In its keenness to be known as a fair referee, the insurance regulator appears set to allow all life insurers – and not just the Life Insurance Corporation (LIC) – to increase their stake in a company beyond 10 per cent. In reality, LIC would be the only beneficiary, since no other insurer currently comes anywhere near the 10 per cent mark. In fact, the average stake of all other insurance companies individually in a listed company is 2.5 per cent, with the highest stake being 7.1 per cent. On the other hand, LIC has already breached the 10 per cent mark in 18 companies, since the Life Insurance Corporation Act of 1956 allows it to acquire up to 30 per cent stake in a company — but only after government approval. The regulatory nod would take away the need to obtain the government’s permission.
The move will have a significant impact on the market since LIC already has Rs 2.6 lakh crore invested in equities and buys shares worth around Rs 45,000 crore every year. Unlike mutual funds, insurance companies have long-term horizons, and LIC follows a buy-and-hold investing strategy. With a short supply of good-quality stocks, LIC keeps on building its stake progressively in blue-chip companies — the reason why it has reached the 10 per cent buying limit in certain stocks. But the move may be counterproductive for LIC’s policyholders. First, a high stake in a company increases the risk for the policyholder. If the fortunes of a company change, swift-footed mutual funds with smaller holdings will manage to exit ahead of the insurance company. This problem would get magnified several times in mid-cap and small-cap companies. MTNL is a case in point. Here, the insurance company continued to buy shares despite deteriorating fundamentals and selling by other funds. As a result, LIC currently holds 18.8 per cent of the equity capital, compared to 13.02 per cent in March 2006, when the price touched a peak of Rs 221. MTNL is at present quoted at just 15 per cent of that value (Rs 32); but rather than reducing its holding in a company with bleak prospects, LIC continued buying the stock in order to lower its holding cost. Also, increasing the stake beyond the 10 per cent limit will result in lower liquidity in those stocks leading to higher volatility, thus preventing other, bigger players from investing. This also makes exit difficult for LIC.
Also, the fact that LIC is ultimately controlled by the government means that it will face sharper-than-normal scrutiny for its investment choices. Any whiff of crony capitalism would be extremely damaging. Finally, when LIC becomes a substantial shareholder (stake of over 10 per cent), its ownership ends up making it a quasi-promoter for all practical purposes. With such large stakes, its fiduciary responsibility towards its policyholders becomes even more critical. In this role, it would also need to take a crash course in shareholder activism and follow the path that similar long-term investors have taken abroad. There is no evidence to suggest that the insurer has any inclination to shed its role of a silent spectator.