Cathie Wood’s ARK Innovation: The Best Trading Strategy – Meme Stock Maven
Famed investor Cathie Wood says that the ARK Innovation ETF (ARKK) – Get ARK Innovation ETF Report is bound to return a whopping 50% per year through 2026 because growth and tech are overdue for a rebound.
Meanwhile, skeptics have argued that weakness in ARKK’s share price has been nothing but a correction of years of irrational exuberance that lasted until early 2021. The current environment of high inflation and rising interest rates should be a drag for aggressive growth investing.
It does not matter which side of the argument you subscribed to. In my view, the best strategy to trade ARKK is largely agnostic to these fundamental questions. Instead, I think that entries and exits in this case should be informed primarily by price action.
The recent selloff that followed a late March “dead cat bounce” in ARK Innovation has only supported this idea, which I will discuss in more detail below.
Figure 1: Cathie Wood’s ARK Innovation: The Best Trading Strategy
DAVID SWANSON | Credit: David Swanson—REUTERS
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How to trade ARKK
I began talking about how I believe ARKK should be traded back in January 2022.
First, it helps if one has the conviction that, over a long period of time (many years, in fact), growth stocks will eventually find their way north. I think that this is a reasonable assumption, if I am able to look past the immediate headwinds: rising consumer prices and yields, risk of economic slowdown, geopolitical instability, etc.
Next, notice that ARKK has traded very much like a bubble since 2017. The ETF climbed over 500% in the five years that ended in December 2020. Then, from the February 2021 peak, the fund lost a whopping two-thirds of its value in just a bit over 12 months.
This is classic bubble behavior that reminds me of the Japanese stock market of the 1980s and the tech-rich Nasdaq index in the 1990s, during the dot-com mania.
Bubbles are a gift to those who know how to play them. In a recent interview, famed money manager Stan Druckenmiller defended the idea of trading bubbles on the way up, even if the fundamentals do not support the prices — provided that investors step out before the burst.
This is precisely what is behind my idea of owning ARKK, the classic bubble of the 2020s, only when the ETF trades above its 50-day moving average. When share price drops below it, investors should step away to avoid being caught in a downward spiral.
By doing so, an investor can ride bullish and avoid bearish spurts. The approach does not work quite as well for “regular stocks” or ETFs, but usually does in cases when “the herd” pushes prices sharply higher and lower in wave-like fashion.
Below is a graph that shows how ARKK investors would have performed since the start of 2020 if they (1) had simply bought and held the fund vs. (2) had followed a 50-day moving average strategy, as I have proposed.
Figure 2: ARKK buy-hold vs. 50-day moving average strategy.
DM Martins Research, data from Yahoo Finance
Notice above how trading ARKK’s 50-day moving average in the past 30 months or so would have resulted in cumulative gains of almost 100% — much better than the buy-and-hold strategy that would have been virtually flat, and even the S&P 500’s returns of 40%.
But wasn’t I wrong in late March?
Those who follow me must have noticed something that could hurt the credibility of my strategy. As recently as March 30, and relying on the same moving average guidelines, I stated that it was time to own ARKK once again.
The ETF traded at $71 per share back then. Over the following three and a half weeks, the fund lost a mind blowing 26% in market value. Didn’t I time that entry terribly?
Yes and no. While the moving average approach would have triggered a buy on March 30, it would have also triggered a sell on April 5. Therefore, the timed strategy would have produced month-to-date losses of only 2% vs. a decline of 20% for the buy-and-hold approach.
Recent price action teaches an important lesson in being diligent at following the trading process. Going forward, I believe that the strategy will continue to work well for ARKK traders who adopt it.
(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)