Thematic ETFs attempt to profit from long-term macro or structural trends such as environmental changes, demographic shifts, or technological advances. They include funds like ageing population ETFs, which hope to capitalise on long-term demographic shifts, but excludes those like Japanese Exporters ETFs, which are useful for making economic calls but lack a cohesive longer-term narrative that transcends the business cycle.
Unlike other investment approaches such as strategic-beta strategies, the best of which are tested across sprawling historical datasets, thematic investing is entirely focused on trends that have yet to fully play out.
This lack of track record means that a thematic investment proposition rests heavily on the research supporting the theme, making it particularly difficult to evaluate the robustness of the strategy. In many cases, the lack of appropriate benchmark or robust peer group also means that even ex-post performance is difficult to assess
The Growth of Thematic ETFs in Europe
Assets in thematic ETFs in Europe have skyrocketed over the past three years, increasing almost sevenfold, albeit from a low base. Total European assets now sit just shy of €7 Billion. This growth has been driven by a handful of products.
The five largest ETFs account for 73% of total thematic ETF assets. The top two, iShares Automation & Robotics ETF (RBOT) and L&G ROBO Global Robotics and Automation ETF (ROBO), account for almost half.
The European thematic ETF market remains small in terms of both assets and number of funds relative to the US market, which has embraced thematic ETFs to the point of offering exposure to eye-catching and sometimes controversial strategies such as obesity, organics, and marijuana ETFs.
Following the success of the robotics funds, we anticipate that more thematic ETFs will hit the shelves in the coming years, particularly in the technology space, tracking themes such as cloud computing, artificial intelligence, and e-commerce.
What’s on Offer?
We have identified 31 ETFs in Europe that meet our definition of thematic. Within that list are a jumble of themes and approaches. To have a better understanding of what’s on offer, we have grouped these thematic ETFs loosely into three buckets: technology, environmental, and social.
Hogging almost three fourths of total assets, technology thematic ETFs are the most popular grouping. The biggest winners have been the robotics and automation strategies, which hope to gain from a mass adoption of robotics technology. Also available are several ETFs focusing on the digitisation of the global economy or health/pharma tech.
Environmental themes tie together the second most popular grouping. These ETFs tend to be older than their tech counterparts. They are dominated by natural resource ETFs, in particular those with a water focus, which are designed to gain from shortages in fresh drinking water exacerbated by a changing climate and a booming global population. Finally, a handful of funds that have launched in the past few years focus on social themes, such as ageing population and gender diversity.
Passing Fad or Enduring Theme?
Thematic funds rightly have to fend off accusations of being "gimmicky" or of tapping into fashions that will soon swing out of favour as interests shift to the "next big thing." We need only glance at the rogue wave of launches and subsequent closures of internet-themed funds in the late 1990s and early 2000s to validate this concern.
While surveying the ever-expanding menu of increasingly exotic themes, an investor might well ask: Will the thematic ETF I buy today still exist in 10 years? To address this question, we can look at fund mortality rates: 35% of all thematic ETFs launched in Europe have already closed.
Astonishingly, this figure more than doubles to 80% for all thematic ETFs launched prior to 2012. For context, less than half of all equity ETFs have closed over the same period. Only two of the 18 funds that have closed ever breached €100 million in assets, and then only for a brief period.
High management fees have certainly contributed to this lack of success, but the full picture is more complex. Whatever the specific reasons, history suggests that even if we select a winning theme, we will be lucky if our chosen ETF survives long enough to profit. For the investor, fund closures have a number of direct and indirect costs.
Caution is therefore warranted. As usual, a sceptical approach will yield the best investment outcomes. While fund providers will give you plenty of reasons you should invest, it pays to examine their claims closely. A robust strategy should be loose enough to adapt as the specifics of the chosen theme inevitably evolve through time.
There would have been a big difference in outcome between investing hypothetically in a digital music ETF and a rival MP3 player ETF back at the turn of the millennium. On the other hand, it shouldn’t be so loose that it dilutes any gains or is too similar to more-vanilla existing sector or broad equity strategies.
