Imagine that you have managed to identify the revolutionizing potential of Internet in the 90s. “I’d be rich!”, – yes, this is exactly the point. A successful bet on a market theme allows you to “sail with the wind”: your portfolio grows in line with a massive systemic transformation of the economy.
Thematic investing is a simple concept that has been around for some time. The idea behind is to build up an investment portfolio based on a certain massive long-term trend that you believe will make an increasing impact in future. In other words, we are talking about a top-down investing strategy that exploits undervalued systematic macro trends.
The loose common characteristics across the thematic investing include the tendency to be global, equity-focused, cross-industry, – when not contradicting to an investment theme in question.
The spike in popularity
Thematic investing seems to be widely discussed today. This because of its spike in popularity.
Growing appetite for thematic investing comes from demand to identify easy-to-understand drivers of equity returns. The rise in demand is also fueled by the marketing efforts of the big fund providers (BlackRock, Lyxor, Robeco and many other). The expectation is that thematic investing will help differentiate the financial products and win loyalty of the retail masses.
Why is thematic investing appealing from our perspective?
Thematic approaches can easily make our investments be an extension of our personality: our lifestyle, convictions and hobbies. Retail investors get emotionally attached to their portfolios. After all, when it comes to arguments on where we go as a society, we all like to be right.
The common investing themes
Thematic investing is quite straight forward. We observe a variety of 50+ well-defined investment themes, packaged in a form of ETFs and mutual funds (UCITS). On top of this, the big financial institutions often like to throw in a couple of “unique” thematic offerings to emphasize their expertise (e.g. the “Differentiated Insights” theme by Fidelity Investments). Here are some of the common investment themes that we consider worth observing.
Holdings of a thematic instrument would generally reflect its overarching theme. For example, ARK Innovation ETF invests in disruptive innovation, which could mean companies involved in, say, automation technology or genomics. This ETF is one of the largest instruments in the thematic category, with $21.53 billion in assets, according to ETF.com.
The drawbacks
This all sure sounds exciting. Tell me more about the other side of the coin.
Singular trends come with a large risk. Because thematic assets may be concentrated in one industry or sector, they are likely to experience a fair share of volatility. As everyone tries to chase “the new Internet”, thematic strategies are prone to bubbles and herd behavioural patterns. Critics of thematic investing claim that the fund providers harm investors by encouraging them to chase the latest fad, usually too late.
The whole idea of thematic trends is that the growth will take time and subject short-term swings.
From our perspective this argument is justified. How would we address this issue? The short and simple answer lies in smart diversification. Don’t focus on a single trend only! Perfectly, we would identify several trends that work well together and supplement them by more certain (although less emotionally exciting) assets like bonds or passive index instruments.
The bottom line
It is interesting to observe how thematic investing reshapes the landscape of retail finance. Will this strategy stick around or will it go away with the next market cycle? What investment themes resonate with you the most so far? Perhaps you can identify a new theme and get ahead of the curve?
