Many shades of grey: how to allocate to thematics?

Are investors shifting from a traditional asset allocation to a thematic one or is thematic an add-on to portfolios? Our European fund selectors share their preferences when it comes to thematics while experts discuss index construction, liquidity issues and the future of thematics post Covid-19.


  • Chanchal Samadder, CFA, Head of Product Strategy, Lyxor ETF
  • Jean-Maurice Ladure, CFA, Executive Director and Head of Equity Applied Research, EMEA, MSCI
  • Lukas Neckermann, Managing Director, Neckermann Strategic Advisors
  • Massimo Ricatti, Portfolio Manager – multimanager division, BCC Risparmio & Previdenza
  • Andrew Summers, Head of Collectives and Fund Research, Investec Wealth & Investment
  • Valentina Romeo, Deputy Editor, Citywire Engage

Valentina Romeo: How do you allocate to themes within your portfolio? 

Massimo Ricatti: At the beginning, we identified the three main megatrends. The first one is linked to the environment,  including themes that are linked to implement a sustainable economy model to deal with all the issues highlighted by some of the UN Sustainable Development Goals.  For example, clean water, clean air, energy, climate change.

The second one is linked to the demographic shifts where we include themes like the aging population, the growing middle-classes in emerging markets, the millennials. ESG aspects are also important for us in some themes because the trends are driven by government policies that are aligned to those long-term sustainable goals: an example would be the Gender Equality theme.

The third megatrend we identified is the well-known technology innovation one, that includes themes like robotics, cloud computing, artificial intelligence, fintech, cybersecurity etcetera.

Then, there are also themes that are linked to more than one of the megatrends I mentioned, and  it strengthens the investment case for them.  For example, Smart City is one of them, because it’s linked to technological  innovation, but also to environment and demographic shifts.

To gain exposure to these themes, we prefer to have a building block approach instead of buying a megatrend product.  We developed a model because we think that thematic investing is an innovation of the traditional sector approach, but you need to be aware of the sector or style biases that derive from the allocation to thematic funds or ETFs.

With this optimisation model,  we are not acting on a single stock, but instead, once we have selected the funds and ETFs to be in our portfolio, we try to minimise the sector bias.

Andrew Summers: Like most wealth managers certainly, in the UK, it’s going to be some time before we move away from the traditional geographical and sector asset allocation framework that we’ve been used to almost since time began.  That still has a lot of resonance and we’ve got a framework around how we decide US versus Europe, large-cap versus small-cap, consumer discretionary versus financials, but of course, that framework is being increasingly challenged as geographical locations of companies becomes increasingly irrelevant and individual company’s sectorial positioning gets changed, as well.

Amazon, is it a technology company, is a consumer discretionary company?  It might even be a consumer staples company in some people’s minds.  For now, thematic investing is an add-on to the traditional asset allocation model and that has its own challenges because you’ve obviously got to try and see how it all fits together. Over time, we will need to build up a framework for assessing individual themes, just as we have a framework for assessing individual geographical regions, for example or sectors.

Valentina Romeo: Chan,  how do you see passive thematics being used in portfolios?

Chanchal Samadder: In terms of portfolios, we’re seeing investors using them as core or as satellites to introduce a long-term hedge to their portfolios. 

For example, pension funds with long term liabilities could think about replacing or augmenting their equity portfolios with an ageing population exposure. This would be akin to Asset Liability Matching (ALM) which they do in their bond portfolios. Today, investors are using them in two ways.  We see the sectors 2.0 approach, definitely or as a satellite to complement their existing traditional portfolios.

Valentina Romeo: Jean-Maurice, what goes behind the building of a thematic index and how do you control liquidity?

Jean-Maurice Ladure: The starting point is already a set of 9,000 stocks, which are very liquid, but also, embedded in the methodology are some extra liquidity filters that we designed in close collaboration with Lyxor.  We have a minimum free float market cap, and a daily trading volume.  I understand there’s always this question between active and passive, but I would say those thematic indices are clearly very far away from market cap indices.  You’re taking conviction bets on the theme, you’re talking about indices usually, with a tracking error of 10% and turnover around 40%-50% one way per year.  Those are statistics you would expect from an active manager.

Massimo Ricatti: In the last crisis, in the March, April period, we have seen a lot of ETFs, especially the fixed income ones that suffered from a pricing point of view, the broadening of the bid ask spread that was very large compared to the history, to the average of the products that I mentioned.  Thematic ETFs were less impacted by this bid ask spread widening, but we use screening in selecting the instruments in our universe and especially, for the new thematic ETFs that have been launched in the several months or the last year. For us, liquidity is a key aspect when we build the instrument universe because we exclude those with the low volumes, low assets under management and the ones also that invest in less liquid underlying markets.

The right approach for thematic ETFs, is to have it with a buy and hold approach or mainly in a specialised mandate or fund. If you trade a lot on these new instruments, maybe there could be some liquidity issue that, especially during the period of crises, can emerge.  Also, because most of these new thematic ETFs focus on the small-midcap space that suffers a lot more than large-cap obviously, on the liquidity side.

Valentina Romeo: Chan, how have you managed the liquidity in your ETFs?

Chanchal Samadder: As an ETF issuer, that’s probably the number one risk for us as a business. On liquidity and I think fixed-income liquidity alone, we could have two or three of these roundtables to discuss it.

If an investor does want to redeem, these are not tactical trading products, but the whole point of an ETF is it allows you that release valve if you need the capital, for whatever reason, you’re able to get out.  Liquidity is pretty much at the core of the thinking of every product that we do and we had to put a bit more consideration because we are a bit more heavily in small-caps than active managers and other similar ETFs.  That’s where we put hat additional screen in, just moving the minimum market cap and the minimum Average Daily Volume of the stocks above the lower bound of MSCI ACWI IMI, even though that is liquid enough.

Valentina Romeo: What will be the Covid-19 impact on the megatrends we’ve been looking at and what new megatrends can come after all this?

Lukas Neckermann: What Covid-19 does, certainly, for future mobility, but also in terms of the smart cities, is concentration, consolidation, but also acceleration.  We’re going to see a concentration of, in particular, public companies toward revenue bringing activities.  We can see it in companies like Uber, for example.  We’re also going to see a consolidation.  We are seeing it in the mobility space.  Intel has recently bought Moovit and Uber is consolidating the micro mobility aspect of what they’re doing.  Overall, we’re going to see an acceleration of certain things. Basically, look around at the literally thousands of kilometres of bicycle lanes that cities are setting up.  Now, whether or not they will all stay, we’ll see. But if only 200 kilometres stay, that’s a pretty significant change already.

Valentina Romeo: Where does thematic investing go from here?

Jean-Maurice Ladure: For me, thematic investing is really an innovative new sleeve for investors.   The same way we are helping our clients identify and look at their portfolios through sectors and factors.  One year ago we launched a factor classification standard which is a lens to x-ray your portfolio.  We can also do it with ESG, and there is no reason why you cannot do the same thing with thematic exposure. 

Chanchal Samadder: I looked at the digital economy index on an ETF we have and compared it to another very large ETF on the same theme and the biggest active manager on that theme.  As of today (28th May 2020), over a 1 year period, our chosen index had a return of +18%, the active product returned +11.7%, and the other ETF returned 7.1%. That just gives you the picture of how [the lines between active and passive] are completely blurred.  You have one index at the top, one index at the bottom and the active fund in the middle.  It’s many more shades of grey rather than the black and white or passive and active.