The equity markets have made a strong rebound, but risks remain. Investors should instead consider an exchange traded fund strategy with a focus on quality names as a way to maintain a solid footing for the markets ahead.
“The economic ripple effects of COVID-19 are hitting some companies harder than others. As the trend continues, passively buying broad benchmarks may expose investors to unstable companies and unwanted risks. Instead, investors may want to consider a strategy that targets the highest quality businesses with high profit margins and low debt levels,” according to J.P. Morgan Asset Management.
For example, the J.P. Morgan U.S. Quality Factor ETF (NYSEArca: JQUA) can help investors shift to quality or companies with healthy balance sheets and strong cash flows.
While growth and momentum may lead the markets now, continued volatility could cause these plays to underperform. If an investor wants to shore up a portfolio with a defensive play, one may target quality or companies with quality of earnings.
The J.P. Morgan U.S. Quality Factor ETF is designed to reflect the performance of the J.P. Morgan U.S. Quality Index, which is comprised of U.S. securities included in the Russell 1000 Index and selects constituents based on their quality as measured by profitability, solvency and earnings quality. The profitability component screens for strong earnings and cash flow. Financial risk singles out those with low leverage, high interest coverage or low share price volatility. Lastly, earnings quality includes companies with consistent accounting practices.
As a better way to manage risk and limit losses during volatile periods, quality has been one of the few equity styles to post positive excess returns during periods when stocks sold off sharply in the first quarter. Additionally, the quality factor can still help capture growth potential as markets recover. Quality stocks have historically outperformed the broad market across cycles with less risk, producing more attractive risk-adjusted returns over time.
“Adding exposures now allows investors to access growth opportunities as they arise and enhance long-term return potential as we move through and beyond the pandemic,” according to J.P. Morgan Asset Management.
For more information on the smart beta strategy, visit our smart beta category.