A Closer Look at VULs: Philam Life's Family Secure (Part 1)

DEAR INVESTOR JUAN

Dear Investor Juan,

Last night, my aunt (a Philam Life agent) just offered me their latest VUL offering, the Family Secure. I don't know if you're aware of this but let me show you these links for some info:

http://www.youtube.com/watch?v=4U7-GTWyj4k
http://www.philamlife.com/en/individuals/products-and-services/protection/unit-linked-protection/

I read that you are against this type of insurance. But I'm quite convinced by this Family Secure due to its flexibility to turn insurance into investments as we (the parent's-to-be) retire. I don't have a family yet ('cause I'm still 23!).

Maybe I just find it hard to look on the other side of the fence. In your opinion, is this worth a take? Or find an affordable term life insurance and invest in other things?

By the way, I want to take the ETF. It interests me more than of UITF. Thanks!

Azeotrope


Dear Azeotrope,

As I briefly discussed in this post about life insurance, the most important drawback of varaible life insurance products is cost: that you can get the same results for cheaper if you just get a low-cost term life policy and investment fund (i.e., mutual fund or UITF). That said, I haven't been able to show how this works, exactly, given the lack of actual information about specific products. That is why I would like to thank you for giving us this opportunity to better understand hybrid insurance-investment products like Philam Life's Family Secure.

For this "desktop analysis," we will use the information and assumptions on Family Secure's brochure and a few things we've learned about time value of money from previous posts (like this one).

So how does Family Secure work? You, the policy holder, pay a premium every year; each year, your premium is allocated between a term life insurance policy and your choice of investment fund (from Philam's mutual fund offerings), depending on your "need." Presumably, when you're younger, you need more life insurance since your dependents have more need of your earning power, so you pay more for higher insurance coverage and only a small portion of your premiums will go to the investment fund. As you get older, this dependence would decrease (as your children grow up and start their own families, for example) and you would need less insurance, therefore you can start investing a bigger portion of your premiums in the investment fund.

Taking a look at this graphic from the brochure, we see how premiums are allocated between the life insurance component and the investment component over the course of the policy holder's coverage. The gray areas indicate Philam Life's proposed life insurance coverage (the policy holder makes the actual decision), high from age 30 to around 50. From age 50 onwards, the part of the premium that goes to life insurance significantly decreases in favor of the investment component, whose value (at an assumed return of 8% per year) is represented by the red area. While Philam Life has actually done a good job clearly making a distinction between the two components of products in this graphic, they have also--perhaps inadvertently but definitely irresponsibly--misled readers that the amount of life insurance coverage and the value of the investment are comparable--in other words, that a peso of life insurance coverage is the same as a peso in the investment account (the graphic clearly implies that the differences in the heights of the bars mean something; another indication is how a red area is stacked on top of a gray area). This is not the case! The value of a life insurance coverage is the amount the policy holder pays for it, not the coverage amount: from the graphic, the insurance coverage of 3,135,000 pesos at age 30, only for that entire year, is worth 30,000 pesos--the premium for that year--and not 3,135,000 pesos! On the other hand, at age 65, the investment value of 2,507,062 pesos is worth exactly that (in that year): 2,507,062!

So how should have Philam Life presented this graphic so that casual readers will not make erroneous conclusions? First, they should not have stacked the investment value on top of the life insurance coverage amount anywhere in the graph. And second, they should have included a separate, clearly defined axis for the investment value on the right.

And in my opinion, they should fire whoever's responsible for this. This is very embarrassing, an amateurish mistake (?) for a company that's as big and established as Philamlife. It would make for a very good example in Statistics class, though, on how not to use graphs in presenting data; or maybe how to effectively misrepresent data?

Sorry, Azeotrope, this... discussion... went on for longer than I had hoped. I know I haven't answered a lot of your questions yet. Unfortunately, my answers would have to wait for Part 2 next week, where I will show things that we can learn about variable life insurance from the Family Secure brochure and discuss some questions that you can ask your aunt about this product.

Have a happy weekend everyone!

Short Answers to Unanswered Questions: Wealth Management, 10% Annual Returns, and Compound Interest

DEAR INVESTOR JUAN

Dear Investor Juan,

I want to have a customized portfolio of stocks and bonds but i want BPI or BDO to manage it. I saw it in their website and the minimum is 1M php. I want to invest in PSE blue chips usually with dividends: PLDT, Meralco, Manila Water, Metro Pacific, DMCI, EDC, JG Summit, Ayala Corporation, SM, and SMC, and then the rest in bonds. Same as what Mark Cuban did here "Over the next year I stuck to my plan. I trusted Raleigh, and he put me in bonds, dividend-paying utilities and blue chips, just as I asked.".  

My goal is to keep invested forever and have semi annual payouts. What are you thoughts?

Regards,

Ethan


Dear Ethan,

I think it is a sound plan (although I think getting an equity UITF would more or less have the same results, cost more or less the same, but with less hassle), and I do tend to agree with a lot of things that Mark Cuban has to say about investing and money management (e.g., Ten Questions for Mark Cuban). And in having this plan, you have the right idea about wealth management services: that the most it can do for you is keep you updated with the latest investment products and execute your orders hassle-free--but ultimately you make the decisions yourself.

I actually have just finished opening such an account, but with RCBC. And I was able to do it from here in Hong Kong. I think it's a good way to manage one's investments, especially for Filipinos based abroad who want to invest in the Philippines. I'm planning to write about my experience before the year ends, hopefully. I hope you can share your experience with us as well. Good luck!

***

Dear Investor Juan,

I have read and understood how compound interest works, but I'm wondering where I can invest my money that is compounded yearly at 10%.

I have also read about mutual funds, but I don't think compound interest is applicable to this kind of investment.

I hope you can shed some light on the matter.

Thank you.

Jay


Dear Jay,

There's no such thing as earning 10% per year consistently and persistently--investments don't work that way. For example, stocks (i.e., the PSEi/composite index) has only yielded around 5.3% per year since 1995 (using the BPI equity UITF as a proxy), which is barely enough to cover inflation. Maybe 10 or 20 years ago one can earn close to 10% per year from bonds, but given today's low interest rate climate, those days are long gone. The only people I know who had enough gall to offer such returns have already pocketed the money of investors and closed shop. So if someone promises you 10% per year for certain, hold on to your cash, turn around, and run away--run away fast.

In my opinion, the only way to earn 10% or more (or even way more) is by going into business. But that takes more than just having capital--a lot more.

About compounding, it actually works with most kinds of investments--even mutual funds and UITFs. Remember, compound interest is just additional interest earned on interest, so as long as you keep your earnings (through higher NAVPUs) in the fund, your returns will be compounded.

ETF Updates

IN THE NEWS from Inquirer.net

It seems that we are now closer to finally having the first exchange-traded funds (ETFs) in the country, with the PSE eyeing a launch before before the end of the year. Perhaps not surprisingly, financial heavyweights BPI and BDO are eyeing to be among the first to offer this mutual fund and UITF alternative.

If you want to learn more about ETFs in the Philippines, you might want to check out this draft of rules and regulations that cover the funds. Of particular interest are the requirements to ensure the transparency of the funds (under Section 22); how I wish we had the same transparency rules for mutual funds and UITFs.

Many thanks to readers Anonymous and Daniel for the heads up.

Short Answers to Unanswered Questions: Forex, VULs, and UITFs

DEAR INVESTOR JUAN

I've had a very busy past couple of weeks, so now I find myself with more than a handful of unanswered emails and comments from some of you. I will thus dedicate the next couple of posts to respond to these in a short but hopefully still-adequate manner.

***

Dear Investor Juan,

I would like to know your thoughts about Forex Trading. Is this a good investment? I only know very little about Forex. A friend of mine who works in Singapore said she has an officemate who earns a lot from Forex. Others also said it's faster to earn in here. 

I also don't know of any Forex Trading company in the Philippines. The thought of having to transact a foreign company with no office in the Philippines over the internet makes me have second thoughts about Forex trading. 

Can you enlighten me please? Thank you.

Neil


Dear Neil,

Like you, I also know very little about forex or currency trading. What I do know is that it's just like any kind of speculative investment: "traders" or investors buy and sell particular currencies based on their expectations for the future prices of these currencies.

As I've said several times in this blog, I strongly advise against forex trading and most other speculative investments mainly because expectations about future prices tend to be based on hunches, gut feel, and luck and there is very little emphasis on fundamentals. And of course you'll hear more success stories than failed forex trades: who in his or her right mind would brag about a losing trade, right? So yeah, stay away from forex trading, especially since you admitted at the very beginning that you know very little about it.

***

Dear Investor Juan,

I have just started reading your blog and I may I just say how enlightening it is to read about savings and investments for a change. I am not really the saver type, more like the spender, but circumstances have changed and now I find the need to save more money. What changed? My husband and I now have a baby and now I find myself thinking about my baby and her future more than anything else. Soooo, having said that, I need your opinion on how and where we can invest to maximize our resources.

To start, we already have an emergency fund. In addition to this, my husband and I both have Sunlife Maxilink Balanced Fund (got it 2 years ago), and term life insurances. Now we have extra cash which we want to invest in. At first we were decided on getting another VUL from Sunlife but after being enlightened by your blog, I see the need to diversify and probably venture into Mutual Funds. But before that, what is the difference between VULs and MFs, except that the former has life insurance tied on it? If I invest the same amount for the same period of time, would I get the same return? Which one has more value for money?

I would really appreciate your advice and let me thank you in advance for all of your help.

Looking forward,
Khristine


Dear Khristine,

Congratulations on the baby! And for being more financially responsible now, that's a very big first step. :)

In a nutshell, a VUL is a combination of a mutual fund and straight insurance; it may seem that you're getting one or the other for free, but you're really paying for both. Another reason why it's attractive to investors is because it seems that contributions are not "lost," unlike with term life insurance where premiums are considered spent when the policy expires. But really, you would get the same effect--and pay even lower fees-- if you just get a vanilla mutual fund or UITF and a cheap term life policy. You might want to check out my past post about life insurance for more details.

***

Dear Investor Juan,

Chanced upon your blog, been browsing the net to know more about UITFs and mutual funds. Thank you for sharing, you have very informative posts :) Now I am very much keen to apply for an investment plan. By the way, regarding UITF, can I redeem anytime after the holding period?

Thanks,
Anne


Dear Anne,

You can redeem units any time after and even before the minimum holding period, actually. The only difference is that you'll be charged with an early redemption fee if you redeem before. So if liquidity is a big factor for you, you might want to consider the redemption fee and the minimum holding period in choosing a UITF.

Armed Forces and Police Savings and Loan Association, Inc. (AFPSLAI)

DEAR INVESTOR JUAN

Dear Investor Juan,

Thanks for the insights on investment.  Actually, my wife and I are eager to invest with minimal investment.  I am having an AFPSLAI account which bears an annual interest of 18% which shall we say is good.  My question is, is it stable? Will it last for like 20-30 years? What’s your outlook on that.  We also invest in real properties pero paunti unti lng naman.

Now going back to investment, personally which do you prefer to invest in UITFs? BPI or BDO? Hopefully, by next week we can start investing in UITFs with your backing.

Thanks in advance.

Rian


Dear Rian,

Thanks for this opportunity to introduce our readers to AFPSLAI and its high-return deposit product. I think the 18% interest is justifiable since membership is very limited and the institution can earn more than that from loans and other services. Also, we have to remember that this is a savings and loan association and not a bank, so it's not covered by the same restrictive regulations and returns are not really comparable. In my opinion, the biggest risk with this institution is mismanagement, but since deposits are covered by PDIC, you should be fine as long as you maintain a deposit balance of 500,000 pesos or below.

Regarding other investments, I suggest you maximize your deposit with AFPSLAI (i.e., up to 500,000) before you invest in other instruments. In choosing between BPI and BDO, you can compare fees and/or
historical performance as I outlined in this post.

I hope I was able to answer your questions. Good luck!

Upcoming Bond Issues

IN THE NEWS

The country's leading corporations continue to take advantage of the country's improved credit rating and lower borrowing rates.

Ayala Corporation 7-Year Fixed-Rate Bonds

The minimum purchase is 50,000 pesos, and additional amounts in multiples of 10,000. The bonds are callable up to the fourth year of issue (I briefly discussed the callable feature here). There are no pricing details yet, but currently 7-year corporate bonds yield around 6% per year, gross of taxes.

SM Investments Corporation 7- and 10-Year US Dollar Bonds

SMIC is targeting a yield of 4.625% for the seven-year dollar bond. While lower than comparable peso bonds, this is a good alternative to US dollar deposits for those who want to keep their funds in US dollars.

Investing 1 Million Pesos: Keeping it Simple

DEAR INVESTOR JUAN

Dear Investor Juan,

I am a seaman, 37 years old and I've saved a lot for my 13 months "on board ship" amounting to one million pesos. Before my money runs out due to mismanagement and invest in other means I seek your financial advice and correct me if I'm wrong to the things I planned to do when returned home in the Philippines by 1st week of October. Actually, I made research on investment on different vehicles available in our country, I read a lot of sites giving emphasis on how to start making an investment until I searched your very informative blogs regarding this matter.

By the way, if you ask me about my profile as an investor I can say that I can take any risk and can afford whatever to lose, in fact an aggressive type seeking for high returns with high risk. My financial objectives are for retirement, college funding and accumulate enough money for my financial freedom, which all goes with long-term investment. Since this is my very first time to make investment like these and I don't aware that they really exist thus lacking my know-how until I realized if ever I started as early as received my first green bucks I can somehow say I've owned a lot nowadays.

The following are my planned investment with this 1 million.

100,000 FAMI Equity fund
25,000   FAMI Balance fund
25,000   FAMI Fixed Income
25,000  Sunlife Equity Fund
25,000  Sunlife Balanced fund
25,000  Sunlife Bond fund
25,000  Sunlife Money market
50,000  BDO Equity
10,000   BDO Bond fund
10,000   Money market
80,000  Philam strategic fund
100,000 MBTC TD (additional)
50,000  SMC preferred shares (if available till October)
250,000 Downpayment to avail BPI autoloan promo
30,000   Starter fund to open BPI online for stock market to learn the market
160,000 Budget/emergency fund
10,000  Fees when I attend seminars on this investment

One thing more also, I will receive 5,000 USD leave pay which I planned to invest in MBTC dollar fund which please advice.

Sincerely Yours,
Marcelo


Dear Marcelo,

Congratulations! 1 million pesos is a very good amount to start investing with. Now let's take a look at your plan.

You have 1 million pesos and 5,000 USD at your disposal or a total of around 1.2 million pesos. First, the car loan and the emergency fund are not really investments. Second, paying 10,000 pesos for investment training is, in my opinion, a waste of money; the only ones who earn for sure from such seminars are those who organize them. If you want to learn the fundamentals read articles online (such as what we have here) or books by reputable authors. Lastly, if you feel that you need to attend a seminar before you can trade stocks, then you're better off investing in mutual funds or UITFs instead of picking stocks. All that leaves us with 790,000 pesos of "investable" funds.

You have allocated a bulk of this amount to the different kinds of UITFs offered by different banks and in doing so, perhaps you were trying to manage risk through diversification. I see three problems with this strategy. One, you're not really diversifying when you invest in the same kind of fund (e.g., equity) offered by different banks; even if there are differences in the fees and the compositions of these funds, you'll see (from this website or Bloomberg, for example) that they more-or-less move in step with each another, so risk is not significantly reduced. Two, since there's no real advantage in doing it, the additional hassle of having accounts in different banks and monitoring different NAVPUs is not worth it. And third, you're missing out on some returns by not concentrating on the best performing fund in every class.

In allocating your funds, you have basically chosen three asset classes: equities, bonds, and cash/cash equivalents (such as time deposits and money market funds). Based on your allocation (let's assume that the 10,000 freed up from training will go to cash and that balanced funds are a 50/50 mix of bonds and equities, and let's treat the SMC preferred shares as bonds), your implied asset mix is 30% equities, 20% bonds, and 50% cash and cash equivalents. I'm not sure how you actually allocated your funds, but at first glance I actually agree with the mix (if you want a more precise and objective allocation, you might want to use this method to allocate between equities and bonds, and subjectively adjust the amount invested in cash and cash equivalents based on your risk aversion).

So let's say you want to maintain this mix. I suggest you get historical prices of the funds that you're interested in and compute for the Sharpe Ratio of each fund. Then for each fund type, choose the mutual fund or UITF with the highest ratio. The three funds that you're left with (one equity fund, one bond fund, and one money market fund) are all you should invest in, using the 30/20/50 mix you indirectly chose or whatever mix you think is appropriate. This portfolio will now be diversified across asset classes, be more manageable, and offer a bigger bang for your buck.

I hope you find this helpful. Good luck!