While investing in mutual funds, your risk taking capacity decides the ratio of equity and debts. But, when it comes to equity investments, there are several industries which are performing differently in different economic scenarios, which could also be a type of diversification in equity.
Some investors look forward to investing in funds that have potential to grow rapidly, rather than investing in random top companies to invest in. To fulfil such a demand of investors, fund managers came up with an idea of sectoral funds. Let’s understand everything about sectoral funds.
What are sectoral funds?
A sectoral fund is an equity fund that pools funds from the investor and makes investments in companies in a particular sector or industry. We can say that it is sector centric mutual funds. By investing their entire portfolio in different companies in the same industry, these funds enable investors to gain exposure to certain segments of the economy.
Since, there will also be an industry which seems to grow and investors like to invest in them. For example, if you believe that Information Technology sectors have a high potential to grow in the coming future, then your fund manager will invest your money in IT companies like Wipro, Infosys, Tech Mahindra, etc.
How do sectoral funds work?
As we all know that sectoral funds invest in different companies of the same industry. Now, the question is if such an industry also has the categorisation of large cap, small cap, and mid cap. All the categorisation of caps have different level risk and return. In the case of sectoral funds, fund managers invest in all the companies according to their growth potential and fundamental strength of the companies.
According to SEBI, it is necessary for the sectoral funds to invest at least 80% of the funds into the equity or equity-related instruments.
Advantage of sectoral funds
The biggest advantage of investing in sectoral funds is that you can get a big exposure of getting returns in the industry you trust the most. If one company of a particular industry fails to perform due to the lack of internal management efficiency, other companies of the same sector will help you in setting off your risk.
Disadvantage of sectoral funds
If such an industry doesn’t perform well, as per your expectations, or if it gets affected by some unfavourable circumstances of the micro or macroeconomic environment, the whole industry will be adversely affected.
In such a case, since you have invested all your money in similar companies, your overall portfolio will be red and there would be nothing to set off. It would be advisable to not to invest more than 10% of your investment in sectoral funds.
It would be necessary to have an in-depth knowledge of the industry and stock market sentiments. If you do not have in-depth industry knowledge and are not aware of the probable scenarios that could make your investment risky, you should enter into the sectoral funds.
If you are confident enough about the industry growth, you must explore the sector which will help you in building wealth for yourself. Mutual funds schemes are the best way to diversify your portfolio in any way.
Anushka Trivedi is a freelance financial content writer. She can be reached at anushkatrivedi.com