Thursday, June 12, 2008

Insuring the risk of high inflation

Can people buy insurance against the risk of high inflation?

My answer is "yes". But it cannot be done by commercial insurance companies. It requires a new way of thinking on the role of governments and the free market system.

I shall give my views on this matter within the next few weeks, either in this blog or in

Civil servants and part time jobs

I read a news report that the Malaysian Government now officially allows its civil servants to do part time work to earn a supplemental income to meet the rising cost of living.

There is a risk that the civil servant may abuse their official position for personal advantage. I wonder how they will manage this risk?

But the underlying problem is the need to give higher wages, at a time when the Malaysian Government face a budget constraint.

What is the solution? Can the free market capitalist system find a solution? Financial speculation, which is a key part of this system, appears to be the major source of the problem.

Terminal bonus lead to Equitable Life's failure

Hi Mr Tan,

Guarantees cost more money. Why does terminal bonus (with less guarantees) contributed to the Equitable Life's failure?

1) Penrose report, chapter 14, para 185 and 186 analysed some financial data :

185. In 1983, the investment reserve was approximately 37% of the long-term liabilities. In 1999, it was approximately 17%. Over the period 1986 to 2000 terminal bonus payments increased by more than 14 times. Further from 1983, the mix of reversionary to terminal bonus shifted in favour of terminal bonus.

186. ...the accelerating growth in terminal bonus payments was fairly consistent over time... Had the Society recognised terminal bonus in its statutory accounts and regulatory returns on any basis consistent with PRE, its financial weakness would have been exposed throughout the 1990s.*

This shows that the Equitable was diverting free assets into terminal bonus payments. More importantly, it implies that reversionary bonus that requires prudent reserving (ie setting aside money) for all generations of policyholders is a fairer approach and helps to avoid misappropriation of funds.

2) Lets see what a policyholder had to say ( :

.... throughout the 1990s Equitable declared bonuses well in excess of the value of assets to improve its marketing appeal. In consequence it was paying out departing policyholders in excess of their asset value with money from new investors. This pyramid selling left a hole of some £3bn which all policyholders who did not leave before July 2001 have paid for in savage reductions in policy values...

3) How did Equitable declare bonus in excess of the value of assets? My understanding is as follows :

- management was driven by growth (ie new business)
- terminal bonus is not guaranteed and is more flexible to increase/decrease
- so management started to shift more to terminal bonus, projecting high terminal bonus (to attract customers)
- these bonuses were not sustainable, but the terminal bonus had become a marketing tool (decreasing it will lose market share)
- so management misused the investment reserve, using it to pay high bonuses to maturing policyholders at the expense of younger generations
- management thought that since terminal bonus is not guaranteed, they can always decrease it
- management thought that when the investment market booms, all problems will be solved but investment did not boom
- effectively, they had a ponzi scheme running which did not hold up in the courts

4) How reversionary/annual bonus could have prevented the collapse?

- imposes more discipline, ie set aside provisions for bonus, ensure unsustainable bonus are cut, control new business growth
- fairer way to share profits with all generations of policyholders and not just the maturing/claiming ones

5) Why do different actuaries have different opinions?

Quoting a friend : "the one who pays the piper calls the tune".

Yew Ming

Principal Guaranteed, Principal Protected

Hi Mr. Tan,
Let me explain what I know about the difference since I have held some of these products before:

Principal Guaranteed – The issuer (not necessary the bank selling you the notes) guarantees it. As long as the issuer does not go bankrupt you should be safe. However the issuer of such notes are usually special vehicle companies set up by reputable banks such as Merril Lynch. So the vehicle goes bankrupt the bank itself is not affected. Not sure if that is their intention but I read it as so. But generally I think it is quite safe.

Principal Protected – Usually the issuer takes your money and go purchase a zero coupon bond and so get a discount upfront. It is protected as long as the bond issuer do not default. As I understand it the bonds invested are usually rated A+ and above (does not really mean much as Lehman Brother bonds are also rated A+). The money they get from the original discount is then used to “invest” in a risky way , i.e. options, currency and whatever. Once they have lost all your money thru these risky stuff and taken their fees, then they tell you now you are sitting on a zero coupon bond and waiting the next 5 years with zero payment.

Basically my point is that these products are TOTALLY NOT TRANSPARENT and USUALLY DO NOT EVEN give return of FD over the 5 years. If the investor wants to get that 1-2% more than FD, I suggest they go buy bond themselves and invest the rest. Sorry just my 2 cents....I do get quite passionate about this as I have seen many people suckered into such deals.


Thank you for the explanation. I agree with your explanation.

Wednesday, June 11, 2008

Can you read this?

Only people with minds can read this
This is weird, but interesting!

fi yuo cna raed tihs, yuo hvae a sgtrane mnid too
Cna yuo raed tihs? Olny 55 plepoe out of 100 can.
i cdnuolt blveiee taht I cluod aulaclty uesdnatnrd waht I was rdanieg. The phaonmneal pweor of the hmuan mnid, aoccdrnig to a rscheearch at Cmabrigde Uinervtisy, it dseno't mtaetr in waht oerdr the ltteres in a wrod are, the olny iproamtnt tihng is taht the frsit and lsat ltteer be in the rghit pclae. The rset ca n be a taotl mses and you can sitll raed it whotuit a pboerlm. Tihs is bcuseae the huamn mnid deos not raed ervey lteter by istlef, but the wrod as a wlohe. Azanmig huh? yaeh! and I awlyas tghuhot slpeling was ipmorantt! If you can raed tihs forwrad it.

Another new structured product

Hi Mr Tan,
I received an email about Jubilee Series 8 Notes. In the factsheet, it is stated that principal is 100% protected if held until maturity date. May I know the difference between Capital Protected and Capital Guaranteed? What other risks that I should be made aware of?

I received this reply from the marketing officer:

Good News as the interest rate has been revised from the original 2.7% to currently 3.15%. Its selling out fast. Please call my mobile phone now. Principal protected - there is a condition. You have to hold this note till maturity date of 2.5 years. Principal guaranteed - misleading that its guaranteed at all times under all conditions, even upon early termination. No hidden risks. Only thing is have to hold till maturity to avoid principal loss. Interest rate is guaranteed.


From my reading, "principal protected" means that it is "not guaranteed". So, I do not really understand what "principal protected" really means. Someone explained to me previously that it means "we will do our best to protect your principal, but we do not give any guarantee". I always avoid investments that I do not understand.

I avoid structured financial products. I do not let the issuer of the structured product take away my investment gain through their high charges. My views are explained in this FAQ:

I prefer to invest in Government bonds (low risk, 3% or more), or well rated corporate bonds (4-5%) or shares (high risk, high reward). I pay low cost and get the actual return (commenusrate with risk).

Read this FAQ:

Public Facilities need to be improved

Read my article in The Online Citizen:

Tuesday, June 10, 2008

New Zealand Dollar Deposit

Dear Mr. Tan,
I will like to have some advise from you. Now NZ$ exchange rate is 1.0447 bank rate for deposit in FD. Do you think is it the right time to deposit NZ$ fixed deposit now? Thanks.

I am sorry that this is not my area of expertise. It is difficult to time the market.

I have some of my money on NZD deposit. I think that the current level (which represents a fall from the recent high) should be okay, and the interest rate is above 8% per annum. All the best.

Comment - risk of high terminal bonus

Hello --
It is an excellent point, Mr. Tan.

Obviously, terminal bonuses are higher than annual bonuses. Doing that -- pushing most of the bonuses to the end the policy -- puts the policyholders' fund at risk IF the courts would decide the company cannot simply walk away from its obligation to pay its terminal bonus, as promised.

That is what happened in the case of Equitable Life in UK. Equitable couldn't pay and it went broke.

Are Singapore insurers also at risk?

Well, it depends. In the case of NTUC Income, it gave its assurance at its recent AGM (May 30) that it would not walk away from its terminal bonus. It would pay it.

In a way, that is good for policyholders.

On the other hand, such a statement sounds very much like "an obligation".

Requiring NTUC Income to keep its promises (to meet its obligations) could be expensive for the company.

As mentioned, it was prohibitively expensive for Equitable Life in UK.

Larry Haverkamp

Danger of unfunded terminal bonus

The collapse of Equitable Life in UK was quoted as the reason to restructure the bonus of Income. The consultant recommended that the annual bonus rate was too high and supported the restructure to a lower rate of annual bonus, to be compensated by a higher rate of terminal bonus.

Tan Yew Ming, a local actuary, studied the report on the collapse of Equitable Life. He found that the problem of Equitable Life was the high rate of terminal bonus promised to policyholders that were not reserved.

When the court decided that Equitable Life had to pay the terminal bonus, Equitable Life faced financial difficulties and had to cease transacting new business. This concluson was also reported by BBC in a commentary.

If Equitable Life had declared a higher rate of annual bonus, they are required to set aside reserve for the bonus. This would have given them a stronger financial position.

I hope that Income will study this matter carefully and avoid the risk faced by Equitable Life, i.e. promise high terminal bonus rates that are not funded.

Heavy burden of debts

A few young people have approached me for help to solve their heavy burden of debts. They owed $20,000 or more, on credit card and other borrowings. They are not able to repay the debts.

I advised them to consult this organisation: Credit Counselling Singapore

Some of the debtors told me that they had already tried this channel, but the assistance was limited.

I wish to share this advice with many year people. Avoid borrowing on credit cards or other sources. Save now and spend later. You can lend the past savings to yourself in the future, and save on 24% interest.

Read this FAQ:

Lessons from Equitable Life - high terminal bonus

An article appeared in the Straits Times: 'Salutary bonus lessons from the UK'

Tan Yew Ming studied the detailed report by Lord Penrose, who headed a comprehensive investigation into the reasons for Equitable’s debacle. This report can be found at :

Here are the key Below are key extracts from Part 7 (conclusions and lessons) of the report, regarding the bonus policy of Equitable Life:

38 ... from the early 1980s the Board’s bonus policy became increasingly driven by the pursuit of growth in new business...
45 ... the Society maintained a bonus record that enabled it to achieve consistent growth in new business premium income, ... growth could not have been achieved without the support of a bonus allocation and distribution policy that produced high policy values and high policy proceeds.
49 ... The Society followed the general view that terminal bonus was not guaranteed and did not have to be provided for in mathematical reserves or technical provisions.... By disregarding accrued terminal bonus, the Society was able to over-allocate bonus beyond its available assets at market value, and in particular to make payments on claims that exceeded the relative available assets at the time.
80 ... The failure to cover future terminal bonus by the retention of funds, given the expectations generated by representations, and by the Society’s sustained practice of paying such bonuses on maturities and other claims, contributed significantly to its ultimate weakness...
95 ... It is appropriate to comment in the first place on bonus policy.... Having adopted a rational approach to bonus distribution policy in 1973 that involved prudent reserving for future reversionary bonuses and related terminal bonus to sums standing at credit of investment reserve, the Board as constituted over the material period began progressively to reduce the reserves held for future reversionary bonuses from 1983 until that aspect of the previous reserving policy was abandoned entirely in 1985. In and after 1983 the amount allotted as terminal, later final, bonus was progressively increased.

240 ... The following may be regarded as the key conclusions arising from this report:

(3) The Society adopted a policy whereby unguaranteed terminal or final bonus became an increasing proportion of total allocations. This was in line with industry trends, but had the intended effect of reducing over time the share of benefits which required to be reserved for or recognised as liabilities in the Society’s statutory accounts and regulatory returns.

(4) As a consequence of this shift towards terminal bonus, and in the absence of any coherent or consistently applied smoothing policy, the Society began to over-allocate from the late 1980s onwards, with the effect that the realistic financial position (as reported regularly on internal systems and therefore known to the executive management) was progressively weakened, and policy claims progressively withdrew funds in excess of prudently calculated policy values. By the end of 2000, the position reached could only be dealt with by radical re-alignment of policy values, as happened in July 2001...

Here is my understanding from the Penrose’s report:

- Equitable wanted to pursue new business growth and high bonuses was used attract customers.
- Reversionary/annual bonuses require prudent reserving as opposed to Terminal/special bonuses. Since they are at the full discretion of the company, not guaranteed nor reserved, Terminal/Special bonus was an ideal “strategy” for Equitable’s management to promise high returns (to attract new customers).
- Over the years, Equitable shifted from the prudent reversionary bonus to the obscure terminal bonus, effectively setting up a Ponzi scheme to payout high bonuses at the expense of other customers.
- The actuary also adopted dubious valuation methods to release unearned profits to support the bonuses.
- Eventually all Ponzi schemes collapse.

To grow, all businesses need capital. Capital is scarce, ie limited. How to get capital besides asking from stakeholders (ie shareholders and policyholders)? More fundamentally, is growth at the expense of current stakeholders?

Yew Ming

Monday, June 09, 2008

Money Market Fund - drop in price

Dear Mr. Tan,
I deposited $300,000 in their Money Market Fund. It generated about 3% interest at the end of the first year (2007). But this year the MMF is not doing well. For the first time, the units bid price went down from 1.088 to 1.087. I am not sure whether I should continue to leave my money in the Fund or should I look elsewhere to park my cash. What's the next best alternative that could preserve my capital sum and give me reasonable amount of interest.

As I am depending on this saving for my old age, I can't afford to make a wrong decision. As I can't afford to pay for professional advice, I hope you could kindly help me.

I suggest that you talk to the insurance company and ask for their explanation. I suspect that the drop in the price of MMF is due to the recent increase in interest rate. The existing investments are locked in at the old yield. When interest rate increase, the bonds have a small drop in price.

The good news is that the future yield should be higher, say 2.5% or 3% (compared to 2% previously). In the absence of other better alternatives, it is all right to keep invested in the MMF.

Cash value on education policy

Dear Mr. Tan
My child's education policy matured lately. However, the increase in cash value is lower than the previous three years. I though that the value should increase more, according to the duration.

Below are the cash values:

Year Cash value Increase
2005 $37,956
2006 $44,734 $6,778
2007 $49,461 $4,727
2008 $52,397 $2,936 (maturity)

Is the maturity amount applied to everyone in the same age group and sum insured? In 2003, the insurance company send a letter stating that the estimated maturity amount is higher than the $52,397.

I suggest that you write to ask the insurance company. Their actuary should be able to give you an explanation.

Personal savings to supplement our CPF

Are you saving enough for your retirement? Is CPF sufficient? If not, what can you do about supplementing CPF?

Read the tips in this article:

Personal accident insurance

If you need a large amount of insurance protection, say $500,000, and have a limited budget, you can consider a personal accident insurance. It may not cover sickness, but the big risk for most young peopls is accident.

Read this FAQ:

Investing in Foreign Currency Deposits

Here are some tips. Read this FAQ:

Sunday, June 08, 2008

POEMS (Phillips Securities)

Someone asked me how to access the foreign currency rates offered by Phillips Securities.

You have to register as a subscriber to their online portal, POEMS. You can get the foreign currenct rates from the tab, FOREX/GOLD, FX/INVEST.

There may be an easier way. You can call Phillips Securities and ask them how you can use this service.

Tips for Seniors on Investments

Many seniors ask for my advice on how to invest their savings.

I wish to give you two tips, set out in the following FAQs. You have to read them and see which is more appropriate for your situation.

> Financial Planning for Seniors:

> Investing Savings at 60:

Financial Speculators

There is a growing body of opinion that financial speculators are the major cause of the large increase in oil and commodity prices. These new financial bubbles will burst one day. In the meantime, the speculators make a lot of money and the ordinary people have to pay for their greed, through the high inflation and cost of living. The capitalist, free market system is falling apart. It will not stay long in this manner.

Life insurance up to age 65

Should you buy term insurance up to age 65 or whole life insurance?

The best plan is a decresing term plan, ceasing at age 65 or covering 25 years only. You do not need life insurance after age 65, as you are likely to have retired from work, and there is no lost income to be covered.

Read this FAQ:

Here are the benchmark premium rates:

Blog Archive