JPMorgan Diversified Return Intl Eq ETF JPIN

JPMorgan Diversified Return International Equity ETF JPIN leans toward cheaper and higher-quality stocks. But its large sector and country bets can derail performance.

This strategy starts with the FTSE Developed ex North America Index and splits it into four regions and 10 sectors within each region, creating 40 regional sector buckets. It weights each of those segments by the inverse of its historical volatility, pushing the fund toward stable segments of the market and away from those that are more volatile. Within each regional sector, the strategy ranks constituents by their value, momentum, and quality characteristics. It combines these scores into an overall composite score and sweeps the highest-scoring names into the portfolio. Stocks within each regional sector are weighted equally, subject to constraints designed to promote diversification and ease trading.

This portfolio looks substantially different from the market. It tends to lean toward the value, small-size, and quality factors, and it moved to the foreign large-value Morningstar Category from foreign large blend in October 2022. Aside from those risk factors, the portfolio is making a number of active bets that can be counterproductive. For example, the fund's preference for smaller stocks worked to its advantage over the two years through September 2022. However, smaller allocations to the energy and financials sectors erased any benefit and contributed to the fund’s 7.8 annualized shortfall relative to the MSCI ACWI ex USA Value.

Overall, the portfolio possesses some defensive characteristics, but its downside protection has been fickle. J.P. Morgan launched this exchange-traded fund in late 2014 when the market was in a drawdown, and it initially outperformed the MSCI ACWI ex USA Value by 14.5 percentage points from December 2014 through January 2016. Since then, it hasn't provided much shelter from stormy markets. It had a small advantage over the category index during the coronavirus drawdown in early 2020, but it lagged the same benchmark by 5.2 percentage points during the 2022 global market drawdown.

The portfolio looks very different from its parent universe, and those deviations may not always be compensated with higher risk-adjusted returns. It earns an Average Process Pillar.

The portfolio managers use full replication to track the JPMorgan Diversified Factor International Equity Index. This benchmark starts with all stocks in the FTSE Developed ex North America Index and scores each on its value, quality, and momentum characteristics. A composite score for each stock is calculated by equally weighting these individual factor scores.

After scoring stocks, the strategy divides the starting universe into four regions (Japan, Asia ex-Japan, United Kingdom, and Europe ex-U.K.) and splits each region into its 10 ICB sectors, creating 40 regional-sector buckets. These regional sectors are weighted according to the inverse of their trailing three-year volatility, which tilts the portfolio toward less risky segments of the market. Each bucket then ranks its constituents by their composite factor score and adds names, starting with those having the most attractive scores. The process continues until each bucket holds the top-scoring 70%, or it cannot hold any more names while simultaneously satisfying constraints designed to promote diversification and liquidity. The strategy tries to equally weight stocks in each regional sector, but its diversification and liquidity caps can change those weights. This final step is an iterative process because capping the weight of individual stocks can shift the weight of the regional sector buckets away from their target weight.

The index is rebalanced quarterly in March, June, September, and December. The strategy incurs at least 5% turnover at each rebalance. Larger amounts of turnover are required when the fund’s regional sector weights drift too far from their target weights.

The portfolio's composition reflects its preference for less volatile segments of the market. It has tended to overweight utilities and underweight financial stocks. It also leans toward those from Japan because their U.S.-dollar-denominated standard deviations have been lower than other regions. The volatility of Japanese stocks has been considerably lower than other regions because the dollar-yen exchange rate was negatively correlated to local Japanese stock returns, meaning yen-denominated returns have been more volatile than dollar-denominated returns.

The stocks within each regional sector bucket have an attractive combination of value, momentum, and quality characteristics. But the portfolio's overall factor exposure tends to skew toward names trading at lower valuations. Its average profitability, a proxy for quality, has tended to be lower than the MSCI ACWI ex USA Index. The strategy tries to equally weight stocks within each regional sector bucket, causing the portfolio to emphasize those with smaller market caps. Its average market cap has consistently been about one third that of the benchmark.

The portfolio holds a small subset of stocks from its parent universe. About one third of the names in the FTSE Developed ex North American Index make the cut, meaning risks outside of its targeted factors may play a prominent role in the fund’s index-relative performance.

It earns an Average People Pillar rating.

J.P. Morgan's quant beta solutions team was formed in January 2017, when it took over management of this fund and the firm's other strategic-beta ETFs. Five portfolio managers share responsibility for this ETF. Yaz Romahi serves as the team's CIO and helped develop the strategy, while Joe Staines and Kartik Aiyar have worked on this fund since the team’s formation. Both started their asset-management tenures at J.P. Morgan in mid-2014. Alistair Lowe left his portfolio management role in late 2022 for another position at J.P. Morgan. Victor Li also left this fund, but he still serves as a manager on other quantitative funds. Natalia Zvereva and Steven Wu replaced them.

Most of the team's workflow is conducted through Spectrum—J.P. Morgan's in-house portfolio management platform—which automates many aspects of day-to-day workflow. Two risk oversight teams monitor the funds managed by the quant beta solutions team. Both provide tracking-error targets, and tracking performance is formally reported each quarter. The managers' compensation is tied to tracking performance, aligning their interests with investors'.

As of 2022, this investment stalwart manages more than USD 2.5 trillion in AUM. Composed of various global cohorts and diverse asset classes, the firm has more tightly integrated its capabilities in recent years, notably through the development of proprietary analytical and risk systems. Investment teams are robustly staffed and helmed by seasoned contributors. The firm’s strategies tend to produce reliable portfolios, and several flagship offerings are Morningstar Medalists. Manager incentives align with fundholders'; compensation reflects longer-term performance factors, and portfolio managers invest in the firm’s strategies as part of their compensation plans.

The firm’s funds tend to be well-priced, but they aren’t as competitive as many highly regarded peers of similar scale. Recent product launches include thematic and single-country strategies, both of which carry the potential for volatile performance and flows, along with misuse by investors. The firm remains intrepid when it comes to developing an environmental, social, and governance-focused framework and continues to move into other areas such as direct indexing through its 55iP acquisition and China through its joint venture, but these complicated initiatives take time to assess any real and lasting effect.

J.P. Morgan launched it in early 2014 when the market was in a drawdown. It initially outperformed its category index, the MSCI ACWI ex USA Value, by 14.5 percentage points annualized between December 2014 and January 2016, which aligns with its risk-averse portfolio. The combination of style, sector, and country bets in this portfolio makes it difficult to determine when it will have an advantage or the consistency of any edge that it possesses.

The ETF landed in the large-blend category until late 2022. Its performance has been on a long slow decline since early 2016, relative to its old benchmark, the MSCI ACWI ex USA. Some of that underperformance is expected. It trailed that index during most of 2016 and 2017, which aligns with expectations for a low-risk portfolio. However, it did not deliver any downside protection during subsequent drawdowns, such as during the second half of 2018 or the coronavirus selloff. Likewise, it lost almost as much as the MSCI ACWI ex USA over the first nine months of 2022, but it ended up beating it by about 2.2 percentage points for the year.

Long-term performance looks better compared to its current category index, the MSCI ACWI Ex USA Value. It managed to beat this benchmark by 67 basis points per year from its launch through July 2023. But any advantage was brief and episodic, and it has held no edge over the value index since October 2020. It performed substantially worse during 2022, losing 5.2 percentage points more over the full year. Differences in sector exposures, including a smaller allocation to energy stocks, explained a large portion of the gap.

Based on our assessment of the fund’s People, Process, and Parent Pillars in the context of these expenses, we don’t think this share class will be able to deliver positive alpha relative to the category benchmark index, explaining its Morningstar Medalist Rating of Neutral.