What are sectoral and thematic funds?

According to the guidelines laid out by the Securities and Exchange Board of India (SEBI) concerning the categorisation and rationalisation of schemes, India has 12 types of equity funds. Among these options, sectoral and thematic funds stand out as notable selections due to their distinctive asset allocations. If you are considering investing in these funds, it is essential to understand their characteristics and workings more deeply.

What are sectoral and thematic funds?

Sectoral funds primarily invest at least 80% of their assets in stocks belonging to a particular sector. These funds concentrate on one sector, such as banking and finance, Fast Moving Consumer Goods (FMCG), and others. By investing in a single sector, sectoral funds allow you to capitalise on that particular industry's performance.

On the other hand, a thematic mutual fund selects stocks from companies that align with a particular theme, rather than focusing on a specific sector. Like sectoral funds, thematic funds also invest at least 80% of their assets in a particular theme. This approach provides you with exposure to diverse industries that share a common theme, such as infrastructure, renewable energy, and so on.

Factors to consider before investing in sectoral and thematic funds

Here are some factors you must consider before investing in these funds:

• Thorough research:You must thoroughly research the sector or theme in which your chosen mutual fund invests. Assess past performance and future prospects to understand the potential risks associated with the sector or theme you are investing in. For example, some sectors or themes may exhibit high volatility. It is essential to comprehend this before allocating any funds to a scheme of your choice.
• Understand the risks:It is important to recognise that sectoral and thematic funds are cyclical in nature and heavily reliant on the performance of the individual sector or theme they focus on. Sectoral funds typically have limited diversification, which makes them relatively riskier out of the two. While more diversified than sectoral funds, thematic funds still carry inherent risks associated with their thematic allocation. You must understand these risks and assess whether they align with your risk tolerance and investment goals.
• Overall portfolio diversity:Consider your overall portfolio diversity before investing in sectoral and thematic funds. These funds expose you to specific categories of companies within a single sector or theme, which can potentially increase concentration risk. It is essential to ensure you have a well-diversified portfolio of different mutual fund schemes to mitigate risk and achieve optimal diversification across various asset classes and investment styles.

Reasons to invest in sectoral and thematic funds

Below are some reasons you can invest in sectoral and thematic funds:

• Targeted exposure:Sectoral and thematic funds provide you with targeted exposure to specific sectors or themes that you think are likely to perform well in the future. They offer the opportunity to participate in emerging opportunities that have the potential to shape the future.
• Professional management and simplicity:For investors interested in specific sectors or themes but lacking the expertise to select individual stocks, sectoral and thematic funds offer a straightforward solution. These funds simplify the investment process by allowing you to gain exposure to specific companies without the need for extensive research or analysis. Mutual funds employ professional fund managers who conduct in-depth research and analysis to identify promising investment opportunities. This can save the time and effort required to research individual stocks.
• Diversification:Despite their focused nature, sectoral and thematic funds may provide some level of diversification within their chosen sector or theme. They allow you to invest in a portfolio of stocks across different companies within the same sector or theme.

Conclusion

Sectoral and thematic funds are types of equity funds and, hence, carry an inherent risk associated with all equity funds. They can be suitable for individuals with a high-risk appetite seeking targeted exposure to specific sectors or themes. However, it is crucial to approach these funds with caution and conduct thorough research before investing. It is also helpful to have a solid understanding of the chosen sector or theme.

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