Are Thematic ETFs More Volatile Than Broad-Market ETFs?

The short answer: Thematic ETFs can be more volatile, but not always

Thematic ETFs can experience greater volatility than broad market ETFs during some periods because they may concentrate exposure around a specific industry, technology, or economic trend. Companies connected to the same theme can respond to similar developments, potentially causing their prices to move in the same direction.

Broad market ETFs generally spread holdings across more industries and business models, which can result in different volatility characteristics. However, some broad market ETFs can also have significant exposure to particular sectors or a small number of large companies.

The comparison therefore depends on fund construction, holdings, market conditions, and the period being examined. A thematic ETF that experienced greater volatility during one period may not show the same relationship during another. Volatility can also differ depending on the measure used.

What does ETF volatility mean?

Volatility generally describes the size and frequency of price movements over a defined period. A fund with larger or more frequent price changes can have higher measured volatility than a fund with smaller price movements.

Standard deviation is one commonly used measure of historical volatility. It can help describe how widely investment returns have varied around their average over a specified period.

Volatility represents only one dimension of risk. Other measures and characteristics can provide additional context:

• Maximum drawdown: The decline from a previous peak to a subsequent low over a defined period.

• Concentration risk: The potential effect of having significant exposure to a limited number of holdings, sectors, or related businesses.

• Liquidity considerations: The ability to trade ETF units and the liquidity of the underlying securities.

• Permanent loss: A decline that may not be recovered through a subsequent increase in market value.

No single measure can capture every aspect of an ETF's risk. Fund holdings, methodology, costs, liquidity, and market conditions can also affect outcomes.

Why some thematic ETFs may experience greater volatility

Concentrated holdings may move together

Broad diversification depends partly on the economic relationships among holdings, not simply the number of securities in a fund.

A thematic ETF can hold dozens of companies while maintaining substantial exposure to one sector, a small group of industries, similar revenue sources, the same technology cycle, or a limited number of countries.

A development affecting a particular theme can therefore influence several holdings at the same time. Examples can include regulatory changes, shifts in consumer demand, technological developments, or changes in supply chains.

Fund characteristics that can provide additional context include top-10 holdings as a percentage of assets, sector and industry weights, geographic exposure, holding overlap, and index weighting rules.

Valuations can increase sensitivity to changing expectations

Companies tied to growth themes may sometimes have valuations that reflect high expectations for future revenue or earnings. Changes in earnings, interest rates, regulation, product adoption, or competition can affect those expectations and market prices.

Valuations can vary considerably across themes and funds, so comparisons depend on the metric, date, and methodology used.

A narrow theme may depend on a small set of outcomes

A narrowly defined theme may depend on a smaller group of products, technologies, policies, supply chains, or new markets. ETFs with similar themes can also use different eligibility criteria, weighting methods, rebalancing schedules, and geographic limits.

Fund documents, holdings, and index methodologies can provide more detail about a fund's exposure.

Rebalancing and turnover can change the portfolio

Thematic indexes can add or remove companies as they meet or no longer meet theme-related criteria. These changes can affect portfolio composition, trading activity, transaction costs, and tracking differences.

Turnover can also have tax implications in some circumstances, depending on the fund and account type.

Investor attention can amplify price movements

Periods of elevated attention around technologies, industries, or economic trends can coincide with changes in trading activity, fund flows, and valuations.

Strong recent fund performance can also attract attention. However, these relationships do not establish causation, and research findings can vary by market, period, sample, and methodology.

How thematic and broad market ETF volatility can be compared

A meaningful comparison can begin with funds that have comparable structures, currencies, and measurement periods. Using the same start and end dates can help reduce differences caused by the period selected.

Other considerations can include:

• Return frequency

• Treatment of distributions

• Currency conversion

• Benchmark selection

• Fund structure

• Market environment

Comparing a Canadian-listed thematic ETF with a U.S. benchmark can introduce currency and market differences that affect the results.

Several measures can also provide more context than volatility alone. These can include annualized standard deviation, maximum drawdown, largest monthly decline, best and worst calendar-year returns, beta against a stated benchmark, and top-holdings concentration.

When a thematic ETF may not be more volatile

A thematic ETF may not experience greater volatility than a selected broad market ETF during a particular period. Several factors can contribute to this outcome.

A theme may include companies across multiple industries and regions, or it may include established companies with more diversified revenue sources. A thematic fund can also use weighting rules that limit the size of individual holdings.

The broad market comparison can matter as well. A broad market ETF with significant exposure to a volatile sector or a small number of large companies can experience meaningful price movements.

Currency movements can also affect comparisons between funds listed in different currencies or holding assets denominated in different currencies.

These differences mean category-level descriptions can obscure variation among individual funds. Fund-level holdings, methodology, concentration, and risk measures can provide more specific information.

Factors commonly reviewed when comparing thematic ETFs

Several fund characteristics can provide context when comparing thematic ETFs:

• Investment objective: Describes the theme and the fund's intended exposure.

• Full holdings: Shows the companies and securities included in the portfolio.

• Top-holdings concentration: Indicates how much of the fund is held in..its largest positions.

• Sector and geographic exposure: Shows where the fund's underlying businesses operate.

• Index methodology: Explains how securities qualify and how holdings are weighted.

• Rebalancing frequency: Indicates how often holdings and weights are adjusted based on the methodology.

• Historical volatility and drawdowns: Provides measures of past price fluctuations.

• Management expense ratio and other costs: Shows expenses that can affect investment returns.

• Trading volume and spreads: Provide information about ETF trading conditions.

• Underlying liquidity: Can affect how efficiently the fund's securities can be traded.

• Fund age and available performance history: Provides context about the amount of information available for review.

Current fund documents, including ETF Facts and prospectuses, can provide information about objectives, holdings, risks, costs, and operating characteristics.

Conclusion: Thematic ETF volatility depends on the fund, not only the label

Some thematic ETFs may experience greater volatility because of concentrated holdings, valuation sensitivity, narrow exposure, portfolio turnover, or periods of elevated investor attention. However, thematic ETFs can differ substantially in their construction and risk characteristics.

Broad market ETFs can also experience meaningful volatility and declines in market value. Fund holdings, methodology, concentration, costs, liquidity, and measured volatility can therefore provide more information than the thematic or broad market label alone.

Past volatility can provide context for comparing funds, but it does not indicate future results.