Dan Lefkowitz, a strategist at Morningstar Indexes, gets uncomfortable when he hears about investing based on themes, he wrote Wednesday in a blog post. He knows whereof he speaks, having gotten burned buying internet stocks 25 years ago.
Thematic investors make a trifecta bet, according to Morningstar senior manager investment analyst Daniel Sotiroff: that the theme will pan out, that the investments chosen will benefit and that stock prices will rise. Themes are typically widely appreciated, he says, and perceived beneficiaries tend to be high-priced.
In 2024, Morningstar rolled out 15 Thematic Consensus Indexes, which include the stocks most commonly held by mutual funds and exchange-traded funds focused on specific themes. Their behavior and composition highlight the challenges that thematic investors face, Lefkowitz said.
Do Portfolios Benefit From Themes?
Many thematic investors are already sufficiently exposed through other portfolio holdings, Lefkowitz noted. The tech sector exceeds a quarter of global equities market value, and tech stocks represent a third of the U.S. market.
“Many of the thematic consensus indexes are heavy on technology, and because they are market-capitalization-weighted, they include generous helpings of mega-caps like Nvidia,” he wrote.
Given holdings overlap, correlations are high between some of the thematic indexes and the broad global equities universe, and low on others.
Mixed performance for thematic indexes are a caution to potential investors. Lefkowitz pointed out that bets against the broad stock market are hard to get right, as evidenced in the poor performance of most active managers and in systematic approaches, such as ones based on investment factors.
High correlations between many themes and the broad market should prompt investors to ask whether separate thematic investments are superfluous, he said. Lefkowitz added that growth trends like artificial intelligence explain much of the market’s recent gains and most of the largest stocks are thematic beneficiaries.
As well, many of the companies on the leading edge of themes — Stripe, OpenAI and SpaceX — are private.
Contrarian investors, Lefkowitz said, may be drawn to underperformers and less-correlated themes that could recover in coming years.
“The diversification they provide will be especially appreciated if AI, like the internet and many prior growth trends, leads to a bubble, then a crash,” he said.
See the accompanying gallery for the performance of Morningstar’s 15 thematic consensus indexes over a five-year period as of Sept. 26.
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