After a less-than-stellar 2022 (to put it lightly), it's been a much more pleasant ride for ARK Innovation ETF (ARKK 0.07%) and its investors. As of May 23, the ETF is up over 32%.
Given its success, investors may be wondering if it's a better investment this year than the S&P 500. The short answer is, "No." The longer answer is, "It all depends."
Diversification is key
Since Ark Innovation is actively managed, the number of stocks within it changes fairly often, but the company says it aims to keep it between 35 to 55 companies. Even near its peak number of holdings, that's only around 10% of the number of companies in the S&P 500.
The Vanguard S&P 500 ETF (VOO -0.07%), for example, contains 505 companies from all 11 major sectors:
- Communication Services: 8.3%
- Consumer Discretionary: 9.9%
- Consumer Staples: 7.4%
- Energy: 4.7%
- Financials: 13.1%
- Health Care: 14.4%
- Industrials: 8.4%
- Information Technology: 25.8%
- Materials: 2.6%
- Real Estate: 2.5%
- Utilities: 2.9%
Conversely, Ark Innovation only contains companies from six sectors:
- Information Technology: 30.1%
- Health Care: 26.4%
- Financials: 15.2%
- Consumer Discretionary: 14.9%
- Communication Services: 11.5%
- Materials: 1.8%
Diversification is one of the foundations of investing. Without a diversified portfolio, you risk relying too heavily on too few companies or industries. This concentration of investments can pay off huge when it goes right (e.g., tech this past decade), but the opposite is also true when it goes wrong (e.g., energy this past decade).
DATA BY YCharts.
Since Ark Innovation is concentrated in a few sectors, there are additional risks involved you don't have with the S&P 500. As the information technology and healthcare sectors go, so does Ark Innovation.
Don't take the expense ratios for granted
One thing I always encourage investors not to overlook is an ETF's expense ratio, which is charged as a percentage of your total investment. For example, an 0.5% expense ratio would mean $5 charged annually for every $1,000 invested.
One downside to Ark Innovation is its expensive expense ratio of 0.75%.
To see just how it could add up, imagine two people investing $1,000 monthly into the Vanguard S&P 500 ETF and Ark Innovation, averaging 8% annual returns over 25 years. Here's how the investments would differ based on the different expense ratios.
| ETF | Expense Ratio | Amount Paid in Fees | Total Value After 25 Years |
|---|---|---|---|
| Vanguard S&P 500 | 0.03% | $3,800 | $873,400 |
| Ark Innovation | 0.75% | $90,500 | $786,700 |
Data source: Author calculations / Rounded to the nearest hundred.
The true difference in fees paid will depend on the amount invested and returns, but the above scenario illustrates how critical expense ratios can be in the long run. When you're investing for retirement, a difference in fees similar to the Vanguard and Ark Invest ETFs could easily account for a year's worth of living expenses.
Differences in stability
Since Ark Innovation's holdings consist of growth stocks focused on innovation and disruption, it's generally more volatile than the S&P 500. Ark Innovation's highs may be higher than the S&P 500, but its lows tend to be much lower. This can be seen in just the past three or so years.
When the stock market crashed at the beginning of the COVID-19 pandemic in 2020, both Ark Innovation and Vanguard S&P 500 lost around one-third of their value from February to March. As the stock market went into a bull run in March 2020, Ark Innovation exploded in value, increasing by over 300% in 11 months. The S&P 500 also went on a run, with a more "modest" 70% increase over that span for Vanguard's index-tracking ETF.
Fast forward to the bear market that occurred last year, and the trend was once again reversed. Ark Innovation lost around 67% of its value in 2022, while the S&P 500 dropped around 19%. In 2023, they're up around 32% and 9%, respectively.
DATA BY YCharts.
The relative stability of the S&P 500 -- particularly long term -- makes it a more attractive choice for investors looking for reliability.
Your investment style matters
There's no one-approach-fits-all when it comes to investing. For people who focus on growth investing and are comfortable with the volatility and risks that come with it, Ark Innovation would likely fit better with their preference. It's a true risk-reward trade-off. Ark Innovation's focus on innovative and disruptive companies means the upside is virtually limitless if most companies pan out.
For most investors, however, the S&P 500 is likely the better choice. It covers a lot of ground with a single investment and has produced historical results that are hard to go against. Past results don't guarantee future performance, but I'm more than willing to bet on the S&P 500 surviving and thriving through anything that comes its way versus Ark Innovation.
