A Luncheon With Cathie Wood of ARK Invest

Yesterday, I attended a CFA Society Chicago luncheon featuring a Q&A with Catherine “Cathie” Wood. Wood, the founder of ARK Investment Management LLC, is a big proponent of companies associated with what she describes as disruptive innovation.

She believes there are currently five major emerging platforms: robotics, energy storage, artificial intelligence (AI), blockchain and multi-genome sequencing. “[We have never] seen this amount of innovation in history,” believes Wood.

The closest prior example she could find was the late 1800s and early 1900s. The telephone, electricity and the internal combustion engine all started becoming mainstream during that period.

Wood’s investment strategy focuses on companies believed to make the best use of new technological innovations. Yesterday, she used Amazon.com Inc. (AMZN) and Tesla Inc. (TSLA) as examples. Amazon uses robotics in its warehouses, has been investing in cleaner energy and is incorporating AI. Tesla, according to Wood, is “the largest AI project in the world.”

The focus on innovative technologies is predicated on a belief in Wright’s Law. The law states that for every cumulative doubling of units produced, costs will fall by a constant percentage. As production increases, efficiencies are realized. This in turn helps increase the adaptation of new technologies.

Wood predicted that the convergence of the currently innovative technologies will lead to “super exponential growth.” She explained that this means “rapid growth rates accelerating.”

The ARK Invest exchange-traded funds (ETFs) are not for the faint of heart when it comes to price volatility. The total risk index of the flagship ARK Innovation ETF (ARKK) is 3.08. The fund has been three times more volatile than the average ETF available to U.S. investors—a group that includes bond, allocation and commodity funds. In contrast, the Invesco QQQ Trust ETF (QQQ), which tracks the Nasdaq 100 index, has a total risk index of 1.51.

It is not an apples-to-apples comparison, even though Invesco QQQ (aka “the Qs”) is one many investors would compare the ARK Innovation ETF to. The Nasdaq 100 comprises a variety of sectors and companies despite its reputation of being a technology index. ARK Invest, in contrast, solely focuses on companies specifically viewed as technologically innovative. Wood noted that “on many days,” her firm’s funds are “inversely correlated” to the returns of the Nasdaq 100.

The ARK Invest ETFs are not for value investors—at least not those who view value in a traditional sense. The average ratio of enterprise value to earnings before interest, taxes, depreciation and amortization (EBITDA) for companies held in the ARK Innovation ETF is 35.0. (The valuation is based on how her firm calculates EBTIDA.) Wood is counting on revenue growth and margin expansion being strong enough over the next five years to more than offset drops in valuations.

Wood’s approach has both ardent followers and detractors. It was very clear yesterday that she holds strong beliefs about the current emergent technologies and what their impact on economic growth will be.

Historically, big technological changes have brought about new, long-standing leaders. Telephones led to the creation of AT&T Inc. (T)—and many iterations over the years. Electric power gave birth to General Electric Co. (GE), with an assist from financier John Pierpont (“J.P.”) Morgan. The internal combustion engine was responsible for Ford Motor Co. (F). Computers brought us Microsoft Corp. (MSFT) and Apple Inc. (AAPL). The challenge has been and continues to be picking the big winners from major innovations.