Themed and sector funds can be anything from investors in specific markets or geographical sectors to those which seek out global themes cutting across sectors and countries
European and offshore funds typically align themselves to meet their stated investment objectives through defined strategies based around a specific geographical focus ' the fund will primarily concentrate on a single region or country. This allows the fund manager to concentrate their experience into one geographical area of investment in which they can develop and maintain in-depth knowledge and understanding ' aiding stock-picking ability while not necessarily limiting themselves to a single industry.
The key advantage of this approach is that it embraces simplicity. Peer groups are simple to understand, and a consistent sector construction will ensure investors are comparing funds with similar investment objectives. Investors can diversify by choosing a portfolio of funds that focus on different regions or areas of investment ' and these are readily identifiable by the name of the fund or sector.
In recent years, this approach has been complemented by more specific investment criteria, often called sector investing. This is where some funds concentrate on a single market segment ' typical examples include financials, technology, healthcare or socially responsible investment (SRI).
The fund may also work to a closely-defined geographical area, but many extend further afield toward a global focus, so the fund is not constrained by geographical location. This allows for a larger number of available companies to invest in, which can be particularly important when the industry does not have a large number of stocks available ' for example, biotechnology. Funds taking a sector investing approach provide a valuable source of additional diversification to a more sophisticated investor ' allowing the chance to invest into funds in sectors that may be inherently more risky, but which offer the potential rewards of higher investment returns.
Investing on a Theme
Some funds build on this global sector approach through looking for potential investments that meet certain criteria with regards to growth potential, but which do not necessarily focus on only one sector. These are often labelled theme funds, but since investments will often fall into categories such as energy, financial services, technology or healthcare, this may be more accurately described as a combination sector/theme method to choosing stocks. For example, Invesco, which runs the INVESCO GT Worldwide Dynamic Theme fund, defines a theme as 'a subject or topic relating to a specific area of investment which stands to benefit from changes in society or economic cycles.' The investments within the portfolio relate to topics of investment including (but not limited to) technology, leisure, utilities, and healthcare. This approach avoids the constraints inherent in focusing on a single sector by allowing the manager freedom to invest in companies best placed to achieve good profitability within growth indu
There are a small number of funds that operate according to even more purist thematic principles ' known as thematic investing. This method differentiates from sector investing as it seeks global themes which cut across sectors and countries.
The first step is the identification of global trends that should provide significant investment potential ' these themes are then used as the basis for asset allocation.
A selection of core themes will be then identified by the management and research team as having the most opportunities for growth, and the fund will then invest their assets according to companies that most fit the criteria for each theme which are also expected to have high prospects for profitability.
Thematic investing is often easily identified through the names of the investment themes ' rather than being familiar industries such as healthcare, they may be more esoteric titles such as 'Survival of the Fittest,' 'Empowered Consumer' or 'Competitive Advantage.' Of course, these two are by no means the limit to thematic ideas ' different management companies will identify their own themes and name them accordingly.
One management company that is a proponent of thematic investing is Sarasin. Sarasin define themes as 'dynamic global trends which stimulate corporate earnings growth, and drive long-term stock price outperformance over a multi-year period.'
The Guernsey-domiciled Sarasin CI EquiSar Sterling Fund, which has a AA rating from Standard & Poor's, states its investment aim as to allocate the fund's assets into 'global themes which track long-term worldwide growth trends that are largely independent of any one region or market.'
The fund manager is supported by a team of theme specialists that develop investment ideas based on an approved list of companies which fit their current thematic focus. This is a top-down process where four to six themes are followed over a three- to five-year time horizon.
Four key themes which the Sarasin CI EquiSar Sterling Fund is investing into are:
• Efficiency and automation ' this theme aims to identify companies that are well-placed to achieve a sustainable competitive advantage through an efficient business model and a low-cost base.
• Survival of the fittest ' looks for companies with strong balance sheets and excellent credit ratings that will derive competitive advantage from their strong financial situation.
• Corporate restructuring ' identifies companies expected to enhance shareholder value through achieving improved earnings through a period of operational and/or financial restructuring.
• Pricing power ' looks for companies that have been able to maintain their prices and profit margins through market share, technical innovation or cost control.
A similar thematic approach is followed by the Privilege Portfolio Global Themes fund which currently uses four global themes ' competitive advantage, restructuring, Disinflationary world and misallocation of capital. According to the fund's factsheet, it aims to identify 'the fundamental trends that are shaping the world's economy and invest in those companies that have the potential to meet these challenges and successfully manage change.'
While this approach can be a useful alternative method of diversification for the investor, and a flexible differentiation tool for the management group, how well have these funds performed compared with their peers?
Global thematic funds will tend to be classified into the Standard & Poor's Equity Global sector ' broadly defined as containing those funds investing in excess of 80% in equities, or related instruments giving equivalent exposure. However, not more than 80% of the asset pool can be invested in any one country (a long-term focus on one area would require reclassification into a sector defined by that specific country or region).
The average return of the Equity Global sector during the last year was -21.07%; a similar level to that of the MSCI World index ' a benchmark used by many themed funds. This reflects difficult global economic conditions which have affected investor sentiment and stock-market returns. In fact, only 12 funds in the whole sector managed to achieve positive returns during the year.
Only a small number of funds contained within the Equity Global sector invest on a thematic or sector/theme basis and they have had a mixed bag of results.
Of the 16 funds in the table, there was a 50/50 split between funds that were ranked below 300, and those ranked above. The best-performing fund in the table lost 16.11%, while the two bottom performers lost over 30% ' this disparity of performances may reflect the differences in investment focus of themed funds.
Longer-term relative performance is more difficult to thoroughly assess, as many of these funds have been launched since the beginning of 2000 ' so they do not yet have a longer-term track record. Of those that do, the ACMGI Global Growth Trends A and Scudder GOF Strategic Global Themes funds stand out as having consistently outperformed the mean returns of the sector. For this reason, the Sarasin EquiSar funds also stand out, although they underperformed the average over the three-year time period.
Time to invest?
While stock-market difficulties continue, many investors and advisers will be keen on assessing alternatives to the usual geographical equity focus. As with any fund, it is important to ensure a detailed understanding of the components and management style of the fund.
As themes may change over time, it is important not only to monitor the overall theme focus, but also the changes in the components making up each theme. Within this, it is critical to understand the time horizons that are detailed by the fund ' these are long-term investments and investors and advisers should be aware of if or how the themes may change over time.
With such a focus on global and cross-sector investment themes, it is also important that the investor understands the full research process.
• How are the themes developed and defined? What proportion of the assets of the fund goes into each theme?
• What research resources are available to the fund manager? Are there core specialisations within the research team?
• How is stock selection within the themes made? Is this a team decision or made by the individual fund manager?
• Is there a size bias where the fund will only invest in large-cap companies? Does the remit allow for a drift towards smaller companies?
Questions such as these will aid an evaluation of the appropriateness of the fund for the investor's overall investment objectives, as well as ensuring a greater understanding of the mechanics of the fund.
Thematic investing differs from sector investing as it seeks global themes which cut across sectors and countries.
Funds may work to a closely-defined geographical area, but many extend further afield toward a global focus.
Investors and advisers should be aware of how themes may change over time.
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