JEPI - JEPI: Continuing To Be An Attractive 9% Yielding Investment

2023-11-29 09:00:00 ET

Summary

• JPMorgan Equity Premium Income ETF has seen a significant increase in assets under management despite a decline in share price, indicating new capital inflows.
• JEPI's structure and distribution track record have made it a popular choice among income investors, with its AUM growing by over 100% since September 2022.
• The current macroeconomic environment, with high risk-free yields, is favorable for income-focused ETFs like JEPI, and as rates decline, more capital is expected to flow into the equity markets.

The JPMorgan Equity Premium Income ETF ( JEPI ) continues to grow in its popularity and assets under management [AUM]. Generating dividends from equities has always appealed to income investors. Over the past several years, many different ETFs have been established to generate current income with a secondary objective of capital appreciation. Since my last article on JEPI, its AUM has grown from $28.45 billion to $30.27 billion as its share price declined by -0.29%. This is a clear indication that billions of new capital is flowing into JEPI rather than its AUM growing due to its underlying assets appreciating. 2023 has been the year of generating risk-free income, but this narrative is bound to change. During 2023, investors were able to exceed a 5% risk-free yield in the treasury markets, CDs, and money market accounts. This has led to a record amount of cash being parked in money market accounts because the Fed has created an environment where there is less of a reason for income investors to take on equity risk to generate yield. I am quite pleased with my investment in JEPI as it provides me with ongoing monthly income that continues to be reinvested while having the potential to benefit from its underlying assets appreciating. I think that JEPI will be one of the income-focused ETFs that investors flock to when the Fed eventually pivots, and I am looking to add more to my position before rates start to decline.

Following up on my previous article about JEPI

On August 22 ^nd 2023, I wrote an article about why JEPI was one of my favorite income-focused ETFs ( can be read here ). Since that article, shares of JEPI have declined by -0.29% while the total return has been 1.7% after factoring in the last 3 distributions it generated. I wanted to follow up on my previous article before the upcoming Fed meeting on December 13 ^th . JEPI's structure and distribution track record have made it one of my favorite income ETFs, and I wanted to follow up on my last article with updated macroeconomic data and expand my thesis on why I believe JEPI will be a winner in the income space in 2024.

JEPI's structure and income statistics could be a driving factor behind the fund's popularity.

Over the past 98 days, JEPI's share price has remained pretty flat, declining by -0.29%, while its AUM grew by $1.82 billion from $28.45 billion to $30.27 billion. The small decline in share price is an indication that JEPI's AUM has grown due to deposit inflows rather than price appreciation. Based on these pieces of information, JEPI has taken in roughly $18.57 million on a daily basis over the past 98 days as its AUM continued to grow. When I go back to an article I wrote about JEPI on September 23 ^rd, 2022 ( can be read here ), JEPI's AUM was just over $12 billion, and its share price had increased by 3.72%. Backing out the 3.72% price appreciation, JEPI's AUM has grown by well over 100% since last September and continues to see tens of millions of inflows on a daily basis. There is no question that the fund resonates with income investors, and I believe this trajectory will continue throughout the rest of 2023 and well into 2024.

I believe JEPI has become one of the more popular income-focused ETFs because of its structure and its income-producing statistics. It's hard to argue with the actual numbers, and when I look at the track record JEPI has established, it's crystal clear to me why more and more capital is flowing into this ETF. The first reason why I believe JEPI has been a success is its structure. Unlike other popular ETFs that utilize a covered call overlay strategy to increase the amount of income that gets distributed to its investors, JEPI segments its call options within a separate tranche of its portfolio. JEPI allocates 80% of its assets toward equities, while the other 20% is allocated toward generating income through exchange-linked notes (ELNs). Instead of writing covered calls on its positions, JEPI generates recurring cash flow from the premiums on the call options the ELNs write. Unlike other covered call ETFs, the 80% equity portion of JEPI's portfolio is uncapped and can participate in lockstep when the market appreciates.

The second reason why JEPI is becoming more popular among the income investor crowd is its distribution history and current yield on capital. JEPI was public at $50 per share and has generated $17.55 in distributed income from 41 monthly distributions. Investors who purchased shares on the ground floor have generated 35.11% of their initial investment in distributed income, while shares have appreciated by 9.12% ($4.56). Over the past 3 ½ years, JEPI has distributed an average of $0.43 in monthly distributed income per share. Using this data, JEPI would theoretically generate $5.14 in annualized forward distributed income, which is a 9.42% yield on cost based on JEPI's share price of $54.56 at the close on Tuesday, November 28 ^th, 2023. While the amount of distributed income fluctuates each month, JEPI's income strategy has proven its effectiveness throughout several macroeconomic cycles. The combination of these two reasons is why I believe JEPI will continue to increase its AUM as more investors become comfortable with JEPI's results.

The macroeconomic landscape is setting up well for JEPI in 2024

While the Fed's main objective was to reduce inflation to bring back price stability from increasing interest rates, they also created a lucrative, risk-free income environment. Rates on the 10-year treasury haven't been this high since the summer of 2007. We had lived through an environment where the 10-year had a sub 2% yield since the summer of 2019 and dipped below 1% for most of 2020. As the Fed continued to increase the Fed Funds Rate, the yield on risk-free investments rose in lockstep, and the 10-year yield recently reached 5d. The 2-year Treasury still has a yield of 4.75% and reached 5.49% earlier this fall, while the 10-year Treasury has a yield of 4.33%. Some financial institutions are still offering a 1-year APY of 5.3% and 5.5% on CDs, and companies like Schwab are still offering a 5.25% 7-day yield on money market accounts.

The mindset of an income investor and an investor who is focused on capital appreciation are polar opposites. Just as the debate between being a value or growth investor never seems to end, the debate between income investing or investing for capital appreciation will probably follow the same path. I believe people will still discuss these investment styles for decades to come, and these are debates that will never end. Every investor is different, as goals and timeframes vary from person to person. There will always be a portion of the investment community focused on income while another focuses on growing their capital. While history indicates that the markets will continuously appreciate over time, the macroeconomic environment is setting up well for income investors as there is a pool of capital sitting on the sidelines that will eventually redeployed to the equity markets.

The latest indicators show that a total of $5.73 trillion of assets is parked in money market accounts. This doesn't include capital that was allocated toward CDs or Treasuries, as building CDs or Treasury ladders was very common over the past year. According to the CME Group FedWatch Tool , there is a 34.6% chance that the Fed will cut rates by 25 bps in March 2024. Looking out to the end of 2024, rates could be as low as 350 bps, with the highest probability of 30.1%, if we finish the year between 425-450 bps. The Fed Dot Plot indicates that rates will continue to fall in 2025 and into 2026. Income investors who have taken advantage of the Fed's free ride will need to start making some choices as the risk-free rate of return declines. $5.7 trillion is sitting idle in money markets and isn't protected by time duration from a CD or a bond. Investors and institutions that have used money markets as a place to generate risk-free income will have to redeploy capital into the equity markets to recreate those yields. I think this sets up well for JEPI as it will be a winner directly and indirectly. Capital will likely flow into JEPI's underlying holdings as well as JEPI itself. I also believe that income investors have become accustomed to generating risk-free mid-single-digit yields, which will make them want to generate high-single-digit yields to take on equity risk. As we see more capital flow into JEPI's AUM, I think we could see an increase as the Fed eventually pivots and capital from the sidelines gets redeployed.

Conclusion

In 2023, shares of JEPI have remained flat, appreciating by 0.2%, but they have generated $3.80 of distributed income with another 2 distributions on the horizon. JEPI offers a solid mixture of current income and possible capital appreciation, and its structure is becoming more appealing to the income-investing community as its AUM continues to grow steadily. The Fed is projected to pivot in the first half of 2024, and as rates continue to decline, I believe a large amount of capital sitting on the sidelines will flow into the capital markets as there will be less of a reason to sit in cash. I think that income investors will look toward equities and ETFs that can recreate the risk-free rate of return they had become accustomed to and that JEPI will be at the top of the list. JEPI has established a strong track record of generating income since its inception, and no matter what the macroeconomic environment has done, JEPI has continued to spit out distributions each month. I plan on adding to my position in JEPI as I feel the future macroeconomic landscape sets up well for this high-yielding ETF.

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