Article Thesis

Tech investors oftentimes want a lot of growth potential, but that goes hand in hand with relatively low dividend yields, as most tech companies offer no or low dividend payments. JPMorgan Nasdaq Equity Premium Income ETF (NASDAQ:JEPQ) could be interesting for income investors who want tech exposure, as it offers a hefty 10% dividend yield, although investors should consider that the price appreciation is more limited compared to a regular Nasdaq or tech ETF such as QQQ (QQQ).

Past Coverage

I have not written about JPMorgan Nasdaq Equity Premium Income ETF in the past, but I covered JPMorgan Equity Premium Income ETF (JEPI) in 2022. JEPI and JEPQ have many similarities, including being managed by the same company and using a comparable strategy of selling covered calls to generate income that can be distributed to investors. JEPI does not have the same tech focus that JPMorgan Nasdaq Equity Premium Income ETF offers, however, which is an important difference.

Tech: Not Great For Income Investors

Thanks to trends such as working from home, cloud computing, the Internet of Things, and artificial intelligence, many tech companies have done very well over the last couple of years. The tech industry has outperformed the broader market easily over a longer period of time:

Over the last decade, broad equity markets did well, with the S&P 500 (SPY) and the Dow Jones (DIA) delivering returns in the 200% range. The Nasdaq, however, delivered returns of around 400%. Being overweight in tech has thus worked very well for investors, thanks to the strong returns of Apple (AAPL), Microsoft (MSFT), Alphabet (GOOG)(GOOGL), NVIDIA (NVDA), and others.

Unfortunately, these tech giants offer very low dividend yields only -- none of the aforementioned yield even 1%, including the Nasdaq ETF QQQ. For income investors, such as retirees who live off the income their investments generate, these stocks and ETFs are thus not very suitable. It is possible to monetize one's investment over time by selling regularly, but that does not feel great for some investors, and it means significant work compared to just sitting back and collecting dividends.

The JPMorgan Nasdaq Equity Premium Income ETF seeks to provide a solution, combining tech exposure with a very high dividend yield. Let's take a closer look.

How Does JEPQ Work?

The top holdings of the JPMorgan Nasdaq Equity Premium Income ETF look like this (source: JPMorgan Nasdaq Equity Premium Income ETF top holdings fact sheet):

The biggest names are tech stocks with large market capitalizations, such as Apple, Microsoft, NVIDIA, and so on -- there are no big surprises there. But with all of these stocks offering pretty low dividend yields or no dividends at all, JPMorgan Nasdaq Equity Premium Income ETF needs another source of income to be able to pay out the high dividends it offers to its owners.

JEPQ sells covered calls on its holdings, which generates income via the option premiums that the seller of the option contract -- in this case JEPQ -- receives from the buyer of the option contract.

JEPQ can then pay out this additional income that it receives over time to the ETF's holders. The dividends that JEPQ receives from its investments in stocks such as Apple provide some income as well, but not nearly enough to finance the ETF's large dividend payments. The majority of the "lifting" when it comes to generating income that can be turned into dividends is thus done via JEPQ's options selling.

Selling covered calls is not a very risky strategy per se, in contrast to selling uncovered calls, for example, where investors can lose a lot of money. There is still a downside, however -- if an investor sells a covered call, his or her upside is capped. When a stock is doing very well and rises substantially in a short period of time, such as NVIDIA following some of its earnings releases in the last two years, then the covered call seller does not fully participate in those returns. That explains why JEPQ, despite being a tech-heavy ETF, did rise less than the Nasdaq ETF QQQ last year:

Note: B1 is the return of the Nasdaq 100 ETF, F1 is the return of JEPQ at net asset value, and F2 is the return of JEPQ at market prices.

We see that JEPQ's performance is highly compelling in absolute terms, as the ETF delivered a mid-30s return in 2023 alone. But the ETF still underperformed the Nasdaq 100 ETF, which delivered a massive 55% return last year.

The fact that JEPQ caps the upside of its stock investments via the covered calls it sells has thus hurt JEPQ's performance last year, and investors would have generated a more attractive total return if they had invested in a plain and simple Nasdaq ETF such as QQQ.

That being said, the capped upside is only a problem when stocks are rising sharply. In sideways markets, where stocks are not moving much, the capped upside is less of a problem, meaning JEPQ could be a stronger investment in choppy markets. In bull markets with strong share price appreciation, the capped upside is more of a hindrance, while the capped upside is not too much of an issue in a sideways market when shares are not rising sharply anyway. One could thus argue that JEPQ is an investment that is not overly suitable for a strong bull market, but that is better suited for sideways, choppy markets. It could thus be seen as a holding that helps prepare a portfolio for a recession or other macro headwind. The fact that JEPQ generates a lot of income also could help investors do better during recessions or market downturns, as investors might be less inclined to throw in the towel as long as they know that their holding will continue to provide a nice income stream.

JEPQ's most recent dividend payment was $0.5569 per share, which, based on 12 dividend payments per year, pencils out to $6.6828 per year in dividends. The ETF trades for $53 right now, which would mean a dividend yield of 12.6%. Dividends are not always this high, however, as the premium that JEPQ receives for selling covered calls does, at least partially, depend on (implied) volatility. During times when equity markets are more volatile, such as this summer, option premiums and thus dividends are higher, while both option premiums as well as dividends are usually lower during times of less volatile equity markets. The last two months or so may thus not be overly telling, which is why we can alternatively look at JEPQ's reported SEC yield. According to its fact sheet, linked above, the 30-day SEC yield of JEPQ as of the end of July was 9.9%, while the 12-month rolling dividend yield was 9.7% as of the end of July. I believe that a forward dividend yield in the 10% range is thus relatively realistic, but I do not believe that investors should get used to a dividend yield of more than 12% -- even though the most recent dividend payment was very high.

Even a 10% dividend yield is highly compelling, of course, especially if investors can also get some price appreciation on top of that -- in the past, that has been the case.

Is JEPQ Attractive?

When equity markets are very strong, the covered call strategy weakens returns, as selling covered calls caps one's upside. That being said, returns can still be nice, and for an investor with a yield focus, JEPQ has a lot to offer. In a sideways market, JEPQ's relative performance versus QQQ could be better, as the "capping the upside" effect of selling covered calls isn't as pronounced. JEPQ has a relatively low beta of 0.85, meaning it is substantially less volatile than both QQQ (with a beta of 1.1) and the broad market. So somewhat lower returns go hand in hand with lower volatility, making JEPQ more of a pick that could be right for risk-averse investors.

JEPQ has an expense ratio of 0.35%, which is not very high for an actively managed ETF, and which seems very reasonable. With a market capitalization of $16 billion, JEPQ is an ETF with a very solid size.

JPMorgan Nasdaq Equity Premium Income ETF is not a must-own, but the below-average volatility, the nice yield, and the potential for a better performance in sideways markets could make JEPQ interesting for risk-averse or income investors looking for some tech exposure.