In the Know: Implications for ETF Portfolios

Written by: Ben HernandezOctober rained on investors with heavy downpours of volatility, causing them to wonder whether the historical bull market they’ve experienced the past 10 years is finally over. In the latest update of “In The Know,” Yasmin Dahya, Head of Americas Beta Specialists at JP Morgan Asset Management, helps to quell investor fears of where the market is heading.“I think the U.S. equity market right now is interesting for investors given how well it’s done,” said Dahya. “But a lot of people are beginning to think, ‘What do I do now?’“There’s really two types of conversations that I’m having,” added Dahya. “The first is, ‘How do I be more defensive?’ Stay invested with something that can weather more volatile times. The other is ‘Where do I find opportunities still?’ If I look under the hood, maybe we’re late cycle, but are there pockets of opportunities that I can take advantage of.If investors want to be more defensive, Dahya recommends strategies that are not weighted by market capitalization. The JPMorgan Diversified Return US Equity ETF (NYSEArca: JPUS) , for example, incorporates multi-factor strategies that gives investors the defensive aspect they need to shield their portfolios from a downturn as well as an offensive component that exposes investors to the factors that are more in favor given present economic conditions.“For most investors, having balance is enough—value, quality and momentum,” said Dahya.

The Resurgence of Value

FANG (Facebook, Amazon, Netflix, Google) stocks have been largely attributed to helping fuel the decade-long bull run, but while the growth and momentum strategies they’ve been associated with may be falling out of favor amid October’s sell-off, one factor is experiencing a resurgence—value. Dahya points out that value is especially attractive given their deep discounts while growth and momentum were soaking up the limelight of the bull run.“I think there’s one factor right that I think is quite attractive to us, which is the value factor,” said Dahya. “If you think about value, it’s going through its second worst underperformance since 1990—it’s been very painful for value investors, but what that has meant is two standard deviations cheap and that level of cheapness has historically been associated with 14% return for the next 12 months.”To Dahya, being invested in value right now will allow investors to capture the upswings that can come hard and fast.“The way it (value) performs is like a coil spring,” cited Dahya. “The returns in value come in very short periods of time. What that means is you really want to be in the factor even though it’s down to catch that upswing.”“One of the most interesting things to me in the ETF market is that there are now products coming to the market where you can take advantage of themes like that,” Dahya added.In fact, JP Morgan has the JPMorgan Event Driven ETF (NYSEArca: JPED) that exposes investors to specific events, such as mergers, acquisitions and share buybacks. JPED seeks to achieve its investment objective by employing an event-driven investment strategy, primarily investing in companies that the firm believes will be impacted by pending or anticipated corporate or special situation events based on a systematic investment process.

International Markets Exposure

Certain international markets, emerging markets in particular, have been turned inside out this year after a spectacular run in 2017, but before an investor looks to dive into the deeply-discounted EM space, he or she must be still selective and exercise due diligence. Simply selecting a country-specific ETF in emerging markets without the proper research could be akin to catching a falling knife and as such, investors must use caution.“It’s still an attractive place to be,” said Dahya. “It’s still a good source of diversification in your equity bucket. Valuations are still attractive. I would argue that similar to the U.S., maybe try something non-market cap weighted, something that is a little more balanced, something that can weather that volatility.”Dahya references the JPMorgan Diversified Return International Equity ETF (NYSEArca: JPIN) , which has been a success story for the firm since it has been able to demonstrate downside capture. JPIN seeks investment results that closely correspond to the performance of the JP Morgan Diversified Factor International Equity Index, which is comprised of equity securities across developed global markets (excluding North America) selected to represent a diversified set of factor characteristics: value, price momentum and quality.

Related: ETF Upcoming Rule Changes and Industry Trends

Related: What’s in Store for ETFs in Q4 2018?

Short Duration Fixed Income

In September, a hawkish Federal Reserve raised the federal funds rate another 25 basis points with hints that a fourth and final rate hike to cap off 2018 is likely behind a tailwind of positive economic data. This has presented challenges for fixed-income investors who are also seeing rising yields in benchmark Treasury notes.“Fixed income is a very hard place for investors right now because of this fear they have of rising rates,” said Dahya. “I want investors to know there are solutions for you to help get the most out of your fixed income allocations.”According to Dahya, one area where investors can seek opportunities is shorter duration strategies to limit prolonged exposure to the bond markets. This addresses two main fear factors in the fixed income markets—rising interest rates and a flattening yield curve.“What investors are looking for is strategies that can help protect against rising rates, but still preserve their yield,” said Dahya.Dahya mentioned JP Morgan’s strategy of giving investors broad market exposure to bonds via the Bloomberg Barclays U.S. Aggregate Bond Index (Barclays AGG), but with shorter duration. In fact, Dahya mentioned that the firm’s strategies have provided investors with 80% of the yield from the Barclays AGG, but with 8% of the duration—a value proposition worth considering in the bond markets.

Late Market Cycle Breeding Innovation

It’s no secret that this month, financial advisors have been getting nervous calls from investors spooked by rising interest rates and trade wars, but Dahya reminds us that product differentiation is at its height given the growth of the ETF industry the last decade. As such, the innovation seen in the ETF industry has given investors more options in times of volatility and in the event of downturn, advisors have more alternatives to consider when steering their investors towards the best course of action for their respective portfolios.“One of the most amazing trends I think that’s existed in ETFs in the last couple of years in the ETF ecosystem is all the product innovation that’s been happening,” said Dahya.

To watch the entire latest “In the Know” show, click here .