You may have heard that investing in sectors of the economy is a smart thing to do but knowing something and understanding how to do it are two separate equations. Here, we have put together our best tips to help you understand the why and how to Invest Better in Sectors.
What is a Sector Fund?
Lets get started with the basics, for example, what exactly is a sector fund? If you didn’t know, a sector fund is a ‘mutual fund’ or an ‘exchange-traded fund’ (ETF) that invests its assets in one particular industrial sector. Every sector has many ETFs and mutual funds behind it, and each respective sector fund may have a slightly different set of holdings, even if they invest in the same sector.
How to Invest in Sector Funds
When making the move to begin investing in sector funds, you should ensure that you have a wise portfolio structure. This should begin with a core holding, representing the largest portion of your portfolio, and then from this add satellite funds, which make up smaller percentages of your portfolio. Once you feel it is time to add sector funds to your portfolio, you should consider whether you want to choose a few sectors for long-term investing, a few sectors for short-term investments, or a combination of both.
If you’re struggling to understand the difference, then think of it this way. One investor may deem that technology and health are two sectors that can outperform the broader market in the coming decades. Because of this, they may choose to invest in these sectors for long-term investment. On the other hand, short-term investments may include an investor shifting some portfolio assets in anticipation of a recession and bear market. This is known as a ‘defensive strategy’, and defensive sectors include utilities, healthcare, and consumer staples sector. Please note, this is not the same “defensive sector” that includes arms manufacturers and companies associated with war, instead those companies are part of what is known as the “aerospace and defence sector.”
Take Caution with Investing in Sector Funds
You may be wondering what the ideal allocation is to assign each sector fund in your portfolio, and there while there is no ‘perfect allocation’, we feel that good percentage maximum to keep in mind is 5%. This may sound like a small allocation, but this is just enough to add diversity to your portfolio and achieve a boost in returns with minimal risk attached. So, for example, if you decide to add three sector funds to your portfolio, each with a 5% allocation, you will total a sector allocation of 15%.
When investing, keep in mind that larger amounts invested into sector funds may add significant risk to your portfolio. Take for example, biotechnology stocks, this is a sub-sector of health which has seen some incredible short-term gains. However, they have also had some large declines. For this reason, if an investor bought too much of a biotech sector fund just before a big decline, it could do significant damage to the portfolio, which is why it is best to keep the investments to a small percentage.