the spread and efforts need to be made to bring these down. However, a balance has to be drawn between the reduction in NPAs on one hand and ensuring adequate supply of credit to the economy on the other. Excessive pressure on banks to reduce NPAs is likely to lend to a high degree of selectivity in the credit disbursal process and consequently, a reduction of the total level of credit as dictated by the growth of deposits. The rate of reduction of NPAs will therefore have to be fairly gradual keeping in mind the notional lending risks associated with the Indian economy and the speed at which debt recovery and settlement processes operate. In addition, the factors other than NPAs which affect the level of spread required for the viability of banks would need to be considered in the context of national priorities and policy objectives. To achieve this, action has to be taken on strengthening and professionalising the internal control and review procedures of banks and financial institutions with a view to ensuring autonomy with accountability. Also the process of judicial review and implementation of debt recovery processes and decisions need to be given. Further impetus and the role of the States is critical in this regard. In this context, the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act 2002 will go a long way in 54

allowing the banks to take control of the assets of willful defaulters without going through cumbersome and time-consuming litigation.

3.4 Mutual funds:

A Mutual Fund is a trust that pools the savings of a number of investors who share a common financial goal. The money thus collected is then invested in capital market instruments such as shares, debentures and other securities. The income earned through these investments and the capital appreciation realized is shared by its unit holders in proportion to the number of units owned by them. Thus a Mutual Fund is the most suitable investment for the common man as it offers an opportunity to invest in a diversified, professionally managed basket of securities at a relatively low cost.

Returns from a mutual fund can be obtained in three ways: 1) Income is earned from dividends on stocks and interest on bonds. A fund pays out nearly all of the income it receives over the year to fund owners in the form of a distribution. 2) If the fund sells securities that have increased in price, the fund has a capital gain. Most funds also pass on these gains to investors in a distribution. 3) If fund holdings increase in price but are not sold by the fund manager, the fund's shares increase in price. These mutual fund shares can be sold for a profit.

3.4.1 Types of Mutual Funds

Types of mutual funds can be classified on following basis By Structure: Open ended schemes: 55

"Open-ended" or "Open" mutual funds are the most common type of mutual funds. Investors may purchase units from the fund sponsor or redeem units at the valuation promised in the fund documents, usually on a daily basis. Closed ended schemes: "Closed-ended" or "Closed" mutual funds are traded as financial securities, once they are issued, and holders must sell their units on the stock market to receive their funds back. Interval schemes: In these types of schemes instead of full down payment, amounts are paid in installments. The major advantage of these schemes is that it gives Rupee cost averaging advantage to the investors. By nature of Investments: Mutual funds may invest in equities, bonds or other fixed income securities or short term money market securities. So we have the following funds 1) Equity Funds: These funds invest a major part of their corpus in equities. The composition of the fund may vary from scheme to scheme and the fund managers outlook on various scrips. The Equity Funds are sub-classified depending upon their investment objective, as follows: Diversified Equity Funds Mid-Cap Funds Sector Specific Funds Tax Savings Funds (ELSS)

Equity investments are meant for a longer time horizon. Equity funds rank high on the risk-return matrix. 56

2) Debt funds: These Funds invest a major portion of their corpus in debt papers. Government authorities, private companies, banks and financial institutions are some of the major issuers of debt papers. By investing in debt instruments, these funds ensure low risk and provide stable income to the investors. Debt funds are further classified as: a) Gilt Funds: Invest their corpus in securities issued by Government, popularly known as GOI debt papers. These Funds carry zero Default risk but are associated with Interest Rate risk. These schemes are safer as they invest in papers backed by Government. b) Income Funds: Invest a major portion into various debt instruments such as bonds, corporate debentures and Government securities. c) MIPs: Invests minimum of 80% of the total corpus in debt instruments while the rest of the portion is invested in equities. It gets benefit of both equity and debt market. These scheme ranks slightly high on the risk-return matrix when compared with other debt schemes. d) Short Term Plans (STPs): Meant for investors with an investment horizon of 3-6 months. These funds primarily invest in short term papers like Certificate of Deposits (CDs) and Commercial Papers (CPs). Some portion of the corpus is also invested in corporate debentures. 3) Money market Funds: These funds are meant for short-term cash management of corporate houses and are meant for an investment horizon of 1day to 3 months. These schemes rank low on risk-return matrix and are considered to be the safest amongst all categories of mutual funds. 57

By Investment objective: On the basis of purpose for mutual funds can be classified as a) Growth schemes: Investors invest in these funds in order to gain medium to long term capital appreciation. b) Income schemes: Investors invest in these funds in order to generate regular income and less for capital appreciation. c) Balanced funds: A balanced fund is one that has a portfolio comprising debt instruments, convertible securities, and preference and equity shares. Their assets are generally held in more or less equal proportions between debt/money market securities and equities.

They invest in both equities and fixed income securities, which are in line with pre-defined investment objective of the scheme. These schemes aim to provide investors with the best of both the worlds. Equity part provides growth and the debt part provides stability in returns. Each category of funds is backed by an investment philosophy, which is predefined in the objectives of the fund. The investor can align his own investment needs with the funds objective and invest accordingly.

3.4.2 Major mutual funds Comapanies in India

Birla Sun Life Mutual Fund Bank of Baroda Mutual Fund (BOB Mutual Fund HDFC Mutual Fund ABN AMRO Mutual Fund 58

HSBC Mutual Fund Prudential ICICI Mutual Fund Sahara Mutual Fund State Bank of India Mutual Fund Tata Mutual Fund Kotak Mahindra Mutual Fund Unit Trust of India Mutual Fund Reliance Mutual Fund Standard Chartered Mutual Fund Franklin Templeton India Mutual Fund Morgan Stanley Mutual Fund India Alliance Capital Mutual Fund

CHAPTER 4 DATA ANALYSIS & INTERPRETATION

59

4.1 Performance analysis of Unit Linked Insurance Plans:

Chart 4.1: Showing returns of UTI ULIPs

60

Table 4.1: Various Performance measures of UTI ULIPs

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

UTI ULIPs -0.002738 0.04673978 0.388 -0.2012137 (0.0242395) -0.0819183 -0.0082692

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.1 it can be seen that the mean returns of the ULIP is less than the market return. The risk of ULIP is also less than market risk. With regards to beta ULIPs beta is much lesser than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is (0.2012137) though negative has performed better than the market. By calculating the Treynor measure, the arrived value of the ULIP is (0.0242395) though negative has performed better than market. By calculating the Jensen measure, the arrived value of the ULIP is (0.0819183) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is (0.0082692) is less than the market performance. Interpretation: The performance of UTI ULIPs is poor due to negative returns and also only in the case of two performance measures the scheme has done better than the market. 61

Chart 4.2: Showing returns of Tata Aig Equity Fund

Table 4.2: Various Performance measures of Tata Aig Equity Fund.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Tata Aig Equity fund 0.00396801 0.091850826 1.010 -0.029380863 (0.0026721) -0.069299073 0.00434303

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.2 it can be analysed that the mean returns of the ULIP is less than the market return. The Risk of ULIP is also more than market risk. With regards to beta ULIPs beta is more than market beta. By considering various performance measures the following is the outcome

62

By calculating the Sharpe measure, the arrived value of the ULIP is (0.029380863) has performed lesser than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is (0.0026721) has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.069299073) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is (0.00434303) is less than the market performance.

Interpretation: The performance of Tata Aig Equity fund is poor due to low returns and also in none of the performance measures the scheme has done better than the market.

Chart 4.3: Showing returns of Aviva Future Life Plan

Table 4.3: Various Performance measures of Aviva Future Life Plan.

63

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Aviva future life plan 0.001917001 0.063886632 0.383 -0.074345212 (0.0123994) -0.075529298 0.000148164

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.3 it can be analysed that the mean returns of the ULIP is less than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is (0.074345212) has performed lesser than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is (0.0123994) has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.075529298) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.000148164 is less than the market performance. Interpretation: The performance of Aviva Future Life plan is poor due to low returns and also in none of the performance measures the scheme has done better than the market.

Chart 4.4: Showing returns of Bajaj Allianz Wealth Confident Grow Money.

64

Table 4.4: Various Performance measures of Allianz Wealth Confident Grow Money.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

bajaj allianz-wealth confident grow money 0.000782631 0.096908489 1.062 -0.060717444 (0.0055412) -0.07213822 0.001545393

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.4 it can be analysed that the mean returns of the ULIP is less than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs

65

beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is (0.060717444) has performed lesser than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is (0.0055412) has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.07213822) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.001545393 is less than the market performance. Interpretation: The performance of Bajaj Allianz wealth Confident grow money is poor due to low returns and also in none of the performance measures the scheme has done better than the market. Chart 4.5: Showing returns of Bajaj Allianz Wealth Confident Steady money.

66

Table 4.5: Various Performance measures of Allianz Wealth Confident Steady Money

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Bajaj Allianz-wealth confident steady money 0.006911 0.0121156 0.036 0.0201672 0.0068414 -0.072851 0.0011732

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.5 it can be analysed that the mean returns of the ULIP is more than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is 0.0201672 has performed better than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is 0.0068414 has performed better than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.072851) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.0011732 is less than the market performance. Interpretation: The performance of Bajaj Allianz wealth Confident steady money moderate because considering the Sharpe and Treynor measure its performance is better than the market performance.

67

Chart 4.6: Showing returns of Bajaj Allianz Wealth Confident Save and Grow money.

Table 4.6: Various Performance measures of Allianz Wealth Confident Save and Grow Money. Bajaj Allianzwealth confident save and grow money 0.003774092 0.044367073 0.488 -0.06519643 (0.0059263) -0.072971957 0.000508799

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.6 it can be analysed that the mean returns of the ULIP is less than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome 68

By calculating the Sharpe measure, the arrived value of the ULIP is (0.06519643) has performed lesser than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is (0.0059263) has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.072971957) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.000508799 is less than the market performance.

Interpretation: The performance of Bajaj Allianz wealth Confident save and grow money is poor due to low returns and also in none of the performance measures the scheme has done better than the market. Chart 4.7: Showing returns of Birla Sun life multiplier.

Table 4.7: Various Performance measures of Birla sun life Multiplier

Particulars

Birla sun life multiplier

Market 69

Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

-0.0366264 0.12952112 1.602 -0.3342549 (0.0270310) -0.105949 -0.0333634

0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.7 it can be analysed that the mean returns of the ULIP is less than the market return. The Risk of ULIP is more than market risk. With regards to beta ULIPs beta is more than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is (0.3342549) has performed lesser than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is (0.0270310) has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.105949) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is (0.0333634) is less than the market performance. Interpretation: The performance of Birla sun life multiplier money is poor due to negative returns and also in none of the performance measures the scheme has done better than the market.

Chart 4.8: Showing returns of Birla assure debt scheme .

70

Table 4.8: Various Performance measures of Birla assure debt scheme.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Birla -assure debt scheme 0.0085751 0.0102009 0.011 0.1870841 0.1773716 -0.071353 0.0026905

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.8 it can be analysed that the mean returns of the ULIP is more than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome

71

By calculating the Sharpe measure, the arrived value of the ULIP is 0.187084, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is 0.1773716, has performed lesser than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.071353) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.0026905, is less than the market performance.

Interpretation: The performance of Birla assure debt scheme is moderate as the returns of the ULIP is higher than the market return and also in case of Sharpe and Treynor measures the scheme has performed better than market.

Chart 4.9: Showing returns of Max Life Maker Investment Plan Growth.

Table 4.9: Various Performance measures of Max Life Maker Investment Plan Growth. 72

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

max life maker investment plan growth 0.0090817 0.0579931 0.615 0.0416442 0.0039282 -0.06682 0.0068611

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.9 it can be analysed that the mean returns of the ULIP is more than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is 0.0416442, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is 0.0039282, has performed better than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.06682) outperformed than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.0068611, is better than the market performance. Interpretation: The performance of Max Life Maker investment plan growth is very good as the returns of the ULIP is higher than the market return and also in all cases of performance measures the scheme has performed better than market. 73

Chart 4.10: Showing returns of Max Life Maker Investment Plan Conservative Fund.

Table 4.10: Various Performance measures of Max Life Maker Investment Plan Conservative Fund. max life maker investment plan conservative fund 0.007793 0.0165881 0.144 0.0679004 0.0078448 -0.07125 0.0023981

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.10 it can be analysed that the mean returns of the ULIP is more than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome

74

By calculating the Sharpe measure, the arrived value of the ULIP is 0.0679004, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is 0.0078448, has performed better than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.07125) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.0023981, is less than the market performance.

Interpretation: The performance of Max Life Maker investment plan Conservative fund is good as the returns of the ULIP is higher than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed better than market.

Chart 4.11: Showing returns of Max Life Maker Investment Plan Secure Fund.

Table 4.11: Various Performance measures of Max Life Maker Investment Plan Secure Fund. Particulars max life maker investment plan secure Market 75

fund Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure 0.0080274 0.0159266 0.026 0.0854347 0.0533287 -0.071803 0.0025817 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.11 it can be analysed that the mean returns of the ULIP is more than the market return. The Risk of ULIP is less than market risk. With regards to beta ULIPs beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the ULIP is 0.0854347, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the ULIP is 0.0533287, has performed better than market performance. By calculating the Jensen measure, the arrived value of the ULIP is (0.071803) is less than market performance. By calculating the Fama measure, the arrived value of the ULIP is 0.0025817, is less than the market performance. Interpretation: The performance of Max Life Maker investment plan secure fund is good as the returns of the ULIP is higher than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed better than market.

Chart 4.12: Showing returns of HDFC Tax Saver Elss Scheme.

76

Table 4.12:Various Performance measures of HDFC Tax Saver Elss Scheme.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Hdfc tax saver Elss 0.001184601 0.087579498 0.956 -0.062595304 (0.0057355) -0.072443285 0.001232162

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.12 it can be analysed that the mean returns of the SIP is less than the market return. The Risk of the SIP is more than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome

77

By calculating the Sharpe measure, the arrived value of the SIP is (0.062595304), has performed less than the market performance. By calculating the Treynor measure, the arrived value of the SIP is (0.0057355), has performed less than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.072443285) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.001232162, is less than the market performance.

Interpretation: The performance of HDFC Taxsaver Elss fund is poor as the returns of the SIP is lesser than the market return and also in all cases of performance measures the scheme has performed lesser than market performance.

Chart 4.13: Showing returns of HDFC Capital Bulider Fund.

Table 4.13: Various Performance measures of HDFC Capital Bulider Fund. 78

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

HDFC capital builder Fund 0.00187018 0.08909526 0.948 -0.05383545 (0.0050570) -0.07180665 0.00203395

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.13 it can be analysed that the mean returns of the SIP is less than the market return. The Risk of the SIP is more than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the SIP is (0.05383545), has performed less than the market performance. By calculating the Treynor measure, the arrived value of the SIP is (0.0050570), has performed less than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.07180665) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.00203395, is less than the market performance. Interpretation: The performance of Hdfc Capital Builder fund is poor as the returns of the SIP is lesser than the market return and also in all cases of performance measures the scheme has performed lesser than market performance.

Chart 4.14: Showing returns ICICI Equity Derivative Mutual Fund. 79

Table 4.14: Various Performance measures of ICICI Equity Derivative Mutual Fund.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

ICICI equity derivative mutual fund 0.007597479 0.003741938 0.001 0.248751438 0.7738611 -0.072394502 0.001217686

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.14 it can be analysed that the mean returns of the SIP is more than the market return. The Risk of the SIP is less than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome 80

By calculating the Sharpe measure, the arrived value of the SIP is 0.248751438, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the SIP is 0.7738611, has performed better than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.072394502) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.001217686, is less than the market performance.

Interpretation: The performance of ICICI Equity derivative is moderate as the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed lesser than market performance. Chart 4.15: Showing returns Birla Sunlife 95 Fund.

Table 4.15:Various Performance measures of Birla Sunlife 95 Fund

Particulars

birla sunlife 95

Market 81

Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

0.0069231 0.0717729 0.736 0.0035732 0.0003484 -0.068169 0.0057589

0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.15 it can be analysed that the mean returns of the SIP is more than the market return. The Risk of the SIP is less than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the SIP is 0.0035732, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the SIP is 0.0003484, has performed better than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.068169) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.0057589, is more than the market performance. Interpretation: The performance of Birla Sun life 95 is very good as the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor and Fama performance measures the scheme has performed Better than market performance.

Chart 4.16: Showing returns Birla Sunlife Asset Allocation Fund- Aggressive Growth.

82

Table 4.16:Various Performance measures of Birla Sunlife Asset Allocation FundAggressive Growth. birla sunlife asset allocation fund-aggressive growth 0.00594238 0.060496939 0.653 -0.011972292 (0.0011096) -0.069706113 0.003913673

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.16 it can be analysed that the mean returns of the SIP is more than the market return. The Risk of the SIP is less than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome 83

By calculating the Sharpe measure, the arrived value of the SIP is (0.011972292) , has performed better than the market performance. By calculating the Treynor measure, the arrived value of the SIP is (0.0011096), has performed better than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.069706113) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.003913673, is less than the market performance.

Interpretation: The performance of Birla Sun life asset allocation fund aggressive is not good ,but the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor measures the scheme has performed Better than market performance. Chart 4.17: Showing returns Birla Sunlife Asset Allocation Fund- Moderate Growth.

Table 4.17: Various Performance measures of Birla Sunlife Asset Allocation FundModerate Growth. Particulars Birla Sunlife asset allocation fund-moderate Market 84

growth Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure 0.0068349 0.0457857 0.489 0.0036749 0.0003444 -0.069908 0.0036784 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.17 it can be analysed that the mean returns of the SIP is more than the market return. The Risk of the SIP is less than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the SIP is 0.0036749, has performed better than the market performance. By calculating the Treynor measure, the arrived value of the SIP is 0.0003444, has performed better than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.069908) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.0036784, is less than the market performance. Interpretation: The performance of Birla Sun life asset allocation fund moderate growth is not good ,but the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor measures the scheme has performed Better than market performance. Chart 4.18: Showing returns Birla Sunlife Asset Allocation Fund- Conservative Growth.

85

Table 4.18:Various Performance measures of Birla Sunlife Asset Allocation FundConservative Growth.

Particulars Mean Returns Standard deviation Beta Sharpe measure Treynor measure Jensen measure Fama measure

birla sunlife asset allocation fundconservative growth 0.0072135 0.0178958 0.186 0.0305572 0.0029436 -0.071548 0.0019188

Market 0.004554022 0.086959121 1.000 -0.024294685 (0.0021126) -0.068779311 0.004554022

Analysis: From Table 4.18 it can be analysed that the mean returns of the SIP is more than the market return. The Risk of the SIP is less than market risk. With regards to beta SIP beta is less than market beta. By considering various performance measures the following is the outcome By calculating the Sharpe measure, the arrived value of the SIP is 0.0305572, has performed better than the market performance. 86

By calculating the Treynor measure, the arrived value of the SIP is 0.0029436, has performed better than market performance. By calculating the Jensen measure, the arrived value of the SIP is (0.071548) is less than market performance. By calculating the Fama measure, the arrived value of the SIP is 0.0019188, is less than the market performance.

Interpretation: The performance of Birla Sun life asset allocation fund Conservative growth is not good ,but the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor measures the scheme has performed Better than market performance. Table 4.19: Various Performance measures of Schemes for the Year 2006 Schemes Market Returns 0.034 UTI ULIPs Tata Aig equity fund Aviva future life plan Bajaj Allianz growth Bajaj Allianz steady 0.003 Bajaj Allianz save & grow Birla -assure debt scheme max life maker plan growth max life maker conservative fund max life maker secure fund 0.004 0.003 0.017 -1.141 -0.178 -0.076 -0.003 87 0.017 0.004 0.022 0.008 0.012 0.003 0.042 0.010 0.037 0.023 0.745 0.183 0.869 -0.968 0.367 0.132 0.274 -0.109 0.021 0.007 -0.063 -0.076 -0.053 -0.071 0.012 -0.002 0.021 0.003 0.003 0.002 -1.501 -1.772 -0.077 -0.004 -0.001 0.030 0.025 0.023 0.056 0.042 0.057 0.055 0.023 1.000 0.313 0.789 0.899 0.012 0.486 -0.183 0.403 0.335 0.716 0.027 -0.025 0.029 0.020 1.344 -0.040 -0.090 -0.045 -0.049 -0.057 0.034 -0.028 0.030 0.025 0.019 Mean Std dev Beta Sharpe Treynor Jensen Fama

HDFC taxsaver ELSS capital builder fund Birla sunlife 95 Birla sunlife -aggressive growth Birla sunlife assetmoderate growth Birla sunlife -conservative growth Schemes Market Returns

0.027 0.019 0.022 0.024 0.019

0.073 0.072 0.048 0.046 0.036

1.207 1.057 0.726 0.794 0.611

0.279 0.167 0.321 0.367 0.341

0.017 0.011 0.021 0.021 0.020

-0.045 -0.054 -0.053 -0.051 -0.057

0.029 0.021 0.021 0.023 0.017

0.011 0.015 0.251 0.310 0.018 -0.067 0.006 Table 4.20: Various Performance measures of Schemes for the Year 2006& 2007 Mean Std dev 0.034 0.058
0.040 0.060 0.045 0.055 0.011 0.026 0.004

Beta

Sharpe

Treynor Jensen

Fama

1.000
0.330 0.893 0.677 0.694 0.037 0.354 0.030

0.470
-0.027 0.535 0.428 0.556 0.036 0.519 -0.057

0.027
-0.003 0.036 0.029 0.044 0.011 0.038 -0.008

-0.039
-0.083 -0.035 -0.049 -0.038 -0.073 -0.058 -0.073

0.034
-0.020 0.039 0.025 0.037 0.002 0.016 0.000

UTI ULIPs
0.006

Tata Aig equity fund

0.039

Aviva future life plan

0.026

Bajaj Allianz growth

0.037

Bajaj Allianz steady

0.007

Bajaj Allianz save & grow Birla -assure debt scheme max life maker plan growth max life maker conservative fund max life maker secure fund HDFC taxsaver ELSS
0.005 0.028 0.003 0.063 0.022 0.985 -0.435 0.341 -0.068 0.022 -0.075 -0.045 -0.001 0.029 0.010 0.010 0.162 0.349 0.022 -0.069 0.005 0.020 0.006

0.028

0.043

0.645

0.496

0.033

-0.048

0.026

88

capital builder fund

0.032 0.064 0.048 0.045 0.904 0.590 0.688 0.399 0.476 0.455 0.028 0.039 0.030 -0.042 -0.047 -0.048 0.033 0.028 0.025

Birla sunlife 95
0.029

Birla sunlife -aggressive growth Birla sunlife assetmoderate growth Birla sunlife -conservative growth Schemes ICICI Equity derivative fund Birla Sun life multiplier
0.036 0.051 -0.507 0.566 -0.057 -0.048 0.035 0.008 0.004 0.000 0.389 -10.769 -0.072 0.002 0.013 0.015 0.225 0.433 0.028 -0.065 0.008 0.027

0.023

0.035

0.536

0.454

0.030

-0.054

0.020

Mean

Std dev

Beta

Sharpe

Treynor Jensen

Fama

89

CHAPTER 5 SUMMARY OF FINDINGS, CONCLUSION, SUGGESTIONS & LEARNING

90

5.1. FINDINGS:
The Performance of UTI ULIPs is negative even though it has a less risk and beta value. But if we consider for 2 years (till dec 2007) the mean returns is better than the market returns. Yet in the case of Performance measures it has been found that the scheme has performed badly with negative measures. The performance of Tata AIG Equity ULIP is low due to low returns. However when we consider performance for first 2 years the returns and performance measures were better than that of market. The reason for dismal performance can be attributed to Global recession. The performance of Aviva Future Life plan is again bad compared to market performance. When we consider performance till 2007 the scheme has outperformed the market in three performance measures. The performance of Bajaj Allianz wealth Confident grow money is poor. But till 2007 the returns of the scheme was better than market and even its Sharpe and Treynor measures were quite good. The collapse of equity market can be the reason for low performance.

91

 The performance of Bajaj Allianz wealth steady money is moderate. However its performance till Dec 2007 was not great. The reason for its moderate performance during year 2008 can be attributed to it Debt securities. The performance of Bajaj Allianz wealth steady money is poor even though it is supposed to be low risk investment. The reason for low performance can be attributed to Poor fund management. The performance of Birla sun life multiplier money is poor due to negative returns and also in none of the performance measures the scheme has done better than the market. The fund has been performing badly from its inception. The performance of Birla assure debt scheme is moderate with better market returns. However its performance till dec 2007 is not good. The cause for its reasonable performance is due to debt investments. The performance of Max Life Maker investment plan growth is very good even in recession. The excellent fund management can be the reason for its success. The performance of Max Life Maker investment plan Conservative fund is good as the returns of the ULIP is higher than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed better than market. However its performance till 2007 is low. The performance of Max Life Maker investment plan secure fund is good as the returns of the ULIP is higher than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed better than market. The reason for the success can be debt investments. The performance of HDFC Taxsaver Elss fund is poor due to low returns and performance measures. Even in previous years the performance is bad. The reason 92

can be high risk and beta value. Same applies to Performance of HDFC capital Builder Fund. The performance of ICICI Equity derivative is moderate as the returns of the SIP is better than the market return and also in cases of Sharpe and Treynor performance measures the scheme has performed lesser than market performance. The performance of Birla Sun life 95 is very good as the return of the scheme is good. The reason can be successful fund management of scheme from 1995 .In the case of Birla sunlife asset allocation fund series, all the schemes-aggressive growth scheme, moderate scheme and conservative scheme has performed badly. Even the previous years performance is not good. The reason can be improper selection of the portfolio.

5.2. Suggestions
From the findings we can see that the schemes which have more debt component has performed well during recession times. So during economic downturns investors can switch to debt oriented hybrid securities. The equity oriented ULIPs have performed well till 2007. However in 2008 they have performed badly. These schemes have to be flexible to have a proper mix of debt in order to beat the economic downturn. Though equity oriented schemes have generally bad performance, few schemes like max life maker has done exceptionally well. Thus good fund management can beat even depression if it occurs. Some of the ULIPs have high risk and Beta value which according to general standards had to be low. This may be one of the major reasons for poor

93

performance. The fund managers have to regularly monitor this measure for good performance. The market for Hybrid securities is not well grown in India. Only in case of Mutual fund SIP market is growing significantly. There is still a lot of growth potential of hybrid securities in the area of hedge funds, ULIPS and Derivatives.

5.3. Conclusion:
Hybrid Securities such has Unit linked Insurance plans and Systematic investment plans were considered to highly safe because it carries moderate risk and return irrespective of whether the economy is boom or recession stage. This gave tremendous confidence to Risk averse investments to invest in such securities. However after the great depression of 1924, first time economic disaster of such large scale has taken place in 2008. This acted as a litmus test for these hybrid securities. To the contrary of investors general expectations these securities performed very badly. Most of the scheme did not even meet the Index benchmark returns. Birla sunlife Multiplier (ULIP) which was introduced during Sep 2007 for a face value of the Rs 10 ended 50% lower in Dec 2008. Thus Investors who had invested in such ULIPs thinking their investments will be safe suffered a huge loss. Though the performance of these securities were poor during rescission, we cant generalize and say that these securities are totally ineffective during crisis. There are debt oriented funds which are found to have good performance. With effective fund management even equity oriented schemes such as Max life maker has performed very well. So one of the major reasons for failure of other schemes is poor fund management and high risk instead of moderate risk.

94

Thus with sound investment principles and not diluting the characteristics of these hybrid securities these securities can give a better results even during the economic downturn making hybrid securities a popular tool among investors.

5.4 MY LEARNING
While conducting this study I have gained insight functioning of financial sector and hybrid securities. Some of my important learning during this study are as follows 1) The nature and various types of hybrid securities in global as well as Indian financial markets. 2) Detailed insight into Unit linked insurance plans and systematic investment plans. 3) Understanding the various aspects of Indian financial sector. 4) The cause of Global financial crisis and its effect on India financial sector. 5) The various performance measures and how it has to analysed. 6) The investors perception of Hybrid securities and actual effectiveness of these securities during recession times. 7) Reasons for the failure of these securities and precautions to be taken before investing in them. Overall this study has helped me in great extent to understand the practical applications of financial concepts and has formed a foundation for further understanding.

95