For traders seeking sustainable long-term growth with reduced risk, there is a compelling alternative to the ARK Innovation ETF (ARKK). While this ETF has recently delivered impressive returns, it is essential to consider other investment options that can yield equal or even greater results while minimizing risk.
Over the past three weeks, the ARK Innovation ETF has demonstrated an extraordinary return, outperforming the Invesco QQQ ETF (QQQ) – a tech-focused ETF benchmarked against the Nasdaq 100 NDX index. During this period, ARKK soared by 26.1%, whereas QQQ only gained 11.7%. Unsurprisingly, this remarkable performance has attracted momentum players who are chasing returns.
However, taking a longer-term perspective reveals a contrasting narrative. By expanding our analysis beyond the past three weeks, a prudent investor would have observed that investing in QQQ with sufficient leverage to match ARK Innovation’s volatility could have generated far greater returns. To illustrate, let’s examine the chart below:
This chart clearly demonstrates that an investor who embraced ARK Innovation’s higher-than-average volatility paid a steep price. On the other hand, investing in a hypothetical QQQ portfolio with an 83% margin would have significantly outperformed ARKK over its entire existence since October 2014. It is essential to note that this hypothetical portfolio’s return reflects the interest cost associated with margined investments.
By my calculations, this hypothetical QQQ portfolio has consistently outperformed ARKK by a notable annualized percentage of 12.2%. I feel compelled to highlight this observation, not as a way of hindsight analysis, but rather to emphasize that back in March 2021, during the meme stock frenzy when ARKK seemed unbeatable, I cautioned about the inherent risks associated with its market-beating returns. The reality is that ARK Innovation’s impressive gains were contingent upon shouldering excessive risk, leaving the fund vulnerable to substantial losses when the market experienced downturns.
In conclusion, while the ARK Innovation ETF has garnered significant attention recently, investors should carefully consider the trade-off between short-term gains and long-term sustainability. Exploring alternatives and embracing investment strategies that prioritize risk management can potentially deliver better performance without exposing one’s portfolio to unnecessary vulnerabilities.
The Risky Nature of the ARK Innovation ETF
Concentrated Bets
The ARK Innovation ETF (ARKK) experienced significant losses during the bear market that began in January 2022. Since my March 2021 column, the ETF’s decline amounts to a total loss of 64.4%, as reported by FactSet. This equates to a negative annualized return of 32.2%.
One of the primary reasons why ARKK is considered highly risky is its heavy concentration in a small number of stocks. As of November 15, the ETF’s top 10 holdings accounted for 62.9% of its entire portfolio. By comparison, the top 10 holdings in the S&P 500 represent 32.0% of the index, and the Nasdaq 100’s top 10 holdings make up 49.8% of the index.
This concentration level makes ARKK significantly more volatile than the QQQ and even more so than the Nasdaq 100, which itself is more concentrated than the S&P 500. Consequently, it is predictable that ARKK will continue to underperform the market on a risk-adjusted basis since its risk could easily be diversified away.
More: Cathie Wood’s ARK Innovation ETF in ‘Breakout Mode’ After Triggering Bullish Pattern
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