Last week, J.P. Morgan Asset Management hosted a Webcast entitled, "Targeting lower duration amid today's higher rates," which featured JPMorgan's Ultra-Short Income ETF (JPST)." The description tells us, "While rates continue to rise, core bond duration remains near record highs. The videocast discusses how JP Morgan Ultra-Short Income ETF (JPST) can help clients reduce duration risks without sacrificing yield potential. The experts share their latest market views and investment themes." Portfolio Manager James McNerny comments, "When we think about the platform, we think about ultra-short here at J.P. Morgan Asset Management as a part of the global liquidity business, which is anchored by our $460 billion money market fund complex. While JPST is relatively new, ultra-short is not new to us. We manage about $60 billion in ultra-short strategies that we brand as 'Managed Reserves'."
He asks, "What does it mean to be a part of global liquidity? We approach the ultra-short space as the 'next step out' from money market funds. We employ many of the best practices of the money market fund business, which tends to be conservative in nature. We're just taking them slightly out the curve. When you think about the size and importance of this business to JP Morgan, it affords us tremendous amounts of resources. We have four main portfolio managers on JPST with an average industry experience of twenty-one years."
McNerny says "Highlights of the fund" include: "It is a 100% actively managed ultra-short bond ETF. By definition, the ultra-short space will have a maximum portfolio duration of typically one year.... The range we run in will be a quarter of a year to one year. Right now, we have the portfolio positioned at a half a year. The SEC yield on it right now is 2.37%, and everyone loves to ask, 'Where are you getting that yield from?' The portfolio is invested largely in investment-grade short-term debt or credit. We are running a spread duration of about 1.1 year."
He also asks, "If we are running a half a year duration, but a 1.1 year spread duration, how do you do that? It is primarily through the employment of floating rate notes. We have about 41% of the portfolio concentrated in floating rate notes ... about 27% is in corporates. The remainder is in structured debt. The portfolio is highly liquid, so we have about 51% of the portfolio maturing inside of one year and 84% maturing inside of two years. All of the fixed-rate paper, given our view on the curve, is inside of 18 months and we are using weighted average life unstructured debt there."
McNerny states, "As far as the maturity profile, the fixed paper [is] 18 months and in on weighted average life, primarily because [of the] flatness of the yield curve.... Anything longer than 18 months you see in the portfolio and in any of our materials is primarily floating rate notes. All of the portfolio is investment grade. We are looking at that as the most conservative approach. When we look at the ratings of S&P, Moody's, and Fitch ... all are investment-grade.... When you think about sector rotation, we have about 28% short-term investments, which are commercial paper, certificates of deposits, and repo; about 58% in short corporate bonds; and about 14% in structured note in which would be consumer, ABS, mortgage-backed securities, and CLOs."
He also comments, "With the interest that we have seen so far, the biggest question that we've been getting is, 'How are our clients using it in their portfolio?' There are two approaches to this space from different subsets of clients. First, traditionally we have seen clients moving out of money market funds in search of yields without wanting to add too much duration. I would remind everyone that this fund is not a money market fund. It is absolutely not a cash replacement vehicle. It is a very low duration bond fund, which, in turn, should exhibit low volatility."
McNerny continues, "More recently, we have seen ... money coming down the curve is becoming more and more of a primary opportunity where fixed income investors in general want to shorten up their portfolios, shorten up the duration or the interest rate sensitivity ... without giving up too much yield.... JPST right now is capturing 73% of the yield of the aggregate index but has 8% of duration of that index, so 8% of the interest rate sensitivity. Anecdotally ... we know that some of the largest purchases thus far have actually swapped out ... down the curve into JPST."
He tells the Webcast, "The proof is in the pudding.... In February, we returned 7 bps, which relatively kept pace with cash at about 9 bps. We used a 3-month T bill as a proxy versus a short duration index. The next step out from us was a 1- to 3- corporate index, [which] was down 23 bps. The 'Agg' was down almost a percent, and stocks were down 3.7%. YTD, JPST returned 56 bps while cash is about 49 bps. The short duration, corporate-only index [is] about 29 bps down, and the Barcleys Agg is down 2.2%.... We have not had a negative month of performance since we launched. We launched in May of last year and had our one-year anniversary on Friday."
McNerny explains, "Our process starts with the marriage of our top-down macroeconomics thesis which we set formally on a monthly basis ... and we marry that with our bottoms-up securities selection sector rotation. It is probably no different than what you're going to hear from most shops on the street. What I would add though, and what is a little more unique about us is that it is all encapsulated in a rigorous risk management framework that is a little bit more unique to money market funds."
He adds, "We have the standalone, 'silo-ed', corporate risk functions that are checking compliance and making sure that the risk is within the tolerance that we have laid out for the product. But we also have a separate layer within global liquidity and that function is called our 'credit and risk administration team' and their task is to make sure that we are staying within the risk-parameters that we have laid out for ourselves."
Finally, McNerny says, "We work off of an approved list which is typically an attributor or processes within the money market business. The way that it works is that I cannot buy credit as a portfolio manager or name the portfolio unless that name is on the approved list, meaning it has been scrubbed by our analyst team. We have over 20 credit analysts with average industry experience of over 20 years between them. They cover their sectors and we will suggest a name and they will look at it given whatever sector it is in will be assigned to that analyst. They will then either deem a name appropriate to go on the approved list or not.... Again, that is all maintained and the monitoring of those concentrations is all done by that credit and risk administration team."
