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Cathie Wood’s ARK Innovation: Time To Own It Again

The ARK Innovation ETF sold off sharply in 2021 and earlier this year, but momentum seems to be shifting in favor of the bulls. Here’s how to tell if now is the right time to buy shares.

Famed investor Cathie Wood’s ARK Innovation ETF  (ARKK) - Get ARK Innovation ETF Report is starting to look good again. After declining as much as 66% from the February 2021 all-time high, shares of the high-growth tech fund have finally started to catch a bid.

I have talked about the importance of having a plan to protect against sizable losses before committing any capital to ARKK — but maybe it is time to start thinking of the rebound. My preferred trading methodology suggests that now could be the right moment to jump in.

Figure 1: Cathie Wood’s ARK Innovation: Time To Own It Again

Figure 1: Cathie Wood’s ARK Innovation: Time To Own It Again

(Read more from Wall Street Memes: Why You Should Remain Bullish on Nio Despite Earnings Disappointment)

ARKK: the first question to ask

Any investor looking to own shares of ARK Innovation should first ask themselves: “do I believe in Cathie Wood’s investment philosophy?” According to the management team itself:

“ARK recognizes that disruptive innovation causes rapid cost declines, cuts across sectors, and spawns further innovation. [...] ARK aims to identify innovation early, capitalize on the opportunities, and provide long-term value to investors.”

It seems logical, but it is worth emphasizing: those who believe that the likes of Tesla  (TSLA) - Get Tesla Inc. Report, Roku  (ROKU) - Get Roku Inc. Report and Teladoc  (TDOC) - Get Teladoc Health Inc. Report are overpriced stocks that benefited momentarily from the pandemic habits and lavish liquidity in the system might never want to own ARKK to begin with.

However, I see things a bit differently. In my opinion, investing in disruptive technology could be one of the best ways to produce above-market returns in the long haul. To me, the most important question then becomes: “when is the right time to buy?”

ARKK: the second question to ask

Seasoned investors probably know that simply buying high quality assets for their portfolios is not enough. Doing so at the right price is a key consideration.

Here, a lengthy discussion could be had about whether ARKK’s underlying assets are finally priced attractively. Take TSLA, the ETF’s largest holding, at 10.4% allocation.

True, Tesla stock remains in correction territory, 10% down from its November 2021 peak. However, according to Seeking Alpha, shares still trade at a 2022 P/E of over 100 times that only improves to around 80 times on a 2023 basis. TSLA is still a richly-valued stock.

ARKK’s second largest holding is looking even worse, from a valuations perspective. Roku is not expected to produce positive earnings until next year. Despite the stock being down a whopping 70% from the peak, even the forward 2024 P/E is still above 100 times.

Simplifying the investment decision

It looks like we are facing a conundrum: investing in disruptive technology is an appealing proposition, but prices and valuations could still be stretched too thin. What to do?

In my view, paying attention to price behavior in this case makes the most sense. To me, ARKK has been a classic case of a bubble: it overinflated in 2020 and early last year, then crashed catastrophically in the past 12 months.

The best way to trade bubbles is to take advantage of momentum. That is: buy the asset when it is climbing, and dump it when the price is starting to decline (and before it crashes).

Using a simple 50-day moving average has proven to be a great strategy for knowing when to own and when to sell ARKK — not only in the past several months, in fact, but since the ETF’s 2014 inception.

Check out the following chart depicting ARKK’s share price and the 50-day moving average since Q4 of last year. Notice how owning the ETF only above the orange line would have saved an investor from enduring sizable losses of 50% or so in the past few months.

Figure 2: ARKK’s share price and the 50-day moving average since Q4 of last year.

Figure 2: ARKK’s share price and the 50-day moving average since Q4 of last year.

The chart also suggests that now could be the time to buy shares of ARKK once again. Notice how the blue line has just jumped ahead of the moving average for the first time in about four months, suggesting positive momentum.

Key takeaway

Those who subscribe to Cathie Wood’s investment philosophy may want to consider owning ARKK once again. While it is impossible to say if a longer-lasting rally is ahead, sentiment seems to have finally shifted in favor of the bulls.

Having said the above, I suggest investors always remember to protect the downside and limit losses. If using a moving-average strategy, be diligent to divest of ARKK if or once the ETF loses steam and turns south once again.

(Disclaimers: this is not investment advice. The author may be long one or more stocks mentioned in this report. Also, the article may contain affiliate links. These partnerships do not influence editorial content. Thanks for supporting Wall Street Memes)