Last Thursday, we read several reports about ARK funds’ tumble in both price and asset flows – it seems that everyone from ZeroHedge to the Wall Street Journal has something to say about Cathie Wood’s investment strategy that bets purely on disruptive technologies and their focus on Growth factors that have not done well recently.

The fund has seen large investment losses in the past month along with capital outflows. This is largely the result of the factor rotation from Growth to Value, which accelerated in February from rising interest rates. Its mostly retail-sourced capital tends to be less sticky than institutional investments. Retail investments are also more easily spooked by fast-moving markets like we’ve seen recently.

Disruptive funds’ focus is on future growth

But while ARK’s funds are highly exposed to Growth stocks that are sensitive to interest rate rises and inflation, they’re not the only funds with that factor profile.

Using our fund analysis suite – Market Insights, Peer Insights and Similyzer™ – we compared both the ARK Innovation ETF and the ARK Disruptive Innovation Strategy SMA with the 32 mutual funds that most closely resemble their factor profile, relative to the Russell 2500 Growth Index. The results, below, show from left to right that the peer group of funds all have higher exposure to Growth (green bars), lower exposure to Value (blue), lower exposure to Quality (purple) and higher exposure to both Volatility (red) and Momentum (black) than the zero-line benchmark.

Disruptive Factor exposures focus on growth factors that have not done well recently

ARK and similar funds’ factor profiles. Source: Investment Metrics

ARK’s Innovation ETF (red triangle) and Disruptive SMA (yellow square) funds are in the middle range of most of the factor exposures of their peers. It has no real outlier status except for strong Growth sub-factors: low on Earnings Growth and high on Sales Growth and Forecast Sales Growth.

The ARK funds’ focus on forecast sales and forecast growth makes it particularly vulnerable to the recent increases in interest rates. Duncan Lamont recently explained why long duration asset can get crushed by rising rates in this easy to understand post. The same rate rises that have helped the rotation to Value have directly hurt ARK’s funds, as discussed on our recent podcast episode.

Consistently Concentrated

The funds’ exposures to these sub-factors have been largely consistent over time, with a strong bias towards companies with very strong sales growth and market beta, as shown in the second figure below.

ARK factor exposures over time

ARK Disruptive funds’ exposures have been consistent over the past few years. Source: Investment Metrics.

 

The funds have always been quite concentrated, investing in only 30 to 50 individual stocks at a time. Most recently, two names stand out: highly overweighted Tesla and Statays. Tesla, its single biggest winner, is responsible for about 30% of its outperformance over the past year. Over the past five years Tesla is also the largest active weight and outperformer. Statasys has the next highest active weight and is the largest detractor from returns.

Examining the fund’s historical factor exposure, we note that it currently has the highest exposure it has ever had to both Value and Forecast Growth. Curiously, it now has its lowest exposure ever to high Volatility stocks.

We expect funds with ARK’s factor exposure to face continued headwinds. Increasing interest rate pressure, the US government stimulus package and the long-awaited resumption of more normal economic activity resulting from widespread vaccination all point to a favorable environment for Value stocks and for turbulent times for Growth stocks. At least in the near term, we expect the disruption to continue.

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