RINGSIDE VIEW. Are sectoral funds hazardous to the health of your portfolio?

The current turbulence being witnessed by pharmaceutical company shares triggers a question — should one have exposure to sectoral funds at all?

Pharma stocks were the darlings of the market in 2015, as stocks such as Cipla, Dr Reddy’s Labs, Sun Pharma and Lupin hit their life-time highs; the likes of Aurobindo Pharma and Divi’s Labs even maintained their mojo till late 2016. However, those who had entered the mutual funds schemes focussing on pharma stocks after seeing such a sharp surge must be a worried lot now.

According to Valuresearchonline.com, pharma funds have posted a negative return of 7.19 per cent last week and negative 8.89 per cent for the past one month. They’re in the red by 6.61 per cent for the past year. So, does this mean that sector funds are for only investors who wish to take a high risk? The answer is both yes and no.

If one is a short-term player with a three-year horizon, then the risk is high; it could either be mind-boggling returns, or a disaster.

Sectoral funds — as the name suggests, invest in a particular sector of the economy, trying to ride the boom in that business. In India, fund houses offer schemes based on sectors such as FMCG, banking and financial services, pharma and information technology, to name a few.

Before venturing into sectoral funds, one should remember that they should not invest in them simply because they had a great run in the recent past.

The MFs’ disclaimer ‘past performance is not necessarily a guide to future performance’ points to the pitfalls in this phenomenon. Unlike diversified funds, sector fund managers have little leeway to shift their bets if the entire sector faces headwinds, as is happening now in pharma and IT sectors. However, if you are a long-term investor, in excess of five years, some sector themes can play out in your favour.

Take, for instance, the performance of beaten down pharma funds on a long-term scale. They produced a return of 16.92 per cent for a five-year period and 15.03 per cent for 10 years, Valueresearchonline data show. This performance beats the Nifty 50 (14.27 per cent and 8.48 per cent) and the BSE Sensex (13.84 per cent and 8.02 per cent). It compares well even with the BSE MidCap, which returned 19.71 per cent for five years and 8.97 per cent for 10 years.

Once out-of-favour infrastructure too, is catching up now. Average returns of infra funds for five- and 10-year periods are 16.63 per cent and 8.64 per cent, respectively. For investors, SIP could enhance their return on cost averaging and the power of compounding.