Thematic investing: capitalise on megatrends for high growth

We live in truly fascinating times.

As technology advances faster than ever, it also accelerates the pace of innovation across every aspect of our lives. Tiny semiconductors, made from transistors smaller than a strand of human DNA, now have the potential to power our data centres that store the billions of YouTube videos we collectively watch every day. Facebook’s (NASDAQ:FB) recent Meta rebrand, as a declaration to push the frontiers of virtual reality, has evolved from an absurd notion to something increasingly rooted in people’s expectations of future digital interactions.

One thing remains true: our world will continue to be shaped by these key transformative trends that will redefine the way we live, work, and play. As retail investors, it might be difficult to consistently identify and pick out the winners in this fast-evolving space. But sometimes, you can have your cake and eat it too. With thematic investing, investors now have a strategic way to closely align themselves with top trends for favourable investment outcomes.

In this article, we take a look at thematic investing — what it is, why it has gained popularity with investors today, and also some of the opportunities and challenges that come along with it.

What is thematic investing?

Thematic investing, or megatrends investing, is an investment strategy that focuses on seeking opportunities in predicted and enduring long-term trends, as opposed to selecting investments that bet on specific companies.

These trends are typically related to enduring macroeconomic, societal, and technological trends that lead to broader structural shifts in how we will live, and not those based on short-term swings and investor fanfare.

These trends can also be categorised into different themes, such as healthcare innovation, environmental resources, urbanisation, and many others. For example, the topic of sustainable investing has been increasingly important to investors today, and its encompassing themes would likewise be relevant.

Thematic funds strategically align on broader, enduring themes

Conventional sector investing primarily focuses on one particular sector. For example, a real estate sector fund would primarily focus on companies involved in the residential or commercial real estate sector.

On the other hand, thematic funds have a much greater breadth of diversification as they typically consist of companies across different sectors, but all are tied to a common underlying theme.

If you take a look at the Thematics Meta Fund, for example, you will see a diverse range of sectors comprising equities of companies that fall under Thematics Asset Management's artificial intelligence and robotics, safety, subscription economy, and water strategies. The fund is also not constrained to a specific region, allowing investors to gain exposure to equity markets on a global basis.

Overall, thematic funds generally provide for far broader diversification as compared to sector-focused funds.

Why has thematic investing become more popular?

Over the past couple of years, thematic investing has gained significant momentum with investors.

Beyond providing long-term exposure to the positive trends and structural shifts that are shaping our world today, thematic investments also provide opportunities to:

• Invest in the future you believe in — Thematic investments allow you to invest in a future you believe in. Technology has transformed the world drastically, and the future will be very different from what it is now. Think about how electric vehicles (EVs) will eventually impact the way we travel daily. While there is still much to be said about the amount of investor fanfare ascribed to pure play EV companies like NIO (NYSE: NIO), Tesla (NASDAQ: TSLA), and Rivian (NASDAQ: RIVN), there is certainly no denying that automobile companies have been turning to electric solutions faster than ever, and this is also priced into higher valuations for EV stocks. With other varying themes such as artificial intelligence and robotics or clean energy, thematic funds create access to investable opportunities of the future.
• Gain early exposure to hidden gems — At its core, thematic investing is about identifying trends and companies that will fundamentally change the world. Recognising linkages to these trends earlier provides greater potential for investors to experience higher growth in the stock prices. For example, innovation investor Cathie Wood’s ARK ETFs gained popularity in light of their early bets on winning stocks like Square (NYSE: SQ) and Tesla (NASDAQ: TSLA), making multibagger gains in their companies.
• Position sustainability at the forefront of your investments — Most importantly, sustainability is positioned as one of the core principles of thematic investments. Many investors prioritise sustainable investing, and thematic investing precisely allows for them to be positioned for the long term. This inclination has also been accelerated by the global Covid-19 pandemic, as the world witnessed how important ESG-related topics like healthcare innovation and societal wellness have become.

Overall, thematic investing is here to stay, and there will be more focus on it than before.

But with so many different themes available, how can an investor approach this strategy?

How to identify themes that are relevant and enduring

While each fund has its own unique strategy, themes are generally systematically evaluated based on the extent of their structural impact, potential for upside, and finally, breadth of diversification.

This table provides a simple summary of how it is done.

• Extent of structural impact — Themes must firstly have the ability to remain a long-lasting trend that will positively impact our world. These themes should neither be cyclical in nature nor be part of short-lived hype. For example, companies that the Thematics Safety Fund focuses on include those in future-proof areas such as cybersecurity, digital payments, and data centres, positioning you for exposure into important technological trends.
• Potential for upside — Themes should also consist of related companies with a potential for upside and continuous growth. Have these companies produced any valuable and groundbreaking solutions? Does this theme have a sufficient universe of companies with solid business fundamentals and valuations? These are just some of the questions that should be asked when narrowing down possible themes.
• Breadth of diversification — Lastly, the identified themes should also be well diversified in terms of its scope and mix of underlying sectors. A lack of diversification would mean a lack of meaningful allocations across different trends, but too much will also lead to a loss of appeal to investors compelled by a targeted theme.

Challenges faced by the everyday retail investor

In addition to the lack of client-first solutions, we also noted several key challenges commonly faced by retail investors in the current nascent thematic investing landscape:

• Themes can be a hit-or-miss — How do you pick out the winning themes and star players? As much as some trends are important, not all are guaranteed winners. A theme like healthcare might seem like a good option given its defensive nature, but more than 90% of these startups actually fail to produce approved drugs. Rather than identifying the best themes by yourself, it might be more prudent to stand on the shoulders of giants and rely on the strategies and due diligence of time-tested fund managers.

• Difficulty in picking single up-and-coming stocks with multibagger potential — How often do we find multibaggers like Tesla (NASDAQ:TSLA) or AMD (NASDAQ:AMD)? Even as we zoom in on a particular bullish theme of technology or sustainability, there are thousands of companies out there in the investable universe, and it is not every day that investors can find opportunities with stellar returns.
• Confusion and lack of choice with ETF investing — As more investment firms race to churn out investment solutions to ride on the back of thematic investing, investors have become not only spoiled for choice, but also increasingly confused and overwhelmed with the selection available. Exchange-traded funds (ETFs) from established fund managers like BlackRock or Schroders might not always be readily accessible to the retail market, while more specialised thematic firms like Global X have more than 190 options available, which is perhaps too much for comfort when trying to make an informed decision.‍

Get started with Endowus Megatrends Portfolio

For an optimal thematic investing experience, investors need access to wealth solutions that are built upon solid due diligence, backed by credible research, and constructed with only best-in-class thematic funds.

With this in mind, we sought to develop a client-first solution, and are proud to introduce our all-new Endowus Megatrends Portfolio.

As a key part of our core-satellite investment strategy, the Megatrends Portfolio gives you the opportunity to tap into the biggest future-driven themes impacting global markets. The portfolio is deeply aligned to strong structural growth opportunities, which are focused on improving the quality of life and making positive social change.

It is a 100% equities portfolio aimed at achieving high growth expectations through global themes backed by strong structural trends. The portfolio is made up of six best-in-class funds spanning the major themes of healthcare, technology, industrials, and more.

Investors might be most drawn to its attractive potential growth, diversification, and differentiation factors. What’s more, the portfolio introduces new funds previously unavailable to Singapore retail investors, and are managed by Alliance Bernstein, Allianz, BlackRock, Schroders, and Thematics AM — all leading specialists in thematic investing.

You can learn more about thematic investing here.

Next on the Endowus Fin.Lit Academy

Read the next article in the curriculum: Investing in China

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