Defensive sector funds are exchange traded funds or mutual funds that invest in entities lying in recession proof industries. These industries are called defensive sectors because they tend to stay very stable whether the market is doing well or not. Investors can use these to defend major spikes and drops that may affect other parts of their portfolio.
To gain knowledge of how defensive sector stocks and funds work and how investors can make the most out of them to preserve the value of a portfolio in hard times, this article is perfect!
WHAT ARE DEFENSIVE FUNDS ?
By contrast, cyclical sectors depend highly on the economic cycle. So unlike cyclical sectors, non cyclical sectors like health tend to produce stable profits through all phases of the cycle of economy. Such companies produce goods or offer services that customers will buy no matter the market state. Staple like health care, food, and utilities are just a few of the many types of industry that a defensive sector fund may invest in.
But this is just one factor in building a defensive fund. Defensive stock can be found in many types of industries if the firm has great and strong earnings, pricing power, innovation and a track record of disrupting the status quo.
Also Read : Long Term Investments in Stock Market
WORKING OF DEFENSIVE SECTOR FUNDS
When they suspect the economy is headed for a decline, many investors start to pad up their portfolio with defensive sector funds. These funds are called defensive because they tend to maintain their earnings and profits during the downturn of the market. This permits them to perform better than the market at brand level during a market correction or a bearish phase.
A market correction occurs when the market declines between 10 to 20 percent, while a bear market has a decline of 20 or more percent. When you invest in defensive sector funds, your main goal is to defend against major decreases in share prices that may occur during these circumstances.
For example, during tough times, consumers will reduce expenditure on luxury items, such as travel, entertainment and high end clothing and buy only the things that they require like food, health and basic needs. If you buy defensive stock funds that invest in industries like these, your holding will decline less than other industry shares and funds. The assets that make up your fund are stocks that should remain mostly steady in price during a declining market.
Also Read : Top Mutual Funds in India
TYPES OF DEFENSIVE SECTOR FUNDS
Health care:
This broad defensive industry includes pharma, hospitals and other healthcare facilities, drug manufacturers and insurance companies and biomedical entities. Health is a defensive sector because these companies offer services or products that consumers will still need to buy in difficult times. After all, health is a major and prime concern, and people still visit doctors and refill their prescriptions when they can not afford other goods.
Utilities:
People depend on electricity, gas, water and other utilities in day to day life Utility stocks include entities that deliver these services. They are defensive because consumers still need them during an economic downfall. This fact makes the process of defensive utility stock funds less volatile to market fluctuations.
Consumer Staples:
Consumer staples, also referred to as consumer non cyclical stocks, tend to maintain more stability in price in a declining market than cyclical stocks. During an economic decline, consumers still need staples such as milk and cereals, and may even increase their use of so-called sin stock commodities such as alcohol and cigarettes.
Telecommunication Services:
This sector includes companies that offer communication services through fibre-optic, cellular, fixed line, high bandwidth networks and wireless. Their business follows known patterns through each phase of the economic cycle, and thus tends to preserve their value as the economy declines.
Certain commodities:
Commodities include crude oil, corn, coal, rice, tea, gold and silver. Not all of these basic goods are defensive by default but some are able to maintain prices which are stable during a declining economy. For example, gold has historically produced a high return amidst economic volatility because many investors see it as a secured alternative to shares.
THE CRUX
Defensive sector funds can minimize risk and losses in the value of your portfolio during economic declines. But these funds can still lose value during a correction or bearish phase. For this rationale, defensive funds are most effective when you use them as one part of a diversified portfolio of mutual funds.
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