In this episode of Opto Sessions, Pedro Palandrani, vice president and director of research at Global X ETFs, identifies key principles of a thematic investing strategy, offering a step-by-step overview of the company’s investment process and what he believes could be the next big idea.
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In February 2022, Pedro Palandrani was promoted to director of research at Global X ETFs, a New York-based provider of exchange-traded funds, where he had been working as a research analyst since 2019.
“Thematic investing is really about capturing the opportunities that we believe are going to disrupt many different sectors and industries over the long term,” says Palandrani.
What differentiates Global X’s thematic investing approach is its focus on “building the right portfolio for the right theme”, seeking to embrace the changes they anticipate happening in the world.
“We're always trying to be ahead of the curve,” he adds, introducing the first step of its thematic investment strategy.
Step 1: A top-down approach to markets and society
Global X’s “top-down” approach involves researching powerful macro-level trends disrupting the global economy.
“We are essentially trying to identify what type of disruptive technologies, what type of people and consumer behaviours, and what type of physical environment changes are offering structural trends and tailwinds that we could potentially capture through an investment vehicle such as an ETF.”
Global X takes a "holistic approach" in researching how to target these different investment opportunities. “From an investor point of view, we really need to look vertically and horizontally across the multiple different opportunities that a given theme can have,” says Palandrani.
When launching the Global X Autonomous & Electric ETF [DRIV], Global X’s researchers didn’t just look at electric vehicle (EV) manufacturers but also at lithium miners — as lithium is an essential material in the production of EV batteries — searching for sectors and companies that could benefit from greater, long-term EV adoption.
One benefit of this strategy is that thematic ETFs are arguably more resilient to economic disruptions. “We believe that thematic investing can really mitigate a lot of the cyclical factors that we're seeing in our economy,” says Palandrani, highlighting that cybersecurity and EVs provided thematic portfolios with a degree of resilience in 2022, describing them as “staples” of a durable strategy.
“Companies, governments and even consumers do not spend on cybersecurity because they want to, but it’s really because they need to,” says Palandrani, describing the resilience cybersecurity is experiencing in 2022.
Electric vehicles are another example of that resilience. According to the International Energy Agency (IEA), global sales of electric vehicles nearly doubled in 2021 from the previous year, reaching 6.6 million.
Step 2: A bottom-up approach to companies
Global X’s second step involves looking from the “bottom-up” at which companies would benefit from the materialisation of the previously identified macro-level trends, trying to identify the potential winners in that particular theme.
Capturing the sub-segments within a theme is also essential to identify the opportunity within that theme holistically.
This process is not always straightforward, especially when it involves abstract themes, such as the Global X Metaverse ETF [VR].
In this case, Global X researchers did not only look at hardware manufacturers, from virtual reality (VR), augmented reality (AR) and mixed reality (MR) to graphics processing units, but also at different social media platforms’ creators and video game publishers, searching for instrumental players for the development of the metaverse.
“Defining those sub-themes within the theme is a critical step to try to not only understand the different opportunities, but to really capture the companies that are best-positioned to benefit from the materialisation of that theme,” remarks Palandrani.
In addition, the companies Global X selects to insert in any thematic fund have to meet three fundamental criteria:
A high-conviction idea
Global X considers whether or not companies are focusing on innovation, experience faster-than-average revenue growth rates, and meet the threshold of generating 50% of their revenue directly from the theme.
“It’s an indication of greater adoption of a given technology. And we’ll look at a variety of metrics to really gain that high-conviction in the theme. I think this is critical. We are not going to bring to market something that we do not fundamentally believe in,” says Palandrani.
Notably, each company’s market cap is the measurement that helps Global X dictate which companies should have greater weight within their funds.
This essentially involves the number of companies available in the public market to provide pure-play exposure to the theme.
“In the ETF industry, that really means that we need at least 20 to 25 publicly traded companies to bring that ETF to market,” says Palandrani.
A long-term time frame
A long-term time frame at Global X generally means 10-15 years. Any thematic ETF has to follow a trend that plays out over that long-term horizon.
“Having that long-term horizon when it comes to investing is critical,” says Palandrani, going back to the example of electric vehicles.
“I think we all can agree that the future of transportation is going to be electric. We could argue when that's going to happen, when electric vehicles will represent more than 50% of total car sales. Could it be 2030, 2035, 2040? … But we know that it’s going to happen. So, having a long-term horizon is really important here.”
Global X intentionally avoids trendy, often over-hyped themes, selecting those that have a “longer runway” to invest in.
Challenge or opportunity
Amid the uncertain macroeconomic environment of 2022, people could argue investors might have lost confidence in this type of strategy, seeing several thematic ETFs performing poorly over the year.
Palandrani reveals that Global X is experiencing the opposite, with “more clients interested in thematic investing than ever before,” even in themes performing poorly on the year, such as the Global X FinTech Thematic ETF [FINX], down 52.4% year-to-date, and the Global X Cybersecurity ETF [BUG], down 32.5%.
“As I said before, these are themes that are going to play out over the long term. And now that we have that kind of discounted valuation over the short term, it could potentially be a really good entry point for many of these thematic strategies,” explains Palandrani.
The next big idea
“Lithium, nickel or manganese, even copper, rare earths, and a few other disruptive materials” provide a compelling investment opportunity, argues Palandrani, talking about the transition from a mainly fossil fuels-based world to an increasingly renewable energy-based one.
“When it comes to disruptive materials, miners are probably the companies that are best-positioned to benefit not only from price increases in the underlying raw materials or commodities, but at the same time from the greater demand.”
Disruptive materials and miners belong to a theme that will undoubtedly play out in that long-term time frame. Ultimately, for Palandrani, the key to being a good investor is not only identifying and clearly understanding any investment opportunity, but also being able to explain it simply on a macro and micro level.
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