A Harvard Business School study shows that LIC agents have an incentive to recommend more expensive and less suitable products to consumers. This especially hurts “low and medium income households (which) tend to trust the government insurance companies more than private sector firms”
Do life insurance agents recommend a high-commission product, which is against the interests of their clients? This has been the suspicion all along. And now a Harvard Business School study titled “Understanding the Advice of Commissions-Motivated Agents: Evidence from the Indian Life Insurance Market” by Santosh Anagol, Shawn Cole and Shayak Sarkar, confirms this.
The researchers sent trained auditors into the field posing as customers seeking insurance and then analysed the advice they received. The auditors’ meetings with agents revolved around life insurance, specifically two types of policies: term and whole life. The study found that agents from Life Insurance Corporation of India (LIC) are less likely to recommend a term insurance plan, when it is known that in many cases term plans are the best form of life insurance. The study suggests that the government-owned organisation does not encourage its sales agents to provide better advice and that government ownership does not appear to solve the problem of unsuitable advice.
Interestingly, the study says that consumers who signal sophistication by demonstrating some knowledge of insurance products get better advice. This result suggests that the worst educated consumer may suffer most from commission-driven sales behaviour. In short, the masses, who have a blind belief in LIC, equating it with government, are doomed to suffer the most.
According to the study, “Anecdotal evidence suggests that low and medium income households tend to trust the government insurance companies more than private sector firms, and the government firm might take advantage of this additional trust by pushing less suitable products. Another possibility is that agents employed by government firms are less knowledgeable about term insurance.”
But, its not just LIC agents that are to be blamed. Agents overwhelmingly recommend unsuitable products, which provide high commissions to the agent. The study says, “Agents cater to the beliefs of un-informed consumers, even when those beliefs are wrong. Salesmen are unlikely to impart neutrality to customers even if they have strong initial preferences for products that may be unsuitable for them. In case of sophisticated consumers, agents recommend term policies on top of whole life insurance policies without substantially changing premium payments, as opposed to bringing fairness to the customer and recommending only term insurance policies.” In short, the amount of premium matters to agents as it solely determines the commission they earn at the end of the day.
According to the study, “Market discipline does generate neutrality; with agents perceiving greater competition they are more likely to recommend a suitable product.” Based on an experiment, the study concluded that increasing the apparent level of competition does lead to the agent attempting to bring fairness to the customer by offering term insurance. It also suggests that encouraging customers to shop around when looking for consumer financial products may be a simple way to improve the quality of advice provided by agents. While it is always desirable for customers to ask questions and shop around, Moneylife believes that competition, availability of more information does not necessarily mean better selection because of the similar behaviour by producers and distributors and also behavioural flaws of consumers.
The study concludes that “There is strong evidence that commissions-motivated agents provide unsuitable advice. Agents recommend strictly dominated, expensive products, 60%-90% of the time. Consumers who stated that they had an understanding of insurance products were 10 percentage points more likely to receive a recommendation that included term insurance.” The study found that agents gave correct advice in only 9% of the time; in the other 91% they recommend investment-linked products that are dramatically more expensive.
In the second part of the article we will give more information on insurance company and agents’ behaviour.
Two of these three banks are from Switzerland and one is from the UK. SEBI suspects that some portfolio managers at these banks could have helped their Indian clients to route their money back into India in disguise of foreign funds
Market regulator Securities and Exchange Board of India (SEBI) is probing at least three large European banks for dealings with Indian companies and individuals in alleged round tripping of funds by using certain multi-layered transactions in violation of the norms.
According to reports, two of these three banks are from Switzerland and one is from the UK, and they might not be involved directly and it could be the case that their employees were dealing with the clients directly without keeping the banks in the loop.
SEBI suspects that some portfolio managers at these banks, which have significant presence in Indian financial markets, could have helped their Indian clients to route their money back into India in disguise of foreign funds via investment vehicles across various jurisdictions.
The regulator fears that some promoters might also have been involved in such practices to boost share prices of their companies by showing a strong interest from foreign institutional investor (FII).
SEBI is coordinating with other regulators and agencies in India and abroad as part of investigations into this case, where some well-known companies and industrialists are also suspected to be involved.
Still, the banks could face action on the negligence ground if allegations of wrongdoing come true, a senior official said, while refusing to divulge the identity of the banks and their Indian clients.
Among others, SEBI is looking into the possible use of protected cell companies from places like Mauritius, British Virgin Islands, Cayman Islands and Seychelles for alleged round tripping of funds back into the capital market in the form of foreign institutional investors and overseas venture capital money. (SEBI fears round-tripping through overseas cell companies)
In 2010, SEBI had barred protected cell companies (PCCs) to invest in Indian markets through the FII route after it came across instances where certain Indians had used these entities to route their money back into markets as FII funds.
However, the regulator fears that funds structured as PCCs, which are legal entities in many jurisdictions, might be looking at a re-entry into Indian markets through routes like Foreign Venture Capital Funds and other avenues for the purpose of round tripping of funds.
PCCs are specially designed entities that might comprise various cells, having funds of various investors, in such a manner that there is legal segregation and protection of assets and liabilities for each cell.
In addition, the insolvency of one cell does not affect the business of the entire PCC or that of the other cells.
Besides tax-related benefits for being considered as a single entity despite having various cells, foreign banks have also been found in the past of hard selling these schemes to their wealthy clients for reasons like protection of identity.
Earlier in March, The Reserve Bank of India (RBI) has said that it would take further action against HSBC, based on the observations made during its Annual Financial Inspection (AFI) for 2012. The lender, is under the RBI scanner for alleged violations of money-laundering and know your customer (KYC) norms.
Last year, the RBI started scrutinising anti-money laundering (AML) and KYC systems of Standard Chartered and HSBC. Besides, the Financial Intelligence Unit-India (FIU-IND) had also initiated a fact-finding exercise related to HSBC’s operations in India and its compliance to AML and counter financing of terrorism (CFT) regime.
The RBI was also seeking details from British financial sector regulator Financial Services Authority (FSA) about the two UK-based global banking giants, which have a significant presence in India and whose outsourcing of key oversight jobs to India had come under the US scanner in separate probes related to issues like money laundering and terror financing.
Last year, the Income-Tax (I-T) department probing the secret list of account holders in the Geneva branch of HSBC Bank, had approached Swiss revenue authorities for banking data of certain individuals after investigations showed some of them reportedly had other accounts under fictitious names.
India had obtained data of over 700 HSBC accounts from the French government channels last year.
Earlier, in July 2012, the US Senate's Permanent Sub-committee on Investigations said HSBC was found to be doing business with Al Rajhi Bank, whose key founder was an early financial benefactor of al Qaeda, and also have provided US dollars and services to some banks in Saudi Arabia and Bangladesh despite their links to terrorist financing.
The bank had also been accused of indulging in various questionable transactions with entities from countries like Mexico, Iran, North Korea, Saudi Arabia, Bangladesh, Syria, Cuba, Sudan, Burma, Cayman Islands, Japan and Russia.
After the report, HSBC paid a fine of $28 million to Mexican authorities for non-compliance with money laundering controls. The money-laundering issue stemmed from HSBC’s acquisition of Mexican company Grupo Financiero Bital in 2002.