Thematic Funds Are Hot. But Should You Recommend Them?

Where's the Interest?

Thematic funds domiciled in Europe have the greatest share of the market, with 54% of assets, up from 2% in 2000. In contrast, the share of assets in funds domiciled in North America decreased to 16% from 28% over the same period (although in the last trailing five years all areas had had inflows).

Most of these funds are actively managed; however, in North America, 80% of the funds are passively managed, largely due to the success of ETFs, according to Johnson. The active management is one reason fees are higher, at least overseas. Further, each fund is different in its scope, Johnson says. "When you frame fees against those large performance differences, they don't feel as egregious. It's not a commoditized product like the next S&P 500 ETF."

Technology thematic funds have the highest amount of assets, with $97.3 billion at the end of 2019. Within technology, robotics and automation have the largest share, with $27 billion in assets in that group.

Johnson adds that these thematic funds also can "spice up" some portfolios that have needed a boost, or provide "conversational alpha" in which the advisor knows a client might be interested in certain topics, such as robotics or cannabis.

He adds that the median level of assets in these funds is $37 million. "That's low," Johnson says. "[We believe] anything with less than $100 million is [at] risk of potential closure." Further, it may be difficult for providers "to keep the lights on," especially as themes fall out of favor.

"People run to where they think they find gold," he says. "This is a category of funds that appeals to some very basic instinct that many of us have. [But] we would urge people to think twice before buying a shovel and a pickax and heading for the hills."

Therefore, advisors should do their homework before striking out. "Investors should be cautious, because when these funds liquidate, it could have tax implications for them to the extent that their position in the fund is appreciated," Johnson says. "There could be costs involved. And certainly the one thing that all investors affected by a fund liquidation will have to do is figure out what they're going to do with that money."

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