HDFC Defence Fund has delivered a 42.7% annual return over the last three years, managing a corpus of Rs 9,724 crore. While these returns highlight the strength of the defence sector, investors should consider the risks of putting money into a single-industry thematic fund compared to a diversified portfolio.
What Happened
The HDFC Defence Fund has recorded a 42.7% Compound Annual Growth Rate (CAGR) over the last three years, according to performance data as of June 24, 2026. This performance marks it as a top contender among thematic mutual funds. In the same period, other sectoral funds like the SBI PSU Fund and Aditya Birla SL PSU Equity Fund reported lower annual returns of 28.9% and 26.5%, respectively. With a total corpus (Assets Under Management) of Rs 9,724.3 crore, the fund has grown significantly, outperforming its benchmark index by a wide margin over the three-year and one-year timeframes.
Why Thematic Funds Are Different
Investors should note that the HDFC Defence Fund is a thematic fund, which is fundamentally different from a diversified mutual fund. A diversified fund spreads its investments across many sectors like banking, IT, and consumer goods. In contrast, a thematic fund invests almost entirely in stocks from one specific sector—in this case, defence.
While this can lead to high returns when that specific sector is booming, it also means the fund is highly dependent on the performance of just a handful of companies. If the defence sector faces a downturn, policy changes, or a slowdown in government orders, the fund does not have other sectors to balance out the losses. It is essentially an "all-in" bet on one industry.
The Drivers Behind The Returns
The performance seen in this fund is largely a reflection of the massive growth in India’s defence manufacturing sector over the past few years. Key drivers include the government’s "Atmanirbhar Bharat" (Self-Reliant India) policy, which prioritizes buying defence equipment from Indian companies rather than importing them.
Additionally, Indian defence companies have been securing significant export orders and long-term contracts for supplying everything from aircraft components to ammunition. As these companies ramped up production and improved their profit margins, their stock prices moved up, which directly boosted the returns of the mutual fund.
The Valuation And Concentration Risk
When a sector becomes popular and stocks perform well for several years, a common risk is that these stocks become expensive. If the share prices of these companies start to reflect all future growth expectations, any slight delay in project execution or a minor policy hurdle can lead to a sharp correction in stock prices.
Furthermore, because the fund is limited to the defence sector, it carries concentration risk. If a few major companies in the portfolio struggle, the entire fund’s performance can suffer. Investors looking at past returns should remember that these were driven by a specific cycle in the defence industry, which may or may not continue at the same pace.
What Investors Should Track Next
For those who have invested or are considering such funds, looking at the following is more important than just past returns:
- Order Book Health: Check if the underlying companies in the fund are still winning new contracts. A slowing order book can signal a future slowdown in earnings.
- Policy Stability: Any shift in government defence spending or import-export policies can directly affect the profitability of these companies.
- Valuations: Monitor if the defence stocks held by the fund are becoming too expensive relative to their actual earnings. High valuations often leave little room for error.
- Sector Outlook: Keep track of the broader defence industry growth rather than just the fund's monthly returns, as the sector's long-term health will determine the fund's future performance.