In a world in which institutional investors are paranoid about paying active management fees for closet indexing, thematic strategies are among the best of foolproof solutions. This helps explain why some managers have seen strong growth in theme-based mandates.
Among the biggest purveyors of thematic investment is the asset management wing of Geneva-based private bank Pictet Group. The firms assets in theme-based strategies have jumped by 400 percent since 2009, to $22 billion. Pictet has funds investing in ten separate themes, including a $4.02 billion water fund and a $1.17 billion timber fund. Inflows to its $3.54 billion Global Megatrend Selection fund, which invests in a combination of themes, totaled $995 million in 2014.
One things for sure: Theres no closet indexing in these strategies, says Richard Heelis, chief investment officer, equities, at Pictet Asset Management in London. Only 15 percent of the stocks in the Global Megatrend fund are in the MSCI World index, he notes. You get a high degree of specialized exposure. The funds top-ten holdings include shares of life sciences company Thermo Fisher Scientific, footwear and apparel maker Nike and retailer Macys.
The returns of Pictets various funds testify, in some cases to a marked degree, to the fact that themed investing can both underperform and outperform the market as a whole. The figures should also put to rest any notion of index hugging. Its biotech fund has returned an annualized 7.8 percent since it was set up in 2000, compared with only 3.6 percent for MSCI World though Pictet emphasizes that the MSCI World figure is merely a reference point rather than a benchmark. Its clean energy fund, by contrast, has suffered an annualized return of 1 percent since 2007, compared with a positive return of 2.9 percent for MSCI World.
Investors who are skeptical about the return potential of themed funds argue that it is extremely hard to think up new themes, making it difficult to find value, they say, since stocks seen as tapping into a particularly promising theme are likely to have been bid up already.
One solution is to get in early. Some themes might be obvious with hindsight but not always obvious at the time, says Heelis. The water fund is 15 years old, and the agriculture fund is seven years old. You dont get a better long-term secular story than water, says Heelis. They dont make it anymore.
Responding to criticism about value, Heelis poses his own question: Do we have slightly higher multiples of earnings? Yes, sometimes. But thats more than balanced out by the long-term growth story.
Sarah Carne, acting head of equities in Melbourne, Australia, for the Future Fund, a A$109 billion ($84.44 billion) sovereign wealth fund, accepts that the valuation of a theme is very important. While we do not believe that we can easily time themes, we are always monitoring the overall pricing of our themes to make sure we are not overpaying for them, she says. We would seek to exit a theme if we believed that it was fully recognized by the market.
Much of the skill lies not in thinking up the themes but in making a return from understanding the details, says Heelis. At Pictet, this is done in part by using advisory boards of three to six people, including academics, who help identify subthemes that can be picked up by the two or three portfolio managers who run each strategy. The water fund, for example, has invested in American Water Works Co., the largest publicly traded utility in the U.S., partly because of the subtheme of water infrastructure shortages in the U.S.
For some investors, the notion of allocating assets to themes remains a step too far from conventional benchmark-driven strategies. But even for these investors, thematic investing has its place. We think that themes are useful lenses to look at your portfolios, but this doesnt necessarily mean altering your portfolio construction, says Jane Goodland, co-head of sustainable investment at consulting firm Towers Watson in London. Rather, it means recognizing that themes may play an increasingly important part in shaping where risk is embedded and returns are derived in your portfolio.
Themed strategies have attracted institutional investors who want to adopt a long-term perspective. Says Laurent Ramsey, global head of distribution at Pictet Asset Management in Geneva: If youre not going to stay for five to seven years, theres no point in investing in it.
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