2023-12-15 09:00:00 ET
Summary
- The Fed's dovish statement has fueled a bullish case for 2024, benefiting income-producing assets and big tech.
- The JPMorgan Nasdaq Equity Premium Income ETF is well-positioned to capitalize on a bull cycle and generate monthly income.
- Lower yields and a lower Fed funds rate in the future are bullish for the market, making JEPQ an appealing hybrid solution for investors.
The FOMC meeting occurred on December 13 th, and after another pause, Jerome Powell delivered what the market interpreted as a dovish statement. The markets ripped higher into the afternoon and continued to move upward the following day. While there is still some concern, several commentators on the major financial networks constructed a euphoric case for 2024. I have been looking for income-producing assets that were trading at low valuations over the past few months because the probability that a Fed pivot would occur in the first half of 2024, but this isn't just bullish for dividend companies, it's also bullish for big tech. I think that the JPMorgan Nasdaq Equity Premium Income ETF ( JEPQ ) is positioned well to capitalize on a bull cycle from a capital appreciation standpoint, while outpacing many investments on the income generation side. I plan on adding to my position in JEPQ as it can certainly appreciate in 2024 while producing monthly income.
Following up on my previous article about JEPQ
More than two months ago, I wrote an article about JEPQ and raised my sentiment on the fund after it pulled back from the summer rally ( can be read here ). In that article, I discussed why I was bullish and how the macroeconomic environment was setting up well for the back half of the year. Since that article, JEPQ has appreciated by 6.46%, and after the distributions are accounted for, the total return is 8.36%, while the S&P 500 has climbed 10.22%. I am following up on that article now because we have more economic data, and the Fed just changed their narrative, which is fueling a specific investment thesis that sets up well for JEPQ.
The December FOMC meeting just occurred and while there are still risks to the investment thesis, the Fed has turned dovish
No matter what Jerome Powell or anyone else says today, nobody can predict the future. There are still risks that could derail the market euphoria this week and my long-term investment thesis. No matter how unlikely one may think a scenario is, accounting for the unexpected and looking at all the angles is important. While unemployment declined from 3.9% to 3.7%, this has been the most reliable indicator of a recession. Whenever unemployment increases by roughly 1%, a recession follows, and in many cases, when unemployment spikes by 1% or more, it does so during a recession, not before one. The market typically retraces quite a bit in a recession, and while these retracements can vary in depth and time, they are ultimately not good for the markets over the short term. If the 3.7% unemployment print ends up becoming an anomaly and unemployment rises above 4%, it would be bearish for the market as a recession would be more likely to occur. In addition to a recession, there are chances of further geopolitical conflict from not only the current situations taking place but also an escalation between China and Taiwan , which would probably create a bearish sentiment throughout the market. Just because things seem different after the Fed meeting, there are risks that need to be avoided in 2024, and another strong year for the markets is not a guarantee.
Unemployment and recessions
S&P 500 and recessions
My prediction was that Jerome Powell would deliver another hawkish pause, and leave the door open for another rate hike before a Fed pivot comes in May or June. I didn't think that his speech would be at all dovish on Wednesday, especially with the unemployment print declining to 3.7%. While he didn't take a victory lap, this was as dovish of a statement as I could have expected, as Jerome Powell gave the market what it wanted. If you are interested, you can read the entire speech by clicking here . Jerome Powell acknowledged that inflation has retraced without a significant increase in unemployment, which is good news. The critical aspects as to why I believe the market is interpreting this speech as dovish is because Jerome Powell specifically stated that the Fed believes they are likely to be near or at the peak of its tightening cycle. He added that the Fed is prepared to tighten further if the data pushes them in that direction, but the time spent on the dot plot was the kerosine to the markets. He specifically addressed the individual assessments of the Fed members on what they felt the appropriate path would be going forward, and the outcome was that the median of the data points was having the Fed Funds Rate at 4.6 percent at the end of 2024, 3.6 percent at the end of 2025, and 2.9 percent at the end of 2026.
These projections indicate that even if the Fed increases rates by 25 bps in January, at least 75-100 bps of rate cuts are coming in 2024 if the projection of 4.6% comes true. The bond market is taking this seriously as yields are selling off. Only the 3-month treasury is above 5% today and the 2-year is down to 4.35%, and the 10-year is down to 3.91%. The 2-year treasury has seen its yield retrace by over a percentage point since October, as a significant decline just occurred.
Lower yields from risk-free assets and a Fed funds rate that is lower in the future are bullish for the market. As risk-free assets offer a lower yield, there will be less of a reason to lock up capital at a fixed time duration in CDs or treasuries. The T-bill and chill scenario will be over as investors will no longer be able to generate a larger yield risk-free than they could get from traditional equities that are growing their dividends. As the Fed cuts rates, capital parked in money market accounts is likely to flow into the market as this is liquid that can be moved on a moment's notice. When the Fed starts cutting, we will likely see business expansion as the cost of capital declines, and businesses will be more incentivized to borrow as rates will be more aligned with their profitability models. The combination of the cost of capital declining incentivizing businesses to expand and the risk-free rate of return declining, causing investors to reposition back into the capital markets are, bullish for the markets. I think JEPQ is more interesting than before now that we have a clearer picture from the Fed as it can be a winning hybrid ETF for appreciation and income.
JEPQ is one of the income generating vehicles I want to ride in 2024
I am more conservative with my investments and feel more comfortable with diversification. My portfolio has different segments as I allocate capital to accomplish specific tasks. In some cases, I am investing in an S&P fund or an S&P growth fund with a multi-decade time horizon, in some cases, I am utilizing capital to generate income from equities and funds, and in other cases, I am looking for strictly capital appreciation as I invest in big tech and tech companies that I feel will do well over the next several years. JEPQ is a hybrid ETF that is structured to capitalize on appreciating markets while still generating above-average amounts of income through its distributions.
The debate about how to invest will continue as different tools work for different methodologies. There will always be a segment of the investing population that wants to take on more risk and consolidate into big tech because it has traditionally outperformed, there are investors who are focused on income, and investors who take different approaches. JEPQ now has $8 billion in assets under management (AuM) and continues to grow as more people are considering this an appealing hybrid solution.
For investors looking to benefit from markets when they are appreciating while simultaneously generating income, JEPQ has been a viable option in 2023. On a YTD basis, the Invesco QQQ Trust ETF ( QQQ ) has climbed 52.75%, while the SPDR S&P 500 Trust ( SPY ) has appreciated by 24.07%. JEPQ has slightly lagged SPY appreciating by 22.68%, but still allowed investors to participate in much of the upside. Outside of share appreciation, JEPQ has paid $4.61 per share in distributions in 2023, which is an 11.33% yield on invested capital if someone purchased shares on January 3 rd, 2023. JEPQ still has one more distribution to pay in 2023, which will take the amount of income generated and the yield on invested capital higher by the time 2023 is finished. Looking back on a trailing twelve-month (ttm) basis, JEPQ has paid $5.18 in distributions and has a 10.38% yield on the current share price. The AUM continues to grow as JEPQ establishes a track record of paying larger than average monthly income through its distributions and allowing investors to participate when the markets rally.
Prior to the Fed meeting, BMO had a 5,100 target for the S&P 500 in 2024, while Deutsche Bank also had a 5,100 target. RBC and Bank of America had 5,000 targets, while Barclays placed a 4,800 target on the S&P 500. Tom Lee from Fundstrat has been vindicated as he has been correct about how the macroeconomic landscape would unfold in 2023 and is calling for the S&P 500 to reach 5,200 in 2024. There is a lot of bullish sentiment on the street, and I am in agreement that the markets will outperform in 2024. I think a lot of capital is going to come into the market, and some will be allocated toward big tech and index funds, which is positive for JEPQ. The other thing to remember is that JEPQ's top holdings are Apple ( AAPL ), Microsoft ( MSFT ), Alphabet ( GOOGL ), Amazon ( AMZN ), and Nvidia ( NVDA ). As the cost of capital declines, these companies are all projected to expand their earnings as more capital will be spent on their products and services to fuel business expansion. Companies will need more cloud services from AWS and Azure, more chips will be purchased from NVDA to train LLMs and AI models, more ads will be purchased from GOOGL, and upgrade cycles on devices will help AAPL. JEPQ's structure of having 80% of its assets in equities within the Nasdaq 100, while the remaining 20% is allocated toward exchange-linked notes (ELNs), allows it to implement its covered call strategy through the ELNs without capping the upside potential of the rest of the portfolio. This makes JEPQ unique compared to other high-income funds that utilize a covered call strategy and is why JEPQ is at the top of my list for a hybrid fund that can produce lucrative amounts of income while appreciating simultaneously.
Conclusion
We received as much of a dovish Fed conference as I think anyone could have expected, as Jerome Powell poured kerosene into the markets when he discussed the future trajectory of rates. There is a clear path to several rate cuts in 2024 as long as the current trajectory is maintained. The markets are running on the news, and this could be an indication of what is to come in 2024. JEPQ has kept pace with the S&P 500 while generating more than 10% on invested capital in 2023. I think that a significant portfolio of capital will flow into the capital markets as investors try to get ahead of the cutting cycle, as there is now over $6 trillion sitting in money market accounts. I think JEPQ can replicate its performance in 2023 in 2024 and provide an outlet for investors who want to generate income while participating in the markets. I am a long JEPQ and am still adding to my position.
For further details see:
The Fed Has Spoken And JEPQ Is Positioned For Growth And Income In 2024