Episode 9: Secular Themes

• Host introduction (0:00 – 0:19)
• Episode introduction (0:20 – 00:56)
• Introduction to the episode’s guest: Aristotle Atlantic’s Thomas Hynes (0:57 – 1:35)
• What makes Aristotle Atlantic’s investment philosophy unique (1:36 – 3:31)
• Identifying investible secular themes (3:32 – 5:01)
• Why Aristotle Atlantic believes Personalized Health is an investible secular theme (5:02 – 7:23)
• Potential investment opportunities in Personalized Health (7:24 – 8:45)
• Why Aristotle Atlantic believes Pet Spending is an investible secular theme (8:46 – 10:36)
• Potential investment opportunities in Pet Spending (10:37 – 11:48)
• The lifecycle of secular themes and retired secular themes (11:49 – 13:30)
• Conclusion (13:31 – 13:55)
• Disclosures (13:56 – 15:34)

Alex Warren: Welcome to the Power of Patience, Aristotle’s podcast where we share views on topics actively explored by our investment teams and across the organization. I’m Alex Warren, Product Specialist at Aristotle, and I’ll be your host today. Coming up on today’s episode, we’ll be speaking with Tom Hynes, Managing Director and Portfolio Manager at Aristotle Atlantic Partners. Tom serves as a Portfolio Manager on Aristotle Atlantic’s Core Equity, Large Cap Growth and Focus Growth strategies. If you enjoyed this podcast, please like and share it on LinkedIn to help spread the word.

Today on the show, we’ll discuss how Aristotle Atlantic defines and identifies secular themes, the role of secular themes in the team’s investment philosophy, examples of current themes the team invests in, and why he believes certain secular themes offer attractive investment opportunities.

Without further ado, let’s get started. Tom, thank you so much for speaking with me today. To lead off the discussion, can you introduce yourself and tell me a bit about your role at Aristotle Atlantic?

Thomas Hynes: Yes. Thanks, Alex. I’m delighted to be here. My name’s Tom Hynes and I’m a Co-Portfolio Manager and Senior Sector Analyst on the team. I cover the Healthcare and Consumer Staples sector, and I also handle a lot of direct client interactions. I’m part of a five-person team that founded Aristotle Atlantic in late 2016 after spending about a decade together at Deutsche Asset Management. We’re headquartered in Sarasota, Florida, and we focus on managing US large cap equity mandates.

Alex Warren: Wonderful. Thank you, Tom. Can you discuss Aristotle Atlantic’s investment philosophy, and what do you believe makes it unique?

Thomas Hynes: Sure, Alex. So we believe that successful investments can be categorized into three different categories. Those are secular themes, product cycles and cyclical trends. I think what makes it unique is that we source these trends and cycles from bottom-up research. Not only are we looking to find the themes and cycles, we’re also trying to find the companies that are poised to benefit from them. So, let me drill down on each of those categories a little bit.

Cyclical themes refer to sort of the traditional form of investing. That would be trying to determine where we are within the business cycle, and then positioning in names that are either pro-cyclical, when the economy’s expanding, or defensive, when we see a slowdown or we see some sort of macro conditions that are slowing the economy. For us, this tends to be the smallest part of our process.

The next category is product cycles, and here what we’re looking for is a company that’s in the midst of a new product introduction or an innovative product enhancement.

What we’re really looking for here is companies that have protectable intellectual property, we’re looking for first mover advantage and we’re looking for large and growing total addressable markets. Really, to sum up this thing, we’re looking for companies that are poised to take meaningful market share in a profitable way. For us, this tends to be about 15 to 25% of our investment allocation.

The third category is what we call secular themes. We define these as long-term shifts in spending, either by corporations, consumers, or government entities. We currently have identified 20 secular themes, and for us, this makes up about 60 to 80% of our investments. We’ve identified that 12 of those themes align with the United Nation’s sustainable development goals, so we refer to those 12 themes as sustainable secular themes.

Alex Warren: Gotcha, that makes sense. Now, Tom, how does the team identify secular themes, and what makes them investible?

Thomas Hynes: Sure. So again, when we talk about secular themes, we’re talking about defined shifts in spending either by consumers, governments or corporations. We’re looking for an expected multi-year time horizon. In our experience, a lot of the investment community tends to underestimate these themes in their infancy. What we believe makes our approach different from some of our peers is that we source these ideas from listening to the companies that we cover. Again, so I talked about sourcing these from the bottom up. We’re listening for a change in tone or a change in the way that a company is doing business.

Cloud computing, for example, when that was emerging as a secular theme, several companies in the technology space were establishing dedicated divisions to the growth in cloud computing. We knew that this spending was shifting towards this emerging modality. These trends tend to be multi-year and involve large and growing total addressable markets, just like I talked about with our product stories. So the list of secular themes is wide and ranging, but the one thing, Alex, that makes it unique is they all are underpinned by technological advancement, right?

So, I’m not trying to say that they’re all within the technology sector, but if you look at the list of the 20 secular themes that we have, you can see that technology influences many of them. Things like streaming and digital media, things like next-generation sequencing and personalized health, and practice management software and diagnostics within the pet care industry.

Alex Warren: Tom, can you discuss what personalized health is, and why do you believe it’s an investible secular theme?

Thomas Hynes: Sure. We first recognized personalized health, or as some might call it personalized medicine, as an investible theme back in 2019. However, it’s been around for quite a long time. Personalized health is the idea that we can use advanced technology to tailor customized solutions based on a patient’s specific disease characteristics. These customized solutions are called targeted therapies, and they seek to deliver better patient outcomes with fewer side effects, and also in a more cost-efficient manner.

What’s nice about targeted therapies is they also help the companies that are developing drugs, right? So if a company can identify patients that are most likely to benefit from a therapy based on the specifics of their drug, it increases the odds of success in that clinical trial, and it potentially can increase the speed to market for these innovative therapies. However, personalized medicine is not just limited to these therapeutics. We have personalized health, which involves devices and trackers, things that can create a lot of data to help consumers lead a more healthy life.

So, let’s drill down really quick, Alex, and we’ll do an example within the use of targeted therapies in oncology. We believe targeted therapies have the potential to transform the cancer treatment paradigm. In the traditional treatment of cancer, all patients were given the same therapy. It was typically something like chemotherapy, which can be somewhat crude, highly toxic medicine with unpleasant side effects and questionable efficacy. Cancer researchers realize each tumor gives off a series of biomarkers or mutational signatures that can make each patient’s tumor unique.

By identifying these proteins, biomarkers or mutations, scientists are working on better therapies that can address those idiosyncrasies at the patient level. Recently, we’ve seen a lot of FDA approvals around these targeted therapies, and advanced diagnostic techniques are used to determine the exact genetic profile of the tumor, and then, if available, they can match patients to these targeted therapies. Again, these drugs typically have a better efficacy profile, they have s cleaner side effect profile, and perhaps most importantly, they can save money for the entire system by providing those better outcomes, which is important, right? It can sort of democratize health, and proper healthcare can get to more people.

Alex Warren: That sounds promising for the future. Now, how would you invest in this theme?

Thomas Hynes: We think there are several current opportunities to invest around personalized health. The first would be in the advanced diagnostics that are needed to do the comprehensive genetic profiling of the tumor. So, traditionally, to learn more about a patient’s tumor, this was done with what’s called a tissue biopsy. Tissue biopsy is a surgical procedure where a surgeon goes in and slices off a small piece of the tumor, and then that small piece of tissue is analyzed. What we’re excited about is what’s called liquid biopsy. These are more simple tests. They’re done with easily attainable liquid samples – things like blood, saliva, or urine – and they can attain that same comprehensive genetic profile of a patient’s tumor.

Liquid biopsies are important and we think they’re a better modality. They’re less invasive, less expensive, and they can offer a faster time to result. The second opportunity is, again, within the biopharmaceutical industry that I talked about, where they can develop better clinical trials and increase their odds of successfully bringing that drug to market. And then lastly, the third opportunity we think about is in the wearables and device segment. One example of this that we are excited about is continuous glucose monitoring devices. These are used by diabetic patients to help them increase their treatment and have a better treatment paradigm overall.

Alex Warren: Gotcha. It sounds like there’s a lot of opportunities in personalized health. Now, let’s switch gears and talk about pet spending. Can you talk about this secular theme a bit more?

Thomas Hynes: Sure, yeah. We first recognized pet spending as a secular theme back in 2017. It shouldn’t come as a surprise to many, but over the past couple of decades, we’ve seen a broad global expansion in pet ownership. In fact, in 2022, it’s estimated that 70% of all US households owned a pet, and that’s up from 56% when the survey was first taken back in 1988. In addition to more pets and more pet ownership, pets are increasingly becoming thought of more as a member of the family, as there’s this growing bond between pet owners and their pets. You see this every day, or at least I do, right? More people are traveling with pets, they let the pets sleep in bed with them, they might take them to a restaurant. I just feel like we’re seeing them kind of all over the place.

Alex Warren: Absolutely.

Thomas Hynes: Another recent survey that was out of pet owners, Alex, came out and said that most people, or a majority of people would make sacrifices to their own daily living before they would deprive their pet of anything.

Alex Warren: Wow.

Thomas Hynes: Yeah. That’s kind of interesting, and I think in the COVID-19 pandemic, that only accelerated this thing. People were locked down, they were trapped inside their homes, so we saw another uptick in pet ownership coming out of COVID. Maybe just two quick stats before I wrap up. The one would be pet spending. Pet spending has increased to over $123 billion in 2021, and that’s up from roughly $70 billion in 2017.

Alex Warren: Wow.

Thomas Hynes: Yeah. That represents a compound annual growth rate (CAGR) of 15%, well outpacing that of typical GDP growth. And then lastly, just an interesting little quip is that the average dog owner spends about $1,500 a year annually on the dog, whereas cats come in a little cheaper at about $900 per year.

Alex Warren: People love their dogs, I get it. I’m a dog owner myself, so these numbers certainly track. Now, going one step further, how do you invest in this theme?

Thomas Hynes: Sure, yeah. We think there’s a couple of different ways. The first one would be investing in companies that are making or selling pet food, treats, accessories, or some of the things I just talked about. For example, we actually had a theme in the past around natural and organic food, and this theme initially was focused on humans, right? People were more interested in eating well, eating cleanly, that sort of thing. We identified a few opportunities in companies that were also making natural and organic food for pets. So pet owners, they’re growing more conscious of what their pets are eating as well.

The second one, and one we think is very interesting, is opportunities for companies focused on that pet diagnostic services and equipment market for the veterinary segment. Similar to you and I, if we go in for an annual physical, we might go have some blood work done. Well, that’s the increasing standard of care we’re seeing for pets as well. They’re doing diagnostics both for wellness visits, your annual visit for your dog, and also for sick visits. And it’s really taking a step up in that standard of care. And again, people are treating their pets more like a member of family, so they’re more interested in better outcomes, keeping them healthy.

Alex Warren: Absolutely. That makes sense. Now, Tom, this has been a great conversation and we have time for a couple of final questions. Have there been any secular themes in the portfolio that have run their course, and can you discuss how the team decided whether that theme was no longer investible?

Thomas Hynes: Sure. So, part of our job is to be constantly reviewing these themes and listening to these companies, again, for emerging themes or new themes. So we do, on a quarterly basis, we do a formal review where we sit down, we go through all 20 of the secular themes. We also open up to all of the team members for anyone to bring up a theme, right? So it doesn’t need to be specific to our coverage, but if we’re hearing about something, we’re reading about something, we can propose and then discuss that theme. So there’s a couple that have run their course. A quick one would be 5G, right? The move from 4G to 5G for cellular communications.

We had a theme around that spending. It’s largely played out, and we eventually took that one off. The other is around shale drilling. Shale drilling was a new, emerging technique used to extract more oil and gas from the ground. It actually led to increasing levels of supply, which brought the price of those items down. So secular shale drilling sort of ate itself, cannibalized a little bit. One more quick point before we wrap up, I would make is that some of the themes just morph over time. I mentioned that one we had around natural and organic foods, and eventually, we realized it wasn’t that people just wanted to eat more cleanly and eat better foods. They wanted to look better, they wanted to feel better.

And over time, over I’d say probably the course of two or three years, that evolved into a current theme that we have that we call healthy living and vanity. And again, that’s about people wanting to exercise more, feel better about themselves, live better and ultimately look better.

Alex Warren: That brings us to the end of this episode. Thank you so much, Tom, for joining us today. We hope you’ve enjoyed it and learned more about Aristotle. Thanks for listening to the Power of Patience. To learn more about Aristotle, please visit www.aristotlecap.com or follow the link in the show notes. If you enjoyed the show, please rate and review us on Spotify and Apple Podcasts. And on behalf of Aristotle, this is Alex Warren, and thank you for listening.

For additional disclosures please refer to www.aristotlecap.com.