Using Themed ETFs In Portfolios

August 27, 2019

Clever Investing With Themes
Opsal suggests there’s another type of thematic ETF besides long-term plays, and that’s opportunistic themes. He defines “opportunistic thematic funds” as those chiefly benefiting from the current economic environment. These may be used strategically or tactically, but the point is to sell them when there’s a regime change, Opsal notes.

He uses the Renaissance IPO ETF (IPO) as an example. 2019 has been a banner year so far for IPOs, and year to date, as of press time, IPO is up 44%, and up 19% on a three-year time frame.

“That’s an ETF that’s going to work as long as we have these bullish animal spirits, money gushing in,” Opsal said. “There’ll be other times in the economy where credit is tight, and going public doesn’t work worth a darn.”

Chanin says thematic ETFs can also be used very short term tactically to benefit from a news announcement. He points to the spring rally in the VanEck Vectors Rare Earth/Strategic Metals ETF (REMX), when China hinted about restricting the exportation of rare earth metals as part of the ongoing trade dispute with the U.S.

Keeping Risk In Mind

Jackie Reeves, managing director at Bell Rock Capital, says she’s used a few thematic ETFs including the ETFMG Alternative Harvest ETF (MJ). Reeves keeps thematic ETFs to a very small percentage of clients’ portfolios—generally no more than 10%. She looks at a client’s total portfolio and how a thematic ETF can augment their holdings, based on their risk profile and how the client wants to invest.

Reeves runs some socially responsible investing portfolios, which requires an extra level of analysis to make sure the ETF’s holdings don’t violate any edicts against certain investments. That has ruled out some popular thematic ETFs that might otherwise be a good fit.

Financial advisor Morris Armstrong says he’s used thematics to try and get a few extra basis points of performance. He also keeps portfolio holdings to a very small percentage so it doesn’t change the risk profile. “It’s always a relative position to the broader market,” he said.

Armstrong adds he’s used the First Trust Nasdaq Artificial Intelligence and Robotics ETF (ROBT) for aggressive portfolios, and has held the iShares Global Clean Energy ETF (ICLN) for a number of years. He notes he’ll likely liquidate ICLN, because the fund hasn’t given the performance boost he wants.

Return/Volatility Trade-Off
“I like to think clean energy has a place in our future, as does AI, but the trade-off is between return and volatility on the allocation,” Armstrong said.

BlackRock’s Spiegel notes the key to properly using thematics is to incorporate them without adding risk. Because themes are more broadly constructed than sector ETFs, with careful planning, they could be used in place of other broad-based index ETFs and still end up with similar total portfolio risk.

“Effectively, what you’re doing there is getting exposure to this opportunity to drive long-term benchmark outperformance,” he explained, “but you don’t have to deviate too far from the asset allocation and the risk level that you or your clients are looking for.”

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