Is HDFC Life a New Competitor to the Mutual Fund Industry?

HDFC Life Insurance Co Ltd’s recent quarterly results provide valuable insights into the mindset of insurance buyers. It appears that many individuals are increasingly viewing insurance as an investment product rather than a risk-coverage tool. This shift in perspective has led to a significant surge in the sale of unit-linked insurance plans (ULIPs), which are a type of insurance policy that combines life insurance with investment opportunities.

In the first quarter of FY25, HDFC Life’s ULIP sales skyrocketed by 88% year-on-year, reaching a staggering ₹918 crore. This remarkable growth was a key driver of the company’s overall annualised premium equivalent (APE) growth of 23%. Moreover, ULIPs now account for 32% of HDFC Life’s total APE, up from 21% in the same period last year. APE is a crucial metric that measures the sales performance of insurance companies.

While HDFC Life’s APE growth is commendable, the company’s value of new business (VNB) margin has taken a hit. The VNB margin, which gauges the profitability of new insurance policies, fell to 25.1% in Q1FY25 from 26.2% in Q1FY24. Despite this, HDFC Life’s absolute VNB grew by 18% year-on-year to ₹720 crore in Q1FY25.

ULIPs are particularly popular because nearly the entire premium paid is invested, with only a small portion allocated to actual insurance. Over the past five years, most private life insurance companies have witnessed a significant increase in ULIP sales, which now account for 40% of total sales. Several factors contribute to this trend, including the booming stock market, which makes it easier for life insurance companies to market ULIPs. Additionally, ULIPs require a lower capital adequacy ratio and offer attractive asset management fees.

However, there is a flip side to this trend. The insurance portion of a ULIP premium is generally more expensive than a standalone insurance product. Unfortunately, the break-up of the premium is not always transparent, leaving many ULIP buyers unaware of this fact. This lack of transparency could lead to customers being better off buying insurance and mutual funds separately.

The mutual fund industry may face stiff competition from life insurance companies if this trend continues. On the other hand, insurance companies may struggle with squeezed margins once new surrender value guidelines come into effect. Non-participating savings products, which comprise 30% of HDFC Life’s total APE, are particularly vulnerable to these guidelines and could reduce the VNB margin by 100 basis points.

To mitigate these margin pressures, HDFC Life’s management is exploring measures such as reducing agency commissions. The company’s management has reiterated its goal of doubling VNB every four years and growing retail APE faster than the industry. However, if ULIP sales continue to rise, it may be challenging for HDFC Life to meet its VNB goals.

If HDFC Life’s APE doubles by FY28 and its VNB margin remains at 25%, the company’s absolute VNB could also double to ₹7,000 crore. Using the price-to-VNB multiple, HDFC Life’s market capitalisation of about ₹1,37,200 crore discounts the likely economic profit for FY28 VNB by almost 20 times. This valuation is considered pricey. Furthermore, based on HDFC Life’s embedded value of ₹47,470 crore in FY24, the company’s shares quote at a multiple of 2.9x, which is a premium to most of its listed peers.

In conclusion, HDFC Life’s growing ULIP sales and subsequent VNB margin challenges pose a significant threat to the mutual fund industry. As the company continues to grow, it will be essential to monitor its performance and adapt to changing market conditions to maintain its competitive edge.

Historical Context:

The Indian insurance industry has undergone significant changes in recent years, driven by regulatory reforms, increasing awareness about insurance, and the growth of the middle class. The Insurance Regulatory and Development Authority of India (IRDAI) has implemented various measures to promote the growth of the industry, including the introduction of new products and relaxed regulations. The life insurance segment has been a key driver of growth, with private players like HDFC Life, ICICI Prudential, and Bajaj Allianz Life Insurance leading the charge.

In the past, insurance was primarily seen as a risk-coverage tool, but there has been a shift in perspective, with many individuals now viewing insurance as an investment product. This has led to the growth of unit-linked insurance plans (ULIPs), which combine life insurance with investment opportunities.

Summary in Bullet Points:

• HDFC Life’s quarterly results show a significant surge in ULIP sales, with a 88% year-on-year growth in the first quarter of FY25, reaching ₹918 crore. • ULIPs now account for 32% of HDFC Life’s total APE, up from 21% in the same period last year. • The company’s value of new business (VNB) margin has taken a hit, falling to 25.1% in Q1FY25 from 26.2% in Q1FY24. • Despite this, HDFC Life’s absolute VNB grew by 18% year-on-year to ₹720 crore in Q1FY25. • ULIPs are popular due to their investment potential, with nearly the entire premium paid being invested, and attractive asset management fees. • However, the insurance portion of a ULIP premium is generally more expensive than a standalone insurance product, and the break-up of the premium is not always transparent. • The mutual fund industry may face stiff competition from life insurance companies if this trend continues. • HDFC Life’s management is exploring measures to mitigate margin pressures, including reducing agency commissions. • The company’s goal is to double VNB every four years and grow retail APE faster than the industry. • HDFC Life’s valuation is considered pricey, with its market capitalization of about ₹1,37,200 crore discounting the likely economic profit for FY28 VNB by almost 20 times. • The company’s shares quote at a multiple of 2.9x, which is a premium to most of its listed peers.