Our Smart Alpha portfolios, powered by J.P. Morgan Asset Management, offer clients an opportunity to combine the active investment expertise of dedicated stock-picking fund managers from one of the world’s largest asset managers, and the oversight of the Nutmeg investment team. Here, we explore what drove performance in the second quarter of 2022, and the importance of a robust environmental, social, and governance (ESG) process.
If you’re not already familiar with the range, the Nutmeg Smart Alpha portfolios incorporate elements of both active and passive investing. The top-down asset allocation calls are taken by the J.P. Morgan Asset Management (JPMAM) investment team with active stock selection through its range of Research Enhanced Index Equity (ESG) ETFs.
JPMAM Research Enhanced Index (ESG) ETF range
The second quarter of the year (from April to June) was a difficult and volatile one for all investors and Smart Alpha portfolios were not immune to market volatility during this period and continue to deliver risk-adjusted returns. However, as is the nature of dynamic stock selection, there have been some key positive contributors to performance as well as detractors.
Key contributors to performance
The JPM US REI Equity (ESG) ETF, or JURE for short, invests across the US stock market with its benchmark being the S&P 500 index. The managers’ overweight (relative to the benchmark) position in pharmaceutical giant Eli Lilly was the largest individual contributor to performance in the fund during the second quarter of 2022.
Eli Lilly has benefitted from success on several of its drugs and pipelines. It has seen a high volume of sales of a newly launched diabetes drug, while also seeing incrementally positive news in a breast cancer trial in comparison to its competitors. With additional approvals and strong fundamentals, the team managing JURE continue to remain overweight this stock.
All the JPMAM ETFs within the Smart Alpha portfolios actively engage on environmental, social and governance (ESG) issues, to appropriately consider ESG risks and opportunities within the investment universe. An example of this in action is the exclusion of Brazilian mining company, Vale, from the JPM Global Emerging Markets REI Equity (ESG) ETF, or JMRE.
JMRE invests across the developing world, including across markets in Asia, Latin America, and Eastern Europe. We actively consider corporate standards across companies which we invest in and it is particularly important where companies have global practices, as standards may diverge between regions. Vale, as an example, was excluded from the portfolio based on concerns around involvement in the collapse of the Brumadinho dam in Brazil in 2019.
While shares in the company climbed in the early part of 2022 helped by rising metal prices, this was reversed somewhat during the second quarter of the year as investors took profits in this area on concerns over elevated inflation levels leading to weaker demand and lower global growth expectations.
JMRE also benefited from its holding in Chinese paint producer SKSHU Paint, which delivered strong returns as the Chinese property market showed initial signs of recovery during the period with regulation of the sector starting to ease.
Detractors to performance
During April to June, there were also some stocks which detracted from performance including, in JURE, a holding in telecommunications specialist AT&T. While the fund has continued to hold the company, it has an underweight position relative to the S&P 500.
AT&T outperformed during the period following better-than-expected subscriber growth, and mobile price increases. However, going forward it also faces challenges around growing inflation-driven cost pressures and so JPMAM’s manager has maintained their underweight position.
Within JMRE, the managers’ exposure to Taiwanese technology names also weighed on performance, most notably an overweight position in Vanguard International Semiconductor. The company has seen further declines in semiconductor demand for PCs and smartphones, which could lead to weaker revenue growth in 2023.
ESG in action
As noted with the Vale scenario, ESG remains a key focus for the JPMAM managers. Another example of the process being brought to life is the overweight position in John Deere, held within the JPM Global REI Equity (ESG) ETF, or JGEP. John Deere builds farming equipment and, according to JPMAM’s managers, the company has managed to revolutionise its approach by making use of digital tools and machine learning to improve the way farmers work. Its use of artificial intelligence has helped to decrease the amount of herbicides used for farming by 90%, relative to peers, contributing to a reduction in negative environmental impacts.
It’s worth noting here that, alongside all of the stock examples highlighted, John Deere is just one of a large number of active positions in the portfolios. The managers do not take large overweight or underweight positions in single stocks, as we seek to maintain an index-like risk profile, which can then be used for effective asset allocation.
Market outlook for Smart Alpha portfolios
JPMAM Multi-Asset Solutions team believes core inflation globally is starting to de-accelerate, highlighted by more recent weaker Consumer Price Index (CPI) and Producer Price Inflation (PPI) numbers. This suggests signs of a fade in the rise in global demand for goods following the post-Covid reopening of most of the global economy.
The team expects core inflation to decline fairly sharply, but believe that developed market inflation rates will remain close to central bank targets. They point to indications that goods price inflation appears to be moderating, while service inflation is sticker and remains elevated.
The team therefore believes that policy will continue to tighten, and demand will slow in line with central banks attempts to curb inflation, which they expect will subsequently lead to lower, economic growth over the medium to long term.
While listed company earnings during the second quarter have held up better than expected, JPMAM’s team remain concerned about the outlook for earnings and believe risks to earnings are skewed to the downside given the weaker growth outlook.
Smart Alpha: The best of both worlds
The Nutmeg Smart Alpha portfolios are best suited to investors who want the potential for additional returns through smart, transparent security selection. The use of ETFs means this comes with a high level of transparency, diversification and liquidity.
We believe these portfolios are a collaboration that represents the best of both active and passive management, with the use of fundamental research to guide stock selection within a given allocation on which the portfolios can seek greater, or lesser, exposure to attempt to generate returns within a risk-controlled process.
You can find out more about the Smart Alpha portfolios from a dedicated guide available to download from the Nutmeg website.
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past performance is not a reliable indicator of future performance.