Thursday, August 11, 2011

Reduction in yield

If you invest in a unit trust, look for one with an expense ratio of not more than 1%. If you buy a life insurance policy, look for one where the reduction in yield (similar to the expense ratio) is not more than 1.5%. The additional 0.5% is for the cost of life insurance protection.

Most life insurance policies have a reduction in yield of 3% to 4%. This eats into the return that should be given to the policyholder. A reduction of 3.5%, compared to a benchmark of 1.5%, means that one-third of the maturity value is taken away.

I wish to explain the reduction in yield. You can take the projected maturity or cash value of the policy at the end of (say) 25 years and the annual premium to calculate the actual yield, say X. The insurance company used a gross yield, say Y, to project the cash value. The difference (Y-X) is the reduction in yield. For example, if the insurance company uses 5.25% to projected the cash value and the actual  yield is 2%, the reduction in yield is 3.25%.

Read this article carefully to understand the impact. 

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