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WHEN WAS THE LAST time you got scammed? Mine was about a year ago, when I threw more than chump change into a red-hot newfangled exchange-traded fund called the JPMorgan Equity Premium Income ETF (symbol: JEPI).
Now, JEPI could be the name of someone’s pet poodle, but it’s actually one of the more misunderstood high-income products in the burgeoning world of actively managed exchange-traded funds (ETFs). Just how red hot is the fund? Around for only four years, the fund has amassed more than $34 billion in assets and become the country’s most popular actively managed ETF.
It’s benefiting from a revival of enthusiasm for the option-income fund, a strategy with an underwhelming investment history but a surge of industry propaganda. On the surface, the JPMorgan Equity Premium Income ETF looks sweet. It offers a yield that has at times exceeded 12%, with a downside of less than two-thirds that of the broad stock market. Meanwhile, it still has some room for capital appreciation.
The fund’s advisors look for stocks of high-quality, fundamentally sound companies, most of which are members of the S&P 500. The portfolio is diversified across about 130 stocks, and is tilted away from the tumultuous and likely overvalued technology sector.
See how I got hooked? I even got victimized by the 0.35% expense ratio, which I saw as a bargain for an actively managed fund.
Just what is this contraption called an option-income fund? Its portfolio consists mostly of dividend-paying stocks. The fund’s managers sell instruments that, like options, are designed to slightly limit losses during a market decline. While you get some insurance, I’ve discovered that I pay dearly for it, in the form of a cap on the fund’s gains during up years. That restriction on how high your gains can go isn’t the only snafu here, but it’s the most important reason I should have stayed away.
The fund’s advocates like to point to its stunning performance when the market took a drubbing in 2022. The ETF lost only 3.5%, compared to the 18% decline in the S&P 500. What boosters gloss over is the fund’s subsequent lackluster showing. In 2023, it earned 9.9%, including dividends, while the broad market charged ahead by 26%.
Things are no better in 2024. Its return is 8.2% through July, compared to the S&P 500’s return of 15.8%. Let’s put it in plain dollars and cents: Since its inception in May 2020, a $10,000 investment in the vaunted ETF grew to about $16,300 as of this June, quite a bit short of the $19,600 returned by Morningstar’s comparable broad market index.
Yes, the protection it offers in a falling market could come in handy. But let’s get the truth out folks—stocks are in a bullish mode roughly two-thirds of the time.
The fund’s fat dividend is no bargain, either. First, the fund’s dividend yield has dropped from 12% to 6.4% as of July 31. Second, dividend is a misnomer anyway. This ETF’s distribution is actually a combination of dividends from its stock investments, plus income thrown off by the option-like vehicles known as equity-linked notes.
The dividend component of this combined distribution is actually quite small. How could it be otherwise when four of the fund’s top 10 holdings are technology behemoths that pay small dividends or none at all?
The lion’s share of the payout comes from those equity-linked notes, which—unlike dividends—are very much affected by the jumpiness of the market. People who trade options crave action. They’re driven to them when stocks are the frothiest.
That’s why the fund’s distribution topped 12% when market volatility was high. The yield has gradually subsided to 6% as the market has become less lively.
The ETF’s monthly payouts to shareholders are a nice feature, but hardly anyone I know likes a variable distribution. Retirees using dividends to pay for essential living expenses prefer their income stream to be steady.
The fund’s deficiencies go beyond its lagging returns and uneven payouts. Income from the fund’s dividends and option-like notes are treated as ordinary income. The fund’s dividends are not considered qualified. After taxes, that 6.4% dividend becomes worth something like 4.6% for me. That’s close to the rate I can obtain practically risk-free from a money market fund.
Don’t make the same mistake I did. You’ve got two good options for this option-income fund. Own it in a nontaxable account or—better yet—pass it by.
Steve Abramowitz is a psychologist in Sacramento, California. Earlier in his career, Steve was a university professor, including serving as research director for the psychiatry department at the University of California, Davis. He also ran his own investment advisory firm. Check out Steve’s earlier articles.
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How is this different QYLD which you recommended in 2022?
https://humbledollar.com/2022/07/calling-for-yield
Cammer,
QYLD is a more conservative fund than JEPI in some ways but not in others. It is structured to be more defensive in a down market, but it also is a relatively non-diversified tech-driven fund, which makes it a little riskier.
Sorry you found yourself where you didn’t want to be, but thanks for sharing that. Why do you think you were vulnerable to what you have come to regret?
Believed I could lasso the fat dividend while the market trended flat or only slightly higher, the best case scenario for an option-income fund. But this is too pessimistic because the market is marching higher two-thirds of the time. What I give up in capital appreciation wipes out a lot of the dividend.
Thanks for writing a follow up to your previous JEPI article.
Glad it was useful——and that you remembered that article!
This has zero to do with the above article, but, please, help. I know I should consider social security benefits as a part of my bond portfolio, alas, is it short, intermediate or long duration, etc. I guess top investment grade and so forth? ANY information would be greatly appreciated, thank you.
Social security is likely to be at least as safe as your “bond” portfolio and is very long-duration.
We have both ETF and CEF option funds that pretty much cover the various equity markets. I believe we have had them for 3+ years now. As with stocks (I know you know), there have been good periods as well as bad. And specifically with options, there are proper times to buy/write them. Anyway, we are up 15.6% with a yield of 7.95%. Expenses come in at 0.96 due to the CEFs but this small portion of our portfolio is just a little nitro added to the fuel tank so I’m OK with it.
Hard to get a feel for how well you are doing without knowing how the market did over that same period and what the proper benchmark should be. Also, whether that 16% is appreciation alone or total return (includes the bond interest)?
No victim here.
This article melodramatically plays the victim card. What do you expect from a fund that buys options, distributes high income, and moderates losses? Does a bond fund participate in bull markets?
You did not get “scammed”! You wanted a free lunch, and didn’t get one.
I get your drift but, to be fair, JEPI sells options and does not hold any bonds.
One man’s feast is another man’s poison. I too see it differently. With no illusions, lower volatility, as in limited upside as well as limited downside, along with a decent monthly dividend, is exactly what I was looking for at age 84. This fund, as well as a number of other buy-write funds, plus other income funds, are providing my wife and I an income averaging $2,500.00 each month In our Roth IRAs, meaning the income will never be taxed. What’s not to like about that? The options market is played by professionals at JPM with a beta of 0.51 for this fund. Check out JEPQ, a buy-write covering Nasdaq, with monthly returns considerably higher yet, as well as some noted appreciation in this years market runup.
John Harville
I can’t say it any better than Jonathan just did. Just be sure you wouldn’t be doing even better in a broad market index fund or a dividend fund that would allow full participation in the market’s appreciation.
I hope the funds work out well for you, but their history is not promising. Buy-write funds were popular in the 1980s, until shareholders realized the fat dividends were coming at the expense of stagnant or shrinking share prices. Unfortunately, a fund’s better stocks tend to get called away, leaving the fund owning a portfolio of lackluster companies.
As I just told John, I couldn’t agree with you more. But I should have responded sooner. I’ve been operating under a Covid cloud and “forgot” that this piece appeared as an Article and not on the Forum, and failed to follow up with so many avid readers. My apologies to all!
Three years ago. I was planning a family vacation for all sixteen children and grandchildren. I had found the perfect beach house in the Northeast. It was a VRBO house. I received an email (private) from the “owner” that let me know we could deal with the rental personally and save on the VRBO expenses. I knew it wasn’t being honest but I was trying to save is all some money. $4400 later I learned my lesson, I never heard from the person again. It is true what they say… Hindsight Is 20/20
We own some JEPI, but we view it as a quite different and unique piece of the portfolio. JEPI acts as a sort of “bond surrogate” or “hybrid” investment which has given us comfort to maintain a higher total stock allocation (80-90 percent) than we would otherwise.
JEPI performs pretty much as advertised – it provides current yield via call options, has low price volatility, and broader market distribution than our index and tech funds. JEPI (and all call options) performs best when the market goes sideways. You are correct that call options leave money on the table when the market goes up and moderate the down side when the market declines.
I also agree that JEPI is best held in a non-taxable account.
That’s a really creative use of JEPI. It’s true that the fund’s options strategy allows it to participate in small gains, but when a bull market—which we are in two-thirds of the time—takes off, JEPI will seriously lag. As you say, perhaps best used as a bond substitute.
“JEPI acts as a sort of ‘bond surrogate’…” This is the point I was going to make. Comparing its performance to that of the S&P 500 is an obvious case of using the wrong metric. And calling the fund a “scam” is a bit much. Did the author not read the prospectus before he “got victimized”?
Steve I agree with Jo Bo you’re being too hard on yourself, but for a different reason. It may not have been a great decision but it’s hardly a scam.
Even on the decision front – higher cash flow, less downside (acknowledging less upside). Assuming one doesn’t care about uneven distributions (capital appreciation is irregular too after all), then if held in a non-taxable account (or by a lower income investor who is less affected by taxes) it doesn’t seem so bad as a satellite holding for a person open to active funds.
I don’t want it for my portfolio, just a different perspective.
You can’t judge a fund over a one year time period. Ten years from now you may regret getting out.
Dennis, I must not have been clear enough. One of the analyses began at the time of the fund’s inception in 2020.
But even that’s only been four years. Growth has been on a run, but value will have its day and that might not be too far off. Compare returns in ten years and you might be surprised.
You are being too hard on yourself, Steve. The good news? 1) You now know enough to exit the fund. 2) You had good earnings last year – well above inflation. 3) You have not lost any money. 4) The after-tax return on a money market account would likely be one or two percentage points lower than you have considered.
Your piece above seems to be a version of “I could have bought XX”. We probably all have investment regrets. Yet you are on the right track, and in my view, it’s slow and steady that wins the race.
Jo Bo, thanks for your support. One point though. You’re right I didn’t lose money per se, but there is a big opportunity cost. The market’s in a bullish mode about two-thirds of the time. Unless the gains are very small, JEPI leaves a lot of money on the table.