Should sector funds be a part of investor portfolios?
Author: Dr. Renu Pothen, Research Head, Fundsupermart.com India
This article was published in Moneycontrol.com on Friday, 28 March 2014
In the last few weeks, we have seen a lot of interest from our investors to park their surplus into PineBridge Infrastructure & Economic Reform Fund. This response was pleasantly surprising as we have rarely seen any interest from the investor community for this fund. Our model had given a green signal to this fund and hence we included the same in our Recommended Funds list in January 2012. As we have been positive on the infrastructure space for some time now, this fund was included in our portfolios as well. Now, in 2014, PineBridge Infrastructure & Economic Reform Fund has turned out to be a chart topper judging by its performance over a short-time period. The question that arises here is "Has the Fund Manager done some miracle in the last few months or is the performance the result of prudent stock selection that he has been doing over a long period of time?" The latter is the answer to my question, though investors who are chasing just performance are not able to see the true picture.
The above paragraph is only an example of how investors take an exposure into sector funds which are considered to be one of the riskiest category in the equity space. My column is aimed at making investors understand if they really need to include sector funds in their portfolios. And if yes, what are the factors that they need to consider before taking an exposure into these funds?
Should sector funds be a part of an investor's portfolio?
Now-a-days all investors check their risk profiles before creating a portfolio for themselves. In this context, if you are a conservative, moderately conservative or balanced investor, then it would be wise to stay away from sector funds. On the other hand, if you are a moderately aggressive or aggressive investor, then you can take a 10% to 15% allocation into this category of funds. The reason for this inclusion is on account of the fact that sector funds are considered to be cyclical in nature and are on the higher side when we look at the risk rating pyramid.
Points to keep in mind while selecting sector funds
Investors should never take an exposure into a sector which they don't understand. Only through a detailed analysis of the sector can an investor form an opinion about the same
Secondly, it would be advisable for investors to stay immune from the herd mentality that can make them take an exposure into sector funds. That is, whenever there is a rally in a particular sector which is not supported by any fundamentals or if a sector is over-valued, it is better for investors to avoid such funds.
Finally, once the sector has been chosen, the next step is to select the appropriate fund. The first commandment to follow while selecting a sector fund is to see if it is following its mandate. For instance, when we analyse portfolios of infrastructure funds, we find that a few of them have stocks not only from this sector but even includes stocks from sectors like Banks and Pharmaceuticals. The reasoning behind this inclusion could be that if the particular sector does not perform well, then the saving grace could be the stocks from other sectors. We strongly believe that if this is the case then we do not require sector specific funds and investors can consider investing into plain vanilla diversified funds. Hence our recommendation to investors is to have sector funds which strictly follow their mandates and are able to pass through quantitative and qualitative filters.
To conclude, we would recommend sector funds only to those investors who have the appropriate risk appetite and whose holding period is not too long. In short, as sector funds are cyclical in nature, investors should be able to time their exits as well.