JPMorgan Hedged Equity continues to deliver on its promise of a low-volatility portfolio that can help investors stay the course during volatile markets. Consistent implementation by an experienced team and a reasonable fee add to its strengths.
The strategy cushions downside loss by forgoing some upside returns. Every three months, it layers S&P 500 options on top of an equity portfolio that closely hugs the index. To offer downside protection, the managers buy put options with strike prices 5% below the S&P 500’s market value. They pay for part of that purchase with proceeds from selling put options 20% out of the money. This structure should protect the fund from losses between 5% and 20% during the options’ three-month period. If the index falls less than 5%, the fund should closely track the S&P 500. If the index falls more than 20%, the fund will begin participating in losses once again, maintaining a roughly 15-percentage-point advantage over the S&P 500.
To cover the remaining cost of the put purchase, the managers sell out-of-the-money call options, which caps the strategy’s upside. The call strike price moves dynamically with market conditions, averaging between 3.5% and 5.5% above the index value, historically.
As designed, the options overlay has effectively cut risk. In the first quarter of 2020 and the second quarter of 2022, the institutional share class of JPMorgan Hedged Equity limited its losses to roughly 5% and 6%, respectively, beating the S&P 500 by 15 and 11 percentage points. Despite its capped upside, it offered better risk-adjusted returns than the S&P 500 since its 2013 inception, as measured by Sharpe ratio. It will trail the S&P 500 during market rallies but should offer a smoother ride and reduce drawdowns during stress markets.
Hamilton Reiner runs the show here. The lead manager and architect of the strategy joined J.P. Morgan in 2009 and has more than three decades of equity and options trading experience. He is supported by comanager Raffaele Zingone and a broad team of J.P. Morgan equity analysts who implement the low-tracking-error equity portfolio the options are built around.
After a soft close in early 2021, the fund reopened in February 2023. The strong increase in average daily volume on S&P 500 options has been a positive sign for underlying liquidity and alleviated capacity concerns.
JPMorgan Hedged Equity Funds 2 and 3 follow the same portfolio construction process as Hedged Equity, but the three series reset their three-month options overlay on different months.