ARKW: Just 60% More Downside (NYSEARCA:ARKW)

Bear markets take a long time to wring out excesses. The bigger the bubble, the bigger the hangover. ARK Next Generation Internet ETF (NYSEARCA:ARKW) represented one of the biggest bubbles in investing. The fund is down mightily from its highs and now trading below its pandemic lows. It has underperformed Invesco QQQ Trust (QQQ) by 58% since January 2020.

Unfortunately, we are not done yet. We tell you why you are likely to lose at least 60% more from here, if you are lucky.

Reason 1: Valuations Remain Atrocious

Bear market bottoms are formed as investors throw in the towel. Valuations don’t just become attractive, they become table pounding. Often you can argue for owning the stock or sector even discounting worst case scenarios. These valuations are characterized by low single digit P/E multiples. In case of highly cyclical stocks, price to sales ratios tend to move well under 1.0X. The latter are helpful when no earnings are present. Let’s see that in the context of ARKW’s top holdings.

1) Zoom Video Communications (ZM)

2) Block Inc. (SQ)

3) Roku Inc. (ROKU)

4) Tesla Inc. (TSLA)

5) Shopify Inc. (SHOP)

6) Grayscale Bitcoin Trust (OTC:GBTC)

7) Coinbase Global Inc. (COIN)

8) DraftKings Inc. (DKNG)

Before we show you what they are expected to earn, keep in mind that these are GAAP numbers. That’s right, the ones based Generally Accepted Accounting Principles. Not the adjusted and massaged numbers that tell investors “Hey if you exclude all our big expenses, we actually made money.” Of its top holdings, only 2 have GAAP profitability expected for next year.

Zoom is a pretty close call as it is toeing the line. Knowing the perennial optimism of analysts, we will go out on a limb and say that it will also land in the negative column. Tesla is actually the only one expected to make solid profits. The rest remain money losers after years of “growth”.

Reason 2: Companies Have Not Learned Their Lesson

Bear market ends are also characterized by a semblance of humility entering the C suite. Stock based compensation and unbridled spending tend to end long before we reach the bottom. We are not even close by that measure. Stock based compensation, a symbol for everything wrong with these growth names, accelerated in a lot of these companies.

Even where it has declined, it has a long way to go to get to normalized levels. We decided to one of the worst in this group, Coinbase, separately. Q3-2022 had stock based compensation at 66% of revenues for this company.

66% of revenues. We think stock based compensation will be higher than revenues by end of Q1-2023. If that looks like a bottom signal to you, go ahead, start making sure you line up some good tax losses for 2023. ARKW for its part is doubling down on this story.

Investment house Ark Invest continued a buying spree of Coinbase stock, adding a total of 296,578 COIN shares to its exchange-traded funds (OTC:ETFS) on Wednesday, according to the firm’s daily trade information newsletter.

Coinbase share price fell to an all-time low of $38.69 on Tuesday before jumping nearly 4% on Wednesday to $40.19. Based on the closing bell price, yesterday’s purchase is valued at more than $11.9 million.

Another batch of 93,117 Coinbase shares worth $3.7 million was added to the ARK Fintech Innovation ETF (ARKF), followed by the ARK Next Generation Internet ETF (ARKW), which scooped up 27,097 COIN.

Source: Decrypto

Reason 3: Investors Have Not Learned Their Lesson

Bottoms are characterized by pukeworthy moments where withdrawals reach a fever pitch. Both ARKW and its brother from the same mother, ARK Innovation ETF (ARKK), have not seen that. Year to date total assets under management have declined about in line with price declines for the ETF.

We would want to see assets under management to absolutely crater before we can even begin looking for a bottom.

Reason 4: History Rhymes

We have previously reminded our readers of the ominous parallels between Jacob Internet Investment fund (JAMFX) and the ARKW fund. Besides the “internet” aspect, both came into existence near the end of a bubble era. Both managers were hailed as having extraordinary vision. JAMFX blew up in epic style and bottomed approximately down 95% from the peak.

The primary characteristic of a bubble is that it reminds you for a long, long time how epic your follies were. The fund was still down 89% from the peak at the March 2009 bottom.

ARKW is just warming up to deliver this performance.

If we were to guess we would say that we are about 8-12 months away from the final trough numbers. But the journey back up after that will be extremely slow and painful.

Verdict

The difficult part about investing is that you can always lose 70% of your investment, even if you buy an asset that is already down 70%. Looking at the list of ARKW holdings including GBTC, we think quite a few will be down 100%. When we last covered ARKW we gave you a $15 price target and we see no reason to change that.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.