In general, thematic investing utilises research to identify companies relevant to a particular theme and then group them into lists, baskets, or funds you can invest in. This differs from sector investing as it can include investments that span across multiple industries, making your portfolio much more diverse.
To put it simply, thematic investing methods involve using research to identify significant opportunities or investing in popular trends.
Take artificial intelligence (AI) for example. AI does not have its own sector of classification. Many companies and sectors are developing and utilising AI, none of which of them truly represent the field. Instead of figuring out what goes where, you can instead create a single portfolio that encompasses what all these businesses are doing.
Most investors tend to not have the most efficient equity portfolios despite having the right investment approach due to a lack of expertise and time. Thematic investing offers a solution by allowing you to invest in different and specialised sectors that can offer concentrated exposure in line with your beliefs and interests.
How to build themes
Traditional industrial sectors group companies doing similar kinds of business, while traditional indexes choose companies based on their market capitalisation. On the other hand, thematic strategies start with an idea or trend and find publicly traded companies that seem relevant.
This makes thematic investing a somewhat research-intensive strategy as a company’s thematic relevance may not be obvious from its name or main business line. For example, a company that manufactures solar panels is easy to place into a renewable energy theme. But what about a video game company that has a small unit dedicated to developing transformative video processing technology?
With the lack of standard classifications, investors will have to rely on research to identify investable themes and find investments that support those themes. One solution may be the use of AI to scan company reports and other information to pull potentially thematically linked companies together or to rely on the expertise of professional fund managers to declare a theme and pick out the relevant stocks. From there, you can assess whether or not the grouped portfolios are performing as expected.
Assessing thematic investments
Every investor takes on the role of a watchdog to ensure that their investment continues to suit their goals. This is no different with thematic investing. So, here are some points to consider when evaluating a thematic investment or buying stocks from a thematic list.
How durable is the theme?
It is important to determine if a certain investment is truly a solid technological development or social forces that are likely to persist into the future, rather than mere fads. Time frame is also just as important as you wouldn’t want to invest in new innovations or social change that won’t last for the period of your involvement.
Is it a sound approach?
Dig up some information on stock strategies if they are available. Some stocks may surprise you or come from sectors you wouldn’t have thought to look in. However, if a stock pick seems random, based on a hunch, or if the rationale for it is unclear, consider double-checking it to be safe.
Does the theme fit your portfolio?
As you diversify your portfolio, you should begin to ask if your thematic investment fits the rest of your holdings. Similarly, if you already have a lot of growth or value stocks, you should check to make sure a thematic investment doesn’t hold back your portfolio.
What is your investment goal?
Your investment goal is something you will have to decide for yourself. Set your benchmarks and targets and choose your thematic investments based on these parameters.
Is the strategy performing as intended?
Just like any other investment, you should keep an eye on it once you have committed. For thematic investing, keep an eye out for what might be called style drift, in which a fund manager or research team appears to drift into areas of the market that don’t quite fit their strategy. This can happen if they are searching for better returns if their original picks fall off.
Is thematic investing right for you?
Thematic investing strategies offer investors the opportunity to invest according to their interests and beliefs. This approach also opens the way to new kinds of diversification and the extensive use of clever research in your investing portfolio. Just keep in mind that all the old, traditional rules of investing still apply. Keep close tabs on your investments and only invest what you are willing to lose.
