LONDON (Reuters) – A record half-billion-dollar redemption of Ark Invest’s flagship fund in one day has led analysts to highlight the risks associated with the ETF’s large exposure to illiquid stocks as outflows accelerate.
A 20% drop in Tesla stock over the past three weeks, the largest holding of exchange-traded fund Ark Innovation, founded by star investor Cathie Wood, has sparked a rush among investors to buy some of their stakes. to sell.
But according to some closely watching the fund, a much bigger problem could be the 15% stake in a handful of companies whose stocks are relatively illiquid and may be difficult to exit if redemptions soar.
These include names like the therapeutic discovery company Compugen and the three-dimensional printing company Stratasys, whose daily stock trading is small compared to the ETF’s total sales.
“They won’t find liquidity in many of these stocks,” said Ben Johnson, director of global ETF research at Morningstar. “If there will be liquidity, it will have a price, and it will be a price that is unlikely to be favorable to the fund’s shareholders.”
For example, stocks in Stratasys change hands on average at about $ 100 million a day, a stark contrast to Ark Innovation ETF’s revenue in single-digit billions and Teslas in tens of billions of dollars.
Investors raised $ 465 million from Ark Innovation on Monday, according to data from Refinitiv. More such redemptions would prompt Wood’s fund to sell liquid holdings in order to absorb short-term pressures before it would want to run down its illiquid positions.
That could bring back nasty and new memories of British money manager Neil Woodford’s flagship fund, which failed in 2019 due to its exposure to hard-to-sell stocks. As a result, it failed to meet a deluge of redemption requests following a phase of underperformance and asset revaluations.
“These big bets are hard to leave quickly. This movie has been played before, starring Neil Woodford, ”said Neil Campling, director of technology research at Mirabaud Securities.
Ark Invest did not answer calls for comment.
The risk level of the Ark Innovation ETF portfolio, which returned 157% last year, scores well above the average on 10 of 11 factors in Morningstar’s Global Risk Model.
Ark Invest, meanwhile, shook its portfolio on Tuesday by cutting its already small stakes in Apple, Amazon, Taiwan Semiconductor and Google owner Alphabet to increase its Tesla stake on Wednesday.
The fund, which saw $ 5.5 billion inflows in 2021, traded almost flat on Wednesday when Tesla’s stock stopped declining.
In 2020, assets have grown tenfold thanks to small investors, while actively managed ETFs focusing on red-hot topics such as major tech disruptors, aerospace technology and pet care boomed.
Investors say Ark’s ETF allows funds to invest in specialty niche companies that other large ETFs simply have no interest in.
SHORT
The pressure on the fund this week has lured short-sellers, with 100% of Ark Innovation shares available to go short from Monday, data provider FIS Astec Analytics estimates.
Selling pressure can cause the ETF to trade below net asset value (NAV), leading to “redemptions” as ETF arbitrageurs trade the fund for the underlying holdings and then sell the underlying holdings, adding to the selling pressure on these ETFs.
In a similar period, during the stock market crash in China in 2015, overseas-listed ETFs from Chinese markets traded at significant discounts on their NAV.
“ETFs can quickly gain or lose assets based on the sentiments of their individual investors. These changing flows can act as a self-fulfilling prophecy for ARK, ”added Campling.
Ark is, of course, not the only fund that invests heavily in a very small number of companies. However, it is one of the largest, and many others have taken a more cautious approach.
Global X, which has $ 25 billion in assets under management, uses a “modified market capitalization” concept in its thematic ETFs, with no company having more than 8% weight in its portfolio, says CEO Luis Berruga.
“We are limiting the potential situation where a company can become a very large part of their portfolio and are addressing some of the potential concentration risks in our portfolios,” Berruga told Reuters.
Image: ARK, Tesla Shares for the Past Two Years –
Reporting by Thyagaraju Adinarayan and Saikat Chatterjee; Edited by Sujata Rao and Hugh Lawson