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JPMorgan Diversified Return Intl Eq ETF JPIN

Analyst rating as of

Morningstar’s Analysis

Analyst rating as of .

A multifactor strategy that leans toward less-volatile segments of the market.

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

A multifactor strategy that leans toward less-volatile segments of the market.

Senior Analyst

Summary

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JPMorgan Diversified Return International Equity ETF JPIN has a combination of characteristics that suggest it should perform well against the MSCI ACWI ex USA Index. But it only holds a small subset of stocks from the foreign market and its performance may differ from expectations. In light of our growing concerns that the active risk the fund takes may not be adequately rewarded, we are downgrading its Process Pillar to Average from Above Average, which pushes its Morningstar Analyst Rating to Neutral from Bronze.

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. Each of these buckets is weighted 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 liquidity.

While the portfolio tries to hold stocks with an attractive combination of value, momentum, and quality characteristics, it tends to emphasize names with smaller market capitalizations and lower valuations. Weighting regional sectors by the inverse of their volatility should influence the fund’s risk/return profile, causing it to outperform the MSCI ACWI ex USA Index when the market declines and underperform during market rallies.

For the most part, the fund has followed that pattern and dialed down risk. But it can stray in unexpected ways. For example, it didn't provide any downside protection during the coronavirus drawdown. Emphasizing stocks will smaller market capitalizations caused the fund to modestly underperform the benchmark from early February through late March 2020. Despite its value orientation, the fund trailed the index by 4.6 percentage points between October 2020 and May 2021, when cheap stocks rallied. Stock selection and its large stake in the utilities sector hurt performance.

Process

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This fund tries to hold stocks with a combination of attractive factor characteristics while cutting back on risk. It incurs a large amount of active risk in the process, which may cause it to perform in unpredictable ways. For that reason, we are downgrading its Process Pillar to Average from Above Average.

The portfolio managers try to fully replicate the JP Morgan Diversified Factor International Equity Index. This benchmark starts with all stocks in the FTSE Developed ex North America Index and scores each one 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 rebalances 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.

People

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Portfolio managers from J.P. Morgan's quantitative beta solutions team oversee this fund. The team has the tools and experienced personnel necessary to provide tight index tracking, but it does not have the resources of its larger competitors. It earns an Average People Pillar rating.

J.P. Morgan's quantitative beta solutions team was formed in January 2017, when it took over management of this fund and J.P. Morgan's other strategic-beta ETFs. Four portfolio managers share responsibility for this portfolio. Yaz Romahi serves as the team's CIO and helped develop the strategy. Victor Li has been with J.P. Morgan for over a decade and is head of quantitative research. Joe Staines and Kartik Aiyar round out the lineup. Both started their asset management tenures at J.P. Morgan in mid-2014.

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 quantitative 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'.

Parent

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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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The fund underperformed the MSCI ACWI ex USA Index by 68 basis points per year from its launch in November 2014 through September 2021. Most of its lackluster performance was caused by the portfolio's emphasis on stocks with smaller market capitalizations trading at lower multiples, which lagged the index. Stock selection is tied to about half of the fund’s index-relative total return.

However, leaning toward less volatile segments of the market helped the fund cut back on risk and improve its risk-adjusted performance. Its standard deviation was 8% lower than the MSCI ACWI ex USA Index from December 2014 through September 2020, which kept its Sharpe ratio on par with the benchmark. Most of the time, the portfolio outperformed the index during drawdowns. For example, it provided a small positive gain in 2015 when the MSCI ACWI ex USA Index declined, beating the index by 8.6 percentage points for the year.

The portfolio didn't provide any protection during the coronavirus drawdown. Poor performance from smaller stocks during the sell-off compromised the strategy's risk-reducing efforts and hurt its performance. The fund lost more than 33 percentage points from early February 2020 through late March 2020--almost 1 percentage point more than the benchmark.

Portfolio

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The portfolio's composition reflects its preference for less volatile segments of the market. It has tended to overweight the utilities sector and underweight financials. It also leans toward stocks from the U.K. and 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, which reduces their volatility after translating performance to dollars from yen.

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 capitalizations. Its average market cap has consistently been about one third that of the benchmark.

Few stocks make the cut for this portfolio. It only holds about 20% of the names in the MSCI ACWI ex USA Index. Stock selection may play a prominent role in the fund’s performance.