Theme-based investing seeks to identify stocks that stand to benefit from a particular trend or a theme.
In the past few weeks, we have discussed risk-based portfolios. In this investment article, we discuss theme-based portfolios.
What is Theme-based Investing?
Theme-based investing seeks to identify stocks that stand to benefit from a particular trend or a theme. The below examples would help in understanding better.
Mobile payments trend – increasing usage of credit cards, digital payments, and the world moving towards a cashless society. Credit card companies such as Mastercard, Visa can benefit from this trend.
Aging society – The developed countries are greying rapidly and there could be an increasing demand for healthcare. Pharmaceutical stocks may benefit from this.
Cybersecurity – Cybersecurity is one of the hottest areas within technology. In recent years, cybercrime has significantly increased with many large corporations reporting security breaches and data thefts such as credit card information and social security numbers stolen. Firms that operate in the cybersecurity space could have significant growth in the coming years.
There are several other trends that could have significant growth such as blockchain technology, robotics, artificial intelligence.
What are the possible risks in Theme-based Investing?
Theme-based investing has the potential to generate high returns, but it can also be very risky. Some of the risks are discussed below:
Some of the themes may not play out as expected and may not be a long-lasting trend (example: during the dotcom bubble, several trends were short-lived and were just a fad).
Theme-based portfolios are typically concentrated and may have small-cap growth stocks. Small-cap growth firms are inherently riskier and have a higher chance of going out of business.
Participants in theme-based investing could be late in identifying the trend and they could be buying stocks that are already trading at a very high price. Thus, limiting their upside.
How do I build a Theme-based portfolio?
In the next investment article, we will discuss some themes and provide examples on which securities to invest in.