JPMorgan Equity Premium Income takes a nuanced approach to covered calls that delivers high income while reducing downside risk. This fund’s incremental improvements on a basic covered-call strategy makes it a solid option in the derivative income Morningstar Category, though income from covered calls generally isn’t tax efficient.
This fund owns a defensive stock portfolio that targets stocks from the S&P 500 while systematically selling one-month call options on the index. The fund uses slightly out-of-the-money calls, leaving modest room to capture the index’s upside. Manager Hamilton Reiner staggers the one-month calls into multiple weekly buckets to diversify the expiration date and strike prices. However, he doesn’t directly write these calls for the fund. Instead, he purchases equity-linked notes that provide exposure to the profits on those call options. This simplifies the fund’s tax treatment but precludes it from taking advantage of lower long-term capital gains tax rates. Reiner’s team alleviates counterparty risks on the ELNs by spreading trades across multiple issuers and limiting transactions to global financial institutions that pass its regular risk monitoring. It regularly tests pricing and liquidity on the ELNs to ensure they’re getting the best deal.
In general, covered-call funds have not been the best buy-and-hold investments for investors with a longer time horizon. The stock portfolio’s upside is capped, and the downside remains exposed to significant drawdowns, which will likely erode an investor’s long-term total returns. Even for investors with high income needs, there may be more tax-efficient options available, such as selling investments with long-term capital gains. However, covered-call funds provide a simpler way to outsource this task and can alleviate problems that come with self-implementation.
This strategy’s options income offsets some losses incurred during drawdowns, and higher implied volatility during these periods often translates to higher call premiums and higher income. The stock portfolio is less sensitive to the market’s movements, which lessens the sting. It beat the index significantly during the late-2018 selloff and the 2022 market meltdown. Shorting call options caps the fund’s upside relative to the S&P 500, though the fund still outperformed both the category index and category average since its inception.