7 Questions Before You Invest in a Sector Fund

7 Questions Before You Invest in a Sector Fund

Recently, several brokerages have received inquiries about thematic mutual funds. In fact, with regard to thematic and sectoral mutual funds, net inflow clearly reflects a picture of growth in the sector. In 2021, such funds received inflow of above Rs. 25,000 crores. This represented an increase that was three times greater than inflow that was displayed in 2020, which amounted to Rs. 8,000 crores. The talk of the town around such mutual fund investments is that they give investors gains in a short span of time. The best thematic mutual funds in India are, thus, creating a lot of excitement, but unless you pay attention to certain intricacies in these investments, you may lose out. 

About Thematic Mutual Funds

The way that thematic and sectoral mutual funds work is that they offer investors a focused exposure to a particular theme, or sector. It's important to draw attention to the distinction between thematic and sectoral mutual funds. The first and most basic question you must ask yourself is “What are thematic and sectoral mutual funds in India?”You may well wish to invest in the best thematic mutual funds in India, but you have to understand what they are before you ask any more questions or plunge in to invest. Sectoral mutual funds primarily invest in those companies that pertain to specific sectors. For instance, mutual funds of stocks in such companies as belonging to the auto sector, pharmaceutical sector, banking sector, constitute sectoral mutual funds. On the other hand, thematic funds concentrate on companies that fall within a distinct theme. These are broadly based and can be spread over sectors. For example, infrastructure, consumption, manufacturing, etc, are themes and many diverse companies could belong to each theme. 

Questions Before You Invest

Thematic mutual funds and sectoral mutual funds both have targeted portfolios that they may be associated with. Because themes and sectors are close-knit, there isn't much room for diversification. Consequently, such funds would afford a higher risk-return ratio. Here are 6 more questions to ask yourself before you invest in such funds, making it total of 7 with the previous one answered:

  1. Do you have a winning theme or sector in mind? - When you invest in mutual funds, you typically wish to identify stocks and shares that will gain high returns. You may not do this yourself, but your fund manager will. Hence, in terms of thematic and sectoral funds, you need to identify themes and sectors that may offer high returns. The answer to this involves a fair deal of technical analysis and research into various companies and sectors.
  2. If you have identified a theme/sector, what level of exposure do you have to it? - In case you already have enough exposure to a particular theme or sector, you shouldn’t invest any more in it. 
  3. Is it possible to enter or exit the sector or theme at the appropriate time? - When you invest in thematic mutual funds and sectoral mutual funds, timing is everything. If you look at historical data, several theme and sector based indices have experienced prolonged periods of non-performance. This is because these funds have a cyclical nature, dependent on economic or business conditions. In a perfect world, a fund should be entered before the cycle begins, and exited when the peak hits. 
  4. Can you handle potential volatility? - By their very design, these funds have a high degree of volatility. Underperformance, when it happens, is prone to be high and tends to continue for long periods. 
  5. Are the valuations of the underlying corporations or companies factored in the growth of these companies? - The prices of any stock are functions of the potential performance and growth of the company in question. If expectations are unreasonable and too high, the stock could realistically crash. 
  6. Have you picked the ideal fund positioned to play the sector or theme? - The best thematic mutual funds in India, as well as sectoral funds, are ones that should be clubbed in one particular fund, so returns are assured. If there is a mix, then a few of the underperforming funds could cost you. 

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