In today’s competitive investment world, investors prefer high-return mutual funds to maximize their wealth creation. Though diversified funds provide stability to an investor’s portfolio, investors who want high returns prefer sectoral funds due to their potential for aggressive growth. Sectoral funds focus on a specific industry, which allows them to potentially achieve outsized returns under favorable market conditions. In this blog, we will explore the connection between sectoral funds and high returns.
What Are Sectoral Funds?
A sector fund is a mutual fund that invests at least 80% of its total assets in equity and equity-related instruments of companies belonging to a single, specific sector of the economy. Sectoral funds are managed by professionals who have extensive knowledge and expert analytical skills in that particular sector.
The core idea behind these funds is to capitalize on the growth potential of a particular industry by investing a large portion of the investment in the big companies in that specific industry. For example, a technology sectoral fund would predominantly hold stocks of software developers, hardware manufacturers, and IT service providers.
Why Sectoral Funds Offer High Returns?
Sectoral funds have the potential to deliver high returns to their investors due to the following reasons.
Focused Exposure to Growth
Sectoral funds invest in sectors that have the potential to outperform the broader market. For example, Tata Digital India Fund is a technology sector fund that invests in IT and digital companies driven by digital transformation in India. By investing in high-potential sectors, these funds amplify gains when trends shift in their favor.
Sensitive to Market conditions
Sectoral funds magnify returns for an investor when the selected sector performs well by narrowing the portfolio to a specific industry. Any news regarding the specific sector, policy changes concerning the specific sector, along with shifts in consumer behavior, have an immediate and significant impact on sectoral funds, resulting in outperformance.
However, during the downturn due to this concentration, these funds are severely affected, leading to huge losses for investors.
Riding Secular or Megatrends
Investors prefer sectoral funds to harness long-term trends in high return mutual funds, including digitization, healthcare innovation, or renewable energy expansion. They can outperform diversified funds if the selected sector benefits consistently from powerful economic or technological shifts.
Tactical Allocation and Timing
Savvy investors use sectoral funds as tactical investments, investing in sectors that are poised for rapid growth, driven by favourable government policies or new disruptive technologies. Well-timed entry and exit from sectoral funds can lead to attractive returns for investors, which can be far above the broader indices.
Who Should Consider Sectoral Funds?
Sectoral funds invest in a specific sector, providing investors with the opportunity to capitalize on high-growth sectors. They are popular among investors seeking aggressive growth, who have a high-risk appetite, understand market dynamics, and can tolerate market volatility. These funds require active management and market knowledge to make timely entry and exit to capitalize on market movements.
While sectoral funds can deliver attractive returns when their targeted sector performs well, they also carry concentration risk, making them more volatile than diversified funds. Therefore, they are more suited as a tactical investment within a diversified portfolio rather than a core holding.
Conclusion
The connection between sectoral funds and high returns lies within their concentrated exposure to high-potential growth sectors. Strategic bets on a specific sector can deliver high returns in favorable market conditions.
However, with high return potential, sectoral funds also carry the inherent risk of concentration, which can be triggered due to sharp corrections and downturns in the invested sector. Investors should consider investing in sectoral funds in their investment portfolio after carrying out thorough research, considering their financial objectives and risk appetite.
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