A sectoral fund is an equity fund that deploys investors' funds in businesses belonging to a particular industry or a sector such as technology, banking, pharma, natural resources, information technology, real estate and energy. Thematic funds, on the other hand, invest in stocks which are well-defined around a particular opportunity. These might look similar to sector funds, but may consist of a mix of several sectors. Thematic funds, although more diversified than sector funds, are also entirely dependent on one particular investment theme.
For instance, the technology sector fund will consist of companies like Infosys, Wipro, TCS and HCL. Similarly, a pharma sector fund will invest in companies like Cipla, Divi’s Labs, Dr. Reddy’s and Sun Pharma. If this sector includes hospitals, diagnostics, gyms, wellness companies, biotechnology, and medical equipment, it would be categorised as a Pharma Healthcare and Diagnostic Thematic mutual fund. The consumption theme would include numerous sectors such as FMCG, consumer durables, textiles, and leisure. The financial services theme will include banking, insurance, NBFCs, and so on.
These funds invest in companies of all sizes - large-caps, mid-caps and small-caps. The only mandate is that they should belong to the same sector or theme. Also, according to the Securities and Exchange Board of India (Sebi), all fund managers of sectoral funds need to invest 80 percent of the fund’s total assets in equity and equity-related instruments of that particular sector.
Before investing in sector or thematic funds, keep the following points in mind:
- It is advisable to first have a diversified portfolio comprising regular mutual fund schemes. Sector and thematic funds are known for their higher risk and volatility, which means investing more than 10 percent is a considerable risk for any investor.
- Sector and thematic funds are suitable for those who have an understanding and in-depth knowledge of that particular sector or theme.
- Be aware that timing your exit is important, especially when investing in sector funds because sector funds are cyclical in nature.
- Don’t go by past returns when you invest in a sector or thematic fund. Instead, take a good look at the opportunities ahead for that sector or theme.
Lately, the thematic funds that are being talked about are housing and manufacture-in-India funds.
Housing funds not only invest in stocks of real estate companies that directly benefit from the growth of the housing market, but also allied sectors such as construction, financial services, consumer goods, cement, power, metals, sanitary ware, home appliances and paints. This fund invests in companies that belong to different sectors that can benefit from the growth of the housing market. Some of the top holdings by housing funds can be Larsen & Toubro, Hindalco Industries and Grasim Industries.
Manufacture-in-India theme funds are suitable for investors who aim to invest in a portfolio, which invests predominantly in companies engaged in manufacturing. This fund can invest in various sectors – pharmaceuticals, non-ferrous metals, cement, cement products, industrial products, auto, petroleum products, aerospace and defense, consumer durables and non-durables. Some of the top holdings of the manufacture-in-India funds can be Reliance Industries, Maruti Suzuki India, Sun Pharmaceutical Industries, Hindalco Industries, Dr Reddy’s Laboratories, Mahindra & Mahindra, Tata Steel, Cipla, and UltraTech Cement.
Sectors go through different business cycles and these cycles impact the overall performance of the companies that belong to the sector. So, based on your research and analysis, if you can catch the right cycle, you have a chance of earning exceptional returns by investing in sectoral funds.
For instance, many investors earned exceptional returns on their investment in pharma sector funds during the outbreak of the Covid-19 pandemic. Thus, only if the sector you believe in hits the spot - will your portfolio returns be good - it could even be higher than a well-diversified fund. Active investors who are constantly abreast of news and headlines can take a better call on which sector might perform well.
Even investors who are closely related to the sector will have access to insights that can help them make the most out of their investments in sector funds. Having said that, 10 percent exposure to themes or sectors in your overall portfolio is a recommended strategy, but only if you are highly confident of the theme or sector.
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