Investing in automation in a changing world

Growth in automation is being driven by many factors, including social distancing.

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Key takeaways

  • As hardware and software become increasingly advanced, machines are able to work alongside humans or complete complex, intricate tasks.
  • Other trends that may increase the push toward automation include a growing middle class in developing countries as well as health and safety concerns for workers.
  • Automation as an investable idea isn't just about robots, though they are a part of it. Companies that make software, cameras, sensors, and semiconductors all offer ways for investors to find opportunities.

Automation is transforming many aspects of our lives. It's used to assemble smartphones, grab boxes in a warehouse, assist surgeons through operations, skim vast amounts of data, even drive your car. And that's creating opportunities for investors.

"Automation is an exciting global theme that our research analysts are watching across regions and across sectors," says William Shanley, Managing Director of Research and co-portfolio manager of the Fidelity Disruptive Automation Fund (FBOTX).

What is automation?

Automation uses machines or electronics to complete a task—with or without a human involved. Some of the primary components related to automation are robotics, artificial intelligence, semiconductors and electronics, as well as machine vision and sensors.

The field of automation is already big but growing fast

The automation trend is big, broad, and fast-growing. In the field of factory automation alone, the total addressable market globally was about $160 billion in 2018.1 And that's expected to grow at a high single-digit compound annual growth rate (CAGR) through the next 5 to 10 years.

What's driving the growth in factory automation? Here are 6 tailwinds:

1. Products are more complex.

Electronic devices, like smartphones, have become increasingly intricate. Using machines in the manufacturing process can be more efficient than humans alone.

For example, the metal casings of many smartphones are milled by a machine called the Robodrill.

2. As the middle class grows in developing countries, wages are rising.

Wages in many areas of Asia have risen steeply in recent years, particularly in Southeast Asia.2 As wages increased in China, manufacturing gradually shifted to countries such as Vietnam, Laos, and Cambodia, where wages are lower—but growing quickly. In order to control costs, manufacturers have a strong incentive to automate.

3. Health and safety concerns for human workers are being recognized.

Automation can help to increase worker safety. Plus, people have physical needs that machines may not need, including the need for climate control, adequate ventilation, and lighting.

4. "Co-bots" (collaborative robots) are evolving.

Robots have historically not been able to work alongside humans—due to safety issues—but that has changed over the past decade.

Co-bots are robots that don't require protective fencing, and they can work together with humans to do a given task. For example, on the auto factory floor, a co-bot can lift a heavy tire and move it to the body of the car. The final steps of making sure the tire is in place can be done by a human. Many tasks that were previously done by humans alone can now be done in conjunction with robots, increasing efficiency and safety.

5. Peak robot density is far away for most countries.

Robots per manufacturing worker are still very low in many countries, which means that the growth runway for robots is long. Robot volumes have grown at close to a 20% compound annual growth rate (CAGR) over the past decade, and we could see strong growth for many years to come.

6. Social distancing may be a tailwind for some areas of automation.

With more people working from home, laptops, tablets, and smartphones may see increased demand. That can mean more semiconductor chips and data centers. "All of that is positive for automation," says Tak Nishikawa, a research analyst with Fidelity Investments.

What are the risks?

While automation benefits from strong secular tailwinds, it is also cyclical. When manufacturing companies feel comfortable expanding, they may invest in machines, like robots. So the robotics industry is tied to the capital expenditures (CAPEX) of businesses, which rise and fall with the business cycle.

"If you invest in automation stocks at the peak of a CAPEX cycle, then for a period of time your returns may not be good. But over the long term, the category has tended to outperform—just because of the secular dynamics around automation," Nishikawa says.

Where are the opportunities?

Robots are everywhere—assembling furniture, polishing smartphones, and assembling battery packs for electric vehicles.

Within this broad category there are high barriers to entry. The leading companies have wide moats, which may help them stay competitive in this growing field.

There are many companies in the automation space, including Japanese companies3 like Keyence (KYCCF), and SMC (SMCAY). There are also some in Europe, like Siemens (SIEGY) and ABB (ABB). And there are companies in the US, including Rockwell Automation (ROK) and Parker Hannifin (PH).

The potential uptick in online shopping is positive for what are known as warehouse automators. This category includes companies like Daifuku (DFKCY) in Japan, and Dematic, owned by Kion (KIGRY) in Europe. Amazon has its own warehouse automation company, Amazon Robotics (formerly Kiva before being acquired), making and installing robots for Amazon's warehouse floor.

Software is another critical component of automation. "Google has been a leader in AI and their technologies are likely to be very important in automation. But the universe is quite big, so there are lots of great companies within the space to invest in," says Nishikawa.

Another area to watch is machine vision and sensors. Machine vision is using cameras and software to achieve an outcome—for instance, detecting defects or quality control. One of the global leaders in machine vision is Keyence (KYCCF), who competes with US-based Cognex (CGNX) in this area. "Machine vision is one of the fastest growing product categories within automation," Nishikawa says.

Companies that make robots may also be positioned for growth over the long term. Fanuc (FANUY) is a global leader in this area, controlling more than a quarter of the world market share. "It's an area that has grown at 20% CAGR over the last decade," says Nishikawa.

How to invest

Finding individual companies that will outperform in a complex and dynamic global environment requires deep research spanning many regions. Since the automation theme is global in nature and cuts across traditional sectors and industries, investors may want to consider a thematic fund to invest in this trend. Fidelity's Disruptive Automation Fund (FBOTX) is one example, investing in companies related to automation around the world and across many sectors, including areas such as industrial robotics, artificial intelligence, and autonomous driving. With the ability to look for opportunities everywhere, the fund tries to spot disruptive automation companies wherever they may be.

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