Investors’ infatuation with thematic strategies has been showing signs of abating. In 2024, Europe-domiciled thematic exchange-traded funds had their first full year of net outflows (EUR 1.1 billion) in a decade, even as ETFs more broadly reported record inflows.
“Thematic investing is still suffering something of a hangover from the excesses of the post-Covid boom”, explains Kenneth Lamont, principal at Morningstar. “This can be read as part of the active-passive story, with passives gathering the bulk of the assets. Even passive thematics can be considered active as they are making large bets against the broad market, he continues. With this in mind, it is less surprising we have seen outflows in thematics more broadly”.
Redemptions have been driven by the cooling of interest in sustainable themes such as the energy transition. “The need for sustainable energy solutions is unlikely to disappear so this may be the time for investors with medium to long-term investment horizons to consider buying in”, Lamont says.
Thematic ETF Launches Don’t Stop Despite Outflows
However, assets under management and the menu of thematic ETFs available in Europe continued to expand in 2024: at the end of last year we counted 229 thematic ETFs in Europe, compared to 205 through December 2023.
The big winners among themes for 2024 have been those most exposed to the Magnificent 7, including fintech, artificial intelligence, big data, robotics and automation, all of them comfortably outshining global equities. They have clearly benefited from the boom in AI.
On the other hand, the big loser of 2024 was battery technology. Miners also were hit with tumbling lithium prices while battery producers faced overproduction.
iShares Dominates the Market
As with the ETF market more broadly, iShares is the dominant player by size, although the specialist nature of thematic investing means other smaller providers such as VanEck, WisdomTree and Global X all appear in the top-ranked providers. Morningstar’s Lamont explains that “The key differentiator when it comes to thematics is trust that the management company will keep the fund open long enough to benefit from the development of the theme. In a corner of the fund universe where fund launches and closures run high, this is not a given”.
What to Expect in 2025 from Thematic Investing
Thematic investing attempts to harness secular growth themes. Its very nature is to be mutable, and it is therefore normal for new investment themes to emerge periodically.
“In terms of launches I would anticipate our first quantum computing ETF and potentially some launches in the deglobalization and onshoring space”, says Kenneth Lamont. However, investors should remember to look at any new launch closely before investing. “There is no doubt that quantum computing is a potentially world changing technology, but we must ask ourselves how many stocks represent pure plays at present and what exactly would be driving the prices of these stocks today”, he continues.
3 (Hard) Bets to Win When Investing Thematically
Thematic investing has a powerful narrative. It appeals to investors because they are relatively easy to understand. Investing themes tend to tap into powerful narratives that are often well-known to investors, including ageing populations, the shift to a digital economy, or the rise of electric vehicles. That arguably makes them easy to relate to.
Investors in thematics are essentially making three bets: that their chosen theme will grow as expected, that the companies their funds hold are positioned to profit from the growth of that theme, and that profit growth will translate into attractive stock returns.
The truth is the probability of winning these bets is low (but the prospective payout can be high). Morningstar Research shows the percentage of funds that survive and outperform a global equity benchmark (like the Morningstar Global Markets Index) over various time periods.
While there have been short periods in which thematic funds have chalked up eye-catching returns, most notably in the post pandemic bull market, performance over other periods hasn’t been nearly as compelling. In Europe, an astonishing 68% of the funds that existed in mid-2009 had closed by mid-2024. This attrition rate severely limited the chance of an investor picking a winner over this period. In fact, just 5% of funds survived and outperformed global equities over the period.
The author or authors do own shares in any securities mentioned in this article. Find out about Morningstar's editorial policies.
