For those who want life protection and the opportunity for higher returns, ‘Unit Linked Insurance’ or Unit Link may be the answer. However, due to the risk involved in this type of insurance, many hesitate and are still determining how to proceed with their purchase. Today, we have factors to consider when buying Unit Linked Insurance and how to diversify the risk of mutual funds to share with you.
First, we would like to introduce you to the benefits of Unit-linked insurance. This is for those unfamiliar with it and may be interested in it.
Benefits of Unit-linked insurance
Flexibility for Policyholders
Unit-linked insurance allows for adjusting life insurance coverage to align with the needs of people in different stages of life. Typically, insurance companies allow for reducing coverage according to decreasing protection needs as one age, accumulates more assets, or has fewer financial responsibilities. It is possible to stop paying premiums while the protection continues if enough accumulated investment funds cover them.
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Transparency of the Policy
Unit-linked insurance shows various expenses incurred in life insurance, such as the cost of life insurance coverage, policy maintenance fees, and investment expenses, including the policy administration fees. Therefore, there is no need to worry that the investment value will be approximately half of the premiums paid at the end of the first year. This does not mean that the investment has a negative return of 50%, but it is deducting the high initial expenses, similar to other insurance policies. The policy’s expense calculation transparency is only observed in Unit-linked insurance.
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Higher Return Opportunities for the Policy's Cash Value
Various expenses are deducted like other life insurance policies before calculating the cash value. The remaining amount is then used to determine the returns. With investment-linked or whole-life policies, the returns are specified clearly in the contract, indicating how much money will be returned. There are regulations by the Office of the Insurance Commission (OIC) to control and oversee the investment portfolio of life insurance companies to prevent excessive risk-taking.
After seeing the benefits and advantages of Unit-linked insurance, we should consider factors when purchasing this type of insurance for those interested.
Factors to consider when buying Unit-linked insurance
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Risk protection needs
We need to consider how much insurance capital is suitable for assessing how the premiums paid will be divided into what proportion for life insurance and what proportion for investment. We should also consider including additional health insurance coverage, such as hospitalisation, treatment, or compensation for severe illnesses.
Risk-taking ability
Our investment portfolio should have risk diversification that aligns with our risk-taking ability. The policy’s cash value will depend on the returns from the investment portfolio, and the cash value will fluctuate based on the investment portfolio’s performance.
Investment objectives
We can choose investment assets and allocation proportions that align with our investment objectives.
Investment time horizon
We may hold the policy until the end of the contract term or surrender its cash value before the contract is completed. Therefore, the investment time horizon should be adjusted to align with the appropriate investment proportions.
After considering the factors to consider when purchasing Unit-linked insurance, let’s consider risk diversification if we choose investment-linked life insurance.
Life insurance with investment can choose to invest in mutual funds selected by the company. Even though the risk of those mutual funds may not be significant, we can still switch funds at any time based on changing investment perspectives that vary with economic conditions to manage risk more effectively as follows:
Full Recession
This period is considered the lowest point of the economy, a period of economic weakness where economic growth slows down. Interest rates and inflation rates are low, while the stock market is in a downward trend with volatility. Most investors are hesitant to invest fully during this time.
Therefore, during this period, we should choose to invest in mutual funds with low risk, such as 'Fixed Income Funds,' because they have a moderate to low level of risk and still have the opportunity to receive returns from the prices of debt securities adjusted upwards due to the decreased interest rates. Interest rates and the value of debt securities have inverse characteristics, so when interest rates decline, the value of debt securities increases.
We should invest in mutual funds with an average duration of short-term securities (Duration) of approximately 1 - 3 years. If we choose funds that invest in long-term debt securities, the fund may have a negative impact when interest rates rise and incur losses.
Recovery Phase
This phase marks when the economy begins to recover and has passed its lowest point. Economic indicators start to show improvement in succession. Interest rates are likely to increase, spending and investment are increasing, and the stock market is becoming more active.
Therefore, investing in a balanced fund is advisable to increase the chances of higher returns during this period. A balanced fund allocates investments between stocks and other securities, such as bonds, with stocks comprising at least 35% but not exceeding 65% of the investment units. This helps to increase the likelihood of receiving higher returns or profits.
However, it is essential to note that balanced funds are considered moderately high-risk. Still, they have set investment ratios between stocks and other securities to help reduce the risk.
Economic Recovery Phase
This phase is a period of economic recovery. Economic indicators are at their highest point, with various companies’ continuous good performance. Due to higher spending, inflation rates are increasing, and interest rates are adjusting upwards. At the same time, the stock market is in an upward trend, offering the potential for good returns.
Therefore, during this period, we should consider investing in high-risk mutual funds such as 'Equity Funds' or 'Equity Securities Funds' that can provide high returns.
Equity funds focus on investing in various types of equity securities, such as common stocks, preference shares, warrants, and units of the fund. At least 65% of the equity fund’s net asset value (NAV) must be invested in equity securities. While these funds carry high risks, they also offer the potential for growth and good returns.
Economic Downturn Period
During this period, economic growth declined, but inflation remained high. Interest rates continue to rise steadily to a high level. The stock market can be considered a period of opportunity to buy at the lowest point.
Therefore, during this period, we should consider investing in low-risk mutual funds such as the 'Money Market Fund' to focus on preserving capital and reducing the risk of loss. This type of mutual fund invests in deposits and short-term debt securities with maturities ranging from 3 to 6 months but not exceeding one year, resulting in low risk and minimal price fluctuations. It is suitable for short-term investments when the stock market is performing poorly, on a downward trend, and the returns are expected to be low.
Furthermore, this mutual fund offers high liquidity, making it a better option than depositing money in banks during an economic downturn.
However, although we choose diversified risk mutual funds, risks can still occur. Therefore, we should be cautious and monitor news for any changes in the mutual funds we have invested in, ensuring that our investment decisions are not solely focused on making a profit. Also, consider the amount of life protection coverage we need before purchasing.