Get complete information on the Suitability of Various Types of Investments

There are various types of investments having their own advantages and disadvantages. Skill and sound judgment may influence the result. The suitability of some of the investments is discussed here.

1. Government Securities:

Government Securities are deemed to be the safest securities in the senses that there are no substantial fluctuations in their values. Securities of Central Government are safer than that of State Governments. The return on these securities may not be higher.

The foreign government securities are not much favorable due to fluctuation and political conditions. The social objective principle is also fulfilled by these securities because the stronger government can look after better its masses.

2. Industrial Securities :

The shares and debentures of business and industrial units are included in this category. The rate of return on these securities is comparatively higher than the return on government securities but the safety principle is not so much applicable as in latter case.

They are also desirable investments for fulfilling socio-economic purposes. Maximum diversification of investments industry-wise, nature- wise and sector-wise etc. is very much possible.

Relative Importance of Shares and Debentures :

Debentures and bonds offer a greater amount of security. The preference shares are more secure than the equity shares. The returns on debentures and preference share being fixed are not more profitable than the return on equity shares. But, the return is more stable in the former case.

However, the rate of return depends largely on the normal rate of the concerns, size and nature of business and management of the unit. For example return on shares of a well managed and sound concern will be better than that of financially unsound concerns.

Moreover, the equity shares will be more secured in the former case than the debentures of the latter concern. The investment department of the insurer must have constant vigilance over the prices of such securities, and securities of only those concerns should be selected which promise constant and regular income and lesser or no fluctuations in their price.

From return point of view the equity shares of sound concerns are better investment. Some experts are of the opinion that the equity shares do not form proper investment because it tempts to secure full control of the business units, which is beyond the purview of insurance business.

The government has also laid down various regulations of investment in shares. The investment of a very large proportion of the funds of a life insurance is undoubtedly objectionable, but it is not necessary to prohibit such investments altogether.

Preference shares give lower yield but the return is more assured while ordinary stocks involve more speculation about the return. Debentures rank high in order of security and are placed next to government securities. Debenture-holders are creditors and as such have prior right to both interest as well as capital over shareholders of a particular unit.

3. Mortgages :

Loans are, generally, granted on the mortgage of buildings and land. Usually loans are given to a lower amount than the value of property to provide sufficient margin for safety. Adequate rate of return is observed on such loans and there are sufficient scopes of diversification. Moreover, these loans are relatively expensive to initiate and to service.

The marketability of such loans is also doubtful. But a mortgage loan carrying a provision of amortization whereby the loan is entirely paid off in a particular period, are perfectly satisfactory. Mortgages are a specified form of investment and, as such, need skill and experience in their managements.

4. Real Estate :

The purchase of land and buildings is included under investment in real estate. This is not a proper investment for insurer because there are huge fluctuations in the prices of real estate. Moreover, his real estate does not guarantee a constant and higher income apart from the lesser marketability.

Therefore, the insurer has only as much real estate as is needed for his own requirements, i.e., for opening offices. Investment in real estate requires specialised knowledge. Hence, the insurer has a special department for its management.

5. Policy Loans :

Policy loans are given to the policy-holders against the security of the surrender value of the policy. The amount of loan and interest thereon will not be more than the surrender value of the policy. The loan, if not paid, can be taken over from the amount of surrender.

The liquidity factor is not bright because the unpaid loans cannot be treated as unpaid until the duration of the policy. The rate of expenses in handling such loans are very high. However, this is an important investment as it improves business and customer relationship and provides facilities to the policy-holders.

6. Other Assets :

The funds of the life insurer may be invested in the business itself in the shape of cash, machine, furniture and properties etc. These investments are as essential as other forms of investment because they assist in smooth running of the business.

Bases for Formulation of Investment Policy by a Life Insurer :

1. Basic Principles :

The safety, profitability, liquidity diversification and aid to business are guiding principle for formulating the investment policies. These principles vary according to the nature and size of business. However basically, these principles have to be, applied for proper investment policy.

2. The Outlook of Management :

Apart from the basic principles, the investment portfolio is affected with the attitude of the management of the concern. If the management wishes to earn maximum profit, investment will be made in high- yielding securities rather than in safe securities. The sound and effective management will always try to invest in safe and constant earning securities.

3. The Present Composition of Investment Portfolio :

Where the present composition of investment portfolio shows heavy concentration on government securities, fresh investment may be made in industrial securities. An effective investment policy will have to establish a proper balance between all types of investment channels.

4. Present Position of the Insurer:

Investment of the insurer is affected mostly with the size, age, capital and progress rate of the business. For example, new insurer must see safety to the maximum level while the established concern may invest in high-yielding security.

5. Availability of Suitable Securities:

When the most suitable securities are not available, investment will have to be confined to the next suitable investment. The requirement of time may also bound the investment portfolio, e.g., during war period, government securities are considerably used.

6. Adequacy of Funds:

If there is adequate fund with the insurer investment may be made in high-yielding securities and if funds are insufficient, safety principle is the most considerable factor.

7. Socio-Economic Needs:

Bailey had also suggested that investment must be made according to the social and economic requirement of the society. It has been discussed earlier that for meeting social objectives, investment, sometimes, is made even in low yielding securities.

Environment of the Country:

Political and economical environment of the country also affect the investment portfolio. International and national relationships are also taken into account while investing the funds.

9. Limitation of Investment:

Investment of funds is subject to two limitations:-

(a) Legal; and

(b) Self-imposed.

(a) Legal Limitations:

It can be of two types:-

(i) Quantitative; and

(ii) Qualitative

(i) Quantitative Limitation:

The quantitative aspects of investment regulations stem from the specification of eligible types of investment and the minimum quality criteria for individual investments within the eligible categories.

(ii) Quantitative:

Limitations may be imposed on the amounts that can be placed in eligible investments. For example, in India at least 50 per cent of the controlled funds should be invested in government securities.

(b) Self-Imposed Limitations:

Life insurers also place limitation on their investments which is determined by the tradition and outlook of management. These limitations may be change from time to time.