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INVESTMENT
INSIGHTS
January 2013
PORTFOLI O DI SCUSSI ON
Alpha + Beta
It just makes sense
The case for enhanced indexing
INVESTMENT
INSIGHTS
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The advantages of passive management, aka indexing, are well known and obvious.
Indexing is cheap, maintains the full risk diversification benefits derived from a plans
asset allocation decisions and holds few surprises beyond what the market delivers.
The disadvantages are also well known: One can do no better than the benchmark;
stock selections are determined by the index providers; and stock weights are deter-
mined by the market.
What if there was a way to potentially outperform the benchmark after fees and to
do so with a risk profile very similar to the benchmark? JPMorgan Research Enhanced
Index (REI) strategies are designed to offer just such a solution and have been
managed to meet that objective for over 25 years.
Actively managed to a passive risk profile
Besides being low cost and low relative risk (i.e., low tracking error), one of the
unsung benefits of passive management is that is does not override a clients asset
allocation decisionone of the greatest harms any manager can bring to a client
portfolio. Diversification, and the corresponding reduction in risk, is the bedrock
upon which asset allocation decisions are made. While active managers may be able
to outperform a given index, one always needs to assess the risk cost paid in terms
of the overall asset allocation.
Each of our enhanced index strategies is designed to outperform its respective bench-
mark and to do so with risk characteristics similar to that benchmark. Like an index
Piera Elisa Grassi
Global REI Client Portfolio Manager
pieraelisa.grassi@jpmorgan.com
Joshua Feuerman
Senior Equity Client Portfolio Manager
joshua.feuerman@jpmorgan.com
AUTHORS
IN BRIEF
JPMorgan Research Enhanced Index (REI) strategies are designed to consistently
outperform a given index after fees, while maintaining a risk prole closely
resembling that of the index.
REI strategies have been managed by J.P. Morgan Asset Management for over
25 years.
In-depth stock-specific insights from our global network of fundamental analysts,
leveraged by experienced and disciplined portfolio managers, create the
opportunity for enhanced returns.
Rigorous risk managementdesigned to maintain region, sector and style
neutrality and a high correlation with the benchmarkleaves investor portfolio
allocation strategies virtually undisturbed.
REI ofers an alternative to passive equity management (indexing) that, in our view,
just makes sense.
2 | Alpha + Beta It just makes sense: The case for enhanced indexing
PORTFOLIO DISCUSSION: Title Copy Here
INVESTMENT
INSIGHTS
Alpha + Beta It just makes sense
fund, our strategies are close to fully invested at all times, so
we do not engage in market timing. Our sector weights are
tightly controlled relative to the indexs sector weights and we
continually monitor our risk factor exposures relative to the
index. This rigorous risk management results in portfolios that
look like the index in terms of risk, yet are designed to offer
potential excess return. Additionally, our focus is on delivering
consistent outperformance which minimizes our active risk
(i.e., tracking error).
Exhibit 1 shows the correlation and performance of our REI
strategies relative to their respective indexes. All of our strate-
gies are highly correlated with their benchmarks, which results
in virtually the same diversification benefits one would receive
from an index fund. Additionally, our strategies have provided
consistent value added within a risk-controlled framework,
producing the information ratios (excess return per unit of
active risk) also shown below.
The long-term excess performance of our REI strategies is
attributable to the ability of our fundamental research analysts
to deliver in-depth, stock-specific investment insights and to our
portfolio managers who manage portfolios maximizing expo-
sure to our analysts insights while keeping a benchmark-like
skeleton (i.e., maintaining region, sector and style neutrality).
Our breadth of research coverage allows us to analyze almost
all of the names in most benchmarks, which is vital to being a
successful enhanced indexer. The stocks we find attractive we
overweight relative to their weight in the benchmark and we
underweight the unattractive stocks.
Correlation with
benchmark*
5-year
annualized net
excess return
Tracking
error
Information
ratio
Global REI 0.999 1.00 0.77 1.30
U.S. REI 0.998 1.09 0.78 1.40
EAFE REI 0.999 1.05 1.15 0.91
EXHIBIT 1: JPMORGAN REI STRATEGIES EXHIBIT HIGH CORRELATION TO
THEIR UNDERLYING INDEXES AND CONSISTENT EXCESS RETURNS
(5 YEARS ENDING 11/30/12)
Source: J.P. Morgan Investment Management.
* Benchmarks of reference: Global REIBenchmark changed from MSCI World
(NDR) to MSCI ACWII (NDR) on May 31, 2010; U.S. REIS&P 500; EAFE REI
MSCI EAFE.
Information advantage + rigorous active
risk budgeting
Our REI strategies leverage the expertise of our global
network of fundamental research analysts in New York,
London, Tokyo and Singapore. Our analysts insights are
captured via a disciplined valuation methodology, applied
consistently across regions and sectors. Risk control is an
integral part of our enhanced index investment methodology.
Our rigorous process allocates the active risk budget (or
tracking error) not to market timing or sector bets, but rather,
to stock selectionour information advantage. Enhanced
indexing equity portfolios hold a much larger number of
stocks than traditional active portfolios and active positions
are typically smaller. Our portfolios also benefit from near
symmetry in over/underweight positions; therefore, risk is
widely spread across the names in the portfolio. As seen in
Exhibit 1, we offer very high correlation with the benchmarks,
which helps us to maintain the diversification benefits our
clients seek.
The view from the efficient frontier
Combining these risk diversification benefits with our excess
returns results in the efficient frontiers depicted on the next
page. Exhibits 2A to 2C compare efficient frontiers using solely
index returns for both stocks and bonds (shown in orange) and
the corresponding efficient frontiers when our enhanced index
strategies are substituted for their respective index funds
(shown in blue). In each instance, the inclusion of our
enhanced index strategies raises the aggregate return with
only a small corresponding increase in the aggregate risk.
We believe this increase in risk is a small price to pay for the
increase in returns.
In each efficient frontier, we have marked the standard 60%
stocks/40% bonds allocation point for both the passive stock
allocation and our enhanced indexing strategy. Regardless of
the strategy, there is a significant improvement in return with
a minimal corresponding increase in risk.
J.P. Morgan Asset Management | 3
5.4
5.6
5.8
6.0
6.2
6.4
6.6
0.0 5.0 10.0 15.0 20.0
R
e
t
u
r
n

(
%
)
Standard deviation (%)
U.S. REI
S&P 500
60% S&P 500 Index/
40% U.S. Bonds
60% U.S. REI/
40% U.S. Bonds
100% U.S. REI
100% S&P 500
EXHIBIT 2B: U.S. REI VS. PASSIVE EQUITY INDEX
5.4
5.6
5.8
6.0
6.2
6.4
6.6
6.8
7.0
0.0 5.0 10.0 15.0 20.0
R
e
t
u
r
n

(
%
)
Standard deviation (%)
100% Global REI Global REI
MSCI ACWI
60% Global REI/
40% Global Bonds
100% MSCI ACWI
60% ACWI Index/
40% Global Bonds
5.0
5.5
6.0
6.5
7.0
7.5
7.0 12.0 17.0 22.0
EAFE REI
MSCI EAFE
60% EAFE REI/
40% Global Bonds ex-U.S.
R
e
t
u
r
n

(
%
)
Standard deviation (%)
100% EAFE REI
100% MSCI EAFE
60% EAFE Index/
40% Global Bonds ex-U.S.
EXHIBIT 2C: EAFE REI VS. PASSIVE EQUITY INDEX
Raising the efficient frontier with equity Research Enhanced
Investing (REI) versus passive equity indexes
EXHIBIT 2A: GLOBAL REI VS. PASSIVE EQUITY INDEX
Sources: J.P. Morgan Asset Management, MSCI, S&P and Barclays.
Gross of fees. Monthly Return periods for: Global REI vs. Passive = 10/01/2003
to 11/30/2012; U.S. REI vs. Passive = 06/30/2002 to 11/30/2012; and EAFE REI
vs. Passive = 06/30/2002 to 11/30/2012.
Experience suggestsit just makes sense
The American football player, Neon Deion Sanders once said,
If it dont make dollars, it dont make sense. This truism
holds for most profit seeking ventures including enhanced
indexing. If an active manager cannot enhance the indexs
return over time, above and beyond management fees, then it
does not make sense to hire the manager. Sometimes it is
easier to think of value added in terms of dollars added rather
than in excess return space. Exhibit 3 (on the next page)
allows you to compute the potential value added you may
receive from shifting an allocation from a passive mandate to
an enhanced index mandate with J.P. Morgan Asset
Management. The exhibit shows the excess returns net of fees
for our U.S., Global and EAFE REI strategies, relative to their
respective indexes over the past 1-, 3- and 5-year periods, for
allocations ranging from $50 million to $500 million.
Regardless of the size of your allocation, there is an opportu-
nity to garner extra cash and, to paraphrase Deion Sanders,
that just makes sense.
Conclusions
Many clients and prospects are interested in boosting the
return component of their passive allocation without signifi-
cantly boosting the risk component. JPMorgan Research
Enhanced Index strategies have been helping clients achieve
this goal for over 25 years.
jpmorganinstitutional.com
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PORTFOLIO DISCUSSION: Title Copy Here
INVESTMENT
INSIGHTS
Title (Regular 16/19)
PORTFOLIO DISCUSSION: Title Copy Here
INVESTMENT
INSIGHTS
Alpha + Beta It just makes sense
FOR INSTITUTIONAL AND PROFESSIONAL CLIENTS ONLY. NOT FOR RETAIL USE OR PUBLIC DISTRIBUTION.
This material is intended to report solely on the investment strategies and opportunities identied by J.P. Morgan Asset Management. Additional information is available upon
request. Information herein is believed to be reliable but J.P. Morgan Asset Management does not warrant its completeness or accuracy. Opinions and estimates constitute our
judgment and are subject to change without notice. The material is not intended as an ofer or solicitation for the purchase or sale of any nancial instrument. J.P. Morgan Asset
Management and/or its afliates and employees may hold a position or act as market maker in the nancial instruments of any issuer discussed herein or act as underwriter,
placement agent, advisor or lender to such issuer. The investments and strategies discussed herein may not be suitable for all investors; if you have any doubts you should
consult your J.P. Morgan Asset Management Client Adviser, Broker or Portfolio Manager. The material is not intended to provide, and should not be relied on for, accounting,
legal or tax advice, or investment recommendations. You should consult your tax or legal adviser about the issues discussed herein. The investments discussed may uctuate in
price or value. Investors may get back less than they invested. Changes in rates of exchange may have an adverse efect on the value, price or income of investments.
Diversication does not guarantee investment returns and does not eliminate the risk of loss.
Global Equity Risks: The strategy is subject to management risk and may not achieve its objective if the advisers expectations regarding particular securities or markets are not
met. The price of equity securities may rise or fall because of changes in the broad market or changes in a companys nancial condition, sometimes rapidly or unpredictably.
These price movements may result from factors afecting individual companies, sectors or industries selected for a portfolio or the securities market as a whole, such as
changes in economic or political conditions. When the value of a portfolios securities goes down, your investment will decreases in value. Investments in foreign issuers are
subject to additional risks, including political and economic risks, greater volatility, currency uctuations, higher transaction costs, delayed settlement, possible foreign controls
on investment, and less stringent investor protection and disclosure standards of foreign markets. These risks are magnied in countries in emerging markets. The manager
may use derivatives in connection with its investment strategies. Derivatives may be riskier than other types of investments because they may be more sensitive to changes in
economic or market conditions than other types of investments and could result in losses that signicantly exceed the strategys original investments. Certain derivatives may
give rise to a form of leverage. As a result, the strategy may be more volatile than if the strategy had not been leveraged because the leverage tends to exaggerate the efect
of any increase or decrease in the value of the portfolios securities. Derivatives are also subject to the risk that changes in the value of a derivative may not correlate perfectly
with the underlying asset, rate or index. The use of derivatives for hedging or risk management purposes or to increase income or gain may not be successful, resulting in
losses to a portfolio, and the cost of such strategies may reduce a portfolios returns. Derivatives would also expose a portfolio to the credit risk of the derivative counterparty.
International investing involves a greater degree of risk and increased volatility. Changes in currency exchange rates and diferences in accounting and taxation policies outside
the U.S. can raise or lower returns. Also, some overseas markets may not be as politically and economically stable as the United States and other nations. The Funds investments
in emerging markets could lead to more volatility in the value of the Fund. As mentioned above, the normal risks of investing in foreign countries are heightened when investing
in emerging markets. In addition, the small size of securities markets and the low trading volume may lead to a lack of liquidity, which leads to increased volatility. Also, emerging
markets may not provide adequate legal protection for private or foreign investment or private property.
The MSCI ACWI Index is a free oat-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging
markets. The MSCI EAFE (Europe, Australasia, Far East) Index is a free oat-adjusted market capitalization weighted index that is designed to measure the equity market
performance of developed markets, excluding the U.S. and Canada. The S&P 500 Index is an unmanaged index generally representative of the performance of large companies
in the U.S. stock.
J.P. Morgan Institutional Investments Inc., placement agent, member FINRA/SIPC.
J.P. Morgan Asset Management is the marketing name for the asset management businesses of JPMorgan Chase & Co. Those businesses include, but are not limited to,
J.P. Morgan Investment Management Inc., Security Capital Research & Management Incorporated and J.P. Morgan Alternative Asset Management, Inc.
270 Park Avenue, New York, NY 10017
2013 JPMorgan Chase & Co. | INSIGHTS_The case for enhanced indexing
Allocation to REI Product ($)
50,000,000 100,000,000 200,000,000 500,000,000
U.S. REI EXCESS RETURN NET OF FEES VS. S&P 500 (%)
1 Year 0.77 387,000 773,000 1,550,000 3,870,000
3 Year 0.32 160,000 321,000 642,000 1,600,000
5 Year 1.09 544,000 1,090,000 2,170,000 5,440,000
5-Year cumulative value added, net of fees 2,905,000 5,810,000 11,620,000 29,050,000
GLOBAL REI EXCESS RETURN NET OF FEES VS. MSCI ACWI (%)
1 Year 1.12 560,000 1,120,000 2,240,000 5,600,000
3 Year 0.76 380,000 760,000 1,520,000 3,800,000
5 Year 1.00 500,000 1,000,000 2,000,000 5,000,000
5-Year cumulative value added, net of fees 2,205,000 4,410,000 8,820,000 22,050,000
EAFE REI EXCESS RETURN NET OF FEES VS. MSCI EAFE (%)
1 Year 0.75 375,000 750,000 1,500,000 3,750,000
3 Year 0.91 455,000 910,000 1,820,000 4,550,000
5 Year 1.05 525,000 1,050,000 2,100,000 5,250,000
5-Year cumulative value added, net of fees 2,855,000 5,710,000 11,420,000 28,550,000
EXHIBIT 3: ANNUAL EXCESS VALUE ADDED FOR JPMORGAN REI STRATEGIES* (AS OF NOVEMBER 30, 2012)
Source: J.P. Morgan Investment Management.
* Annual excess value added, net of fees ($)