FOR INSTITUTIONAL USE ONLY NOT FOR PUBLIC DISTRIBUTION CONNECTING INVESTORS TO GLOBAL MARKETS An Advisor s Guide to Trading ETFs Accurate knowledge of the liquidity and trading mechanics of ETFs helps investors execute their ideas
UNDERSTANDING THE DYNAMIC LIQUIDITY CHARACTERISTICS OF ETFs In some ways, ETFs are like mutual funds securities bundled together to offer diversified portfolios. In other ways, they are like stocks traded all day long, bought and sold using common order types such as market and limit orders, and quoted with bids and offers. When it comes to liquidity, however, there are important differences between a stock and an ETF. An ETF s holdings determine its true liquidity. For an individual stock, liquidity is determined by its trading volume in the secondary market. For an ETF, liquidity is based on the liquidity of all its underlying holdings, not just one stock. Small or thinly traded ETFs, therefore, can actually be highly liquid instruments as our example below demonstrates. COMPARING THE LIQUIDITY OF A STOCK VS. AN ETF STOCK ETF DIS AVERAGE DAILY VOLUME (20-DAY AVERAGE) $779 million $2.7 million MARKET CAP $173 billion $270 million # HOLDINGS 1 527 MARKET CAP HOLDINGS $173 billion $22 trillion SUM OF AVERAGE DAILY VOLUME OF HOLDINGS (20-DAY AVERAGE) $779 million $116 billion Data as of July 31, 2017. The average daily volume of Disney (DIS) is $779 million. The average daily volume of the JPMorgan Diversified Return U.S. Equity ETF (JPUS) is $2.7 million. At first glance, this appears low compared to the Disney stock. But understanding that JPUS is made up of 500+ stocks, in addition to Disney, helps frame the true liquidity of the ETF in this case, $116 billion. ETF liquidity runs deep. Beyond liquidity in the secondary and the primary markets, market makers often keep inventories of ETF shares accessible but hidden from public view. 2 CONNECTING INVESTORS TO GLOBAL MARKETS: AN ADVISOR S GUIDE TO TRADING ETFs
A deeper level of liquidity can be accessed. While individual stocks usually have a fixed supply of shares, ETFs are open-ended vehicles. Shares can be created or redeemed as required to meet the supply and demand needs of investors. This happens in the primary market through a unique creation and redemption process. Here s how it works: How ETFs are created and redeemed When investor demand outweighs supply, market makers can work with an authorized participant (AP) to create more shares. The market maker accumulates the underlying securities of the fund in the exact quantity set forth by the ETF issuer, and then, through the AP, transfers the securities in-kind to the ETF issuer in return for new ETF shares. When supply outweighs demand, the redemption process happens in reverse. ETF shares are sent to the issuer in exchange for the securities, which are then sold into the market. This process enables ETFs to trade with greater liquidity and at prices that closely approximate the NAV. SECONDARY MARKET PRIMARY MARKET BUYERS SECURITIES MARKET MAKER (IN THE EXCHANGE) CREATION REDEMPTION ETF ISSUER SELLERS ETF SHARES J.P. MORGAN ETFs 3
UNDERSTANDING TRADING BEST PRACTICES In addition to having a sound understanding of ETF liquidity, it s important to keep in mind several critical trading considerations and best practices when buying or selling ETFs. Markets can be more volatile near the open and close. Because of this excess volatility, trading after the first 20 minutes and before the last 20 minutes of the day may be advantageous. There is also less liquidity in opening and closing auctions because market makers seeking arbitrage opportunities (often to keep ETF prices in line with their indices) do not participate in these auctions as fully as they do intraday. Market Open Market Close OPTIMAL TRADING TIME Limit orders or not-held orders are generally preferable. The type of order you place comes with distinct benefits and potential drawbacks. Investors will want to choose the one that best meets their trading objectives. STANDARD ORDER TYPES MARKET ORDER LIMIT ORDER NOT-HELD ORDER A request to trade immediately at the best available price PRO Ensures immediate execution CON Seeks liquidity at any price Allows you to set the maximum and minimum price for buying or selling shares PRO Guaranteed to achieve desired price or better CON Not guaranteed to execute A request that gives trading authority to a broker or trading desk PRO Access to trading experts CON Communication with the trading desk is often necessary, which could delay execution 4 CONNECTING INVESTORS TO GLOBAL MARKETS: AN ADVISOR S GUIDE TO TRADING ETFs
An ETF issuer s Capital Markets Desk can help. Before placing trades, you may find it helpful to contact the ETF issuer directly. At the J.P. Morgan Capital Markets Desk, we maintain a keen eye on the market at all times and have proprietary trading models that can assist with understanding the costs involved in execution. Our strong relationships with market makers and APs, as well as our major presence in the marketplace, help deliver the trading expertise many investors seek. Whether you are looking to make a larger trade, are new to trading ETFs, or desire the full support of J.P. Morgan ETF specialists, we re committed to helping you achieve a better trading experience. TAKE ADVANTAGE OF THE EXPERTISE OF THE J.P. MORGAN CAPITAL MARKETS DESK PRODUCT EXPERTISE A sound knowledge of the ETF structure is key to your success. We help you understand: Secondary market trading process ETF liquidity (through research and whitepapers) Costs, including spreads, creation/redemption fees and premium/discounts MARKET EXPERTISE A keen eye on the market informs your trading. Our goal is to drive the best pricing with: Up-to-the-minute intelligence on market trends Vigilant monitoring of spreads and trading for anomalies Independent assessment of a basket s intraday value EXECUTION EXPERTISE An experienced partner with deep ties is invaluable. We support your trading by: Communicating regularly with market makers and authorized participants Connecting you with liquidity providers Providing limit order guidance If you have a question about executing your next trade, please contact the J.P. Morgan Capital Markets Desk at 844-CAP-MKTS (844-227-6587). J.P. MORGAN ETFs 5
FROM UNDERSTANDING TO PRACTICE: EXAMINING REAL TRADES In these actual trades of JPMorgan Diversified Return International Equity ETF (JPIN), you can see the unique liquidity properties of ETFs as discussed in this guide particularly their ability to absorb large trades regardless of daily trading volume. MOVING $31 MILLION WITHOUT MOVING THE MARKET. On May 23, 2016, a large firm swapped out of a market cap-weighted international ETF into JPIN. While the $31 million trade represented 10% of the ETF s AUM, and 10 times its average daily trading volume, JPIN was able to absorb the trade with no noticeable impact on the market. 629,900 SHARES TRADED 10x AVERAGE DAILY TRADING VOLUME 10% OF THE ETF s AUM VOLUME EXECUTION: Trade occurred on the offer side of a 3 cent-wide market. POST-TRADE: Market price: Remains in line, little to no impact. BID/ASK SPREAD Regardless of the volume, the bid/ask spread remains virtually unchanged and the ETF remains liquid. ONE MILLION SHARES. MULTIPLE BLOCKS. ALL IN ONE DAY. JPIN absorbed multiple large trades totaling more than 1 million shares on May 11, 2016, across multiple platforms. While the trades represented 20% of the ETF s AUM, and 22 times its average daily trading volume, JPIN absorbed the trades with no noticeable impact on the market. EXECUTION: First block at the offer price; Second block at the offer price; Third block $0.01 better than offer price. 1,030,419 SHARES TRADED 22x AVERAGE DAILY TRADING VOLUME 20% OF THE ETF s AUM 2 1 3 VOLUME POST-TRADE: Market price: Remains in line, little to no impact. 1 st block 12:30 PM 2nd block 1:30 PM 3 rd block 2:30 PM BID/ASK SPREAD Regardless of the volume, the bid/ask spread remains virtually unchanged and the ETF remains liquid. 6 CONNECTING INVESTORS TO GLOBAL MARKETS: AN ADVISOR S GUIDE TO TRADING ETFs
GLOSSARY OF TERMS ARBITRAGE The simultaneous purchase and sale of an ETF and its underlying securities in order to profit from a difference in the price. Arbitrage results from market inefficiencies and provides a mechanism for keeping prices from deviating substantially from the NAV for long periods of time. AUTHORIZED PARTICIPANT (AP) A self-clearing broker-dealer that contracts with an ETF issuer to facilitate the creation and redemption process. APs are large financial institutions with a high degree of buying power. There are several APs that can transact in J.P. Morgan ETFs. AVERAGE DAILY VOLUME / TRADING VOLUME The total number of shares or contracts traded on a security, which are tracked and reported daily by major stock exchanges around the world. While trading volume is an indicator of a stock s liquidity, it is not a good proxy for ETF liquidity, which is based on all the ETF s underlying holdings. CREATION UNITS Blocks of ETF shares that can be bought or sold from the ETF issuer by an authorized participant at NAV, ranging from 50,000 to 100,000 fund shares. Creation and redemption activity must occur in these lot sizes. ETF CREATION The process of creating more ETF shares to satisfy the demands of the marketplace or to keep the ETF in line with its NAV. Authorized participants deliver securities to the ETF issuer and, in exchange, receive ETF shares that they can sell on the secondary market. ETF ISSUER The company or financial institution that creates and administers an ETF. Also known as an ETF sponsor or ETF provider. ETF REDEMPTION Reversing the creation process to remove ETF shares from the marketplace. An authorized participant presents ETF shares to the ETF issuer and receives securities in exchange. This ability of authorized participants to create and redeem ETF shares helps the ETF trade at a price that approximates its underlying value. LIQUIDITY The ability to buy or sell securities quickly and easily without substantially affecting the asset s price. The liquidity of an ETF is best determined by the liquidity of all its underlying holdings. LIQUIDITY PROVIDER There are two primary types of liquidity providers that ETF investors should be aware of: 1) Lead Market Maker (LMM): Each J.P. Morgan fund has an LMM that is required to stand ready to buy and sell a particular ETF on a regular and continuous basis at a publicly quoted price. LMMs make markets electronically on exchange. Other market makers that are not LMMs can also provide liquidity on exchange. 2) ETF Trading Desk: There are many broker-dealers that have trading desks designed specifically to trade ETFs on an investor s behalf. They are client-facing and can help investors minimize trading costs through various trading strategies. NET ASSET VALUE (NAV) The value per share of a mutual fund or ETF on a specific date or time. The per-share dollar amount of the fund is based on the total value of all the securities and cash in its portfolio, less the fund s liabilities, divided by the number of fund shares outstanding. PRIMARY MARKET ETFs are traded on the secondary market (the stock exchange) but are created and redeemed on the primary market. Only an authorized participant can transact directly with the ETF issuer in the primary market to change the supply of ETF shares available, either by creating or redeeming ETFs. SECONDARY MARKET A market where investors buy and sell securities on an exchange, such as the New York Stock Exchange or the NASDAQ. SPREAD The amount by which the ask price exceeds the bid price for a security in the market. The bid/ask spread is essentially the difference between the highest price a buyer is willing to pay for an asset and the lowest price a seller is willing to accept. J.P. MORGAN ETFs 7
FOR INSTITUTIONAL USE ONLY NOT FOR PUBLIC DISTRIBUTION TAKE ADVANTAGE OF THE LOWER EXPENSES, GREATER TRANSPARENCY AND IMPROVED TAX EFFICIENCIES OF ETFs. TO LEARN MORE ABOUT THE J.P. MORGAN APPROACH: Call: 1-844-4JPM-ETF 1-844-CAP-MKTS Visit: jpmorganetfs.com This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be a recommendation for any specific investment product, strategy, plan feature or other purpose. Any examples used are generic, hypothetical and for illustration purposes only. Prior to making any investment or financial decisions, an investor should seek individualized advice from personal financial, legal, tax and other professional advisors that take into account all of the particular facts and circumstances of an investor s own situation. Investors should carefully consider the investment objectives and risks as well as charges and expenses of the ETF before investing. The summary and full prospectus contain this and other information about the ETF. Read the prospectus carefully before investing. Call 1-844-4JPM-ETF or visit www.jpmorganetfs.com to obtain a prospectus. Investing involves risk, including possible loss of principal. Shares are bought and sold at market price, and are not individually redeemed from a fund. Brokerage commissions will reduce returns. International investing involves a greater degree of risk and increased volatility. Changes in currency exchange rates and differences in accounting and taxation policies outside the United States can raise or lower returns. Also, some overseas markets may not be as politically and economically stable as the United States and other nations. Narrowly focused investments typically exhibit higher volatility. Emerging markets involve heightened risks related to the same factors as well as increased volatility and decreased trading volume. A fund uses derivatives, which may be riskier than other types of investments and may increase the volatility of a fund. A fund may not track the return of its underlying index for a number of reasons, such as operating expenses incurred by a fund that are not applicable to an index, and the time difference between calculating the value of an index and the net asset value of a fund. There is no guarantee the funds will meet their investment objective. Diversification may not protect against market loss. This information is not meant to be tax or investment advice. The information and examples provided are not intended to be a complete analysis of every material fact respecting tax strategy and are presented for educational and illustrative purposes only. Tax consequences will vary by individual taxpayer, and individuals must carefully evaluate their tax position before engaging in any tax strategy. All regulated investment companies are obliged to distribute portfolio gains to shareholders at year s end. Trading shares of the Funds will also generate tax consequences and transaction expenses. All rights in the FTSE Indexes (the Indexes ) vest in FTSE International Limited ( FTSE ). FTSE is a trademark of the London Stock Exchange Group companies and is used by FTSE under license. The Funds have been developed solely by J.P. Morgan. The Indexes are calculated by FTSE or its agent. FTSE and its licensors are not connected to and do not sponsor, advise, recommend, endorse or promote the Funds and do not accept any liability whatsoever to any person arising out of (a) the use of, reliance on or any error in the Index or (b) investment in or operation of the Funds. FTSE makes no claim, prediction, warranty or representation either as to the results to be obtained from the Funds or the suitability of the Indexes for the purpose to which it is being put by J.P. Morgan. J.P. Morgan ETFs are distributed by JPMorgan Distribution Services, Inc., (1111 Polaris Pkwy, Columbus, OH 43240) which is an affiliate of JPMorgan Chase & Co. Affiliates of JPMorgan Chase & Co. receive fees for providing various services to the funds. JPMorgan Distribution Services, Inc. is a member of FINRA/SIPC. J.P. Morgan Asset Management is the brand name for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. August 2017 11/9/17 ETF-CAPMKTS