When an investor uses a thematic investing approach, they’re focusing their investing efforts on predicted long-term trends instead of specific companies or industry sectors. This investing approach helps investors capitalize on changes that happen across entire industries and can affect companies’ earnings, among other impacts. Thematic investing is a strategy that capitalizes on opportunities in the market created by geopolitical, macroeconomic, and technological trends.
Learn more about what thematic investment is, how it works for individual investors, and what some of the arguments for this strategy are.
Definition and Examples of Thematic Investing
Thematic investing is a type of investing approach that prioritizes trends predicted to be successful over the long term instead of investing in specific companies or sectors. Because this approach looks at longer-term movement across an entire market, investors have the ability to gain exposure to structural, one-off shifts that can affect the industry as a whole.
To better understand how thematic investing works, let’s take a look at large international brokerage firm BlackRock’s thematic investing philosophy as one example. Its philosophy for thematic investing focuses on a few different megatrends, all of which are driven by technological breakthroughs. These include:
- Rapid urbanization
- Climate change and resource scarcity
- Shifting economic power
- Demographic and social change
The “themes'' in thematic investing can focus on a wide variety of trends, such as food revolutions, the digital economy, smart cities, and autonomous technology. It’s helpful for investors to learn more about these emerging trends as they build out their portfolios and make investing decisions following this approach.
There’s a growing interest in thematic investing, as it fills a need to identify future drivers of return from equity investments. This gives investors the potential to outperform traditional broad indexes that reflect the movement of a market as a whole. Many investors will appreciate that thematic investing has the potential to help them position their portfolios for long-term growth opportunities.
Why are some investors such big fans of thematic investing? Many consider it to be an innovative way to invest in the future while investing in the values that can help shape our world for the better. You also gain exposure to megatrends in your portfolio and possibly can capture companies poised for longer-duration growth across many different sectors and geographical areas.
How Thematic Investing Works
- Long-term trends
Many thematic investing strategies focus on megatrends, disruption in major industries, sustainable investing, outcomes, and differentiated insights. Some investors may choose to invest in themes that align with their personal values or beliefs. Thematic investing allows you to channel your money where you believe the world is heading or where you hope it will move.
An example of a value-based thematic investing strategy would be investing in women-run companies or companies that prioritize environmental sustainability. Of course, finding quality investments that align with the strategy of your investment plan while also reflecting your personal beliefs is usually the end goal of thematic investing.
You can invest in thematic mutual funds or ETFs, which allow you to receive the benefits that come with professional investment research and management. Investing in mutual funds or ETFs enables you to tap into the efforts of professional portfolio managers and research teams who aim to create strong-performing funds. Investing in a thematic fund allows you to diversify your investment in a specific theme to limit risk.
While an individual investor may choose to add a small number of stocks relating to a specific theme to their portfolio, this strategy generally comes with more risk than investing in funds that spread the risk out across many different companies.
Thematic Investing vs. Sector Investing
Because sector investing works in a similar way to thematic investing, it’s easy to get these two strategies confused. Sector investing involves targeting companies that fall into specific segments of the economy, such as information technology or energy. A thematic investing approach, on the other hand, can touch multiple sectors in an attempt to align with a market opportunity or specific objective.
Let’s look at an example of how these two strategies compare in similar industry holdings:
- Sector investing: Investing in companies that make up one of the following industries: semiconductor makers, cell phone tower operators, or social media companies.
- Thematic investing: Investing in some or all of the following sectors at once, as they align with a theme of disruptive communications: semiconductor makers, cell phone tower operators, and social media companies.
Is Thematic Investing Worth It?
Choosing a thematic investing path can have some negatives, though. According to investment research firm Morningstar, in the search for companies with the highest exposure to emerging themes and the greatest growth potential, thematic funds often invest in smaller, less liquid stocks and may pile into the same companies’ shares. Micro-cap stocks can offer promising upside, but limited liquidity means trading in them at short notice can be costly in terms of fees.
And the growing popularity of thematic funds and ETFs, which tend to have narrow exposures and, if passively managed, must buy and sell in line with index rules, also has raised questions about liquidity. As thematic funds have grown and gained popularity, their holdings also have expanded—and these funds tend to gravitate toward similar names, Morningstar has found.
In general, with their narrow exposure and higher risk profile, thematic funds are best used to complement, rather than take the place of an investor’s existing core holdings.
- Thematic investing involves centering an investment strategy on a defined long-term trend instead of buying into specific companies or industry sectors.
- Thematic investing is a long-term strategy and it capitalizes on opportunities in the market resulting from geopolitical, macroeconomic, and technological trends.
- It’s easy to confuse sector investing with thematic investing, but sector investing only targets companies that fall into specific segments of the economy, whereas thematic investing spans several industries.