Investing in thematic ETFs (exchange-traded funds) is an approach which focuses on predicted long-term trends, enabling investors to access structural one-off shifts that can transform an entire industry.

However in recent months, concerns have been raised regarding the limitations associated with investing in thematic ETFs. These concerns are twofold.

First, thematic ETFs often lack scale in assets. In July 2020 more than half of the 129 thematic ETFs had less than $100 million in assets. Moreover a large number are new, meaning they lack a proven track record.

Second, academic research has suggested that the higher fees charged by thematic ETFs, which are often closer to the 1% charged by traditional funds than the few percentage points charged on vanilla ETFs tracking indices like the FTSE 100, are not justified.

In a Fisher College of Business Working Paper entitled Competition for Attention in the ETF space published in July 2021, academic Franceso Franzoni maintains that ‘the returns are calculated net of fees, but the difference in performance far outweighs the difference in fees’.

Many thematic ETFs perform poorly because the theme has already peaked before the ETF comes to market. Despite these limitations, properly researched ethical ETFs can be a useful tool for investors.

In this article we look in detail at three products designed to provide investors with access to structural growth opportunities.

These include exposure to internet and e-commerce companies in emerging and frontier markets, a play on a battery storage technologies, and access to companies engaged in orphan drug development. We look at the strengths and weaknesses of these different vehicles.

EMQQ Emerging Markets Internet & E commerce (EMQP) £10.93

This is a UCITS compliant ETF domiciled in Ireland. (UCITS billing is a mark of quality assurance that means your ETF conforms to European regulations, designed to protect the general public from unsuitable investment vehicles).  The fund gives exposure to the internet and e-commerce companies serving emerging and frontier market consumers. These companies reflect the growth of on-line industries as billions of emerging market consumers become digitally empowered and are composed of search engines, on-line retail, social networks, on-line video, on-line gaming, e-payments and on-line travel. Some of the mainstay companies in the fund include Alibaba, Baidu, Tencent, Naspers and Mercado Libre.

India and China have two of the largest smartphone user bases in the world, yet only 60% and 25% of their respective populations are smartphone users. The untapped billions of consumers in emerging markets have yet to join the digital consumer wave, indicating the upside potential in the regions. Emerging market social media and social commerce companies are just starting to address huge emerging and frontier market audiences.

The fund has an ongoing charge of 0.86% and holds equities for China, Nigeria, Brazil, Russia, South Africa, alongside other emerging countries. The fund tracks the EMQQ Emerging Markets Internet and E Commerce Index that was created to capture this emerging theme

EMQQ pros:

– Aligned with major global demographic and technological trends that are expanding internet access and increasing affluence across the developed world.

– By focusing on the sources of a company’s revenue, EMQQ captures leading internet and e-commerce companies that are often excluded from broad emerging market indices, which select their constituents based on their country of listing.

– In a single trade EMQQ provides exposure to a diverse basket of companies, positioned to benefit from the potential growth of e-commerce and online businesses in emerging and frontier markets.

EMQQ cons:

– Emerging and frontier markets are subject to a greater market volatility than developed markets.

– Exchange rate fluctuations could have a negative effect on returns.

– The product has a high ongoing charge.

L&G Battery Value Chain UCITS ETF (BATG) £13.94

Significant progress has been made to improve the energy density, price, lifeline and safety of a battery while mitigating the impact on the environment. From applications such as electric vehicles (EV’s), and consumer electronics to stationaries like grid storage, battery storage technologies are currently experiencing a growth in investment research and production.

The global market for large and advanced batteries reached $64.1 billion in 2019 and is expected to reach $109 billion by 2024, according to BCC research. Lithium demand from the EV sector is expected to grow at a compound average growth rate of 19.6% at ten times increase in usage over 10 years.

The L&G Battery Chain ETF (BATG) seeks to benefit from these trends by tracking the Solactive Battery Chain Index. This looks to capture the performance of companies that are providers of energy storage technologies and mining companies that produce certain metals used to manufacture batteries.

The index follows an equal weighted scheme (meaning the same weight, or importance is given to each stock in a portfolio or index), with the aim to capture the growth prospects of both emerging and established companies. The index is rebalanced semi-annually to maintain diversification and respond to evolving trends and new entrants. The ongoing charge stands at 0.49%.

L&G Battery Value Chain ETF pros:

– Exposure to a long term megatrend that is radically transforming the way we live and work.

– An index tracking investment strategy that is supported by a team of battery technology experts.

– Aims to capture the outsized growth potential of battery technology.

L&G Battery Value Chain ETF cons:

– As the index tracks micro, small and medium sized publicly traded companies, the ETF is subject to the risk that these companies may be more vulnerable to adverse business and economic events.

– The use of patents may not be adequate to prevent the misappropriation of a company’s battery technology.

– Companies may also face competition from companies with more advanced/and or cheaper battery technology. The emergence of new battery technologies that are not dependent on lithium production could reduce the revenues of lithium mining companies.

L&G Pharma Breakthrough UCITS ETF (BIOT) $12.97

Pharmaceutical companies have historically not prioritized orphan drug development a drug used to treat, prevent or diagnose an orphan disease. An orphan disease is typically defined as a rare condition which affects fewer than 200,000 individuals.

In the US pharmaceutical companies now benefit from up to seven years of market exclusivity, tax credits of 50% for certain research and development efforts, and fast-track drug approvals. In Europe, pharmaceutical companies benefit from up to 10 years of market exclusivity, tax credits, exemptions from certain licensing fees and EU and national grants.

By 2024, worldwide orphan drug sales are forecast to reach $262 billion. Worldwide orphan drug sales are forecast to grow at a compound annual growth rate (CAGR) of 11.3% from 2018 to 2024, double the rate forecast for the non-orphan drug market.

L&G Pharma Breakthrough ETF (BIOT), tracks the Solactive Pharma Breathrough Value Index. This aims to track the performance of a basket of stocks that are actively engaged in the research, development and manufacture of orphan drugs.

The index follows and equally weighted scheme, with the intention of capturing the growth prospects of both emerging and established companies. The index is rebalanced semi-annually to maintain diversification and remain responsive to market trends. The ongoing charge is 0.49%.

L&G pharma breakthrough ETF pros:

– Global exposure to a select basket of companies that are engaged in the research and development of orphan drugs that combat rare diseases.

– Exposure to a diversified portfolio of companies that spans multiple geographical sectors and market capitalisations.

– An index tracking investment strategy that is supported by a team of pharmaceutical experts.

L&G pharma breakthrough ETF cons:

– Companies that are actively engaged in the research, development and manufacture of orphan drugs, are vulnerable to clinical trial failures, governmental refusal to grant appropriate approvals and lack of commercial viability.

– The emergence of cheaper or more effective drugs could lead to a decline in the revenues of the selected companies.

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