The Irda chief is absolutely right in saying investments in a company shouldn’t cross 10% of the share capital. Given the high degree of risk associated with equities—today’s dream stock can quickly become tomorrow’s nightmare—the more diversified the portfolio the better. Already, the universe of stocks that investors in India can buy into, based on financial soundness and growth prospects, is relatively small. Moreover, not all these stocks are large and liquid—the depth of the Indian market can be gauged from the fact that there are fewer than 200 stocks with a market capitalisation of over R5,000 crore and just 114 stocks that command a market value of R10,000 crore or more. Owning a disproportionately high share of a company, in a volatile market, dominated by foreign institutional investors, can only make LIC more vulnerable. Even if one assumes that the companies invested in are of top quality, an exposure of more than 10% is risky.
The government can’t be using LIC to fund its budget deficit because that could hurt the investments of millions of individuals. For some time now, the insurer has been buying stakes in public sector banks. Moreover, on more than one occasion it has stepped in to bail out the government when a stake sale hasn’t attracted enough investors—in February 2010, LIC wrote out a cheque for R4,000 crore for shares of NTPC. The insurer is still out of the money on its purchase of 43 crore shares of ONGC that it was forced to buy in March this year after investors stayed away from an auction—the insurer bailed out the government by buying shares at around R304 but the ONGC stock has stayed below that level since then. While ONGC may be on safe ground financially, the same can’t be said for too many other large Indian companies; witness the large-scale restructuring of corporate accounts by banks. Moreover, a recent study by Credit Suisse showed how concentrated bank loans are today: the aggregate debt of 10 groups now comprises 13% of bank loans and 98% of the banking system’s net worth. In mid-May this year, Moody’s Investor Services downgraded LIC’s foreign currency rating to Baa3 from Baa2. Among the reasons for the downgrade, the rating agency pointed out, was the significant exposure the insurer’s balance sheet had to domestic sovereign debt relative to its capitalisation. The outlook for LIC remains stable as of now but that could quickly change if LIC owns bigger chunks of equity in government-owned companies too.