Is JEPI's Wild Ride Coming to an End?

Covered call ETFs like the popular JPMorgan fund thrive in uncertainty, struggle amid low volatility.

Market volatility is down, the Federal Reserve is nodding toward interest rate cuts and the general outlook for a recession is for a soft one. 

These factors add up to bad news for covered-call strategy ETFs that had become the darlings of investors and financial advisors over the past few years as inflation and fears mounted. 

While JPMorgan and other ETF issuers might have caught lightening with covered-call newcomers such as the $8 billion JPMorgan Nasdaq Equity Premium Income ETF (JEPQ) and the $30.5 billion JPMorgan Equity Premium Income ETF (JEPI), that ride might be over. 

If asset flows into the white hot JEPI are any indication, the trend may be changing.

The $90 million that went into the ETF in November represents the lowest one-month inflow since December 2020 when the fund was just eight months old. 

“Covered-call strategies thrive in an environment of a lot of uncertainty and bearishness,” said Jason Bloom, head of fixed income and alternatives ETF strategy at Invesco. 

The basic strategy of selling call options on an underlying index has given brokers and financial advisors a ready product for nervous investors who can essentially stay invested by letting the income carry the total return. 

JEPI, Covered-Call ETFs Hit Headwinds 

The way the strategy is designed, the income comes from the sale of call options, which are most pricey during times of uncertainty. When that volatility tanks, like now, covered-call strategies should be expected to suffer. 

“Low volatility can make it a bit more challenging for money managers who execute or have clients in covered-call strategies,” said Seth Hickle, derivatives portfolio manager at Innovative Portfolios. 

“Fund managers must execute their strategies according to mandated guidelines, and this does not afford them the flexibility of deviating from the norm to compensate for low volatility,” he added. “They will just have to accept lower volatility risk premiums for the same unit of risk versus previous periods of higher volatility.” 

With the volatility index at its lowest point in four years, some analysts might assume a tough season for covered-call strategies. 

“Covered-call ETFs trade upside price appreciation potential for guaranteed income in the form of options premiums, therefore, because the VIX is down, a lot of these ETFs are generating less income than they were a few months ago or last year when the VIX was higher,” said Sumit Roy, senior ETF analyst at etf.com. 

“They’re also losing out because they’re not fully participating in the torrid stock market rally we’ve seen recently,” he added. 

Lower Volatility Crushes Covered-Calls 

As conservative, income-based strategies, covered-call funds will never be pitched as proxies for any equity index and the performance separation is most stark during bull market runs. 

For example, following the 55% peak-to-trough decline by the S&P 500 from October 2007 to March 2009, covered-call strategies were eclipsed in the stock market’s ferocious run that followed. 

By March 2011, the S&P had produced a 73% two-year total return. But the Invesco S&P 500 BuyWrite ETF (PBP), which was launched in December 2007, gained just 38.6% over the same period. 

“These funds are designed to do better than a long-only equity investor in a choppy sideways or bear market, but they lag severely in a bull market recovery,” said Invesco’s Bloom. “Now that the soft landing is the base case, applied volatility has cratered and the economies around buy-write strategies has cratered as well.” 

Contact Jeff Benjamin at [email protected] and find him on X at @BenjiWriter