Thematic or theme-based investing has emerged as a big thing in the investing world, with millions of new users investing in exchange traded funds (ETFs) or curated portfolios.
So what is thematic investing all about? Well, thematic investing has been around for several years now. But it has gained significant traction in the post-pandemic era—which has thrown clear winners and losers. The pandemic has accelerated the adoption of new technology, which was otherwise thought to be many years in the future.
Thematic investing is all about identifying a theme that will play out in the near future and companies that will benefit from it. It then involves curating a portfolio of stocks and investing in them—either at one-go or on a periodic basis, like through a systematic investment plan (SIP).
For example, electric vehicles (EVs) have emerged as a big investment theme globally. The key catalysts for this theme are the shift to clean technology and the shift away from vehicles powered by fossil fuels (petrol or diesel vehicles). In India, ‘affordable housing’ and Make in India have emerged as popular investment strategies given the policy push by the government.
Evolution of thematic investing
The launch of several new ETFs and the emergence of firms that help create curated portfolios, has led to new-age thematic investing take off in a big way. Earlier, thematic investing was focused on broader themes such as a particular sector like automobile and pharma or a country like the US or China. This has changed to something more niche like EVs, Make in India, online gaming or fintech. Within sector-based investing, there are now various sub-themes.
How to identify themes
The world is an oyster when it comes to thematic investing. You can use any idea or a filter to create a theme, identify stocks and invest. However, which theme will work and which won’t is something that one can find out only in the future. The approach one takes to create the theme often determines the success. Here are a couple of the things one can keep in mind while approaching theme-based investing.
1) Identifying the right catalyst: This can be a starting point. For instance, privatisation can be a catalyst to identify and create a basket of PSU stocks to invest in. Or digital payments can be another catalyst.
2) Investment horizon: The theme or the catalyst should be such that it will play out over the next 3-5 years. Investing in a space can be a good theme but maybe it is too early to execute the strategy or find the right stocks for it. Also, one has to be mindful of whether the theme has already played out. For instance, Make in India could have proved to be a good theme maybe a year ago.
Popular themes
Themes with government policies as a key catalyst are among the most popular themes in India. This may involve creating a basket of stocks that will benefit from transition to GST. Or stocks that will benefit from the production-linked incentive (PLI) scheme, which aims to boost domestic manufacturing of white goods. Further, themes such as rural growth, commodity upcycle, specialty chemicals and financialization of savings are popular. One doesn’t just have to look domestically, as investing in global equities has become easy. One can take the ETF or direct investing route for thematic investing. Some of the popular global ETFs are NYSE FANG +ETF (which invests in global tech giants) Battery Tech and Lithium ETF, e-Gaming, Global Cybersecurity ETF and Hydrogen ETF (which offers exposure to companies leading the way towards net-zero emissions).
Thematic investing is here to stay
There is debate on whether thematic investing is a fad or a structural change. However, given the evolving landscape and increase in the number of young investors, one can say that thematic investing is here to stay. At any given point, there is some theme or catalyst that is out there waiting to be identified. The innovation happening in this space around the way portfolios are constructed, monitored and rebalanced is making theme-based investing a very intuitive experience. A lot of young investors are also taking the DIY (do it yourself) route for thematic investing.
Understanding the risk
Over the past 18 months, both the global as well as the domestic markets have seen a massive bull run. As a result, most thematic schemes have performed well. However, one needs to see what would happen and how investors would react if there is a prolonged downturn. Also, with thematic investing, there is often a risk of hopes exceeding reality as a large number of investors chase a single theme or a few stocks. Another risk is being a late entrant to a party—investing in a theme where the best is already played out. Further, one needs to be mindful of liquidity in the underlying stocks. Often, most ETFs and curated portfolio service providers filter out stocks with low liquidity.