AI theme bucks gloomy trend for European-domiciled thematic ETFs

Investors pulled a record $533mn from European-domiciled thematic ETFs in February, according to data from ETFbook. The withdrawals added to the gloom from a poor 2023, when the sector bled $1.1bn, the first annual outflow after at least a decade of net buying.

The numbers would have been worse still without the allure of artificial intelligence, however. Four of the top six thematic funds by inflows in the first two months of 2024 were AI vehicles, ETFbook data shows — not bad considering the continent only boasts five such ETFs with combined assets of $5.1bn.

Since the start of 2023, these AI ETFs have pulled in a net $2.1bn, meaning non-AI thematics have shipped more than $3bn. The top three best-selling thematic ETFs in Europe over that 14-month period have all been AI-related: Xtrackers Artificial Intelligence & Big Data Ucits ETF (XAIX), WisdomTree Artificial Intelligence Ucits ETF (WTAI) and L&G Artificial Intelligence Ucits ETF (AIAI).

“The big story is AI,” said Kenneth Lamont, senior fund analyst for passive strategies at Morningstar. “It has been the theme de jour, taking over from the energy transition,” which dominated European thematic flows for a couple of years before returns started heading south in 2021.

“AI is going to change the world,” added Lamont. “Do we know exactly how and who will benefit from it? No, but only a fool would bet against there being some big winners in this space.”

A similar trend has unfolded in the US, where AI ETFs have been a shining beacon despite overall thematic ETF assets sliding 24.3 per cent, from $112bn to $85bn, in the year to the end of January, according to data from Global X, an ETF house.

The $2.7bn Global X Robotics & Artificial Intelligence ETF (BOTZ), the largest fund with AI in its name in the US, has pulled in $672mn since the start of 2023, according to data from VettaFi, a consultancy.

The $1.4bn Global X Artificial Intelligence & Technology ETF (AIQ) has sucked in $1.1bn over the same period, without a single week of outflows since February 2023.

The $624mn iShares Robotics and Artificial Intelligence Multisector ETF (IRBO) has attracted a further $322mn at a more consistent rate still, with no outflows weeks since November 2022.

The $540mn First Trust Nasdaq Artificial Intelligence & Robotics ETF (ROBT), is not far behind, with $314mn of net inflows.  

“Artificial intelligence was a key investment theme in 2023 and remains in focus in the first quarter of 2024,” said Todd Rosenbluth, head of research at VettaFi.

Pawel Janus, head of analytics at ETFbook, said that “thematic investments are not long-term buy and hold strategies. Investors look to rotate from one to another.”

As a result, the level of media coverage can propel investors out of an unpopular theme, such as clean energy, into a fashionable one, like AI.

“Everybody has been talking about AI for the last two years, especially since ChatGPT was released,” Janus said. “The theme has just exploded.”

Morningstar has not always been the biggest advocate for thematic investing. It released research in November indicating that investors lost out on more than two-thirds of the potential returns from thematic funds over the five years to June 2023 due to their tendency to buy high and sell low.

However, Lamont believed that “the last couple of years have been an argument for seeing the world thematically. The story that has driven the global markets has been the Magnificent Seven [the largest US technology stocks] and what is driving this is AI. If there is a time and a place for thematic funds, this is the time and place.”

His analysis of AI funds globally showed that the top 10 holdings include six of the Magnificent Seven, with Apple the sole exception.

Perhaps unsurprisingly, this weighting towards the Magnificent Seven has aided performance. Over the past year, all five of Europe’s AI ETFs are in the top third of thematic funds in term of returns, according to ETFbook data.

Their median return, at 35.8 per cent, is almost three times as high as the 13.9 per cent median return for thematic ETFs in Europe. Over the same time period, the largest US-domiciled AI ETFs have chalked up a mean return of 28.1 per cent.

As for the broader out-of-favour thematic ETFs, one casualty, in Europe at least, appears to be market leader BlackRock’s iShares brand.

Three of the four thematic ETFs that have suffered the highest outflows since the start of 2023 are iShares’ Global Clean Energy, Global Infrastructure and Digital Security Ucits ETFs, with collective outflows of $1.8bn helping bring their combined assets down to $6.3bn. The company’s Ageing Population and Healthcare Innovation ETFs have also fallen out of favour, alongside the L&G Cyber Security Ucits ETF.

“Market dynamics have played a big role in the flows into thematic ETFs. The largest companies, the Magnificent Seven, have been leading the market higher,” a spokesperson for BlackRock said.

“Financial markets are adjusting to the new regime of greater volatility, uncertainty and divergence in market performance. This has led to heightened dispersion in some markets.”

However, top of the flops has been the UBS Global Gender Equality Ucits ETF. Across its various share classes, it has shipped $1.1bn since the start of 2023, according to ETFbook data, outstripping the remaining assets of $741mn.