The concept of the star fund manager has been around since the creation of the first mutual fund in 1924. It is borne out of the idea that there are a select few who can spot opportunities in the market that mere mortals simply cannot.

ARK Investment Management’s founder, CEO and CIO Cathie Wood is the latest in a long line of such stock pickers who has built a reputation on selecting tech stocks that have delivered astonishing returns over the past few years, so much so she has earned the nickname ‘Money Tree’ in South Korea.

Highlighting this exponential growth, the issuer’s flagship ETF, the Ark Innovation ETF (ARKK), shot the lights out in 2020, returning 149% over the 12 months while its overall ETF range briefly rose over $50bn assets under management (AUM), up from a mere $3bn at the start of 2019. This growth is a prime example of the effect a star fund manager can have on the army of investors that almost religiously follow them. However, things can turn sour very quickly as Wood has found out in recent months.

With the Federal Reserve threatening several rate hikes in 2022 amid rampant inflation across the globe, tech stocks have been hammered. ARKK has been somewhat of a poster child for the sell-off in recent months and is down a monstrous 58.4% since its high in February 2021.

This does not mean Wood cannot steer the ARK Invest ship into safer waters and mount a recovery in the latter half of the year, however, it does show that not even star fund managers are immune to market forces and shifts in style.

The most infamous star fund manager in the UK came in the form of UK equities stock picker Neil Woodford who shot to fame during his time at Invesco Perpetual for avoiding tech companies in the build-up to the ‘dotcom’ bubble in the late 1990s and banks prior to the Global Financial Crisis (GFC) in 2008.

However, when Woodford started his own fund, he started investing in illiquid tech companies. Following a string of redemptions from his mutual fund in the summer of 2019, he was forced to gate the fund due to his exposure to those illiquid names leaving investors trapped and unable to access their investments.

The debacle led to an investigation by the Financial Conduct Authority and even led former Bank of England governor Mark Carney to claim mutual funds were “built on a lie” due to the liquidity mismatch that occurs.

This is why a rules-based approach is so effective. Unlike Woodford or other managers, who can drift in their investment style, a rules-based approach allows investors to know exactly how their strategy will perform in different parts of the market cycle.

Mutual fund liquidity mismatch pushing investors to ETFs

Furthermore, while at ETF Stream we are evidently very biased in favour of the ETF wrapper, this does not mean we are cognisant of the performance risks. A star fund manager that wraps their product in an ETF is still a star fund manager – see Cathie Wood – and is subject to the underperformance risks that the majority of active funds suffer from.

This article first appeared in ETF Insider, ETF Stream's monthly ETF magazine for professional investors in Europe. To access the full issue, click here.

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