hich is the favourite sector of fund managers?
The answer: technology. Tech stocks are hot!
Which brings us to one question: if tech stocks form a large chunk of fund managers' overall stock portfolio, should it make you afraid?
After all, there were many investors who lost a lot of money when tech stocks crashed in 2000.
How safe are diversified equity funds?
Safer than sector funds. Let me explain.
In one way, a diversified equity fund is just like a sector fund; both invest in the shares of companies.
Diversified equity funds are supposed to be just that -- diversified. They are expected to invest in various companies of various sectors (industries). So a diversified equity fund will not be focused on one particular sector, but will invest in companies from the pharma, infotech, cement, steel, automobile, bio-tech and other sectors.
Sector funds will invest only in shares of companies of a particular sector. For instance, a pharma fund will only invest in pharmaceutical companies. A tech fund will only buy shares of infotech companies.
While a diversified equity fund offers diversification, a sector fund offers focus.
So what makes it safer?
A diversified equity fund is safer simply because it invests in so many sectors. If some are doing badly, the others will mitigate the risk.
A sector fund has all the companies from one sector. So if a tax is imposed on the profits of these companies, export earnings drop or, for some reason or the other, the profits of these companies start declining and their share prices fall, the fund manager can do nothing.
He cannot invest in another sector to balance the risk.
Also, let's say the technology sector has slumped but the banking sector is doing well. The fund manager in a diversified equity fund can buy and sell banking stocks to make a profit.
But, in a technology fund, he will have no such option. Either the sector does well or it does not.
Are diversified equity funds investing too much in the tech sector?
Memories of the year 2000 flood back.
Late 1999 and January 2002 saw the tech sector boom. The funds were ecstatic about the tech sector. Some funds invested up to 51% of their total investments in tech stocks -- extremely high and dangerous for a diversified equity fund.
Everyone soon realised this sector is as susceptible to ups and downs as any other.
And when the sector crashed in February 2000, diversified equity funds burnt their fingers (along with those of their investors).
Let's see the situation today.
Once bitten, twice shy!
Granted. In the last five years, fund managers of diversified equity funds have not been able to manage without tech stocks.
The reason is obvious -- this sector has grown phenomenally in the last decade and has great promise of growing more.
Should you be wary? No.
While the love for tech stocks has not diminished, it is worth noting what has changed in the last five years is the percentage of money invested in such stocks by fund managers.
From the beginning of 2001-02, diversified equity funds have the tech sector claiming the most of their money (in relation to the other sectors).
But it has been quite stable at around an average 14%.
So you can be assured that from their huge portfolios, only around 14% of the money is invested in tech stocks.
Fund managers are walking the safe path by reducing allocation to tech stocks, though they occupy prime position in every portfolio.
Today, fund managers invest in a number of sectors -- Fast Moving Consumer Goods, health care, textiles, automobiles, chemicals and engineering. A far cry from the year 2000!
Stocks from the financial services sector have witnessed a continuous rise. They now dominate many of the fund portfolios.
The financial services sector has become the second largest holding for all diversified equity funds, but technology remains the largest.
So rest assured, you are safe.
But do keep a watch
Don't just invest in a mutual fund and close your eyes. Make it a point to revisit your investments periodically.
Check how much the fund manager is allocating to various sectors. Look to see if just one stock or one sector is dominating the entire portfolio.
It is easy to do this. The fund house will send you periodic updates of their portfolio. You can even check it out on their web sites.
At the end of the day, it is your money. Make sure you do your bit to make it grow.
