March 2017 Whitepapers
Over the past few years, a number of structural economic changes-a persistent bout of historically low interest rates, the polarization of growth between developed countries and emerging economies, and global deleveraging-have affected how Investment Advisors (IAs) deploy client capital.

The “metabolic rate” of the economy is also accelerating as industry dynamics evolve faster than ever and profit pools shift across value chains in many industries, thanks to unprecedented technological innovations. Life-changing developments such as driverless cars are years, not decades, away.

In this environment, many IAs have begun to question the traditional “relative investment” frameworks that have been in pace for nearly 30 years. This decades-old discipline is mostly structured around either adhering to or deviating from benchmarks and indexes to either increase returns or limit downside risk. Traditional investment frameworks often fail to achieve the specified rate of absolute return, for three reasons:

  1. The short-term focus of quarterly benchmarking works against IAs. One of their great advantages, in our opinion, is their long-term investment horizon. A zealous focus on the benchmark means investors can miss chances to capture mispriced assets. They can also miss out on the liquidity premium, which they collect by buying illiquid long-term assets at a discount.
  2. Relative-investment frameworks can lead to an undesirable exposure to certain risks.
  3. The very nature of the strategic asset-allocation process investors have used to select benchmarks also holds those investors back. Strategic asset allocation is backward-looking and fails to incorporate emerging trends (themes) and forward-looking perspectives on the economy.

Many Registered Investment Advisors, like WT Wealth Management, are turning to “thematic” investment strategies for portions of our clients' assets when we construct portfolios. That was one of the most intriguing insights we gleaned from a series of interviews we conducted with about a dozen institutional investors, including investors in pension and sovereign-wealth funds. Broadly speaking, thematic-investment approaches seek to capture, across asset classes and around the world, the opportunities created by long-term structural trends and the medium-term cyclicality often associated with these trends.

Some managers, like WT Wealth Management, have deployed thematic strategies for years. We appreciate the way this enables us to actively manage risk and to ensure deployment of client capital against the opportunities that best reflect our clients' investment objectives and personal risk tolerance. However, many institutions have not yet taken advantage of such approaches. In this white paper, we outline the process by which we develop and execute thematic-investing strategies in our client accounts.

DEMYSTIFYING THEMATIC INVESTING


Thematic investing requires a fundamental understanding of the impacts of long-term economic, political and social trends on regions and sectors-and such an understanding reveals investable opportunities. Thematic managers develop proprietary views on how the second- and third-order effects of structural trends will create hot-spots or discontinuities in certain sectors and regions in which value and risk will be concentrated.

This is a big departure from relative, traditional strategies. Exhibit 1 illustrates some of the differences.



Exhibit 1: Relative and thematic frameworks differ in several dimensions.

In our opinion, adopting a thematic-investing approach can yield three types of benefits for investors:
  1. Such an approach allows managers to generate alpha, at scale, by focusing on investment opportunities in hot-spots where capital can be deployed.
  2. The more systematic investment process and in-depth research required for thematic investing builds a deeper understanding of the underlying drivers of value creation and risk. Managers can use this knowledge not just in thematic investing but also in other strategies.
  3. The thematic-investing approach gives managers a dynamic, flexible way to validate and express their hunches by applying a forward-looking lens to investment decisions.

Managers have long been aware of thematic investing, but many have thought it too complex to implement because of restrictive portfolio structures, risk limits, and the challenge of putting in place the capabilities and processes needed to develop truly distinctive investment insights. In recent years, however, a number of managers have taken tactical and creative approaches to implement some form of thematic investing, usually as an addition to their overall investment frameworks.

Exhibit 2 illustrates four of these approaches.



Exhibit 2: Institutions are using a range of approaches to develop thematic-investing strategies.

EMBARKING ON THE JOURNEY



The systematic change to fold a thematic strategy into a relative-investing framework is good news for investors, as many managers have held back because they did not wish to completely overhaul their approach or their portfolio. But thematic investing still requires the right research capabilities and a disciplined investment process. WT Wealth Management has dedicated substantial resources to developing our thematic approach to investing and the subsequent strategy.

A structured, rigorous approach to thematic investing is required, not only to identify investable themes, but also to prioritize them. The following five-step approach does both, and has been implemented by a number of leading thematic investors.

1. Consider the trends

Identifying the right trends to consider is essential. At this early stage, broad internal dialogues make sure all relevant trends are considered, in order to gain agreement on the rationale that will be used to prioritize and ultimately select some trends for more research so trends can be prioritized. A few questions must be considered when prioritizing trends:


At this stage, managers should also develop a robust view of the institution's explicit and implicit exposure to the selected trends before adding more long-term risk to the portfolio. For instance, an Australian manager may not own shares in companies serving China's rising middle class, yet a commodity-filled Australian equity benchmark can significantly expose that same investor to a slowdown in Chinese consumerism. In a nutshell, managers must ensure that they understand their true exposure-both direct and indirect-to these trends before conducting additional analyses and seeking greater exposure.

2. Move from trends to themes

Once key trends have been selected, managers must trace them through to the themes they produce- typically the implications for a region or sector of interest. With the increased developments in driverless cars and drone technology, literally dozens of companies could benefit from this widespread implantation into American and world society. In our experience, the most attractive opportunities are found when multiple themes converge and reinforce one another in a specific region or sector and when themes are expressed as discontinuities and divergences from common knowledge.

The identification of relevant themes depends on a manager's ability to rapidly identify a trend's impacts on revenues and profit pools in affected subsectors. Making sense of vast amounts of information and identifying new economic patterns is difficult. Most successful managers use external experts as thought partners and sounding boards to supplement their internal knowledge. Our experience also suggests that managers who can rapidly move from interesting trends to themes before trying to identify specific investment opportunities move faster, get more impact from their research investments, and develop more detailed insights.

3. Select themes

Prioritizing themes is even more challenging, as managers must make decisions based on imperfect information and diverging points of view within the institution. The process can be time-consuming and frustrating without the right approach but rapid and effective if appropriately designed.

To succeed at this key stage, institutions typically agree first on simple criteria based on their risk/return profile and capabilities to invest in a distinctive way. This boils down to seven questions that should be asked about each theme:
Themes should be debated and prioritized by representatives from the investment, research and risk teams to ensure both the soundness of the thinking and the alignment of the theme with the overall corporate perspective. This will prevent thematic portfolios from becoming vehicles for individuals to place large bets based on their personal biases.

4. Develop an investment thesis

Once priority themes have been identified, managers must form an investment thesis describing how and why value could be created from these themes over time. This typically involves three stages:

  1. Managers develop an understanding of the value chains associated with a given theme, including the key players, industry dynamics, and performance drivers.
  2. They develop a perspective on how industry dynamics will be altered by the theme, forcing players to adapt and creating winners and losers. To be successful at this stage, managers must first ensure that their thesis is clear, grounded in objective facts, and based on themes that have a high degree of probability of materializing.
  3. They must find insights into business systems beyond those most directly affected by the theme. For example, an investor looking into the impact on the transportation sector of populations migrating to suburbs from large city centers may determine that the best investment opportunity will be in the manufacturers of batteries that will power light trains rather than in the transportation companies themselves or in the related infrastructure.

5. Build the portfolio

With a clear investment thesis in mind, managers can start a “scan and screen” process across asset classes to find the best ways to take a position in the theme. Several characteristics mark the most distinctive investors at this stage:


Thematic investing provides an alternative to traditional strategies-one that leverages the greatest strengths of institutional investors while providing the opportunity to develop proprietary knowledge and informed opinions. By understanding implicit sector exposures and then determining where and how to invest based on well-researched and debated themes, institutions increase their chances of delivering superior returns over time in an increasingly complex investment landscape.

CONCLUSIONS



At WT Wealth Management, we divide most investors' portfolios into three distinct pools: (1) core investments, (2) individual equities, and (3) sector/themes:

  1. No portfolio should be constructed without a sound base. The core portion of client portfolios, comprising exchangetraded funds (ETFs) allows clients to participate in rising markets while out-performing in declining ones.
  2. Depending on portfolio size, individual equities are our best picks. Companies in this group need to be culturally significant and dominant within their industry, and they need to have large barriers to entries and wide moats to keep new players out. If we have gotten to the point where the company is so entrenched in consumer culture, we like it. It could be Adobe, Amazon, Facebook, FedEx, Google, MasterCard, Starbucks, UPS, and Visa, among others.
  3. We allocate portions of client portfolios to our best themes/sector ideas. We focus on identifying sectors, industries and related themes that we believe will outperform in the next 12-24 months, which is paramount to our client's success. It could be an allocation to technology, biotech, financials, semi-conductors, regional banks, aero and defense companies,


virtual reality, 3D printer technology, cyber technology, electronic payment systems, or maybe even cloud technology. This triad of different and unique strategies within one portfolio is what makes WT Wealth Management different from other financial services firms. Having three unique strategies within one portfolio delivers little overlap and expedites the selection process, and the strategies complement each other in constructing a well-rounded, fully diversified portfolio- which is always our goal at WT Wealth Management.

Disclosure


WT Wealth Management is a manager of Separately Managed Accounts (SMA). Past performance is no indication of future performance. With SMA's, performance can vary widely from investor to investor as each portfolio is individually constructed and allocation weightings are determined based on economic and market conditions the day the funds are invested. In a SMA you own individual ETFs and as managers we have the freedom and flexibility to tailor the portfolio to address your personal risk tolerance and investment objectives – thus making your account “separate” and distinct from all others we potentially managed.

An investment in the strategy is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency.

Any opinions expressed are the opinions of WT Wealth Management and its associates only. Information is neither an offer to buy or sell securities nor should it be interpreted as personal financial advice. You should always seek out the advice of a qualified investment professional before deciding to invest. Investing in stocks, bonds, mutual funds and ETFs carry certain specific risks and part or all of your account value can be lost.

In addition to the normal risks associated with investing, narrowly focused investments, investments in smaller companies, sector ETF's and investments in single countries typically exhibit higher volatility. International, Emerging Market and Frontier Market ETFs investments may involve risk of capital loss from unfavorable fluctuations in currency values, from differences in generally accepted accounting principles or from economic or political instability that other nation's experience. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Bonds, bond funds and bond ETFs will decrease in value as interest rates rise. A portion of a municipal bond fund's income may be subject to federal or state income taxes or the alternative minimum tax. Capital gains (short and long-term), if any, are subject to capital gains tax.

Diversification and asset allocation may not protect against market risk or a loss in your investment.

At WT Wealth Management we strongly suggest having a personal financial plan in place before making any investment decisions including understanding your personal risk tolerance and having clearly outlined investment objectives.

WT Wealth Management is a registered investment adviser in Arizona, California, Nevada, New York and Washington with offices in Scottsdale, AZ Jackson, WY and Las Vegas, NV. WT Wealth Management may only transact business in those states in which it is registered, or qualifies for an exemption or exclusion from registration requirements. Individualized responses to persons that involve either the effecting of transaction in securities, or the rendering of personalized investment advice for compensation, will not be made without registration or exemption. WT Wealth Managements web site is limited to the dissemination of general information pertaining to its advisory services, together with access to additional investment-related information, publications, and links. Accordingly, the publication of WT Wealth Management web site on the Internet should not be construed by any consumer and/or prospective client as WT Wealth Management solicitation to effect, or attempt to effect transactions in securities, or the rendering of personalized investment advice for compensation, over the Internet. Any subsequent, direct communication by WT Wealth Management with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides. For information pertaining to the registration status of WT Wealth Management, please contact the state securities regulators for those states in which WT Wealth Management maintains a registration filing. A copy of WT Wealth Management's current written disclosure statement discussing WT Wealth Management's business operations, services, and fees is available at the SEC's investment adviser public information website – www.adviserinfo.sec.gov or from WT Wealth Management upon written request. WT Wealth Management does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to WT Wealth Management's web site or incorporated herein, and takes no responsibility therefor. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly.

WARRANTIES & DISCLAIMERS

There are no warranties implied.
Any opinions expressed on this website are the opinions of WT Wealth Management and its associates only. Material listed on this website is neither an offer to buy or sell securities nor should it be interpreted as personal financial advice. You should always seek out the advice of a qualified investment professional before deciding to invest. Investing in stocks, bonds, mutual funds and ETF’s carry certain specific risks and part or all of your account value can be lost.

At WT Wealth Management we strongly suggest having a personal financial plan in place before making any investment decisions including understanding your personal risk tolerance and having clearly outlined investment objectives.

View Disclosure
WT Wealth Management is an SEC registered investment adviser, with in excess of $100 million in assets under management (AUM) with offices in Flagstaff, Scottsdale, Sedona and Tucson, AZ along with Jackson Hole, WY and Las Vegas, NV. WT Wealth Management is a manager of Separately Managed Accounts (SMAs). With SMAs, performance can vary widely from investor to investor as each portfolio is individually constructed and managed. Asset allocation weightings are determined based on a wide array of economic and market conditions the day the funds are invested. In an SMA, each investor may own individual Exchange Traded Funds (ETFs), individual equities or mutual funds. As the manager we have the freedom and flexibility to tailor the portfolio to address an individual investor's personal risk tolerance and investment objectives – thus making the account “separate” and distinct from all others we manage. An investment with WT Wealth Management is not insured or guaranteed by the Federal Deposit Insurance Corporation (FDIC) or any other government agency. Any opinions expressed are the opinions of WT Wealth Management and its associates only. Information offered is neither an offer to buy or sell securities nor should it be interpreted as personal financial advice. Always seek out the advice of a qualified investment professional before deciding to invest. Investing in stocks, bonds, mutual funds and ETFs carries certain specific risks and part or all of an account's value can be lost. In addition to the normal risks associated with investing, narrowly focused investments, investments in smaller companies, sector and/or thematic ETFs and investments in single countries typically exhibit higher volatility. International, Emerging Market and Frontier Market ETFs, mutual funds and individual securities may involve risk of capital loss from unfavorable fluctuations in currency values, from differences in generally accepted accounting principles or from economic or political instability that other nations experience. Individual bonds, bond mutual funds and bond ETFs will typically decrease in value as interest rates rise. A portion of a municipal bond fund's income may be subject to federal or state income taxes or the alternative minimum tax. Capital gains (short and long-term), if any, are subject to capital gains tax. Diversification and asset allocation may not protect against market risk or investment losses. At WT Wealth Management, we strongly suggest having a personal financial plan in place before making any investment decisions including understanding personal risk tolerance, having clearly outlined investment objectives and a clearly defined investment time horizon. WT Wealth Management may only transact business in those states in which it is registered, or qualifies for an exemption or exclusion from registration requirements. Individualized responses to persons that involve either the effecting of transactions in securities, or the rendering of personalized investment advice for compensation, will not be made without registration or exemption. WT Wealth Management's website is limited to the dissemination of general information pertaining to its advisory services, together with access to additional investment-related information, publications, and links. Accordingly, the publication of WT Wealth Management's website should not be construed by any consumer and/or prospective client as WT Wealth Management's solicitation to effect, or attempt to effect transactions in securities, or the rendering of personalized investment advice for compensation, over the internet. Any subsequent, direct communication by WT Wealth Management with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides. A copy of WT Wealth Management's current written disclosure statement discussing WT Wealth Management's registrations, business operations, services, and fees is available at the SEC's investment adviser public information website (www. adviserinfo.sec.gov) or from WT Wealth Management directly. WT Wealth Management does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to WT Wealth Management's web site or incorporated therein, and takes no responsibility therefor. All such information is provided solely for convenience purposes and all users thereof should be guided accordingly.

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