Dhirendra Kumar explains the risks involved when investing in sector-based funds
Is it advisable to invest in thematic/sectoral funds based on 'Information Technology' for a horizon of five to seven years? How long do you think the current performance/returns will sustain?
- S Manjunath
I'm usually a proponent of keeping it simple by diversifying, which is why you invest in a mutual fund. When investing in a diversified fund, you are not deprived of Information Technology. It's a part of your portfolio and quite meaningfully because our indices have it.
But Information Technology has been an exception because it has done exceedingly well over a very long period. It has done so because these companies have done very well. The Indian investable universe is made of IT services companies. This has been because India is not a manufacturing hub, and it has made a name for itself in the IT services sector. So they have done exceptionally well, and they have been able to maintain the growth momentum. It is still a rewarding business as it is still growing and is a modest or a high margin business that has been growing at 15-20 per cent.
It is not a cyclical business because these technology and services companies are configured to be almost like a utility business. A lot of businesses globally depend on these businesses to support their continuity. Two promising sector funds which have made an excellent long-term case for themselves are pharma funds and technology funds.
The downside is that because they are invested in only a very narrow universe of certain companies, they can potentially be impacted by similar dynamics if something unfavourable happens to the sector. In such a scenario, they all get affected the same, whether TCS, Infosys, Wipro, or HCL Technologies. These four prominent companies dominate the portfolio of all these IT funds.
So that is why they turn out to be more volatile. But mind you, volatility is not a great risk. Volatility is wild; it is a roller coaster. But that doesn't mean that it is unsafe. Lack of safety or the potential of losing money is when you have a less thoughtful fund manager who invests in a set of companies where the money goes down the tube or when it becomes unproductive, or it turns out to be a poor investment due to poor judgment. So that is a real risk.
Volatility is scary for many, and it is more frightening for new investors. If you are fine with the ups and downs of these sector funds, then pharma and IT still hold promise because we are well on our way to becoming a global leader in both these sectors, so to say. India has become a pharmacy to the world, and we have also become the technology support system for the world.
The only time it will not be worth investing in these companies is when they stop growing, or the competition becomes so intense that they lose on the margin, i.e., everybody is trying to undercut each other. I don't visualise both of it happening because they have been able to make a strategy or exist with a modest margin with reasonable growth for the last two decades.