Demystifying Futures :- Margin and Mark To Market

What is Futures ?

This question comes in the mind of those trader who are either newcomer in stock market or want to come in stock market but do not know what it is actually Nifty Future or Reliance Future or Stock Future. But they have listen this word number of times.

So as we know there is National Stock Exchange, one of the main stock exchange of India. Most of the companies registered in this stock exchange and through this stock exchange we are able to do transaction in these companies stock . We are able to buy and sell the companies stock through our broker registered in stock exchange.

Index of National Stock Exchange is known as Nifty. And the derivative contract of Nifty 50 known as Nifty Future. Nifty is a portfolio of main 50 stocks and according to movement of these stock, we see the up and down movement in Nifty

As of now in India a minimum tradeable contract in future has to be of Rs 5 lakhs that is the reason Nifty Future lot size is 75 which means 75 X 8800 (Approximate) = Rs 660000

Must Read : How is Daily & Historical Volatility calculated for Stocks

Why Futures ?

Imagine a scenario that you are doubly sure that a scrip like Reliance Industries will move up in next few months due to Jio Launch or fundamentals or what not. 
But the idea is you are bullish on Reliance, now Reliance Industries trade at 1070, If you had to buy 500 shares then you will have to pay 535000 to broker for delivery. 
Futures market helps you buy 500 shares in a single go while paying a margin of around 7% which is equal to Rs 37450.
There is no Physical delivery of shares in your demat account but virtually you are holding 500 shares of reliance industries which is the lot size.

How is market to market calculated in futures ?

Assume you purchased 1 lot of Reliance at 1070 on 19/09/2016, closing price of Reliance Sep Futures on 19/09/16 was 1084.15 so your ledger account will be credited with Rs 7075 (closing price - purchase price * lot size) 

On 20/09/2016 your future position would be brought forward with Rs 1084.15 from 19/09/2016, since you did not sold your future on 20/09 and it would be carry forwarded with closing price of 20/09/16 to 21/09/06.
This cycle continues unless you square off the position or last Thursday of the month whichever is earlier 
MTM of 20/09/16 would be 1084.15 - 1078.95, now your ledger would be debited with Rs 2600 ( Today's Closing Price - Yesterday closing price * Lot Size) 

On 21/06/16 you squared off the position at the rate of 1087, now your ledger would be credited with Rs 4025 i.e 1087 (sold rate) - 1078.95 (yesterday closing price) * 500.

All in all you earned a total of Rs 1087 - Rs 1070 = Rs 8500

It can also be a loss if you reliance goes down . Futures trading is risky compared and at certain level it may erode your capital , it is always better to have stop loss while trading in futures. 

Must Read : What is POA in Demat & Online Trading

How is Margin Calculated in Futures ?

When you trade in futures market, Stock Broker collects upfront margin from you which includes Initial Margin (Span Margin) & Exposure Margin.
Everyday stock broker has to inform the exchange about margin collected from each and every client, in case of margin shortfall, penalty is levied to broker which in turns levy to you in case of shortfall.

You can adjust your stocks against your margin lying with the broker beneficiary account or in your POA account but only those scrips which are Liquid and approved by Stock Exchange after haircut i.e Var Margin

According to NSE, Exposure margin is not compulsory to collect in Equity Derivatives Segment but it is compulsory to collect in Equity Currency Segment.

As i mentioned earlier there are two types of margin in futures i.e Initial Margin & Exposure Margin 

Initial Margin is the span margin computed by exchange and it comes around to 7.1% of the overall value of the contract 
In our above example of Reliance Sep Future , If you had to buy or sell a future then you have to deposit an upfront margin of Rs 1070 X 500 = 37985 
Exposure Margin is published by NSE in circular section.

Must read : Types of Orders in Trading Engine

In our example we shall assume exposure margin of 5% for Reliance Sep Future i.e Rs 26750

In addition to Rs 37985 you will have to deposit Rs 26750 to buy or sell 1 lot of future. The whole purpose for margin is to collect enough money from you to absorb the capital loss in case if reliance has to go down by 10% 

Margin also work in the manner of MTM discussed earlier , A new margin is debited daily and previous margin is credit in your account resulting in difference of margin entry in your ledger 

I hope i am able to explain you in layman's term,In case if you have any doubt or want any kind of clarifications do let me know in comment section, i would be happy to assist you.

Equities related article :

Market Order vs Limit Order vs Stop loss Order vs Bracket Order

Risk Management in Broking House for You as Investor

Understand Your Daily Margin Statement

What is Power of Attorney in Online Trading?

Futures & Options related article :

Futures Trading Terminologies

What is Derivatives ?

What are Forward Contracts ?

Advantages & Disadvantages of Futures Trading ?

Guide to Options Trading

Long Call - Bullish Trading Strategies

Long Put

Short Call - Bearish Strategies

Sell Put - Bullish Strategies

Buy Straddle Option

Short Straddle Option

Synthetic Long Call

Synthetic Long Put

Synthetic Long Futures

Synthetic Long Futures

Synthetic Short Call

Bull Call Spread

Bull Put Spread

Why Mutual Fund Houses Stop Fresh Investments

In the last three years, mid- and small-cap mutual fund schemes have given returns of close to 35% to 42% on an average. And they have given average returns of around 15% over the last 10 years, highest in the equity segment. However, in the past few months, valuations of several blue-chip high-quality stocks have hit the roof. In fact, many weaker companies have experienced a sharp correction.

The rally in mid- and small-cap schemes has been so fast and intense that even fund houses are failing to find enough opportunities to invest at this point in time. Recently, DSP BlackRock Micro Cap Fund restricted fresh inflows of over 1 lakh into the scheme. There have been instances where many fund managers have hiked their cash exposure only because of the lack of opportunity in the market.

Another major reason for stopping large flows is that in the last few years the corpus of many mid- and small-cap schemes have risen multiple fold. With assets of around 50,000 crore in such a category, it will be very difficult to deploy any more in it. 

Must Read : Should you pre-pay your home loan ?

Due to paucity of high-quality stocks with enough liquidity in the mid-cap space, fund managers of large mid-cap funds may even be forced to invest a part of their portfolio in large-cap stocks, thus reducing the potential return from it. There are many instances of fund managers not being able to book profits in particular stocks for weeks and months due to lack of liquidity in those stocks.

The Indian mutual fund industry is well aware of the fact that smaller funds are easier to manage. Even some large-cap funds like HDFC Top 200 which has grown in size have failed to live up to expectations. This is why fund houses launch close-ended funds as this exercise circumvents the size problem. 

But such measures from fund houses will not solve investors problems,especially if the small scheme they had invested in a few years back has become very large in the current market run-up. One cannot continue to blindly put money in such schemes as there will be times when performance will be impacted. It is always better to invest in funds that are smaller in size with a positive history of performance.

Must Read : Large Cap Funds are Safer and Stable

In this article I have explained why mutual fund houses stop fresh inflows into funds and its impact on the performance of such funds.

When Do Fund Houses Stop Fresh Flows And How Does Additional Inflow Impact The Performance

Inflows into equity or debt schemes is the dream of any fund house or fund manager. With a surge in assets - fund houses can earn income through management fees through expense ratio, which is anywhere between 1.5% and 3%.

But what happens if a fund house plans to stop inflow into its equity scheme for a temporary period and how does it impact investors and the scheme’s performance?

Few years back Franklin Templeton India Prima Fund was one of the first funds to suspend fresh sale of units in January 2006 - when there was an overall euphoria in the bull market. A few months later, Reliance Growth Fund, a mid-cap fund with assets of over 2,400 crore in April ’06 also restricted inflows into its scheme.

Must Read : Mutual Fund Vs Real Estate - Which is Better for Investing

But restrictions and suspension of fresh units are only limited to big-ticket investors (lump-sum investments of `1 lakh and above). Investors who continue to invest through systematic investment plans (SIPs) can, however, continue to do their investments. With rising equity markets and stock opportunities, the mutual fund industry continued to focus on ‘assets gathering’.

But in 2008-09, financial crises hit the global markets, and there was a blood bath on Dalal Street. IDFC Premier Equity, another mid-cap scheme, stopped further subscriptions although investors could invest through SIPs. Later, the fund house decided to open a small window for fresh investments for a few months. This phenomenon continues even today when fund managers feel that the stock markets are overheated.

A scheme typically chooses to stop fresh inflows when there is a perceived lack of investment ideas. Instead, fund managers might choose to sit on the cash till the market opens up for sound investments.

Must read : Best 3 ELSS Fund to Invest in 2016 for wealth creation

While maintaining a higher cash position could help the fund outperform when the market is sliding, there is a limit to how much cash a fund can keep (fund houses are mandated to write on offer documents). The fund may not always be in a position to wait it out and avoid investing altogether. 

In such cases, restricting inflows in the scheme is the only way out. In the Indian mutual fund industry as well as the international fund business, another reason for stopping incremental inflows is when the scheme corpus grows too unmanageable for the fund manager. 
This typically happens when the broader market is on an upswing or when the fund is doing exceedingly well, attracting a surge of money from return-hungry investors.

Last year, SBI Small & Midcap Fund stopped inflows because the mutual fund scheme had outlined a capacity constraint of 750 crore in its offer document, implying that it would not absorb additional money beyond the set threshold. 

If we look at all the mentioned schemes, we see that these were typically mid- and small-cap schemes because limited investible basket of stocks, coupled with liquidity concerns around these stocks put the fund manager in a difficult position when faced with continuing inflows. However, for retails investors the best thing is to continue with their SIPs and not stop only because the markets are either expensive or cheap.

Must read : Best Equity Mutual Funds to Invest in SIP for long term wealth creation

Is More Exposure In Mid- And Small-cap Funds Hazardous?

At the start of calendar year 2013, very few investors were ready to invest in mid- and small-cap schemes. Valuations of several mid- and small-cap stocks were available at huge discounts and many fund houses had launched closed-ended equity schemes. By November-December 13, there was a sharp surge in midand small-cap rally, which has more or less peaked out by now.

But in the last three-and-a-half years, several investors jumped to buy small- and mid-cap schemes as past returns in these schemes made them irresistible. In the year 2014, several small-cap schemes were giving one-year returns of more than 100% and the typical Indian psyche of investing in a surging market was on full display yet again.

Now, the rally seems to have lost steam with a number of mid- and small-cap stocks crashing by 10% to 20%. A few have even touched an all-time high with unreasonable valuations. Therefore, it is very important at this juncture to analyze the performance of investments in mid- and small-cap focused mutual funds and understand how the future looks like for them, going forward.

Must Read : Best Midcap Fund churning money for investors

The equity markets have risen in the past few months largely due to the passage of the Goods and Service Tax (GST) bill and positive monsoon. But with uncertainty in Europe and China and election in the US, it is likely that the Indian equity markets might remain volatile.

But as we know small- and mid-cap stocks and schemes are more volatile than pure large-cap or broader markets, it is important for investors to not aggressively invest only in mid- and small-cap schemes as it was the case in the last few months. In the last one year, midcap index and small-cap index have given returns of 16% and 8%, respectively.

Mid- and small-cap mutual funds outperform rest of the market when the economic outlook is positive as we saw during the 2003-08 bull market. At such a time if the demand for risky assets such as equities is not mitigated, smal-cap stocks see sharp rallies (as was visible in selective stocks) as investors try to make quick bucks. Such euphoria often happens towards the end of a bull market.

On the other hand, when the markets are nearing the bottom and small caps start looking cheap, chances are greater that they become even cheaper as panic selling takes them to new lows.
Many times small- and mid-cap stocks may remain completely out of flavour if markets fail to stabilize thereafter much like the pre-2013 period of nearly four years. At this juncture, when the extended bull rally in Indian equities looks difficult, it would be wise to stay with large- and multi-cap funds.

Must read : How to select mutual fund for portfolio ?

In A Nutshell

As said above in the article small-caps and mid-cap mutual funds outperform the rest of the market when the economic outlook is robust and large caps look expensive. But on the other hand, large caps can be relatively stable as against mid- and small-caps. So they would not go up much or fall if fundamentals justify their valuations compared with their mid- and small-cap peers. 

It is time to revisit your portfolio and reassess your asset allocation. Due to the current market rally, if your equity exposure has increased to a great extent than what you had planned or,it’s time to re-balance the portfolio and have a mix of equity and fixed income portfolio

Similarly, you should redeem your money from schemes that have under-performed in the last few years and look out for other schemes and continue investments through SIPs.

I also hope you enjoyed reading the article , it takes time to write articles, request you to please spread the word. A good way to start is to share this page on your social circle using floating social share bar on the left.

Who doesn't like a financial healthy life,In case if you want one, contact me for Financial Planning, please do drop an email to me at vipuls1979@gmail.com. I would be happy to assist you

Mutual Funds & Insurance Related Articles :-
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Best 3 Large Cap Mutual Funds for SIP in 2016  
Best 3 Midcap Mutual Funds for SIP in 2016
Best ELSS Tax Savings Mutual Funds for SIP in 2016
Why you should not buy ULIP
How to Select Mutual Fund for Portfolio
Liquid Funds are better alternative than Savings Bank account
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Complete Guide on Monthly Income Plans
Complete Guide on Credit Opportunities Fund
How to Save Tax using Equity Linked Savings Scheme
How to Budget Your Money
How Much Insurance Do You Really Need
Why Should you buy Term Insurance Upto 60 Years
5 Must Have Insurance Policies for Women
Disclaimer  :-

The Article is only for information purposes and Vipul Shah (https://investkiyakya.blogspot.com) is not providing any professional/investment advice through it. The article does not constitute or is not intended to constitute an offer to buy or sell, or a solicitation to an offer to buy or sell financial products, units or securities. https://investkiyakya.blogspot.com disclaims warranty of any kind, whether express or implied, as to any matter/content contained in this article, including without limitation the implied warranties of merchantability and fitness for a particular purpose.https://investkiyakya.blogspot.com and its subsidiaries / affiliates / sponsors / trustee or their officers, employees, personnel, directors will not be responsible for any direct/indirect loss or liability incurred by the user as a consequence of his or any other person on his behalf taking any investment decisions based on the contents of this guide. Use of this article is at the user’s own risk. The user must make his own investment decisions based on his specific investment objective and financial position and using such independent advisors as he believes necessary.https://investkiyakya.blogspot.com does not warrant completeness or accuracy of any information published in this guide. All intellectual property rights emerging from this article are and shall remain with https://investkiyakya.blogspot.com. This article is for your personal use and you shall not resell, copy, or redistribute this article , or use it for any commercial purpose. All names and situations depicted in the article are purely fictional and serve the purpose of illustration only. Any resemblance between the illustrations and any persons living or dead is purely coincidental.

Should You Prepay Home Loan - EMI vs SIP

If i had to ask you, What are the three basic necessities of human, I am sure your answer would be Food, Clothing and Shelter (Roti, Kapda & Makaan) but shelter is something which becomes the most prized possession of our life.

Typically in India what i have seen is,as soon as you start earning there is so much of pressure in buying a home. 

Once you do this then EMI is something which becomes a part of your cash flow statement.

After Paying your EMI's for couple of years few of things can 
happen which are mentioned below 
1-> Your Salary Increases 
2-> You get a lump sum from somewhere 
3-> you get married and your spouse is earning 

The most natural thoughts the come to your mind is "Should i make some pre-payment towards my home loan so that my tenure comes down and i am able to repay my home loan as soon as possible"

Must Read : What if your Insurance Company Goes Bankrupt

But Hold on what if i say you can invest in better returns rather then paying off your home loan and this is what exactly we are going to see in this article 

Let me give you an example 
Mr Ravi took a home loan of Rs 50 Lakhs @ 10% for 20 years for an EMI of Rs 48,251
After paying 1 year EMI , Mr Ravi gets married and his wife is also earning Rs 20000 a month, so now they have extra disposable income Rs 20000.
The most natural thought that comes to Ravi's mind is "Should i make some prepayment towards my home loan now that i have Rs 20000 extra or should i invest them somewhere else"

Below are the 2 Scenarios

In Scenario 1 : Ravi decided to invest his extra disposable income Rs 20000/- in mutual funds through SIP for 19 years, I have taken 19 years because 1 year EMI has already been paid 

In Scenario 2 : Ravi could have paid his home loan in 10.25 years while doing a pre-payment of Rs 20000/- each month start from 13th month i.e after 1 year and whatever amount they were paying towards the home loan i.e 48251 + 20000 = Rs 68251 are now available into mutual funds through SIP for 9.75 Years 
9.75 Years because Ravi took a home loan for 20 years and paid off in 10.25 years 
In the below Image ,

1st Column shows the rate of returns expected on investments 
2nd Column Shows the return of SIP of Rs 20000/- if invested for 19 years 
3rd Column shows the return of SIP of Rs 68251 invested for 9.75 years 

Must Read : Complete Guide on Term Insurance

Investment @ 10% return in MF would not make a larger difference but as the rate of returns increase the difference between these 2 sip(s) also increase and we could see that Rs 20000 SIP is doing far more better 
What i want to suggest here is whenever you have some extra income don't just rush into pre-paying your home loan just because you want to finish it off.

Utilize this opportunity whenever you have rise in your income or income from some or the other source, Invest extra income into some avenue which would give you better returns than just paying off your home loan and at the same it would help you build a nice corpus for your future.

Home Loan is the cheapest form of loan available plus it comes with tax benefit.

SIP is the best way to achieve better returns, history suggest that good mutual funds have given returns about 12%-15% on a CAGR basis on past 10-15 years 

What would you do if you come across such a situation or you already in one , will your prepay your home loan or would you invest your surplus into MF through SIP
Hope you got the answer now...

Do let me know your thoughts in comment section....

I also hope you enjoyed reading the article , it takes time to write articles, request you to please spread the word. A good way to start is to share this page on your social circle using floating social share bar on the left.

Who doesn't like a financial healthy life,In case if you want one, contact me for Financial Planning, please do drop an email to me at vipuls1979@gmail.com. I would be happy to assist you

Mutual Funds & Insurance Related Articles :-
Benefits of SIP
What is SWP in mutual Funds
9 Secrets to choose right mediclaim
How to Plan for your Child Education Planning
How to do Retirement Planning
Best 3 Large Cap Mutual Funds for SIP in 2016  
Best 3 Midcap Mutual Funds for SIP in 2016
Best ELSS Tax Savings Mutual Funds for SIP in 2016
Why you should not buy ULIP
How to Select Mutual Fund for Portfolio
Liquid Funds are better alternative than Savings Bank account
What is FMP in Mutual Funds
Complete Guide on Monthly Income Plans
Complete Guide on Credit Opportunities Fund
How to Save Tax using Equity Linked Savings Scheme
How to Budget Your Money
How Much Insurance Do You Really Need
Why Should you buy Term Insurance Upto 60 Years
5 Must Have Insurance Policies for Women
Disclaimer  :-

The Article is only for information purposes and Vipul Shah (https://investkiyakya.blogspot.com) is not providing any professional/investment advice through it. The article does not constitute or is not intended to constitute an offer to buy or sell, or a solicitation to an offer to buy or sell financial products, units or securities. https://investkiyakya.blogspot.com disclaims warranty of any kind, whether express or implied, as to any matter/content contained in this article, including without limitation the implied warranties of merchantability and fitness for a particular purpose.https://investkiyakya.blogspot.com and its subsidiaries / affiliates / sponsors / trustee or their officers, employees, personnel, directors will not be responsible for any direct/indirect loss or liability incurred by the user as a consequence of his or any other person on his behalf taking any investment decisions based on the contents of this guide. Use of this article is at the user’s own risk. The user must make his own investment decisions based on his specific investment objective and financial position and using such independent advisors as he believes necessary.https://investkiyakya.blogspot.com does not warrant completeness or accuracy of any information published in this guide. All intellectual property rights emerging from this article are and shall remain with https://investkiyakya.blogspot.com. This article is for your personal use and you shall not resell, copy, or redistribute this article , or use it for any commercial purpose. All names and situations depicted in the article are purely fictional and serve the purpose of illustration only. Any resemblance between the illustrations and any persons living or dead is purely coincidental.

Should You Subscribe : L&T Technology Services Ltd IPO

L&T Technology Services LTD - A long term tech play

About the issue:

• L&T TS is coming up with an initial public offering (IPO) of around 10.4mn shares (fresh issue: nil; OFS shares: 10.4mn) in offering. Total IPO size is estimated at around Rs. 8,840 – 8,944mn.
• The issue will open on 12th Sept. 2016 and close on 15th Sept. 2016.
• Not more than 50% of the issue will be allocated to qualified institutional buyers. Further, at most 15% of the issue will be available for non-institutional bidders and the remaining 35% for retail investors.
• Net proceeds from the issue will go to selling shareholder. The company will not receive any money from the issue.
• Pre-issue promoter group stake in L&T TS stands at 100%. Post IPO, promoter group stake will decline to 89.8%. Source: Company RHP Pre and Post Issue Shareholding Pattern (%) Pre Issue Post Issue Promoter & Promoter Group (%) 100% 89.8% Public 0% 10.2%

Must Read : Different Types of Orders in Trading System

Salient features of the IPO

• L&T Technology Services Ltd. (L&T TS) a leading global pure-play Engineering and R&D services company
• The company globally serves over 200 customers, which includes more than 50 Fortune 500 companies. 
• The public issue is completely an offer for sale, thus it will not receive any IPO proceeds.

Key competitive strengths:

• Leading global pure-play ER&D services company
• Well-diversified player with multi-vertical industry expertise.
• Focus on innovation through in-house R&D, IP and strategic alliances

Risk and concerns:

• Inability to develop new services or enhance existing services
• Nearly balanced onsite and offshore revenue composition
• Employee cost
• Foreign currency fluctuations

Valuation & recommendation:

At the higher price band of Rs. 860, L&T TS’s share is valued at a P/E multiple of 20.1x (to its FY16 EPS), which is in line with the average P/E multiple of 21.4x of its domestic peers. Moreover, its global peers are trading at a P/E multiple of 23.2x.

Particulars (Rs Mn)	FY14	FY15	FY16	Q1 FY17
Revenue From Operations	1261.7	25605.9	28940.4	7653.9
EBITDA	195.7	4043	5324.1	1621.1
Reported PAT	62.1	3151.8	4342.4	1350.6
EBITDA (%)	15.50%	15.80%	18.40%	21.20%
Reported PAT (%)	4.90%	12.30%	15%	17.60%
RoE( %)	1.30%	29.80%	38.90%	11.60%
RoCE (%)	3.40%	28.40%	38.30%	11%

Must Read : How Risk Management Policy is designed for you at a Brokerage House

Below are few key observations of the issue:

• L&T TS is one of the global leading ER&D players, with leadership position in eight industry verticals (Source: Company RHP).
• Its clientele includes 43 of the top 100 global ER&D spenders, which covers 66.3% of G500 ER&D spend in 2015. Additionally, it derives over 80% of revenue from North America and Europe, which cumulatively accounted for 73% of the ER&D service spending.
• The ER&D market is currently under served with a penetration level of around 6.7% in 2015. Thus there is a significant growth opportunities in the outsourcing of ER&D services. 
• As of 31st Aug. 2016, L&T TS has filed 35 proprietary patents and 134 co-patents with customers that can be monetized in future.
• Since the last quarter, the entire IT sector is under pressure, mainly due to the risk associated with the Brexit. Although the company’s exposure to UK market is around 2% of the total revenue, it will not be spared from the overall prevailing negative sentiment. Moreover, the recent lower growth guidance given by the domestic major IT companies, would support the near term negative sentiment.
• Recently the L&T group came up with an IPO for its group company L&T Infotech Ltd., which was not well received by the market, despite being a fundamentally strong company. This time I believe, the investors will be cautious before subscribing for the issue. 

Verdict 

Considering its market leadership and higher profitability and return ratios, I feel that the issue is fairly valued. Thus, I recommend a “SUBSCRIBE with Caution” rating for the public issue.

Do let me know your thoughts in comment section....

I also hope you enjoyed reading the article , it takes time to write articles, request you to please spread the word. A good way to start is to share this page on your social circle using floating social share bar on the left.

Who doesn't like a financial healthy life,In case if you want one, contact me for Financial Planning, please do drop an email to me at vipuls1979@gmail.com. I would be happy to assist you

Mutual Funds & Insurance Related Articles :-
Benefits of SIP
What is SWP in mutual Funds
9 Secrets to choose right mediclaim
How to Plan for your Child Education Planning
How to do Retirement Planning
Best 3 Large Cap Mutual Funds for SIP in 2016  
Best 3 Midcap Mutual Funds for SIP in 2016
Best ELSS Tax Savings Mutual Funds for SIP in 2016
Why you should not buy ULIP
How to Select Mutual Fund for Portfolio
Liquid Funds are better alternative than Savings Bank account
What is FMP in Mutual Funds
Complete Guide on Monthly Income Plans
Complete Guide on Credit Opportunities Fund
How to Save Tax using Equity Linked Savings Scheme
How to Budget Your Money
How Much Insurance Do You Really Need
Why Should you buy Term Insurance Upto 60 Years
5 Must Have Insurance Policies for Women
Disclaimer  :-

The Article is only for information purposes and Vipul Shah (https://investkiyakya.blogspot.com) is not providing any professional/investment advice through it. The article does not constitute or is not intended to constitute an offer to buy or sell, or a solicitation to an offer to buy or sell financial products, units or securities. https://investkiyakya.blogspot.com disclaims warranty of any kind, whether express or implied, as to any matter/content contained in this article, including without limitation the implied warranties of merchantability and fitness for a particular purpose.https://investkiyakya.blogspot.com and its subsidiaries / affiliates / sponsors / trustee or their officers, employees, personnel, directors will not be responsible for any direct/indirect loss or liability incurred by the user as a consequence of his or any other person on his behalf taking any investment decisions based on the contents of this guide. Use of this article is at the user’s own risk. The user must make his own investment decisions based on his specific investment objective and financial position and using such independent advisors as he believes necessary.https://investkiyakya.blogspot.com does not warrant completeness or accuracy of any information published in this guide. All intellectual property rights emerging from this article are and shall remain with https://investkiyakya.blogspot.com. This article is for your personal use and you shall not resell, copy, or redistribute this article , or use it for any commercial purpose. All names and situations depicted in the article are purely fictional and serve the purpose of illustration only. Any resemblance between the illustrations and any persons living or dead is purely coincidental.

What if my insurance company goes bankrupt in India?

Every one of us might have bought the insurance from private companies. However, somewhere in our subconscious mind there remains number of questions like “What if the private insurance company goes bankrupt? What if the private insurance company does not entertain our claim on the unfortunate event of death of our loved ones? Or else we do not have a heart to accept the fact that the private companies are equally good as those of public insurance companies. 

If you are the one who have above questions running in your mind about selecting insurance from private companies then you have landed on the right page on internet.

Such questions create uncertainty in the attitude of investors.

Insurance in India is regulated by IRDA which has complete control over the insurance companies whether government owned or private. As per the guidelines of IRDA, in order to register the insurance company in India, Company has to be registered with IRDA with minimum investment of Rs 100 Crore for life Insurance. Apart from this, the company has to invest Rs 200 crore for reinsurance business.

Not only the capital requirement is considered by IRDA, but there is also a long procedure to get the license in order to start the insurance company. IRDA also keeps a close watch at the solvency ratio and the claim settlement ratio of the companies that is discussed in the next section of the article. 

Must Read : What, Why and Different Types of Term Insurance and different types of riders available in Insurance

All the products of insurance companies are also approved by IRDA. IRDA strictly follow these norms in order to build faith among the investors.The product can be brought into the market after the approval from IRDA. This stringent guidelines of IRDA helps you, as the company and the products of the private insurance company are launched properly.Also the agents also undergo the training of 100 hours from IRDA and thus are qualified and well trained.

Two most important factor while selecting an Insurance Company is keeping in mind the risk, the solvency ratio and claim settlement ratio(CSR) which are also available in the IRDA website. 

Let us first understand what is solvency ratio?

Solvency is defined as "The possession of assets in excess of liabilities; ability to pay one’s debts" 

“Solvency Ratio” means the ratio of the amount of Available Solvency Margin to the amount of Required Solvency Margin.

“Available Solvency Margin” means the excess of value of assets over the value of liabilities i.e premium written  

The solvency ratio is the only one measure, which informs us whether the company will stay solvent or not.

With the help of solvency ratio one can make sure that whether the company’s cash flow is sufficient to meet its short term as well as long-term liabilities. Hence, solvency ratio is the crucial component, which must be considered before the selection of the insurance company.Based on the solvency ratio the you can select the best insurance company. 

IRDA has prescribed solvency ratio of 1.5 for Insurance companies in India.

Must Read : Why Not To Purchase Term Insurance With A Return Of Premium Option? 

Let us simplify solvency ratio with an example 

Insurer A has a liability of Rs.1000 and arrives at a solvency margin of say Rs.1100. This means the required assets should be worth Rs.1100. But in order to provide a further cushion to this number, IRDA has prescribed a solvency ratio of 150% i.e 1.5, which means the insurer will need to maintain Rs.1500 instead of just Rs.1100.

Solvency Ratio is available in the annual report published on the IRDA website, click here 

Following table shows the quarterly solvency ratios of Insurance companies for every quarter for 2014-2015.

Source IRDA 2014-2015 Annual Report

As per the above report DHFL Pramerica has the highest solvency ratio of 12.69, next is Bajaj Allianz and LIC has the lowest solvency ratio of 1.55.
LIC is government owned and in case of any downward movement in solvency ratio, Government of India (GOI) can infuse capital. The only worst scenario would be GOI going bankrupt like Greece for which chances are very very slim as Indian economic situation had been good even through the tough times of 2008-2009 recession.
In a Nutshell "Higher the solvency ratio indicates better company profile"

Must Read : Why Term Insurance is required till 60 years

Next is Claim Settlement Ratio 
The main purpose of the insurance will be beaten if the policyholder does not get the claim when required.
In that case, the claim settlement ratio is required and it can be explained as the total number of death claims settled by an insurance company.It is calculated by dividing the total number of death claims received by the total number of settled cases by the insurer.
Claim Settlement Ratio=Total Number of Death Claims /                                              Total number of cases settled

Say for example, the Reliance insurance gets the death claims around 1000 and it is capable of settling only 960 claims, then the claim settlement ratio of Reliance will be 96 percent. As the claim settlement ratio gets higher, the company becomes more favorable for the investors.

Source : www.mintwise.com

LIC of India has the best Claim Settlement Ratio (CSR) where as the next 6 are very close in terms of % and with better CSR
Combination of  Solvency Ratio + Claim Settlement Ratio is a must because if you look at solvency ratio of DHFL Pramerica is 12.69 where as CSR is only 57.19% which dissolves the whole purpose of buying an Insurance 

Must Read : How Much Insurance Do you Need

Verdict 

Yes it is safe to buy from a private insurance companies provided the policy which you are buying is cost effective.

I personally have bought 2 Term Insurance policy of 75 Lakhs each after comparing their quotation, selecting the cheapest one and after checking their Solvency Ratio and Claim Settlement Ratio 

This way i have mitigated the risk of Insurance company going bankrupt (chances are very very less due to stringent guidelines by IRDA) ,if this risk occurs , there would be other company around to settle me. The chances of both of them going bankrupt are almost negligible, what do you say ?

Do let me know your thoughts in comment section....


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Disclaimer  :-

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