Sectoral Funds: Advantages & Disadvantages

Many times, we get news that tells us about a particular sector such as banking sector or pharma sector beating the broader equity market. While such news may have piqued your interest in sectoral funds, there are different aspects of sectoral funds than you should know before investing in these funds.

In this article, we will talk about sectoral funds and understand its advantages and disadvantages.

What are Sectoral Mutual Funds?

Sectoral Mutual Fundis a category of equity mutual fund that invests in companies of a particular sector of the economy such as energy, infrastructure, pharmaceuticals, etc. These funds are market cap agnostic and they can invest in high conviction stocks across the market cap.

As per the SEBI’s definition of Sectoral Funds, fund houses can launch several mutual funds belonging to different sectors and a fund needs to invest a minimum of 80% of its assets in the sector.

Things you should know before investing in sectoral funds

Sectoral funds differ from diversified funds as they invest in a particular sector. It makes sectoral funds riskier than other diversified funds.

Hence, it is important to keep a few things in mind before investing in sectoral funds.

Learn about the sector:

To invest in sectoral funds, you need to be comfortable in investing in a particular sector.In addition, you need to know about the sector to gain confidence. Ability to assess the volatility associated with such funds will help you gain attractive returns.

Limit your exposure

As sectoral funds are riskier than other equity funds, have limited exposure to sectoral funds. This will help you protect your overall portfolio return due to poor performance of the sector.

Assess future opportunities

You should not invest in sectoral funds merely on the back of past performance. Predicting the performance of sectoral funds is tricky. It is because the spectacular run of a sector may continue for a few months or few years. Hence, it is important to assess the future opportunities and scope available for this sector before investing in sectoral funds. 

Advantages of Sectoral Funds

Sectoral Funds come with their advantagesand can add a meaningful contribution to your investments. Here are some advantages:

Earn attractive returns:With the right timing and experience, a sectoral fund can provide attractive returns than diversified equity funds. As the economic cycle progresses, some sectors outperform other sectors within a certain timeframe. So, if you can enter and exit from the fund at the right time, you can earn high returns.

Gain exposure to a sector: If you believe that a particular sector will gain from the latest regulatory developments or news, you don’t have to invest in several stocks of the sector. You can invest in a sectoral fund that will let you gain exposure to a sector with minimal cost.

Diversify your portfolio:Sectoral funds can be useful in diversifying your portfolio. If your portfolio lacks exposure in a particular sector, whether direct equity investments or mutual funds, investing in these funds can diversify your portfolio. 

Disadvantage of Sectoral Fund

High risk:Sectoral Funds are high-risk funds. The returns of these funds can be highly volatile.

Require understanding of the sector:To invest in sectoral funds, one needs to understand the different sectors or at least one sector to gain the maximum benefits from these funds.

Who can invest in Sectoral Funds?

Investors who can analyse multiple sectors and are aware of the different nuances of these sectors is better prepared to invest in funds. As sectoral funds carry high risk, seasoned investors with high risk taking capacity can invest in these funds with minimal allocation.

Conclusion:

Sectoral Funds are funds that invest in a particular sector such as banking, pharma, infrastructure, etc. These funds have to invest at least 80% of the fund’s assets in the sector. As the investment universe is narrow, the risk associated with these funds is also higher. New investors should stay away from these funds.

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