History Suggests ARK Innovation Investors Should Be Careful, Ritholtz Portfolio Manager Says

The ARK Innovation ETF ARKK has been a top market performer in 2020, gaining 169.7% year-to-date.

Ark Investment and fund manager Cathie Wood have risen to superstardom on Wall Street this year, but Ritholtz Wealth Management portfolio manager Ben Carlson said Wednesday that history doesn’t bode well for Wood or her fund.

In a blog post, Carlson said there are plenty of examples of investors chasing the hottest funds and fund managers. Given the ARK Innovation ETF’s assets under management are up nearly 900% in 2020, Carlson said investors should understand how these types of scenarios have played out in the past.

Related Link: Survivorship Bias May Be Tricking You Into Taking Too Many Investing Risks

Former Superstar Fund Managers: Fidelity’s Jerry Tsai was the biggest superstar fund manager of the 1960s, and the number of investors in his fund jumped from 6,000 to 36,000 from 1960 to 1961. In the bear market of 1968-1970, momentum stocks were crushed. Tsai’s fund experienced the worst eight-year performance of any fund in history up to that point, and AUM dropped 90%.

Peter Lynch famously generated a 30% average annual return from the late 1970s to his retirement in 1991.

Unfortunately, Carlson said much of Lynch’s most impressive gains occurred before the majority of his investors bought in.

In addition, many of Lynch’s investors entered the fund after periods of outperformance and exited during periods of underperformance. In fact, the average investor in his fund during that period reportedly earned around 7% annually, underperforming the S&P 500.

From 2000 to 2009, Ken Heebner’s CGM Focus Fund was the top-performing U.S. stock mutual fund in the maret, generating 18% annual returns during a decade in which the S&P 500 averaged a 1% annual decline.

Unfortunately, many investors flooded into Heebner’s fund in 2007 after it was up 80% and jumped ship in 2008 after the fund dropped 48%. When the dust settled on the decade, the average investor in the best-performing fund on the market averaged an 11% annual loss.

The Mainstay Marketfield Fund was the next superstar fund on Wall Street after significantly outperforming the S&P 500 during the 2008 and 2009 financial crisis. AUM skyrocketed from $34 million at the beginning of 2009 to more than $21 billion by 2014. The fund subsequently lagged the S&P 500 by more than 25% over the next three years, and the investors exited as quickly as they entered.

What It Means For ARK Innovation: Carlson said he doesn’t know whether Wood will experience a similar performance drop-off as these former superstar fund managers, but said he is almost certain investors buying into the ARK Innovation ETF will underperform the fund’s long-term performance.

ARK won’t outperform at its current pace forever, and Carlson said history suggests many investors who bought at peak performance levels in 2020 will likely sell when the fund starts to underperform.

“Investors don’t have a great track record when it comes to chasing the hottest fund of the day. I hate to be that person, but I’ve seen this movie before and it ends with a behavior gap,” Carlson said.

Benzinga’s Take: All the fund managers mentioned above, including Wood, deserve credit for their achievements. 

Whatever themes are hottest in the market over a period of a couple of years will inevitably create big winners for funds that are overly concentrated in those themes, and investors shouldn’t fall victim to their survivorship bias.