Morningstar Analyst Peeks Behind AARK Curtain and Calls Fund Wretched

4/8/2022

Markets

0 min read

Morningstar Analyst Cites Many Reasons to Downgrade Cathie Wood’s Flagship Fund

When it rains, it pours on ARK Invest. Morningstar has dropped Cathie Wood’s flagship Fund, the ARK Innovation ETF (AARK), to the lowest level on its analyst scale. The influential research firm’s analyst has a long list of reasons to be so hard on the “disruptive” tech fund. He also directs advice specifically at Cathie Wood as manager of the firm she founded.

Source: Morningstar

Morningstar Actions

In a research note released earlier this week, fund analyst Robby Greengold, CFA, downgraded ARKK to Negative from Neutral. He simultaneously dropped the fund’s People and Parent ratings to Below Average from Average. He explains in a laundry list of issues the reasons for the downgrades. Many of them describe a seat-of-the-pants, lack of benchmarking strategy, that he says is employed by the chief investment officer, Cathie Wood.

Fund Downgrade

In his write-up titled Why We’ve Downgraded ARK
Innovation, Greenwold is critical right from his first sentence, he writes, “ARK Innovation ETF (ARKK) shows few signs of improving its risk management or ability to successfully navigate the challenging territory it explores.”

He goes on to find risk in the funds diversification, AARK holds only 35 stocks (down from 60 last year). The holdings are all companies of Wood’s highest conviction ideas. Part of the issue here is that many of these companies have highly correlated stock prices, and several of them are unprofitable.

Other criticisms explained with the fund downgrade include:

“Manager Cathie Wood has since doubled down on her perilous approach in hopes of a repeat of 2020, when highly volatile growth stocks were in favor.”

“Since its meteoric rise in 2020, the strategy’s exchange-traded fund has been one of the worst-performing U.S.-sold funds, as the aggressive-growth stocks it held fell back to earth.”

“She has saddled the portfolio with greater risk by slashing its number of stocks to 35 from 60 less than a year ago–thereby amplifying stock-specific risk.”

“Rather than gauge the portfolio’s aggregate risk exposures and simulate their effects during a variety of market conditions, the firm uses its past as a guide to the future…”

People and Parent Downgrade

As part of the ratings downgrade for People and Parent of the ETF, Robby Greenwold discusses the lack of depth and succession planning:

“ARK has in place a poor succession plan for the 66-year-old Wood, who is essential as the firm’s majority owner and lone portfolio manager. Director of research Brett Winton would succeed her if needed, but his 15 years of industry experience include none as a manager. Exacerbating that key-person risk is the firm’s inability to develop and retain talent: Many of its analysts have come and gone, and most of the nine remaining lack deep industry experience.”

Philosophical Differences

The Morningstar analyst seems to be at disagreement with the philosophy that investors in funds choose the sector or sub-sector and leave the investing in the hands of a fund manager they deem capable. And, if the manager is not fully invested, they are interfering with the investor’s allocation strategy. Under this philosophy, any diversification away from a sector is for the investor. Instead, Greenwold says, “Wood has suggested that risk management lies not with her but with those who invest in ARK’s funds.” He believes that a fund manager should be the one calling the market, and not just looking for long-term winners within the confines of the prospectus. Greenwold writes, “ARK could do more to avert severe drawdowns of wealth, and its carelessness on the topic has hurt many investors of late. It could hurt more in the future.”

Paul Hoffman

Managing Editor, Channelchek

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