Sector fund
Also written Sectoral fund · Sector funds · Sectoral equity fund
An open-ended equity scheme investing at least 80% in one sector, such as banking or pharma. The riskiest step on the diversification ladder; best used tactically as a satellite holding.
In plain language
A sector fund puts almost all its money into one part of the economy: banks, pharma companies, power utilities.
When that sector does well, a sector fund can beat almost anything. When it does badly, there is nowhere to hide, because every stock in the portfolio faces the same headwinds.
The workbook is frank: timing is the key. The returns depend on getting in before the sector's up-cycle starts and out before the downturn begins, which is why it suggests sector funds for the satellite part of a portfolio, not the core.
How it works
SEBI category definition (Chapter 2, equity scheme 10):
- "An open-ended equity scheme investing in a specific sector such as bank; power is a sectoral fund."
- Minimum investment in equity and equity related instruments of the particular sector: 80% of total assets.
- Portfolio overlap: no more than 50% of the scheme's portfolio may overlap with other sectoral or thematic schemes and other equity scheme categories, except large cap.
- Thematic funds follow the same 80% and 50%-overlap rules but invest along a theme (e.g. infrastructure spanning construction, cement, steel, telecom and power).
One scheme per category, except: index funds and ETFs tracking different indices, fund of funds with different underlyings, and sector and thematic funds investing in different sectors or themes.
A debt counterpart (Chapter 2, debt scheme 17): a Sectoral (debt) Fund invests at least 80% in debt of a particular sector, only AA+ and above, across duration, in Financial Services, Energy, Infrastructure, Housing or Real Estate.
Selection view (Chapter 12): sector funds are risky because of concentration; they require the skill to read signals that a sector is ready for entry or exit; timing is the key; suitable for the satellite portfolio, with a diversified core. Risk ladder: Diversified → Focused → Thematic → Sector. And different sector funds may have different risk profiles. A gold sector fund (shares of gold companies) is not a gold ETF (gold itself).
A worked example
Portfolio amounts and returns are illustrative.
Rahul holds Rs 20,00,000 in mutual funds using a core and satellite approach:
| Holding | Amount | Role |
|---|---|---|
| Flexi-cap and large cap funds | Rs 17,00,000 (85%) | Core |
| Banking sector fund | Rs 3,00,000 (15%) | Satellite |
Year 1: banking stocks rally. The core returns 12%; the sector fund returns 35%.
Core: 17,00,000 × 12% = Rs 2,04,000
Satellite: 3,00,000 × 35% = Rs 1,05,000
Total gain = Rs 3,09,000 (15.45% on Rs 20 lakh)
Year 2: a bad-loan cycle hits banks. The core returns 8% on its new value of Rs 19,04,000; the sector fund falls 25% on Rs 4,05,000.
Core: 19,04,000 × 8% = +Rs 1,52,320
Satellite: 4,05,000 × −25% = −Rs 1,01,250
Net gain = Rs 51,070
Had Rahul put all Rs 20 lakh in the banking fund, year 2 alone would have cost him far more than the whole of year 1's satellite gain. The 15% cap on the satellite is what kept a sector call from becoming a portfolio problem, and why the workbook says timing decides returns.
Why NISM asks about it
Chapter 2 (Concept and Role of a Mutual Fund) sets out the sectoral and thematic definitions, the 80% and 50%-overlap rules, the one-scheme-per-category exceptions and the new debt Sectoral Fund; Chapter 12 (Mutual Fund Scheme Selection) covers the risk ladder, timing, core and satellite use and gold sector funds versus gold ETFs. Expect: 80% minimum, 50% overlap limit (large cap excepted), riskier than focused and thematic, and suited to the satellite portfolio.
Common exam traps
- 80% in the sector, not 65%.
- Overlap limit of 50% with other sectoral or thematic and other equity categories except large cap.
- Sector funds in different sectors are allowed from one AMC, an exception to one scheme per category.
- Sector funds are riskier than thematic funds, which are riskier than focused funds.
- There is also a debt Sectoral Fund, 80% in AA+ and above paper of one of five named sectors.
- Gold sector fund ≠ gold ETF. One holds gold companies' shares; the other tracks gold.
Check yourself
1.What do the words "conservative hybrid fund" actually tell an investor, and how does a gold sector fund differ from a Gold ETF?
- a)Conservative describes the whole portfolio; and gold sector funds and Gold ETFs behave identically
- b)"Conservative" refers only to the equity allocation, so the equity sleeve and the debt sleeve must each be examined; and a gold sector fund holds shares of gold mining and processing companies, whose profitability can amplify moves in either direction and which are affected by company-specific factors, while a Gold ETF closely tracks the gold price
- c)"Conservative" means the scheme cannot lose value; and a gold sector fund is the safer of the two
- d)Both terms are defined precisely by SEBI and need no further examination
Show the answer
Answer: (b) "Conservative" refers only to the equity allocation, so the equity sleeve and the debt sleeve must each be examined; and a gold sector fund holds shares of gold mining and processing companies, whose profitability can amplify moves in either direction and which are affected by company-specific factors, while a Gold ETF closely tracks the gold price
"The word 'CONSERVATIVE' IN THE NAME OF CONSERVATIVE HYBRID FUNDS CATEGORY ONLY REFERS TO THE EQUITY ALLOCATION. Hence, investors should evaluate HOW THE EQUITY PORTION OF THE FUND IS MANAGED i.e., WHETHER THE FUND INVESTS IN LARGE, MID OR SMALL CAP STOCKS, IF THE STOCKS REPRESENT DIVERSE SECTORS and so on... At the same time, ONE MUST ALSO CHECK THE CREDIT QUALITY OF THE DEBT PORTFOLIO AS WELL AS THE DURATION RISK the scheme is exposed to." On gold: "The latter are schemes that invest in SHARES OF GOLD MINING AND OTHER GOLD PROCESSING COMPANIES. The performance of these gold sector funds is LINKED TO THE PROFITABILITY OF THESE GOLD COMPANIES – unlike Gold ETFs whose performance would TRACK THE PRICE OF GOLD. When gold metal price increases, gold mining companies with large reserves of gold CAN APPRECIATE A LOT MORE THAN THE GOLD METAL. Conversely, THEY CAN ALSO FALL MORE", and are driven by "factors OTHER THAN PURELY THE PRICE OF GOLD" — a management concern can sink the share "IRRESPECTIVE OF THE PRICE OF GOLD." The ETF "makes it a MORE EFFICIENT WAY to take exposure to gold."
2.A focused mutual fund is riskier than a diversified mutual fund. State whether true or false.
- a)True
- b)False
Show the answer
Answer: (a) True
The chapter's sixth sample question. "A FOCUSED FUND IS RISKIER THAN A DIVERSIFIED FUND", stated directly under Illustration 12.1.5, and repeated in the discussion of scheme categories: focused schemes "carry HIGHER RISK THAN A DIVERSIFIED FUND, DUE TO HIGHER CONCENTRATION AMONG SMALLER NUMBER OF STOCKS. HOWEVER, THESE ARE LESS RISKY THAN A SECTOR FUND." Carry both halves — a focused fund sits above diversified but below thematic and sector on the concentration ladder. The reason diversification helps is given in the comparison with sector funds: "the MULTI-SECTOR EXPOSURE in a diversified fund MAKES IT LESS RISKY", and in an actively managed diversified fund "the fund manager performs the role of ENSURING HIGHER EXPOSURE TO THE BETTER PERFORMING SECTORS." One caution from the same section: "different sector funds may have DIFFERENT RISK PROFILES", and concentration risk cannot be compared directly with the size risk of a diversified small-cap fund.
3.Which among the following schemes would have the lower risk of concentration?
- a)Multi-cap fund
- b)Focused fund
- c)Thematic fund
- d)Sector fund
Show the answer
Answer: (a) Multi-cap fund
The chapter's fourth sample question. Illustration 12.1.5 runs "DIVERSIFIED FUNDS – FOCUSED FUNDS – THEMATIC FUNDS – SECTOR FUNDS", with "the risk and potential return INCREASES as one moves from left to right." A multi-cap fund is a diversified fund, spreading "the investments ACROSS THE MARKET CAPITALIZATION SPECTRUM." The other three climb the ladder: a focused fund carries "HIGHER RISK than a diversified fund, DUE TO HIGHER CONCENTRATION AMONG SMALLER NUMBER OF STOCKS. However, these are LESS RISKY THAN A SECTOR FUND"; a thematic fund invests "across a specific theme, and to that extent, THEY FALL BETWEEN the diversified fund... AND sector funds"; and a sector fund is "risky because of the CONCENTRATION IN ONE SECTOR. If the sector under-performs then the scheme's returns is likely to be POOR." The chapter's summary line: "DIVERSIFICATION IS A PROTECTION AGAINST IGNORANCE. In other words, IF ONE IS NOT SURE, DIVERSIFICATION IS ALWAYS A GOOD IDEA."
Where this is taught
Free preparation for NISM Series V-DRelated terms
- Exchange Traded FundA mutual fund scheme whose units are listed and traded on a stock exchange like a share, so you transact at live prices through the day instead of at one end-of-day NAV.
- Balanced Hybrid FundAn open-ended hybrid scheme with 40% to 60% in equity and 40% to 60% in debt, and no arbitrage allowed. It sits below the aggressive hybrid fund on the workbook's risk ladder.
- Focused FundAn open-ended equity scheme holding at most 30 stocks, with at least 80% in equity, that must state where it focuses (multi, large, mid or small cap). Riskier than a diversified fund, less than a sector fund.
- Market capitalisation bandsSEBI's rank-based bands for classifying companies by size — large cap is the 1st to 100th company, mid cap the 101st to 250th, small cap everything from the 251st onward, by full market capitalisation.
- Thematic fundAn open-ended equity scheme investing at least 80% in line with a theme — infrastructure, MNCs, PSUs — spanning several sectors, and so riskier than a diversified or focused fund but less concentrated than a sector fund.
- Gold Sector FundA scheme holding the shares of gold mining and gold processing companies, so its returns follow those companies' profits rather than the price of gold, unlike a Gold ETF.
- Sunrise sectorsNewly emerging sectors around which AIF investment themes are being built — new-generation technologies and ESG, including AI, virtual and artificial reality, green energy and sustainability.
- Equity Long-Short FundAn investment strategy under a Specialized Investment Fund: at least 80% in equity, with unhedged short exposure through derivatives capped at 25%. Minimum investment Rs 10 lakh across an AMC's SIF strategies.
- Sector Rotation Long-Short FundA Specialized Investment Fund equity strategy that goes short entire sectors it expects to underperform, holds at least 80% in equity, and limits both the number of sectors shorted and the unhedged short exposure.