Fund followers struggle to capture value of fickle fashion

Some trends can be shortlived. Beanie babies, furbies and pet rocks were all once so popular that demand bordered on mania. There are not many takers now. Even bell-bottomed jeans were once hot. Until they were not. But some trends endure: rock and roll, open-plan offices — and low-cost, diversified investment portfolios.

Another thing about trends is, when they’re hot, they’re profitable. Products rush to market hoping to cash in on demand. Exchange traded funds are no exception. And thematic ETFs can be viewed as a reliable barometer of the biggest trends of the moment — often being launched to capitalise on a moment of public fervour.

However, buying into a trend at the top of its popularity is not always the best long-term play. Like beanie babies, “meme stocks” — shares in companies that are loved and hyped by online retail investors — can achieve white-hot valuations that do not persist.

One ETF that launched with the intention of profiting from social media hype around popular retail stocks — Roundhill Investment’s Meme ETF (MEME) — has struggled as enthusiasm for the investment narrative subsides.

Other opportunistic launches include Direxion’s Work From Home ETF (WFH), which was set up to invest in so-called “stay at home” stocks in June 2020, after pandemic restrictions came into effect. Before that, Beyond Investing’s US Vegan Climate ETF (VEGN) launched in late 2019 as one of many vehicles appealing to investors concerned about intensive food production and climate change.

Other funds have sought to subvert this positive ethical trend with a quirky, sometimes contrarian, narrative.

For instance, The Betting, Alcohol and Drug ETF (BAD) launched last December, aiming to counter the virtuous “ESG-obsessed” culture. It invests in companies involved in gambling, alcohol and other “areas of growth the market may be shunning”.

According to BAD’s co-founder Tommy Mancuso: “With the proliferation of whitewashed ESG products and market sub-segments like sports betting and cannabis becoming more widely accepted socially and legally, we saw an opportunity to fill what we perceived as a gap in the marketplace.”

Some new ETFs simply follow the prevailing mood. The VanEck Social Sentiment ETF (BUZZ) was launched in March 2021 to track retail investor sentiment, in the wake of the popular craze for buying shares in US retailer GameStop, to counter short selling by hedge fund managers betting on the chain’s demise.

The BUZZ ETF’s mandate is to track the performance of the 75 large cap US stocks “which exhibit the highest degree of positive investor sentiment and bullish perception based on content aggregated from online sources including social media, news articles, blog posts and other alternative data sets”.

GameStop, along with well-established “pop stocks” Ford, Microsoft, Tesla, Apple and Amazon, remains one of BUZZ’s top 10 shareholdings.

But loyal investors in BUZZ are nursing losses. The fund is down more than 25 per cent since its launch in March 2021, and has suffered more than $13mn of outflows since the start of year.

Other once-fashionable punts on industrial trends are also suffering — often because funds were launched when their underlying investments were at their most popular, and expensive.

Roundhill Investment’s Sports Betting & iGaming ETF (BETZ), focusing on gambling stocks, launched in June 2020 when betting began being legalised in more parts of the US — opening up a large market to companies, and capturing the attention of investors.

Its top investments include US online gaming outlet DraftKings, casino operator Penn National, UK-listed gambling conglomerate Entain and betting technology provider Kambi Group.

Original investors in the BETZ fund remain in the money. But its shares have lost much of their sparkle as the scale of customer acquisition costs for the betting companies it invests in became apparent. DraftKings share price is down 20 per cent since the start of this year, and shares in the BETZ ETF have fallen 22.5 per cent over the same period.

HANetf’s BETS betting-themed fund, Fischer Sports Betting and iGaming UCITS ETF, also launched last June in Europe aimed at capitalising in investor interest is the liberalisation of gambling, particularly in the US. It also lists Entain and DraftKings among top holdings.

It has lost value since launch and is down just under 20 per in the year to date. But BETS fund manager Aaron Fischer insists the strategy will come good. “Maybe we launched at the wrong time but the theme is intact,” he says.”

Despite these stock market wobbles, thematic stories have become increasingly important to an ETF industry in which some investment vehicles struggle to differentiate themselves.

“This is why we have seen so much of the industry gravitate to thematics,” says Ben Johnson, the head of ETF research at Morningstar, the data provider. “There’s a story, and it’s so much easier to tell a story about a future where we all drive in Teslas or eat manufactured proteins instead of slaughtering cows. It is a much easier sell than the whole stock market.”

There has to be durable investment merit that exists under those layers of marketing and showmanship

Celebrity endorsements often play a role in helping thematic ETFs stand out from the pack.

David Portnoy, founder of media group Barstool Sports, has been a key endorser of the VanEck BUZZ fund since its effective relaunch. Its predecessor fund first launched to track stocks attracting positive social media sentiment in 2016 under the ticker BUZ, but failed when investor appetite declined. That index tracker had fewer than $10mn in assets when it closed.

However, thematic ETFs often fail to live up to their early hype, warns Johnson at Morningstar. “There has to be durable investment merit that exists under those layers of marketing and showmanship and the attempts to stand out from everything that is already out there.”

Because thematic ETFs often launch at the height of the fervour for a particular trend, they are likely to suffer redemptions as soon as investors’ initial enthusiasm starts to wane.

For example, Direxion’s Work From Home fund is up 23 per cent from its launch but down 16 per cent since the start of this year as shares that were boosted by remote work during the pandemic came back down to earth. More than $10mn has been pulled out of the ETF since the start of the year.

Roundhill’s Meme fund, launched in December 2021 to focus “on stocks that are both highly shorted and subject to increased retail sentiment”, is down well over a third since then.

But Thematic ETF investing will always, to some extent, involve taking a risk on a hunch. “It requires optimism that this theme will both materialise and then persist,” says Todd Rosenbluth, the head of ETF and mutual fund research at CFRA Research. But, he warns: “There are a disproportionate number of products that are more narrowly focused, that are trying to capture the periphery of investment portfolios. ”

Many ETFs seeking to profit from fashionable hype “get the sizzle-to-steak ratio all wrong”, Johnson says. Hype can distract from the value of classic products that don’t go out of style.

“You don’t see Vanguard paying [action film star] The Rock to be the celeb spokesperson for the Vanguard Total Stock Market ETF,” he says. The fund has close to doubled over the past five years. “It’s an investment proposition that stands on its own and stands the test of time.”

This article has been amended to make clear that Aaron Fischer is fund manager of BETS, not BETZ as originally stated.