If you are investing in the market with the help of mutual funds, you need to be prepared to take risks. That’s because the nature of market performance is very cyclical. That means that one day, the market might be climbing heights and the other day, it might be on a downward spiral. In a situation of the market going through a bear phase, it is understandable that you might be tempted to redeem your investments. But in the long run, it would be better for you if you were to keep investing. That’s because, if you were to continue investing in the mutual fund scheme during a bear phase when the market recovers, you may end up with long-term wealth. So, based on this, you may feel that just selecting a mutual fund scheme is enough, right? No, just opting for a mutual fund scheme is not enough. If you are serious about acquiring long-term wealth with the help of mutual funds, you need to select the right type of mutual fund scheme.
One of the different types of mutual funds is equity mutual funds. As the name suggests, these funds are known for directing investments toward equities and equity-related securities. However, it is important to make note of the fact that investments in these funds come with a lot of risks. So, it is important to determine your risk appetite if you are thinking of opting for equity funds. Some examples of different variants of equity funds are sectoral and thematic funds.
Sectoral funds are the type of equity funds that are known for investing your money in businesses that fall under the same industry or sector. These funds are known for letting investors take exposure to specific sectors of the economy. This is done by allocating all of their money to businesses falling under the same sector.
How do these funds work?
A sector consists of similar businesses that are generally known for providing the same type of services or products. The technology sector, for example, is known for consisting of organisations such as Wipro, Microsoft, Tech Mahindra, Infosys, and many more. So, a sectoral fund will have a portfolio of organisations belonging to the technology sector. Likewise, a sectoral fund focusing on the pharmaceutical sector will allocate funds to companies such as Biocon, Cipla, and GlaxoSmithKline Pharma. The pharma-focused sectoral fund doesn’t need to allocate funds to companies that only manufacture medicine. It also has other options such as hospitals and diagnostic centres.
Are there any advantages associated with sectoral funds?
One of the alluring features of sectoral funds is that if the sector you are investing in is performing well, you may end up enjoying high returns. It is important to note that just because a sector is performing well does not mean that not all businesses of the sector are performing well too. Some organisations may be enjoying profits while some might be running on losses. So, after carrying out thorough research about the sector with the highest number of performing businesses, you have a chance of earning exceptional returns by opting for sectoral funds. For instance, some people earned exceptional returns for their investment in the pharma sectoral funds after 2020. You will be able to enjoy high returns only if the sector you are investing in hits the spot.
These funds are known for being open-ended equity schemes that allocate funds by a predetermined theme of investment. Thematic investing allows your portfolio to be exposed to different sectors of a similar theme. For instance, a fund that has infrastructure as its theme will allocate funds to companies in sectors such as cement, construction, steel, and many more.
How do these funds work?
Thematic funds invest in the stocks of companies that are united by a predetermined theme. For example, if an equity fund is following an ESG theme, it will allocate funds to companies that have fared well in terms of environmental, social, and (corporate) governance factors.
Are there any advantages associated with thematic funds?
When you invest in a sector fund, no diversification opportunities are provided as your portfolio is limited within the confines of one sector. So, your portfolio will have a negative impact if, for some reason, the sector is not performing well. Contrarily, with thematic funds, you get some amount of diversification as it invests in line with a predetermined theme that may have stocks of companies that belong to various sectors. For instance, there’s a fund that has manufacturing as its theme. It allocates funds to a host of businesses that belong to different industries, from construction to chemical and engineering. Hence, even if companies from one sector don’t perform well at a particular time, other sectors will protect your portfolio from bleeding red.
Why opt for multi-cap or flexi-cap funds instead of sectoral and theme funds?
Both sectoral and thematic funds are known for being volatile and cyclical. Meaning they perform well for some duration and may not perform that well other times. As volatility is the key risk in thematic and sectoral funds, you are regularly required to track the market. Conversely, both flexi-cap and multi-cap funds are known for investing across all market capitalisations, making them less volatile.