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JPMorgan High Yield Research Enh ETF JPHY

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Morningstar’s Analysis JPHY

Analyst rating as of .

This high-yield ETF is still a work in progress.

Our analysts assign Neutral ratings to strategies they’re not confident will outperform a relevant index, or most peers, over a market cycle.

This high-yield ETF is still a work in progress.

Senior Analyst

Summary

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JPMorgan High Yield Research Enhanced ETF JPHY makes sense on paper but needs more time to determine its efficacy. Experience and depth balance out recent process and team changes over its brief history. It earns a Morningstar Analyst Rating of Neutral.

The team has undergone several changes from top to bottom since this strategy’s 2016 inception. James Shanahan and Alexander Sammarco, two JPMorgan high-yield veterans, provide continuity here. In October 2021, quantitative specialists Naveen Kumar and Qiewi Zhu, tasked with improving the strategy’s models, replaced Frederick Bourgoin and Bhupinder Bahra, two London-based fixed-income quant leaders who helped develop the exchange-traded fund’s initial framework. More broadly, the firm’s high-yield franchise underwent significant change beginning in 2019, combining its independent legacy Cincinnati and Indianapolis teams into one cohesive unit led by JPMorgan’s global head of high yield Rob Cook. A robust fundamental credit analyst bench supports this strategy. Relative stability over the past year is a positive sign after higher post-integration turnover brought about short-term uncertainty.

The ETF’s investment process is still unproven following an extensive overhaul. The initial framework of this strategy applied rules-based credit and liquidity screens to the ICE Bank of America U.S. High Yield Index and avoided CCC rated debt. In September 2019, the strategy began following the sector weights (including CCC debt) and duration of the Bloomberg U.S. Corporate High Yield 2% Issuer Capped Index, with the credit analysts’ fundamental research rankings and the quant team’s models driving issuer over- and underweightings. The team brought on Kumar and Zhu specifically to make the quant modeling more granular and efficient, though it is still too soon to assess the efficacy of these efforts.

Performance from October 2019 through June 2022 has not impressed. The strategy’s 1.4% annualized loss trailed the 0.3% loss of its benchmark and lagged 79% of its distinct high-yield bond Morningstar Category peers. Low fees are a plus here, but it will take more time for a reliable performance pattern to emerge.

Process

| Average |

The strategy’s research-enhanced process is structured but still unproven, underpinning an Average Process Pillar rating.

Following its 2016 inception, this ETF applied rules-based credit and liquidity screens to the ICE Bank of America U.S. High Yield Index. The portfolio’s sector allocations and duration mimicked the benchmark but avoided CCC or nonrated debt. In September 2019, the firm significantly overhauled the approach, shifting its benchmark to the Bloomberg U.S. High Yield 2% Issuer Capped Index and allowing for more input from its high-yield credit analysts based on their internal rankings of individual issuers included in the index. These moves coincided with a broader effort to have the once geographically and analytically disparate credit teams streamline their coverage responsibilities.

In its new format, the strategy’s new benchmark provides broad sector and duration targets for the portfolio, while the unification of the credit team’s fundamental recommendations and the quant team’s modeling dictate issuer over- and underweightings. The managers will not allocate to out-of-benchmark securities, but they can exclude certain issuers that they feel have extremely poor risk/reward trade-offs. Most notably, the ETF now carries a modest allocation to CCC debt, introduced to the portfolio as part of the process transition. Two quant portfolio managers update and refine the strategy’s modeling capabilities, but these efforts lack a proven track record.

People

| Average |

Veteran high-yield leadership, two quant pros, and a deep fundamental research team drive this ETF’s mandate, but that is offset by higher historical turnover. It earns an Average People Pillar rating.

JPMorgan veterans James Shanahan and Alexander Sammarco lead this strategy that leans heavily on the issuer rankings of its fundamental research team to add value within its existing benchmark-aware framework. In October 2021, quant specialists Naveen Kumar and Qiewi Zhu, tasked with improving the strategy’s models, replaced Frederick Bourgoin and Bhupinder Bahra, two London-based fixed-income quant leaders who helped develop the ETF’s initial framework.

The 2019 merger of JPMorgan’s legacy Cincinnati and Indianapolis high-yield teams into one cohesive unit led to higher short-term turnover, but that has since ebbed, and the team’s stability over the past year is a positive sign. High-yield veteran Rob Cook leads this integrated effort as head of global high yield. A 19-member dedicated high-yield analyst team boasts 16 years’ average experience, but sensibly distributed along experience levels. However, seasoned credit researcher Bob Amenta recently announced his retirement; his sector coverage of autos, metals and mining, packaging, and paper will be reallocated among senior analysts.

Parent

| Above Average |

J.P. Morgan Asset Management’s strong investment culture, which shows through its long-tenured, well-aligned portfolio managers and deep analytical resources, supports a renewed Above Average Parent rating.

Across asset classes and regions, the firm's diverse lineup features many Morningstar Medalists, such as its highly regarded U.S. equity income strategy that’s available globally. There's been some turnover in the multi-asset team recently, but it remains deeply resourced and experienced. Manager retention and tenure rates, and degree of alignment for U.S. mutual funds compare favorably among the competition. Managers' compensation emphasizes fund ownership over stock ownership, which is distinctive for a public company.

The firm continues to streamline its lineup and integrate its resources further. For instance, in late 2019, the multi-asset solutions division combined with the passive capabilities. The firm hasn’t launched trendy offerings as it’s mostly expanded its passive business lately, but acquisition-related redundancies and more hazardous launches in the past weigh on its success ratio, which measures the percentage of funds that have both survived and outperformed peers. Fees are regularly reviewed downward globally; they're relatively cheaper in the U.S. than abroad. Also, the firm is building its ESG capabilities and supports distinctive initiatives on diversity.

Price

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It’s critical to evaluate expenses, as they come directly out of returns. The share class on this report levies a fee that ranks in its Morningstar category’s cheapest quintile. Even so, based on our assessment of the fund’s People, Process and Parent pillars in the context of these fees, we don’t think this share class will be able to deliver positive alpha relative to the category benchmark index, explaining its Morningstar Analyst Rating of Neutral.

Performance

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Performance since this strategy’s October 2016 inception falls short of its objective to generate excess returns while efficiently replicating the risk profile of its Bloomberg U.S. High Yield 2% Issuer Capped Index. From its inception through June 2022, the ETF’s annualized 2.2% returns lagged the 3% result of its benchmark and 2.5% of its distinct high-yield category median peer, ranking in the 70th percentile.

Its track record since the strategy’s late 2019 process revamp is short, and it has not yet established itself. The strategy previously used a rules-based approach that prohibited CCC rated debt, helping it in volatile periods like the high-yield selloff of the fourth quarter of 2018 when it outperformed 73% of its rivals. However, early returns are uninspiring. Since October 2019 through June 2022, its 1.4% loss trailed the 0.3% and 0.5% losses of its index and median peer, respectively, ranking in the 79th percentile. Its Sharpe ratio, a measure of risk-adjusted returns, landed in the bottom quintile over this period. The strategy’s underweighting in riskier energy credits drove relative underperformance during this period.

The overriding premise for this ETF makes sense, but more time is needed to assess the long-term efficacy of the analyst bench’s credit picks and the ETF’s quant modeling schema.

Portfolio

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The strategy seeks to efficiently replicate the high-yield bond universe and applies its fundamental research rankings to adjust security weights. This approach results in a duration-neutral portfolio with modest sector over- and underweightings. Since its 2019 revamp, sector weights more closely tracked those of the index. A modest 2.2% overweighting in consumer cyclical issuers represents the largest difference as of March 2022.

The analyst team expresses its ideas primarily through issuer selection rather than sector tilts. Its industry allocations will deviate slightly from those of its Bloomberg U.S. High Yield 2% Issuer Capped Index. Analysts assign security rankings of 1 to 4, with 4 representing the best risk/reward trade-off. As such, portfolio optimization places greater emphasis on highly ranked issuers and a bias to less risky high-yield issuers. The strategy’s allocation to CCC and lower rated debt is typically less than its benchmark, while BB rated bonds represent an overweight position, resulting in lower-than-benchmark yields and spreads. As of March 2022, a 3% CCC underweighting and 6.5% BB overweighting resulted in an approximate 20 basis points lower yield than its index.

The portfolio biases should help this strategy hold up versus its index in stress periods and lag in normal and risk-on markets.