2023-08-07 12:11:21 ET
Summary
- JAVA is an actively managed fund with a strategy focused on U.S. large-cap value equities that have the potential to increase their intrinsic values.
- It is heavy in financials (23%, excluding the money market fund), health care (15.9%), and industrials (11.6%).
- The results it delivered during the 2022 bear market were encouraging, as it outperformed IWD and IVV.
- It was unprepared for a market-wide recovery this year, underperforming IVV by about 12.4% in the first seven months.
- The value/growth/quality mix it has at the moment does not appeal to me.
There is no denying that tech- and growth-heavy portfolios have staged a massive comeback this year, with the iShares Core S&P 500 ETF ( IVV ) and Invesco QQQ Trust ETF ( QQQ ) both soaring, bolstered by the dissipating inflation scare and AI boom narratives.
However, there are signs of growth rotation already sputtering, which I discussed in my July article on the Alpha Architect U.S. Quantitative Value ETF ( QVAL ). For example, we saw soft quarterly reports from Netflix ( NFLX ) and Tesla ( TSLA ) in July, and in August, it was Apple ( AAPL ) that disappointed investors, provoking a sell-off. So since the July 22 article, value-heavy QVAL has risen by 2.37%, while the S&P 500 has fallen by 1.43%.
Seeking Alpha
For that reason, I believe value ETFs deserve a closer look to assess whether they might offer better options in the current environment. And the JPMorgan Active Value ETF ( JAVA ) is the fund I would like to discuss today, with the principal question being whether JAVA has a factor profile and other advantages necessary for a Buy rating.
JAVA is an actively managed U.S. large-cap value-centered investment vehicle incepted in October 2021. It is benchmarked against the Russell 1000 Value index. As described in the summary prospectus , the bottom-up approach is employed to uncover undervalued companies demonstrating the potential to increase the intrinsic value per share. Importantly, ESG considerations are incorporated as well. For an active strategy, turnover looks adequate at 56%. The expense ratio is also modest at 44 bps , which is even below the median for all other rated ETFs. AUM is nothing short of solid at almost $500 million.
What returns could JAVA deliver?
During its comparatively short trading history, JAVA has delivered fairly robust performance; nevertheless, as usual, there are meaningful nuances.
First, it did beat the iShares Russell 1000 Value ETF ( IWD ), which tracks its benchmark, as well as IVV during the November 2021 - July 2023 period, achieving a 5.5% annualized return coupled with the lowest standard deviation in the group.
Portfolio | IVV | JAVA | IWD |
Initial Balance | $10,000 | $10,000 | $10,000 |
Final Balance | $10,250 | $10,990 | $10,285 |
CAGR | 1.42% | 5.54% | 1.62% |
Stdev | 19.78% | 18.17% | 18.61% |
Best Year | 20.65% | 8.31% | 8.75% |
Worst Year | -18.16% | -0.89% | -7.74% |
Max. Drawdown | -23.93% | -14.65% | -17.78% |
Sharpe Ratio | 0.03 | 0.24 | 0.03 |
Sortino Ratio | 0.05 | 0.37 | 0.05 |
Market Correlation | 1 | 0.87 | 0.93 |
Created by author using data from Portfolio Visualizer
The result was mostly driven by its 2022 performance, when JAVA declined by only 89 bps, while IWD fell by 7.7% and IVV was down by 18.2%.
However, I believe we need a much broader context. For that purpose, I have selected a cohort of 14 large-cap or mostly large-cap value ETFs I have covered to date.
Created using data from Portfolio Visualizer
The period analyzed was the same. The key takeaway is that JAVA underperformed the SPDR Portfolio S&P 500 Value ETF ( SPYV ), iShares S&P 500 Value ETF ( IVE ), iShares Core S&P U.S. Value ETF ( IUSV ), and Distillate U.S. Fundamental Stability & Value ETF ( DSTL ). However, it still beat 10 other vehicles, namely the following:
- Invesco S&P 500 Value with Momentum ETF ( SPVM )
- iShares Focused Value Factor ETF ( FOVL )
- Fidelity Value Factor ETF ( FVAL )
- Invesco S&P 500 Pure Value ETF ( RPV )
- Schwab U.S. Large-Cap Value ETF ( SCHV )
- AAM S&P 500 High Dividend Value ETF ( SPDV )
- Invesco S&P 500 Enhanced Value ETF ( SPVU )
- Vanguard U.S. Value Factor ETF ( VFVA )
- iShares MSCI USA Value Factor ETF ( VLUE )
- Alpha Architect U.S. Quantitative Value ETF ( QVAL )
Interestingly, its standard deviation was the lowest again.
Is the factor mix supportive of further gains?
Looking under the hood, as of August 4, the fund had a portfolio of 156 stocks and REITs. The following table presents a few fundamental metrics for the major ten holdings (21% of the net assets), excluding the money market fund, which accounted for over 3%.
Created using data from Seeking Alpha and the fund
This is a mega-cap-heavy basket, with the weighted-average market capitalization standing at $168.3 billion as per my calculations. The figure is driven mostly by over 45% of the holdings having a market cap above $100 billion. Interestingly, three $1 trillion league members are also present, namely AAPL, Microsoft ( MSFT ), and Alphabet ( GOOG ), though with microscopic weights, together accounting for just 1.5%. At the same time, only ~5.3% are allocated to mid-caps.
Assuming such a massive market cap, it is already evident that JAVA is likely offering only modest earnings yield exposure. Indeed, my calculations show the EY at only 5.1%. The result is undergirded mostly by financials, the fund's key sector with a 23% weight, with a notable contribution from energy stocks like Exxon Mobil ( XOM ), Diamondback Energy ( FANG ), etc., and industrials like Emerson Electric ( EMR ) as well. It is worth remarking that there are a few detractors with negative earnings, like Fidelity National Information Services ( FIS ) and Alcoa Corporation ( AA ). So with their EYs replaced with zero for modeling purposes, the WA EY goes up to 5.8%.
Nevertheless, even 5.1% is still much higher than IVV's 4.4%. Does that immediately imply JAVA has an attractive portfolio-wise valuation story worth buying into? I doubt that. First, for investors who favor cash-centered approaches, I should mention that my calculations show JAVA's Enterprise Value/Cash Flow ratio at 19.9x portfolio-wise (excluding financials as well as negative figures). In my view, this is hardly cheap, especially considering the growth rates are not spectacular, with the WA forward revenue growth rate at 6.5% and the EPS growth rate at 6%. Besides, EBITDA growth for non-financial stocks is just 5.7%, while the EV/EBITDA ratio is around 12.2x. And second, I see that more than half of the fund's holdings have a D+ Quant Valuation rating or worse. This is not optimal to prepare for a possible tech and growth league correction that should coincide with the value style recovery.
Quality looks much stronger, with over 89% of the holdings having a B- Quant Profitability grade or better. However, there is something to dislike anyway as, despite Return on Equity standing at 20%, Return on Assets is much bleaker at only 6.2%. Delving deeper, we see a few companies with triple-digit ROEs and gargantuan Debt/Equity ratios that have skewed the figure, namely the following:
Stock | Weight | Sector | ROE | D/E |
Cheniere Energy ( LNG ) | 0.3% | Energy | 401.93% | 433.64% |
Booking ( BKNG ) | 0.4% | Consumer Discretionary | 267.13% | NM |
AmerisourceBergen ( ABC ) | 1.0% | Health Care | 233.66% | 688.88% |
Amgen ( AMGN ) | 0.1% | Health Care | 173.46% | 907.59% |
Apple ( AAPL ) | 0.2% | Information Technology | 160.09% | 181.31% |
Created using data from Seeking Alpha and the fund
Overall, I believe the factor mix is uninteresting here.
Final thoughts
To conclude, JAVA is an actively managed fund with a proprietary strategy focused on U.S. large-cap value equities. In the current iteration, it is heavy in financials (23%, excluding the money market fund), health care (15.9%), and industrials (11.6%). The results it delivered during the 2022 bear market were encouraging, as it not only outperformed the benchmark proxied with IWD but also the S&P 500. However, it was unprepared for a market-wide recovery this year, underperforming IVV by about 12.4% in the first seven months. The value/growth/quality mix it has at the moment does not appeal to me, even though there is something to appreciate as discussed above. In sum, JAVA is a Hold.
For further details see:
JAVA: Remarkable Performance, But Still Uninteresting From A Factor Perspective