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How to Chase Hot Returns?

UTI Petro, Birla IT and Alliance Basic Industries are some of the sector funds, which have done well recently. Should I invest in these funds?

UTI Petro, Birla IT and Alliance Basic Industries are some of the sector funds, which have done well recently. Should I invest in these funds? -- Ganesh Kotak via e-mail

In this crumbling market, solid recent performance could be tempting. After all in 2002 through August 22, UTI Petro is up 72%, Alliance Basic Industries is up 30% and Birla IT is up 8%. But it's a mistake to let your emotions drive investment decisions. The very time you want to buy is usually the time to sell, and vice-versa. Remember the suffering of investors in the tech wreck not very long ago.

This doesn't mean that you should ignore them. They deserve being part of any growth portfolio, but with an understanding of what they are and how much should you have. They can not be the core of any growth portfolio. Diversified equity fund or a diversified portfolio of stocks should form a large part of your long-term investment portfolio. If you are sure of your investment horizon then consider a marginal allocation to these funds.

There are other points worth keeping in mind before you invest. Sectors fund tend to be highly volatile. So there are periods when it can be pretty painful. Indeed, such concentrated portfolios can produce tremendous gains or losses, depending on whether your chosen sector is in or out of favor. Right now you may be focussed on the upside. Check if you are really prepared psychologically for that kind of ride.

Also, it is not unusual for one asset class or investment style to dominate for few consecutive years. When an asset class achieves short-term dominance, investors often believe that a long-term trend has been established and overweight the asset class. I would suggest you to invest not more than 15% to 20% of your total portfolio in a specific sector. Remember to add your exposure to these sectors, which you own through your diversified equity funds.

About the specific funds, Alliance Basic isn't a pure sector play as it invests in companies sensitive to economic cycles and commodity pricing cycles. It is a reasonably diversified fund, which has benefited from its key positions in oil stocks and value plays – Bajaj Auto and TELCO. For UTI Petro, almost everything has gone right – successful disinvestment, dismantling of APM and many side stories around this hot sector. But I will put things in perspective – the stock price of Hindustan Petroleum up 90% and BPCL has gained 60% over the last one year. Lot of action is still outstanding -- IOC, ONGC and GAIL are finally on the dis-investment block. Hindustan Petroleum and Bharat Petroleum remain attractive target for a new market entrant. Though it looks too good to last forever, it's worth a ride till it shows symptoms of losing steam. About Birla IT, I am little more cautious. It went ballistic riding the riskier mid-cap tech stocks. So its returns justifies the risk-return trade-off. Keep in mind, the reverse could be true as well.

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