If you are looking to invest in a technology-focused exchange-traded fund (ETF), you should know that not all tech ETFs are the same. While some certainly are very similar, tracking the same indexes, others vary wildly, depending on what part of the technology market they invest in.
Two of the most popular tech-focused ETFs are the ARK Innovation ETF (ARKK -3.79%) and the First Trust Dow Jones Internet Index Fund (FDN -1.87%). They are among the largest tech ETFs, with $22.1 billion and $10.7 billion in assets, respectively. These ETFs are quite different from one another, so let's take a look at each to see which is the better buy.
ARK Innovation: Seeking innovators and disruptors
ARK Innovation, managed by ARK Invest founder Cathie Wood, is not your typical ETF in that it does not track an index or indexes. Rather, it's actively managed. The management team focuses on a select group of stocks, currently about 51, that are considered disruptive innovators. These companies may develop disruptive new products or services, provide innovative technological improvements, or invest in breakthrough research companies.
The four largest industries represented are cloud computing (13.7%), e-commerce (11.9%), digital media (11.3%), and gene therapy (6.6%). The ETF also invests in companies in robotics, the Internet of Things, space exploration, alternative energy, machine learning, and big data from across the market cap spectrum. The top three holdings are Tesla, Roku, and Teladoc Health.
The performance has been outstanding since the fund launched in 2014. Through the second quarter, it has posted an annualized return of 34.3% since inception. Over the last five years it has posted an annualized return of 48.4%. It has a three-year annualized return of 45.3%, and over the past year it is up 86.6%. It is ranked No. 1 in its category for returns over the past three- and five-year periods, according to ETF Database. This year, the fund is down 7% as of Aug. 18, as two of its largest holdings, Tesla and Teladoc, are down for the year. It also carries an expense ratio if 0.75%, which is higher than average, but expected for an actively managed fund.
First Trust Dow Jones Internet Index Fund: Logged on for long-term performance
The First Trust Dow Jones Internet Index Fund is quite a bit different from its ARK counterpart. It is passively managed, tracking the performance of the Dow Jones Internet Composite Index. This is an ETF that invests in the 40 largest and most actively traded stocks in the internet industry, which means the stocks in the index must derive at least 50% of cash flows from the internet.
So, while it is concentrated like the ARK Innovation fund, this ETF is focused on large-caps within a specific space. The three largest holdings are Amazon, Facebook, and Alphabet.
The First Trust Dow Jones Internet Index Fund has posted an annualized return of 18.2% since inception in 2006. Over the past 10 years it has returned 21.1% on an annualized basis, while its up 27.7%, 21.2%, and 43.6% over the five-, three-, and one-year periods through June 30. In 2021, the ETF is up 12.2% year to date as of Aug. 18. The expense ratio is 0.50%, also higher than the average for this type of fund.
Which is the better buy?
Both of these ETFs are aggressive growth options to add to your portfolio, so you can expect a fair amount of short-term volatility, which investors in Ark Innovation are seeing this year. But you can also expect excellent long-term returns. The First Trust ETF actually has the long-term track record to prove it, with an 18% annual return over the past 15 years -- that's through two recessions and market crashes. However, the ARK Innovation ETF has posted market-leading returns in its seven-year existence.
While the ARK Innovation ETF has a higher expense ratio of the two, it's not appreciably higher and the fund has posted the types of returns that warrant the extra expense. Both of these funds fill an important role in a portfolio, but if I had to pick one, it would be ARK Innovation. Wood and her team, as active managers, have the ability to make the necessary changes to limit the impacts of short-term volatility, and they also have a broader scope of technology stocks to choose from, going far beyond the internet to disruptors in energy, fintech, and biotech.
You'd want to balance either of these options out with perhaps an all-market ETF or other diversifiers. But for long-term growth, they are both great options -- with the edge to ARK Innovation.