Sector and thematic investing is again in focus. Investors are scanning banking, IT, healthcare, FMCG, infrastructure, power and newer themes like EVs. The enchantment is straightforward — sector strikes will be massive, and themes can play out quick. But the hyperlink between sector returns and the macro atmosphere is advanced.
It can be time consuming to trace. A sector return desk throughout calendar years exhibits how management shifts. The similar sector can look robust in a single 12 months and fade in one other. This makes it laborious for buyers to remain constant.
Themes additionally want readability. A theme can lower throughout sectors. It can mix allied industries and shares linked to a typical thought or alternative. This is why thematic decisions will be tempting, but in addition why they want construction.
A second shift is behavioural. Market extremes amplify feelings. Fear and greed push buyers into late entry and early exit. This is why many buyers desire a framework that retains determination making regular.
Investors can entry sector and thematic investing by way of the passive investing route. That is the place a multi sector passive fund of funds strategy matches. It retains the constructing blocks passive. It nonetheless permits sector and thematic allocation. It additionally reduces the necessity for the investor to consistently act.
Harder than it appears to be like
Sector efficiency typically appears to be like apparent in hindsight. It isn’t apparent in actual time. The macro backdrop adjustments consistently. Sectors additionally reply to totally different triggers. The result’s frequent rotation.
A easy instance is the dotcom interval. The Nifty IT Index noticed a dramatic rise into early 2000. The interval from February 1999 to February 2000 is proven as a 712 per cent surge. What adopted was a pointy reversal. From April 12, 2000 to April 12, 2001, the index delivered a CAGR of minus 81.76 per cent. That is the form of cycle that exams timing and temperament.
Healthcare gives one other instance. The Nifty Healthcare Index delivered a CAGR of minus 10.75 per cent from April 1, 2015 to April 1, 2018. Yet investor allocations to pharma rose sharply earlier. Investments into the pharma sector went up 57 per cent within the April 2014 to April 2015 interval. The sequence is instructive. Sectors can appeal to consideration and flows, and nonetheless undergo lengthy phases of muted returns.
Sector self-discipline
The bigger message is about self-discipline. Sector self-discipline is the half most buyers skip. It just isn’t a view on a sector; it’s a algorithm that decides how a lot you’ll personal, how lengthy you’ll maintain and what would make you alter your thoughts, upfront. Without such a construction, sector investing tends to float towards reactive determination making.
A restrict on any single sector, together with a separate capping on themes that transfer collectively, reduces the danger of 1 macro shock affecting the portfolio a number of instances. Sectors can stay noisy for prolonged durations, and with out a clearly outlined holding window, exercise tends to extend round short-term information circulation somewhat than underlying fundamentals.
Before any change in publicity, a constant guidelines additional helps the method. This sometimes consists of the macro circumstances a sector depends upon, the earnings driver anticipated to assist the funding case, and the proof that will point out the case is weakening.
Exposure adjustments applied in steps, somewhat than in a single transfer, scale back the affect of rapid market strikes and restrict behavioural selections.
Finally, respect diversification. Themes overlap throughout sectors. If two themes share the identical underlying driver, focus can construct. Sector investing works greatest when guidelines, not pleasure, management the wheel.
This is the place passive devices add worth. ETFs supply clear, rule-based entry to sectors and themes. They monitor outlined indices and commerce on exchanges, spanning sectoral, thematic and broad market exposures.
Investing framework
A sensible approach to strategy sector and thematic investing is to make use of a course of. Selection issues. It begins with figuring out the sector or theme ETFs to make use of. Moving issues subsequent. That is about shifting publicity when the atmosphere adjustments. Assignment issues too. That is deciding weights throughout baskets, not simply selecting one theme. Right time issues, as a result of sector cycles will be sharp. Taxation issues as properly. Internal switching within the portfolio doesn’t contain taxation, not like holding particular person ETFs.
This is the place a multi sector passive FoF construction turns into helpful. The portfolio can maintain a number of sector and thematic ETFs collectively. It may embrace different home fairness ETFs, together with ones launched later. The investing type is to observe macro cues, determine themes and sectors, choose ETFs from the passive bucket, and assign weights. The monitoring is periodic. The allocation is energetic inside a passive constructing block set.
Such an strategy is pushed by a course of that reacts to evolving circumstances. This entails revenue reserving in segments after a robust efficiency. It seeks sector valuation consolation after underperformance.
For buyers, the takeaway is evident. The outcomes are higher when sector or thematic investments comply with a constant strategy. Passive ETFs present the basket, whereas a multi-sector fund of funds gives the construction, providing a calmer, extra systematic approach to keep aligned with a altering macro panorama.
The writer is principal — funding technique, ICICI Prudential AMC
