PGR - JEPI: Got Left Behind By The Market Recovery

2023-04-03 16:55:06 ET

Summary

• JEPI is a high-quality income ETF designed to help investors achieve equity appreciation potential while mitigating downside risks.
• The ETF has performed well since its bottom in October 2022. However, it was battered as it fell toward its March lows, as risk-on sectors outperformed.
• JEPI's managers also missed capitalizing on the explosive surge in Nvidia and Tesla stock in 2023, as they underweighted both stocks at the end of 2022.

The JPMorgan Equity Premium Income ETF ( JEPI ) has performed according to our expectations since our previous article in October 2022, highlighting that it could have bottomed. Investors new to JEPI can refer to our previous article as a primer.

The ETF went on a sharp bullish reversal through the end of December before a risk-on rally in the market upended its momentum as it fell toward its March lows.

As a result, investors who added in late December likely underperformed the S&P 500 Index Total Return ( SP500TR ) in price-performance terms since then.

However, its structure of "[building] a sustainable income stream with derivative securities" while mitigating downside risks has helped to cushion its relative weakness.

As such, JEPI's highly attractive forward yield of 11.7% has enhanced investors' reward/risk ratio. It has also reduced the risks of market timing challenges, as seen in JEPI since late December.

Notably, JEPI fund managers invest in highly defensible companies with a wide economic moat. According to Morningstar's analysis , about 48.5% of its underlying exposure comprises companies with a wide economic moat.

In addition, about 31.2% of its coverage is attributed to companies with a narrow economic moat. Lastly, companies with no moat account for less than 3% of its exposure.

Therefore, we believe JEPI seems suitable for investors who want to invest in wide-moat companies and need attractive yields to generate a comfortable income stream.

Fund managers from JPMorgan ( JPM ) discussed its quarterly asset allocation decisions for the final calendar quarter of 2022. However, we were less impressed with the allocation of some of the stocks under its coverage, resulting in JEPI's managers missing out on significant upside in 2023 for two of the stocks mentioned.

For instance, JEPI's managers articulated that JEPI had an "underweight position in Tesla ( TSLA )," which bolstered its performance as it fell to its lows in January 2023.

However, keen TSLA investors should be aware that market operators drew in sellers rapidly during its end-December capitulation before bottoming out resoundingly.

We discussed our thesis in a late December article articulating why investors have become overly pessimistic. We also added that TSLA's steep collapse offered dip-buyers a fantastic opportunity to add, as we also upgraded the stock. Members of our service also followed our call to add TSLA, joining our dip-buying move.

Accordingly, TSLA surged more than 110% through its February highs before consolidating. Notably, TSLA is not within JEPI's most recent top 25 holdings. As such, we assessed that it's unlikely that JEPI's managers overweighted the stock in early January to partake in its explosive recovery.

Also, JEPI's managers highlighted that "an underweight position in Nvidia ( NVDA ) detracted from performance" in Q4. But, again, NVDA is not within JEPI's top 25 holdings, suggesting that its managers have likely kept its underweight rating.

However, that meant JEPI also failed to participate in NVDA's explosive surge in 2023. We also upgraded it in December, highlighting to investors that " the opportunity for a medium-term recovery looks constructive." Accordingly, NVDA has surged nearly 100% since our article, as it benefited from the generative AI hype driving its momentum.

Hence, investors must consider whether the fund manager's ability to assess stocks on the verge of forming their significant bottom could improve. JEPI's managers noted that its strategy encompasses "[focusing] on high conviction stocks and taking advantage of market dislocations."

However, we thought TSLA and NVDA were at significant "market dislocations" back in December.

JEPI top five holdings as of 31 March 2023. Data source: JEPI

Notwithstanding, JEPI investors can still have conviction over its managers' selection, benefiting from their defensible business models, riding confidently through the market cycles.

JEPI recovered recently, benefiting from the recent market volatility. As such, we think its buying momentum could be due for a break as investors assess the relative strength from the S&P 500's risk-on sectors.

Investors waiting for another opportunity to add JEPI should assess its next pullback before adding exposure.

Rating: Hold (Revised from Buy).

Important note: Investors are reminded to do their own due diligence and not rely on the information provided as financial advice. The rating is also not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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