The JPMorgan Equity Premium Income ETF (NYSEMKT: JEPI) currently yields 7.1% and follows a strategy that it says provides a premium monthly income with lower volatility. In other words, it is not a strategy that will explode in a bull market, nor will it plummet like a stone in a bear market. Still, it will generate a relatively high monthly income while preserving wealth. It's a strategy that will suit many investors, and the excellent news is that it's working.
Starting with low volatility, the following chart shows how the exchange-traded fund (ETF) has delivered positive total returns so far this year compared to the decline of the S&P 500 (SNPINDEX: ^GSPC).
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JEPI Total Return Level data by YCharts
Moreover, investors should consider what happened in 2022, when the S&P 500's total return was a negative 18.1% compared to just 3.5% for the ETF. In a nutshell, the ETF's strategy is delivering low-volatility returns.
The strategy is two-pronged. First, the ETF invests as much as 20% of its assets in equity-linked notes (ELNs) that act to sell call options on the S&P 500 index.
A call option is the right to buy the S&P 500 index at a price (the strike price) up to a specific date, purchased for a premium to the seller. Call options are typically bought by bullish investors hoping the market will go up so they can buy at a lower price (the strike price) than the current market price. The seller of the call option (effectively the ETF in this case) hopes the market price won't increase significantly so it can earn the premium.
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The second part of the strategy involves investing up to 80% of assets in actively managed equities (typically S&P 500 stocks) using the ETF manager's own research and valuation rankings with a goal of creating a defensive portfolio.
Image source: Getty Images.
The last point deserves some explanation because it's a key feature of the ETF that makes it interesting for passive income-seeking investors.
The ETF's monthly dividend income primarily comes from the premium, not from the dividend yields of the equities it holds. Moreover, the equity portfolio isn't constructed based on dividend yield -- this is critical and distinguishes the ETF from many other high-yield offerings or a portfolio you might build yourself.
Let's put it this way: It's easy to run a stock screener and construct a portfolio of high-yield stocks, but more often than not, a mechanical approach to this will create a portfolio of equities heavily weighted toward specific sectors (for example, energy, tobacco, or telecom stocks), which increases sector-specific risk. It might also create a portfolio packed with stocks at risk of cutting dividends.
However, this ETF gives upside exposure to equities without the pitfalls of being forced to invest in high-yield equities that might disappoint investors in the future.
Image source: Getty Images.
If you are worried about a sustained market fall or want to make your overall portfolio more defensive, then this ETF makes sense. In addition, if you want the relative security of a monthly income when the markets are declining (remember that the premiums from selling call options primarily generate the ETF's income), then this ETF is a great option.
The ETF has demonstrated that it can perform well in relatively weak market conditions, which is a major plus for many investors.
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Lee Samaha has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.