Here to Stay? What to Know About Investing in Emerging Industries

Investors pay a lot of attention to emerging business concepts and nascent industries, and with good reason. Getting in on the ground floor of an investment opportunity is the stuff of Hollywood films and investing documentaries – if you’re successful, it can be as lucrative as it is risky; if not, you can just as easily lose it all.

In recent years, several trends hitting the headlines – think the budding cannabis industry, electric vehicle newcomers and fledgling artificial intelligence platforms – may have left you wondering if this is your chance to make it big as an investor. But no matter the emerging industry, experts always seem divided on whether it’s one that’s here to stay or not. How can you decide for yourself whether a trend or burgeoning industry might be right for you?

When it comes to evaluating an industry – new or old – there are a few common measures investors can consider before they invest.  

Explore the regulatory environment

Regulation (or de-regulation) has the potential to speed or slow an emerging industry’s growth and competitiveness. For a real-world example, consider what’s happening in the American tech sector. Many tech companies experienced rapid expansion at a time when few regulations impacted their data-collection and advertising activities. But more recently, government agencies in the U.S. and Europe look to broadly rein in their powers amid fierce debate over issues like privacy and market dominance.

Here in Canada, personal medical and recreational cannabis use was legalized in 2018. Related stocks were buoyed by government incentives aimed at growing the industry, but in years since legalization, some cannabis business owners are saying high taxes and strict rules have left them struggling to succeed.

While there’s no crystal ball to determine how regulations will affect an industry in the long run, it’s beneficial for investors to be aware of any legislation in the works to understand potential long-term consequences.

Understand competition and moats

What separates a speculative operation cashing in on the latest trend and a company with long-term prospects? If you ask Warren Buffett, he’d tell you it’s all about the company’s “economic moat.” When looking at individual companies, he sees the castle as the company and the moat as the durable competitive advantage that allows it to persist and grow over time. After all, if a company's success is something others can't replicate (say, brand power, patents or a loyal customer base), it can typically offer more stability during economic downturns – and therefore better reward its investors through long-term capital appreciation.

Still, simply hooking into a trend won’t help a newer company build a moat. To thrive, a business’ competitive advantage must be part of how the company functions. Here’s an example.

Consider Company A, which builds its business model on a fitness-class fad. Classes are popping up everywhere, with DVDs on the market and an app in the works. Company B, on the other hand, manufactures a patented, proprietary formula for a muscle-building drink. Growth is unremarkable but steady while the company pushes into different markets as regulations allow.

Both companies are capitalizing on a larger social shift toward healthy living, but one is vulnerable to copycat competitors while the other is protected by the power of a patent, a trademark and a deep understanding of local health regulations.

Pay attention to the people (and minds) behind the trend

Some of the most interesting trends start as the lofty thoughts of visionaries with dreams of fixing a problem, meeting an unmet demand or finding new approaches to existing ideas. In some cases, they go on to become company founders, management team members or thought leaders within an emerging industry. It’s not uncommon for investors to hang on their every word, looking for clues as to where a trend is headed.

Today, that’s easier than ever. The core team of a company is often outspoken, making getting the scoop on a company’s future direction as easy as tuning into in-depth media interviews or investor calls. Meanwhile, social-media posts can offer insights into a company’s day-to-day operations. You may see executives conversing online with other industry leaders in their network – discussing topics germane to their industry and, well, arguing. Paying attention to recurring themes and points of contention can serve as a jumping-off point for further research. Investor sections on company websites are also treasure troves of information, from the latest earnings reports for public companies to letters from executives.

Map out the new industry

Speaking of expanding your perspective, companies on the cutting edge of a trend aren’t an investor’s only opportunity. As emerging trends grow toward wider-spread adoption, they may spawn several industries that serve to support them. For example, big-name manufacturers aren’t the only investing opportunity in the EV industry – rare-earth mining firms, computer-chip makers, electric utility companies and infrastructure developers may stand to indirectly gain steam from the trend as well. Taking a moment to zoom out and see the big picture of an emerging sector can help you spot overlooked investing ideas.