Should you really invest in a sectoral fund, that is mutual fund schemes which invest in companies belonging to a particular sector? Well, the answer is no. Unless you really understand a particular sector and are in a position to manage it timely you should not be investing in a sectoral fund.
In fact, you should be asking yourself is what is your main objective of investing in a mutual fund at the first instance itself? The benefit of diversification that MFs offer is what makes them attractive as an investment option.
However, sectoral funds defy this logic. They don't spread investments across different sectors, but invest only in a particular sector. You need to understand that investing in a sectoral fund is akin to putting all your eggs in one basket. This carries a huge risk because the performance of that sector will change over a period of time and impact your returns. The sector you invest in can have a robust growth or a lull phase or even a sharp fall, thereby impacting your fund's performance and returns on your investments.
This inherent risk makes sectoral investment unsuitable for many investors, especially beginners and first-timers. It is not advisable even for those who have been investing for a while, but are content with returns that a well-diversified portfolio offers.
Timing your investment in a sectoral fund is the most important factor and everything depends on it. If you can time your investment well, you can expect extraordinary returns and vice-a-versa. Both micro and macro global economic factors have a deep bearing on the performance of a sector. Only if these factors are conducive, will the chosen sector grow faster than other sectors.
For example, the pharma sector hasn't performed in the last three to four years. The performance has started improving only since the last few months. Whereas performance of infrastructure or banking sector in the past three to four years has been phenomenal, but both these sectors are currently facing lot of heat due to many economic changes. Hence, it is critical to time these investments. In fact, last year's out-performer was IT sector. IT funds have given around 25% to 30% returns. A sector that looks very promising today can be completely out of league tomorrow. So, avoid getting lured by the glamour of a particular sector unless you really understand it.
It is always advisable to opt for a well-diversified equity fund which invests across different sectors to provide the much-needed cushion. This also offers a better risk-reward pattern to help you achieve your financial goals. You should create a good mix of five to six good multi-cap, bluechip and mid-cap funds to truly seek the benefit of diversification in the long run. You should invest in sectoral funds only if you really understand the sector and you are agile in managing it. Otherwise stick to diversified equity funds only.
The writer is chief gardener at Money Plant Consultancy