With the communication services sector, which is home to a variety of internet titans, slumping this year, it stands to reason that investors aren’t excited about the growth potential in the digital advertising space.
That’s particularly true when considering that if a recession comes to pass, advertising — digital and otherwise — is likely to be dialed back. However, the long-term outlook for digital advertising is compelling, and expansion in this space could benefit exchange traded funds, including the ARK Next Generation Internet ETF (ARKW ). Not surprisingly, e-commerce is expected to be one of the drivers of digital ad growth.
“Our research suggests a base-case scenario in which US digital advertising spending will grow at a compound annual rate of 9%, from roughly $180 billion in 2021 to $275 billion by 2026, as shown in the green bar below. Our bullish estimate projects a 19% compound annual rate of growth to $410 billion in 2026,” noted ARK Investment Management associate portfolio manager Nicholas Grous.
While e-commerce and online retail stocks are out of fashion this year — just look at Amazon (NASDAQ:AMZN) — investors should be careful when viewing the group through the lens of a “pandemic play.” While the coronavirus crisis has spurred online retail sales, the reality is that this segment was growing prior to COVID-19 and has room to continue doing so, potentially sparking more ad sales along the way.
“Although the US e-commerce penetration scaled from less than 5% of total retail sales in 2011 to nearly 14% in 2021, it remains lower than the worldwide average of 19%, and far below China’s 44%,” added Grous.
Investors should also remember that the U.S. has more retail square footage — 23.5 square feet per capita — than any other country. By that metric, the U.S. is far ahead of other developed economies and large emerging markets such as China. Looked at another way, as consumers here continually embrace online shopping venues and more brick-and-mortar stores go by the wayside, there’s a significant runway for digital advertising to surge.
“As physical retail activity has waned, the US digital advertising market approached $180 billion in 2021, 63% of the total ad market,” concluded Grous. “We believe cost considerations will increase that percentage significantly over the next five years. The annual cost of physical retail rent is 20+ times more expensive than ‘renting’ a storefront on Shopify. If we were to include other upfront costs and ongoing capital expenditures, the relative cost savings of online stores would increase accordingly.”
As just one example, Shopify accounts for almost 5% of ARKW’s weight and is the eighth-largest component in the ETF.
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