Investing in mutual funds has become a popular choice for individuals seeking to grow their wealth over time. Among the various types of mutual funds, thematic funds and sector funds offer unique opportunities for investors to tap into specific market trends and sectors. If you’re considering these options, it’s important to understand everything related to Thematic Funds vs Sector Funds, advantages, risks, and taxation implications. In this article, we’ll dive deep into thematic and sector funds, providing insights tailored for Indian investors.
What are Sectoral Funds?
Sectoral funds are a form of equity mutual fund that focuses its investments on a particular sector or industry of the economy. Sectoral funds pool money from multiple investors and use it to purchase stocks of companies operating within the chosen sector. The goal of sectoral funds is to capitalize on the growth potential of that particular industry.
For example, an investor interested in the pharmaceutical sector could invest in a sectoral fund that primarily holds stocks of pharmaceutical companies. This allows the investor to gain exposure to the performance and growth of the pharmaceutical industry as a whole.
Example: Let’s consider an individual named Rahul. He believes that the technology sector is poised for significant growth due to increasing digitalization trends. To benefit from this potential growth, Rahul invests in a technology sectoral fund. As the technology sector thrives, the value of the fund’s holdings increases, leading to potential gains for Rahul.
What are Thematic Funds?
Thematic funds are another category of equity mutual funds that invest in stocks centered around a specific theme or idea rather than focusing on a single sector. These funds have a broader scope and can include companies from various sectors that are aligned with the chosen theme. Thematic funds provide investors with exposure to a diversified portfolio that revolves around a particular concept.
For instance, a thematic fund with a focus on “digital innovation” might include stocks from sectors like technology, e-commerce, and telecommunications, all of which contribute to the theme of digital transformation.
Example: Consider an investor named Priya who believes in the potential of renewable energy sources. To support her belief and potentially profit from the growth of renewable energy, Priya invests in a thematic fund dedicated to the “clean energy” theme. This fund includes stocks of companies involved in solar energy, wind power, electric vehicles, and related areas, giving Priya exposure to the broader clean energy trend.
Thematic Funds vs Sector Funds
Differences Between Sectoral and Thematic Funds
- Investment Focus: Sectoral funds focus exclusively on a single sector, while thematic funds invest across multiple sectors tied to a common theme.
- Asset Diversification: Sectoral funds offer minimal diversification since they are concentrated within one sector. Thematic funds offer relatively more diversification as they span multiple sectors related to a theme.
- Risk Profile: Sectoral funds are riskier due to their single-sector focus, while thematic funds have a slightly less aggressive risk profile due to broader diversification.
Advantages of Investing in Sector and Thematic Funds
Investing in a high-growth sector can yield substantial returns when demand for its products or services is on the rise. Both sectoral and thematic funds provide avenues to capitalize on these growth opportunities.
Risks of Investing in Sector and Thematic Funds
However, it’s important to note that these funds come with risks. Concentrated investments in a single sector can lead to significant losses if that sector experiences a downturn. Thematic funds, while more diversified, still rely heavily on the performance of a specific theme.
Taxation of Sectoral and Thematic Funds
Taxation of Sectoral Funds
Sectoral funds, like thematic funds, are treated as equity-oriented funds for taxation purposes. The following taxation rules apply to sectoral funds:
- Short-Term Capital Gains (Less than 12 months): If you redeem your investments within 12 months from the date of purchase, your gains are considered short-term capital gains. These gains are subject to a tax rate of 15% plus applicable surcharge and cess.
- Long-Term Capital Gains (More than 12 months): If you hold your investments in a sectoral fund for more than 12 months, your gains fall under the category of long-term capital gains. For gains above Rs. 1 lakh, you are required to pay a tax of 10% plus applicable surcharge and cess. However, gains up to Rs. 1 lakh are tax-exempt, providing some relief to investors.
Taxation of Thematic Funds
The taxation rules for thematic funds are similar to those for sectoral funds, as both are equity-oriented funds. Here’s how taxation works for thematic funds:
- Short-Term Capital Gains (Less than 12 months): If you sell your thematic fund units within 12 months of purchase, the gains are considered short-term capital gains. These gains are subject to a tax rate of 15% plus applicable surcharge and cess.
- Long-Term Capital Gains (More than 12 months): If you hold your thematic fund investments for more than 12 months, your gains fall under the category of long-term capital gains. Just like sectoral funds, gains above Rs. 1 lakh are taxed at a rate of 10% plus applicable surcharge and cess. Gains up to Rs. 1 lakh are exempt from tax.
Who Should Invest in Sectoral and Thematic Funds?
Investing in these funds requires careful consideration. They are suitable for investors with aggressive risk appetites, market knowledge, and a long-term horizon. However, exposure to sectoral and thematic funds should generally be limited to around 10% of one’s portfolio.
Conclusion and Considerations
Thematic and sectoral funds offer unique opportunities to tap into specific market trends and sectors. While they can potentially provide attractive returns, it’s crucial to approach them with a clear understanding of the associated risks and rewards. Consulting with a financial advisor is advisable to align your investment choices with your financial goals and risk tolerance.
Thematic and sector funds are better suited for experienced investors who have a strong understanding of market trends and sector dynamics.
Short-term gains in both thematic and sector funds are taxed at a rate of 15% plus surcharge and cess.
Diversification is key to reducing risks. Thematic funds offer relatively more diversification compared to sector funds, helping mitigate the impact of underperforming sectors.
No, thematic and sector funds do not offer tax deductions under Section 80C. These deductions are applicable to specific investments like ELSS.
Yes, there are thematic funds in India that focus on ESG themes, investing in companies that excel in environmental, social, and governance practices.
Disclaimer: Investments in the securities market are subject to market risks; read all the related documents carefully before investing.