Robinhood rocketed to popularity among young investors in 2020 amid unprecedented market volatility, and it's no surprise that there has been a lot of attention paid to what the trading platform's users are investing in.
Traders using Robinhood tend to be more active than most, and while the app's users have made plenty of good buys, some of what they're purchasing are undoubtedly questionable investments. And one particular type of investment popular among Robinhood investors could potentially fit into either of these categories, depending on the specifics.
Robinhood users bet big on this type of investment, but is it a smart one?
While buying individual stocks is common among Robinhood users, its investors also flock to another type of investment: thematic ETFs. According to a Bloomberg analysis, the platform's users have purchased more than $20 billion worth of them, including over $2.5 billion in November 2020 alone.
As the name suggests, thematic ETFs are exchange-traded funds organized around a particular theme that provides exposure to a specific type of niche investment. For example, you could buy one that gives you exposure to companies in the marijuana industry or to telemedicine or pet products. Thematic ETFs differ from those tracking broader market indexes, such as ETFs that mimic the performance of the S&P 500, because you're betting not on the growth of the market as a whole but on a particular type of business performing well.
Investing in thematic ETFs can be a smart move if you believe certain industries are likely to outperform but you don't want to take the time to identify individual companies poised to benefit from outsize growth. They can also be less risky than investing in individual companies. If you buy just one marijuana company, you're taking a much bigger gamble than if you gain exposure to multiple cannabis-related businesses with your ETF purchase.
Thematic ETFs allows you to go beyond just trying to mimic market performance without requiring you to learn how to research stock fundamentals, but there's an important caveat. Since you're not just picking an ETF that tracks the market as a whole, you need to do a little more research to make sure your investment is a sound one.
Another look at top Robinhood investments shows why this is so important. Two thematic ETFs especially popular on Robinhood last year were ETFMG Alternative Harvest ( MJ -3.25% ), which invests in companies in the cannabis industry, and the crude-oil tracking United States Oil Fund ( USO -0.60% ) -- neither of which were necessarily sound investments last year, as my Motley Fool colleagues explained in the included links.
The danger in thematic ETFs is that they make it seem easy to capitalize on trends that appear inevitable, like the growth in the marijuana industry or the rebound of oil prices. But ultimately the performance of each individual fund depends on the strength of its underlying investment mix. In other words, not every ETF that aims to track the marijuana industry (or oil prices, or any other investment niche) will necessarily do a good job of it.
Whether you're using Robinhood or any other trading platform, treat thematic ETFs just like any other investment. Look at their track record, understand exactly what you're buying, and make a fully informed choice about whether the investment is a sound one. Don't assume an investment is safe just because it's an ETF, and don't count on it mimicking the performance of an industry as a whole just because its name suggests it will.