ETF Edge - Tech-Forward ETFs & Evolving Landscape

Episode Date: May 18, 2020

CNBC’s Bob Pisani spoke with Cathie Wood, CEO and CIO at Ark Invest, and Jay Jacobs, SVP and head of research and strategy at Global X ETFs, to discuss their tech-forward exchange-traded funds. Noah Hamman, CEO and founder of AdvisorShares, also explains how his firm’s long-short exchange-traded funds can help investors diversify their portfolios and hedge against unexpected declines. In the 'Markets 102' section, Bob discusses the evolving ETF landscape. Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights on all things, exchange traded funds, you're in the right place. Every week we're bringing you interviews, thoughtful market analysis, and breaking down what it all means for investors. And I'm your host, Bob Pisani, so let's get right to it. Today on the show, we catch up with three of the most innovative ETF fund managers out there, and we dive into disruptive technology plays on what's winning right now.

Here's my conversation with Jay Jacobs, head of research and strategy at Global Exchange. ETFs, Kathy Wood, founder and CEO of ARC investment, and Noah Hammond, CEO of Advisor Shares. Kathy, let me start with you. You run a family of ETFs that's really focused on technological, medical innovation out there. The markets are moving today, partly on some hopes for a vaccine breakthrough and some promising news from Moderna overall. You run the Arc Genomic Revolution ETF. That's A-R-K-J. That's at a new high today. It targets companies. involved in the genomics industry.

I want to be to chat about that for a minute. Over and over again, and we have talked many times, you and I, we see tech in any form, whether it is medical, whether it's industrial, whether it's banking, whatever. Tech is transforming industries, and we're seeing that certainly today again in the news. Kathy? Yes, I think with the new technologies, the combination and convergence of DNA sequencing, artificial intelligence, and CRISPR gene editing,

we are going to, we're on the threshold of curing diseases. First human trials for gene editing started last year. I think we're going to get a lot of good news this year. And as far as the vaccines, we have, we don't own Moderna. We own a company called Arturus, and it's shot up to the number one position in ARKG, because it too has an MRNA vaccine, just like Moderna. We think both companies are in a fine position.

Arturis has a different delivery system that we think might be more effective, but there is so much room out there for these vaccines that we think a number of companies are going to find good success there. Kathy, I want to come back and talk more about your other funds out there. But Jay, let me also chat with you for a moment here. You also have funds in your family that are involved in disruptive technologies.

You have a robot ETF. You've got a cloud computing ETF. The robot is BOTZ, cloud computing, C-L-O-U. Tell us a little bit about them and how, what kind of inflows or outflows are you seeing there? Is the interest still there, given how important disruptive technologies have been this year? Absolutely. You know, investors are recognizing that disruptive technology is not only not really harmed by what we're seeing during COVID-19. They're actually some of the biggest beneficiaries. You know, so if we look at the cloud computing ETF, CLOU, it's holding companies that are facilitating video conferencing. It's holding companies that are facilitating governments communicating with their local constituents about emergency response or companies communicating with their

customers all through software, through the internet, through these different types of cloud infrastructure. And that is just how the world is working during this stay-at-home environment. So we're seeing a lot of interest in cloud and robotics right now. And cloud in particular, cloud ETS have brought in over a billion dollars year to date, with most of that money coming in just in April. So investors certainly realize that cloud computing has become really the key to the economy right now. Yeah, and Kathy, you run the next generation internet, AR, I don't have it here, but ARKW, I think it is, which is pretty much along the same themes.

This is all, and what's interesting about what you're doing, Kathy, is it's very actively managed, and you make a very big point of the active management parts. So for something like next generation internet, ETF, what goes into deciding what the weightings are? It's not a big index. You're picking the stocks here. How do you determine what you like and don't like? Well, we have top-down modeling, bottom-up modeling, and then an overlay, a six-metric

scoring system that is very important to innovation, starting with a visionary management, moats or barriers to entry, market share leadership, execution, thesis, risk, and valuation. And our stock positions line up pretty well with the composite of those scores. So generally, that's how we work in. Okay, so it's a focus methodology that you're using, right? If you're not, it's not an old, it's sort of a screen. I'm trying to make, it's a scientific methodology you're using here. Well, yeah, there's some art here as well.

We generally start a position in genomics. We'll start it at 50 basis points or in the other funds 100. Our highest positions, I can buy up to 10% position in any one fund. And then let it run. we'll let it run to 12 or 13%, at which point we'll take profits. I think active in ETFs and active in any wrapper, frankly, is very useful for driving alpha. Alpha, in our case, relative to not managing actively. And I'll just give you a good case in point.

Tesla, if you look at Tesla in the year 2018 and take away the performance of the stock, It was a roller coaster generally throughout the year, and we were trading regularly around the volatility. If you just isolate the trading activity, our trading activity in Tesla, what you would have found is 175 basis points contribution to performance. And remember, 2018 was a down year. We had an up year, and I think one of the important reasons is we trade. around the volatility. If Tesla is going down because some hedge fund or, you know, negative analyst is saying something that seems really awful, we have a pretty good handle given our research on that stock, and we'll be following into it unless it's a big surprise to us. And on the

contrary, when we feel like analysts are hyperventilating about a stock, including Tesla, when there were takeover rumors of it helped by Elon Musk himself, we naturally just take profits because we know we're going to get another opportunity associated with controversy to buy the stock lower. Yeah, just one last point. We get a lot of questions about how can you be so positive on Tesla and be selling it? Well, I sold it just in the way I described, but it never lost the number one position in our funds.

If we had not taken profits in its ride up from 178 to 900 or nearly 1,000, it would have been nearly 20, maybe over 20% of the fund. That would not be wise portfolio management. We like to control our position sizes, as I described. Yeah, that's a good point. I mean, there is also the art part, but there is a point where 20% is certainly too much. And Moderna is one of the, I put up an ETF earlier today where Moderna is almost 13% of the holding in that, in that ETF. And that gets a little bit worrisome at some point. Noah, let me bring in you and chat with you.

Besides disruptive technology, I get a lot of interest in how to hedge, how to go long, long, short ETFs. You run some interesting ETFs that are along this line. Your advisor shares Ranger Equity, Bear ETF, the symbol is H.D. GE, Edge, get it. You short U.S. listed companies believe to have low earnings quality out there. It seems to have done very well. HDGE, tell us about it, and what's the idea behind this? Sure.

So it's a short-selling fund, as simple as that. So it's not geared. It's not the type that resets on a daily basis. It's your ability to invest in a typical short-selling manager with transparency. As you can see our short positions on the site. And so we've seen a lot of demand, not surprisingly, this year. hedges up, you know, 10% as of last Friday. And as you noted, they've got a unique investment style where it's very fundamentally driven,

has a bit of a forensic accounting approach. But they are looking for, you know, opportunities to short where companies could struggle, you know, meeting their earnings estimates and earning guidance. So not saying they're bad companies, but just saying the companies might struggle hitting their numbers, and thus it becomes a good opportunity to profit from a short perspective. So what do you give us your four or five biggest positions, right now? How big are they in the fund? And when do you rebalance the fund? So no set rebalancing timeframe. That's probably the easiest question to answer. It's very much conviction weighted,

though they sit around plus or minus to a half percent to our top position, which is credit acceptance course, CACC, and they're an entity that primarily provides loans in the automotive space. That's a 3% weighting in the short position for hedge right now. But there's constant adjustments in a short fund. You've got to constantly manage your exposure, especially on more volatile days, to make sure that the assets in the fund are matching up with how much short exposure we have. We try to match it sort of dollar for dollar, but you're constantly making little tweaks and adjustments there based on what the market does, but also based on flows in the fund.

So it's all about low earnings quality. This word is around a lot these days, quality. You know, they want fortress balance sheet things, high quality. What does low earnings quality mean, just generically? Because that's how this fund is described. Sure, absolutely. So you can think about maybe companies that have had increased earnings, but they maybe achieved it through buybacks, right?

So fewer outstanding shares, same level of earnings. It might look like it's increasing on a per share basis, and maybe those stocks have moved up in the market because of that. But when those types of things stop or they become more difficult to do, that's a company you want to look at to try to find the right opportunity to short them. but some of it could just be very much fundamentally driven factors, right? Other holdings are things like Greenbrier companies, GBX, or Hilton Grand, HGV, where we've already seen some earnings weakness and know there should be more coming.

So fundamentally driven, as you described earlier, mostly probably more art, maybe than science, but we are looking at the numbers to make those determinations. And you've got another one that's, I guess you would call it a momentum fund, really. This is the advisor shares Dorsey Wright, short ETF, DWSH is the symbol there. You're shorting large cap companies that are exhibiting weak relative strength. So that's sort of a momentum play. That's not an earnings play, am I right? Very much so, right.

So very unemotional, very disciplined, very quantitative in nature, relative strength and momentum-based. So, yeah, instead of trying to be long to companies that are demonstrating the highest relative strength, We are shorting a basket, which, again, no conviction when we rebalance, which we'll do not consistently on a monthly basis, but as we start to turn over the portfolio, we'll reset back to an equal weight. So no conviction in any individual position, but yes, we will short those demonstrating the greatest relative weakness. And so not surprising, you're seeing things like energy space. Marathon oil is the top short in that or diamond back energy as well. Yeah. But relative strength, I mean, usually RSI, Relative Strength Indexes, usually they use like,

these are short-term things, like two weeks or so. Is that, what's the length of time? Right, you'll see the portfolio turnover, you know, probably quite a bit more in this portfolio, whereas in hedge, you know, they're making that fundamental decision. You know, the challenges from a revenue perspective on that side can be persistent. But it's part of our approach to really diversify where you're getting your alpha exposure, you know, not saying that the fundamental approach is always going to work and not saying the technical approach is always going to work, though DWSH, your data is up 20 percent.

So we've seen significant demand, not surprisingly, in that. So, yeah, very different in how they approach it, but use combined in a portfolio, probably a smarter way to hedge some of your long positions. Good point. I want to just move on here because there's been also interest, I get emails about dividends. There's some very traditional investors out there. And, you know, a month ago, I was getting bombarded with interest on dividend, ETS. Jay, you have SDIVs, SDIV, that's the Global X Super Dividendant Fund. This is an equal-wedded index,

100 global securities with high yields. Tell us a little bit about that. One of the things I've noticed is it's really gotten clobbered. It's probably down 50% in the last three months or so. What's behind that? Tell us a little bit about this fund. Well, investors have been looking for income for the better part of the decade since the global financial crisis when interest rates really started to stay low in the U.S. around the world. So looking at dividends strategies has been key to investors' strategies going forward to achieve any sort of income in their portfolio. The challenge recently is during the COVID-19 crisis, you've seen really disparity between the performance of tech names, which, you know,

has contributed some of the great performance in disruptive technology funds, and more small-cap value names, which tend to share a lot of characteristics with high-dividend strategies. So these small-cap value names have really struggled. They haven't enjoyed the same recovery that we've seen over the last month. And in addition, there is concerns around the world that with some of these emergency loans from governments,

but they're going to require many companies to stop paying their dividends, at least for the time being. So there's still a lot more that could be shaking out of this place over the next few months. But, you know, we don't see that ability to get income changing anytime soon,

if anything, with lower interest rates around the next year. world now, especially for government bonds. I think a lot of investors are concerned that the market has already rallied, where is their opportunity left? This is one of the areas where there's certainly more opportunity for a recovery and asset values because it has not participated in the rally that we've seen in tech days. Yeah. So it's the fact that it's large, a lot of its small cap and the fact that there's concerns about dividend cuts, why it's, it's been down so much. Is that accurate?

Exactly. It's in kind of a more risky segment of the market because that small cap value and the challenges right now. Kathy, I just want to come back to you because it's always fun talking about disruptive industries. In addition to your innovation fund, the ARKKK, which is your main one, you also run the ARC industrial innovation, ETF, ARKQ, is the symbol there. This obviously invests in. companies that are being disruptive in the tech area, but it has the word industrial in it.

And sometimes people don't understand industrial and technology in the same sentence. And I keep explaining that essentially technologies and overlay across all industries. Can you explain this fund a little bit? What is it about industrial innovation that you're looking at here? And what's the leaders in this? What are you own in this fund? Sure. Thank you for asking, Bob.

We have actually renamed that fund for exactly the reason. you're saying. It was, for many people, that was an oxymoron, industrial innovation, which it is not. Technology is moving into the industrial sector in a very profound way. And so we have renamed it autonomous technology and robotics, just to get a sense. And you can, so autonomous vehicles, Tesla is the, Tesla really is in the pole position. So that's our largest position there. Robotics generally, actually, autonomous vehicles are robots, but in terms of robotics in the way you and I have understood that category, historically, Terodyne is our number one pick. And most people don't know Terradine as having anything to do with robotics, but they bought a company called Universal Robots from, it was a Danish company. and that has, it's a small part of their revenue base right now,

but costs of industrial robots are dropping, especially collaborative robots or co-bots, to such a level. We think that the cost of one of these robots within a few years will be $10,000, $11,000. And so very price competitive for menial jobs, where there's probably a shortage of labor. Let's hope there is a shortage of labor in the next couple of years, as this economy rebounds.

3D printing is a big part of that fund, so you'll have Stratasus in there. Protolabs, which is a quick-turn manufacturing company, which also is in the 3D printing space, as well as materialized, which is software in the 3D printing space. 3D printing has been held back by autos in particular and now aerospace,

but we think crisis creates opportunity and that it is going to accelerate the demand for 3D printing. Where are we on 3D printing? Because 10 years ago, it was such a huge thing. I did so many stories on it. And we had a major problem 10 years ago. There was nothing to invest in.

You mentioned about Terodyne and the robotics firm, a small part of their revenues. There was almost no pure play. Well, there were stratuses, but there weren't many back then. And yet the news on it has kind of died down. I have friends that are in the old car business. They like buying muscle cars in the 60s and the 70s. And apparently it's a revolution. You can now buy 1969 Camaro parts that are essentially made in 3D printed.

You can buy carburetors or things like that. This is what I am told. And so it's transformed that business, it seemed. But how is it changing industry? Is it really going to break through now? Yes, it is. And you ask where it is, it's in the Valley of Despair. Many stocks are down 80 to 90 percent from their highs.

their focus was on the consumer space and not on the industrial space. Aerospace, if aerospace companies like Boeing and Airbus, their gross margins are in the 15 to 20 percent range. 3D printing, now that the FAA is approving it, 3D printing can cut those costs by up to 90 percent as well as lower the weight and form factors of the various parts in engines and shrink the number of parts. So aerospace, we think, given the turmoil and trouble it's in right now, it is going to seek out even more aggressively some of these new technologies that are going to help it get back to profitability. And is this feasible now? I mean, I know, like I said, before, my friends are telling me like old cars, you can get 3D manufactured auto parts,

but that's a big thing, big difference between that and a jet engine manufactured in 3D. Is this a feasible technology? Is it being used now? Oh, definitely. It is absolutely feasible. There was a showstopper there for a while. The FAA was very concerned and needed to scrutinize every part, every material. But now it is seeing proof of concept and has become much more accepting of 3D printing.

It sees the stress that aerospace companies are under. And so I think we're going to see a lot more approvals of different materials and a lot more companies starting to service the aerospace world. The other area that 3D printing has changed completely is in the medical space hearing aids. I think 95% of all hearing aids in the world are 3D printed. Well, there are many medical applications, you know, ultimately hips and knees and, you know, that are going to submit to 3D printing, because 3D printing allows for such incredible customization. So it's perfect for the high value medical space, for aerospace and autos. And, you know, autos and aerospace, in real trouble, they are going to be turning to new technologies

that are going to help them lower their costs, lower the fuel consumption in terms of weight, and ultimately create different form factors. When we go autonomous, we're going to see that some of us might want to take an autonomous vehicle from New York to Boston and be able to sleep in it, whereas others just want to get across town, and it can be much smaller or across campus. It can be much smaller. So we think that entire autos ultimately will be 3D printed. That's wonderful. We're out of time, but this has just been a fascinating.

any conversation with all three of you. I've never had all three of you on together, but you're three of the most innovative ETF funds that are out there. Of course, my thanks to Noah and to Jay and to Kathy for joining us. Now it's time to round out the conversation with some analysis to help you better understand ETFs and put them in the context of today's markets. This is our Markets 102 portion of the podcast. Today we'll be talking about how the ETF landscape has evolved over the past almost 30 years. Once again, I'll be joined by my producer, Kirsten, Just a quick reminder that many of us are working from home and our audio may sound a little bit different. Bob, you've been a pioneer of the ETF industry since the very beginning.

You were a Jack Bogle disciple, Bogle, of course, being the father of index investing, and you've witnessed the industry transform rapidly over its 27-year history. How has it evolved and maybe what surprised you the most about it? Well, this is a long question. I think what surprised me the most is how slow it's been to change. change. When I first met Bogle in the early mid-1990s, and he already for 20 years had been on to the fact that most active managers do not outperform their indexes. Now, Bogle was not against active management. He had some of the best in the business at Wellington there, but he saw very early on

what people saw but couldn't act on. That is, they don't generally outperform. If you find good active managers, definitely keep them, but most don't. So he believed the average investor would be fine just trying to mimic the indexes. He was one of the first people to ever create the S&P 500, a trust that actually created and mimicked the S&P 500. And he was very skeptical about the value of having people on who suddenly were outperforming for a few years, like the Bill Miller's of the world. He didn't deny they were good. He just said they were just really rare. So the thing that happened with the ETFs is the first real ETF spider S&P, the S&P 500 ETF started in 93. I started covering them in 99.

And frankly, they didn't really take off until the financial crisis. We're talking 2008. And the reason that happened is people finally woke up to the fact that they were spending an awful lot of money. I'm talking, in some cases, 2% a year for mutual funds that were, actively managed that didn't outperform the S&P 500. And Bogle had a cheap S&P 500. So people, the literature started exploding on this. And people started noting it because the losses and the financial crisis.

And that's when it started taking off. But even now, it's stunning how much money is locked up in mutual funds that charge 1%, 2%. I've seen 2 and a quarter percent mutual funds that I don't understand why people don't pull the money out. I do understand why. It's called sticky money. People don't think about it. They throw it away. They forget about it.

They don't pay any attention to it. It's amazing. But I could tell you, we'll talk separately about why the ETF business is growing. But one thing is it's amazing how little attention a lot of people pay to their investments. That's it for today. I'm Bob Bizani. Thank you for listening. And make sure you tune in next week.

And in the meantime, you can tweet us your questions or topic ideas at ETF Edge. NBCNBC.