What's the hottest sector to invest in right now?

The rewards of investing in innovative tech stocks are huge but they can also be the riskiest

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How Tesla’s price correction has hit fund managers

Investing in disruptive technology can be a bumpy ride, as investors in Tesla were reminded on Friday, when its stock dropped 7.5 per cent in early trading to $575.

It recovered slightly but still ended the week 15 per cent lower and is down a third from its all-time high of $883 on January 26. The electric car maker’s market cap fell from $834 billion to about $567bn in that time, a drop of an astonishing $267bn, and a blow for those who bought Tesla stock late.

The collapse also hit fund managers that have gone big on Tesla, notably the UK-based Scottish Mortgage Investment Trust and Cathie Wood’s ARK Innovation ETF.

Tesla is the top holding in both funds, making up a hefty 10 per cent of total assets under management. Both funds have fallen by a quarter in the past month.

Matt Weller, global head of market research at GAIN Capital, recently warned that Tesla founder Elon Musk had “flown a bit too close to the sun”, after getting carried away by investing $1.5bn of the company’s money in Bitcoin.

He also predicted Tesla’s sales could struggle as traditional auto manufacturers ramp up electric car production, destroying its first mover advantage.

AJ Bell’s Russ Mould warns that many investors buy tech stocks when earnings forecasts are rising, almost regardless of valuation. “When it works, it really works. But when it goes wrong, elevated valuations leave little or no downside protection.”

A Tesla correction was probably baked in after last year’s astonishing share price surge, and many investors will see this as an opportunity to load up at a reduced price.

Dramatic swings are to be expected when investing in disruptive technology, as Ms Wood at ARK makes clear.

Every week, she sends subscribers a commentary listing “stocks in our strategies that have appreciated or dropped more than 15 per cent in a day” during the week.

Her latest commentary, issued on Friday, showed seven stocks displaying extreme volatility, led by ExOne, a leader in binder jetting 3D printing technology. It jumped 24 per cent, boosted by news that fellow 3D printing specialist Stratasys had beaten fourth-quarter revenues and earnings expectations, seen as good news for the sector.

By contrast, computational drug and material discovery company Schrödinger fell 27 per cent after quarterly and full-year results showed its core software sales and drug development pipeline slowing.

Despite that setback, Ms Wood remains positive, arguing that its “medicinal chemistry platform offers a powerful and unique view into chemical space”.

In her weekly video view, she remains bullish, stating that: “We are on the right side of change, and disruptive innovation is going to deliver exponential growth trajectories for many of our companies, in fact, most of them.”

Ms Wood remains committed to Tesla as she expects global electric car sales to compound at an average annual rate of 82 per cent for the next five years.

She said these are so “enormous that some people find them unbelievable”, and argues that this scepticism, especially among institutional investors, “festers” and creates a great opportunity for ARK.

Only you can decide whether you are a believer or a festering sceptic. If it’s the former, then buckle up.

It is an iron law of investing that the most rewarding opportunities are the riskiest, and that is certainly the case with today's hottest sector, disruptive technology.

The rewards of investing in innovative tech stocks are huge, as anybody who watched the Tesla share price fly from $90 to more than $700 in 2020 knows. So are the risks, as the electric car maker’s stock fell 20 per cent in February, punishing investors who bought in late.

For technology to be disruptive, it must transform how consumers and businesses operate, Chaddy Kirbaj, vice director at Swissquote Bank in Dubai, says. “We have seen this in e-commerce, ride-sharing apps, communications, DNA technologies, Next Generation Internet, Fintech and smart city technology.”

Mr Kirbaj says Amazon is the most obvious disrupter, growing from an online marketplace for books to the world’s biggest retailer. “Tesla, Uber and Airbnb are all examples of how disruption can change industries and lifestyles.”

Right now, the disruptive tech sector could go either way. Technology is changing our lives in ways we scarcely understand and investors can make fortunes from picking winners, especially if they invest at an early stage.

Yet, others worry that last year's unprecedented blast of fiscal and monetary stimulus will revive inflation and force the US Federal Reserve to increase interest rates, strangling the post-Covid recovery at birth.

If that happens, investors could quickly become more cautious and abandon riskier sectors like this one.

So should you load up on innovative technology stocks, or is the theme ripe for a correction?

Disruptive technology has thrown up a new star, Cathie Wood, founder, chief executive and chief investment officer at ARK Investment Management.

Ms Wood started her career as an economist back in 1981 and spent 12 years managing $5 billion of investor funds at AllianceBernstein before launching ARK in January 2014. That's a strong career by anybody's standards, but last year she went stellar.

In 2020, five out of ARK’s six exchange-traded funds grew more than 100 per cent, according to Morningstar Direct, while total assets under management rocketed from $3bn to $50bn.

Ms Wood’s flagship fund, the $24bn actively managed ARK Innovation ETF, shot up 657 per cent over five years, according to FE Analytics.

If you had invested $100,000 five years ago, you would have $757,000 today, and be very pleased with yourself.

There's a problem, though. You didn't invest five years ago; you're investing today. So can ARK cement its ascendency?

ARK Innovation’s biggest single holding at 10 per cent of the fund is electric car maker Tesla, in which Ms Wood has boundless faith, predicting in 2018 that its stock could top $4,000 in five years.

Other top holdings you may recognise include Square, Roku, Teladoc Health and Spotify, along with smaller companies that you may not know. That could soon change if Ms Wood has called them correctly.

Just as the world woke up to ARK, it crashed back to Earth. After peaking at $156.58 on February 12, its net asset value has plunged to around $118.43 at the time of writing, a drop of more than 24 per cent.

Vijay Valecha, chief investment officer at Century Financial in Dubai, says ARK is playing exciting trends such as electric vehicles, automation, genomics and cryptocurrencies, but small caps are always more risky and success brings challenges.

As new money flows in – an incredible $20.6bn last year – Ms Wood has the problem of where to invest it. “There are limited investment opportunities, which means almost half of the fund is in stocks where ARK owns 10 per cent or more of the company,” Mr Valecha says.

Quote
Value has been outperforming growth since last July, yet everyone keeps banging on about concept technology stocks like electric vehicles, renewables, cryptos and space as if they're the only game in town, when they're not

That’s dangerous because the fund could struggle to find buyers if it has to sell stock to meet redemptions in a bear market, and Mr Valecha fears many investors do not realise the danger.

Those worries hit home early last month, when ARK Innovation suffered a record $500 million redemption in a single day.

The big danger with any tech investment is getting carried away and buying into a future that never arrives, says Russ Mould, investment director at wealth platform AJ Bell. “You can end up paying unsustainable prices for firms with no cash flow, no profits or even no revenues.”

Thanks to vaccination programmes and huge fiscal and monetary stimulus, investors are brushing aside their fears and embracing “speculative, moon-shot stocks”, he adds.

One example may be the newly launched US-based Space Commodities Exchange (SCX), which describes itself as an emerging space start-up investing in space commodities, such as supplying fuel to satellites and lunar base trading resources.

SCX chief executive Simon Drake wants investors “to buy, hold or sell commodities in space”.

This is either the final frontier in investing, or a sign that some investors are losing contact with planet Earth.

Catherine Wood, chief executive officer of ARK Investment Management LLC, speaks virtually during the Bloomberg Crypto Summit on a laptop computer in Tiskilwa, Illinois, U.S., on Thursday, Feb. 25, 2021. With Bitcoin reaching its all-time highs and interest in cryptocurrencies surging from major banks and asset managers, the future of digital assets has rarely seemed brighter. Photographer: Daniel Acker/Bloomberg

Mr Valecha urges caution as possible uses for space tech have yet to be defined. “Companies have rallied on the announcement and run ahead of fair valuation. Investors should wait for a correction.”

Investors are now edging away from technology and into so-called value stocks, Mr Mould says.

These are typically larger, established companies that have been overlooked by the market and look relatively cheap as a result, but should prove rewarding as they swing back into favour.

“Value has been outperforming growth since last July, yet everyone keeps banging on about concept technology stocks like electric vehicles, renewables, cryptos and space as if they’re the only game in town, when they’re not,” Mr Mould adds.

He says markets in "a robust economic upswing after the pandemic" is when value stocks could come back into fashion.

This does not mean you should snub disruptive tech, but you should tread carefully and apply age-old investment principles, investing for the long term and spreading your risk.

Mr Mould suggests buying into a technology fund run by managers with strong performance track records and experience of more than one investment cycle. “Polar Capital Global Technology and the Scottish Mortgage Investment Trust are popular and successful.”

Mr Kirbaj says Asia has the greatest potential as China, South Korea and India embrace a digitised lifestyle. “Digital payment solutions, online education, e-mobility, artificial intelligence, blockchain and food alternatives are all expected to grow strongly.”

Tech is a medium-to-high risk investment, so protect yourself from a cyclical correction by investing for at least five years, ideally longer.

Mr Kirbaj picks three technology ETFs with impressive recent performances: Loup Frontier Tech ETF, SPDR S&P Kensho New Economics Composite and the Global X Internet of Things ETF.

Mr Valecha says the Global X FinTech ETF and Genomics & Biotechnology ETF are good way to play Fintech and genomics.

Amplify Transformational Data Sharing ETF is an actively managed ETF that targets companies involved in blockchain technology.

ROBO Global Robotics & Automation ETF, launched in 2013, targets companies specialising in robotics, automation and artificial intelligence, Mr Valecha says.

Meanwhile, Dzmitry Lipski, head of funds research at Interactive Investor, also rates Scottish Mortgage and picks the Syncona Investment Trust, which targets early stage biotech companies operating in innovative areas such as cell and gene therapies.

How Tesla’s price correction has hit fund managers

Investing in disruptive technology can be a bumpy ride, as investors in Tesla were reminded on Friday, when its stock dropped 7.5 per cent in early trading to $575.

It recovered slightly but still ended the week 15 per cent lower and is down a third from its all-time high of $883 on January 26. The electric car maker’s market cap fell from $834 billion to about $567bn in that time, a drop of an astonishing $267bn, and a blow for those who bought Tesla stock late.

The collapse also hit fund managers that have gone big on Tesla, notably the UK-based Scottish Mortgage Investment Trust and Cathie Wood’s ARK Innovation ETF.

Tesla is the top holding in both funds, making up a hefty 10 per cent of total assets under management. Both funds have fallen by a quarter in the past month.

Matt Weller, global head of market research at GAIN Capital, recently warned that Tesla founder Elon Musk had “flown a bit too close to the sun”, after getting carried away by investing $1.5bn of the company’s money in Bitcoin.

He also predicted Tesla’s sales could struggle as traditional auto manufacturers ramp up electric car production, destroying its first mover advantage.

AJ Bell’s Russ Mould warns that many investors buy tech stocks when earnings forecasts are rising, almost regardless of valuation. “When it works, it really works. But when it goes wrong, elevated valuations leave little or no downside protection.”

A Tesla correction was probably baked in after last year’s astonishing share price surge, and many investors will see this as an opportunity to load up at a reduced price.

Dramatic swings are to be expected when investing in disruptive technology, as Ms Wood at ARK makes clear.

Every week, she sends subscribers a commentary listing “stocks in our strategies that have appreciated or dropped more than 15 per cent in a day” during the week.

Her latest commentary, issued on Friday, showed seven stocks displaying extreme volatility, led by ExOne, a leader in binder jetting 3D printing technology. It jumped 24 per cent, boosted by news that fellow 3D printing specialist Stratasys had beaten fourth-quarter revenues and earnings expectations, seen as good news for the sector.

By contrast, computational drug and material discovery company Schrödinger fell 27 per cent after quarterly and full-year results showed its core software sales and drug development pipeline slowing.

Despite that setback, Ms Wood remains positive, arguing that its “medicinal chemistry platform offers a powerful and unique view into chemical space”.

In her weekly video view, she remains bullish, stating that: “We are on the right side of change, and disruptive innovation is going to deliver exponential growth trajectories for many of our companies, in fact, most of them.”

Ms Wood remains committed to Tesla as she expects global electric car sales to compound at an average annual rate of 82 per cent for the next five years.

She said these are so “enormous that some people find them unbelievable”, and argues that this scepticism, especially among institutional investors, “festers” and creates a great opportunity for ARK.

Only you can decide whether you are a believer or a festering sceptic. If it’s the former, then buckle up.

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