What is a 'Sector Fund'

A sector fund is a fund that invests solely in businesses that operate in a particular industry or sector of the economy. Sector funds are commonly structured as mutual funds or exchange-traded funds (ETFs).

BREAKING DOWN 'Sector Fund'

Sector funds allows investors to take targeted bets on the appreciation potential of a particular industry category. Certain sectors may offer high growth potential due to economically driven investing catalysts. Sector investing can also be part of a broad portfolio strategy with certain sectors offering characteristics applicable for specific portfolio allocations.

A sector fund will have portfolio constraints requiring the portfolio manager to choose investment securities for the fund that fall within the fund’s targeted objective. Sector funds offer the advantage of diversification through multiple holdings in a portfolio. However, overall sector funds will have idiosyncratic risks that affect the entire portfolio due to their targeted sector exposure.

Some sectors and sector fund investing categories may require greater due diligence than others. Certain sectors are also typically associated with market cycles. Consumer cyclical stocks for example include companies involved in automotive, housing, entertainment and retail activities. These companies and market sub-sectors do well when an economy is growing. Consumer staples stocks including companies involved in home utilities, food, beverage and household items production are known to be more stable through all types of market cycles.

Generally, one way to follow the risks and volatility of a sector is by following its beta. From 2014 to 2017, the S&P technology sector reported one of the highest GICS sector betas at 1.08 and the utilities sector one of the lowest betas at 0.11. The technology sector reported a three-year annualized total return of 17.66% during the 2014 to 2017 timeframe, beating the S&P 500 Index’s return of 11.34%. The return of the utilities sector was 7.33%, just below the Index’s return, as expected by its lower beta.  

Sector Fund Investing

In some cases an investor may wish to invest in a passive fund replicating the investments of a particular sector to take advantage of appreciation expected from that sector. The State Street Global Advisors SPDR series offers investors individual ETFs tracking the holdings of ten sectors comprehensively encompassing the entire S&P 500 Index.

Investors may also seek out active sector funds for potential gains from a sector with high growth prospects. The Web x.0 ETF (ARKW) is one example of an active fund investing primarily in the technology sector. This fund focuses on internet-based technology with investments in cloud computing, e-commerce and social media businesses. As of January 2, 2018, ARKW had a one-year return of 58.35%.

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