Notes from the Trading Desk – Franklin Templeton

Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what their professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.

The Digest

The STOXX Europe Index 600 closed the week slightly lower, despite good news on the European Union (EU) Recovery Fund. The ongoing geopolitical tensions with US/China continued to make headlines, alongside news that increasing coronavirus cases are no longer limited to the southern US states and continued evidence of job losses globally. US equities overall outperformed their European counterparts last week, but the S&P 500 Index still closed lower. The Asia Pacific (APAC) region fared even better, with equities generally closing higher there. In addition to the aforementioned bigger-picture themes, earnings season continued in both the United States and Europe, driving some outsized individual stock moves.

COVID-19 Update: Second-Wave Fears

The COVID-19 threat remains as the number of cases and deaths continues to climb in the United States. Last Friday saw the second-highest daily count of cases (77,848) and the number of deaths was higher than 1,000 for the fourth day running. This is no longer something we are only seeing in the United States, as new cases in Germany increased by the most in a month last Friday. In Spain, 281 active outbreaks have been identified and the Catalan government has re-introduced confinement rules in a dozen municipalities, including Barcelona. With this, France once again closed its border to Spain and the United Kingdom has reintroduced 14-day quarantine rules for those travelling back from Spain.

Unsurprisingly, the travel and leisure space underperformed in Europe last week and is the worst-performing sector at the start of this week. The impact of lockdowns on job losses was evident last week, with concerning figures from both the eurozone and the United States.

US data showed that jobless claims rose for the first time since late March. The continued rise in cases and the disruption accompanying lockdowns suggests it will be some time before we see improvement anywhere. US airline earnings released last week suggest that the recovery stalled in July as COVID-19 cases rose and individual states imposed quarantine measures.

EU Recovery Fund: Agreement Reached

After a marathon five-day EU summit, in the early hours of last Tuesday an agreement was made on the EU Recovery Fund in what French President Emmanuel Macron called an “historic day for Europe”.

The final agreement does not deviate drastically from the original proposal from the European Commission and offers a crucial demonstration of solidarity from member states. Leaders also signed off on the EU’s next seven-year budget, which will be worth €1.074 trillion.

A few changes were made in order to appease those member states who had been reluctant to agree to the measures as they stood:

  • The €750 billion fund will now be made up of €390 billion in grants (as opposed to the initial proposal of €500 billion) and €360 billion of loans (vs. €250 billion proposed) in order to appease the so-called “frugal four” countries: Denmark, the Netherlands, Austria and Sweden.
  • Member states also agreed to boost the budget rebates that the more fiscally conservative countries will receive on their contributions. Denmark, the Netherlands, Austria and Sweden will get more than €50 billion in rebates over seven years. Recently, countries (led by France) had pushed for the abolition of rebates after Brexit. Macron said that retaining the rebates was the price of securing a deal. German Chancellor Angela Merkel said the decision to raise them was “painful, but necessary”.
  • A mechanism has also been agreed upon by which any country can raise concerns if they believe another is not honouring the promises made to reform their own economy. This would lead to a temporary halt of transfers of EU recovery money by Brussels, with a three-month time limit to address any complaint.

The recovery fund will be distributed according to relative country sizes, as well as the severity of the COVID-19 impact experienced. With this, Italy stands to be the biggest beneficiary from the plan and expects to receive about €82 billion in grants and about €127 billion in loans, according to initial estimates.

Over the weekend, the Italian Treasury said that it does not see any “critical issue” for the country’s budget as its cash availability is developing in line with forecasts, and expects to have ~€80 billion in cash by the end of July.

European equities moved higher last week on the back of the announcement, with the European banks rallying. The magnitude of the rally was somewhat limited, however, given that an agreement at least by the end of the month was largely priced in ahead of the summit.

Gains in European equities did not manage to hold, pared later in the week on US/China and COVID-19 headlines. Bank stocks also faded to close the week lower after reports that the European Central Bank (ECB) is considering asking banks to suspend dividends at least until the start of 2021. There had been some hopes that dividends would be able to resume sooner. Following the announcement, the euro closed the week up 2% vs the US dollar.

Week in Review

 

Europe

European equities were well supported at the start of the week on the back of the EU Recovery Fund news. While the agreement was expected, so much of the news was already priced in; nonetheless, equity markets moved higher on the  confirmation and by midday on Tuesday the STOXX Europe Index 600 was up 2%. However, the gains couldn’t hold and the market finished lower by the end of the week.

Germay’s  DAX Stock Market Index outperformed last week whilst the FTSE 100 Index was weak, possibly a result of a lack of progress in Brexit negotiations.

The purchasing managers indices (PMIs) were the most notable data points last week, with Germany’s readings better than expected. However, this growth comes on the back of the worst contraction since World War II. French PMIs also surprised to the upside, and the UK figure returned to expansion. UK retail sales in June bounced back to higher than levels seen a year ago.

The  Citi Economic Surprise index for Europe moved back to positive levels and the highest level since 2017. The eurozone PMI report also showed that job losses in the manufacturing space remained severe, at increased levels vs. 2009. The backlog continued to fall despite a pickup in orders, suggesting we won’t see an increase in employment any time soon.

In terms of sectors, automobiles outperformed last week, helped by a strong earnings report from Daimler. Meanwhile, travel and leisure, the year-to-date underperformer, lagged again  as sentiment shifted on travel in Europe amid the rise in the number of infections in Germany, France, Italy, Spain and the United Kingdom.

United States

US markets closed last week lower across all major indices as COVID-19 cases continued to rise and tensions with China ramped up. The S&P 500 Index was fairly resilient and only suffered a small setback whilst the US Nasdaq Index underperformed, closing the week down 1.5%.

Looking at sectors, the technology names were the underperformers for a second week as investors continued to take profits, which possibly explains the underperformance in the US Nasdaq.

We’ve talked about it a number of times before, but as US equities continue to outperform Europe (for now), it’s worth another reminder that the  “big five” tech names of Facebook, Amazon, Apple, Microsoft and Google dominate the S&P 500 Index, accounting for around 24% of the market capitalization. These five stocks have returned 35% year-to-date, whilst the other 495 stocks have declined by 5%. This plays into the profit taking we have seen in the technology space in the past two weeks.

This Thursday will be a big day for Apple, Amazon and Alphabet (Google) as they announce their earnings.

We already mentioned COVID-19 cases in the United States and the detrimental impact on the job market. It is worth noting, however, that for a market that seems to be craving more stimulus, lackluster macro data can also have the “bad news is good news” effect—something to keep in mind in the context of upcoming data releases.

On Thursday, second quarter 2020 gross domestic product (GDP) will be released following the Federal Open Market Committee (FOMC) monetary policy meeting and press conference on Wednesday. There is no change in interest rates expected at the meeting, but further policy support is  thought to be under consideration in the wake of continued COVID-19 economic impacts.

Focusing on the geopolitical backdrop, tensions flared towards the end of last week after the US State Department ordered the Houston Chinese consulate to “protect American  intellectual property and Americans’ private information,” citing suspicions of espionage close to its consulate in the southwestern city of Chengu.1 China quickly retaliated and ordered the United States to close this consulate.

We also heard some combative language from US Secretary of State Mike Pompeo about China. Pompeo had been in the United Kingdom and praised the UK Government’s tougher stance on China as the transatlantic allies signalled they are planning more coordinated action against Beijing.

There was some attempt to de-escalate tensions, however, as US President Donald Trump ruled out issuing further sanctions on other top Chinese officials for now.

APAC

Last week  was mixed for equities in the APAC region, with Hong Kong’s equity market the underperformer after recording its highest number of confirmed COVID-19 cases. We also saw a number of profit warnings in the Hong Kong consumer space, which weighed on sentiment.

South Korea’s market was the outperformer, gaining ground last week.

China’s clashes with the United States weighed on markets globally (as we’ve already touched on) causing markets to pare gains made earlier in the in the week. UK Foreign Secretary Dominic Raab spoke at a press conference following discussions with Pompeo, where Raab suggested further action against China may follow at the forthcoming G7 meeting, which has been delayed until “at least September 2020” given the pandemic.

Also last week, India moved to restrict Chinese companies from bidding for government contracts after a fatal brawl which occurred at the disputed Himalayan border, citing concerns over national security. The clash also escalated concerns over a growing trade deficit.

The Week Ahead

The focus this week, even in Europe, will be on the US Federal Reserve’s (Fed’s) interest-rate announcement Wednesday and the press conference with Chair Jerome Powell that follows. New policy announcements appear unlikely, with any changes more likely to come in September. There is no imminent requirement to change current policy at this time, but many observers expect Powell to lay the foundations for the next steps.

Recent communication from the Federal Reserve has suggested that further policy support in the coming months is under consideration.

On the data front, eurozone and US GDP will be in focus. Aside from that, corporate earnings releases will likely dominate market action. Thursday is a big day as Apple, Amazon and Alphabet (Google) announce their earnings.

Monday 27 July

  • Data: Germany: (Jul) IFO Institute for Economic Research; eurozone: (June) M3 money supply; Japan: (May) all industry activity; US: (July) durable goods orders

Tuesday 28 July 

  • Data: US: (July) consumer confidence, (July) Richmond Fed Manufacturing

Wednesday 29 July   

  • Economic/Political: FOMC interest-rate announcement and press conference
  • Data: France: (July) consumer confidence; UK: (June) mortgage applications, M4 money supply; US: Department of Energy (DOE) data, (June) pending home sales; Japan: (June) retail sales

Thursday 30 July

  • Economic/Political: ECB publishes economic bulletin
  • Data: Germany: Second quarter (Q2) GDP, (July) unemployment, (July) consumer prices index (CPI); eurozone: (June) unemployment, (Jul) economic survey; Italy: (June) unemployment; US: (Q2, Advance) GDP, initial jobless claims;

Friday 31 July

  • Economic/Political: Germany’s sovereign debt to be rated by Moody’s
  • Data: eurozone (Q2) GDP, CPI; France: (Q2) GDP, (July) CPI; Italy: (Q2) GDP, (July) CPI, (June) retail sales; US (June) personal income and spending; Japan: (June) industrial production, (June) jobless rate; China: (July) NBS manufacturing and non-manufacturing PMI


Franklin Templeton Key risks & Disclaimers:

What Are the Risks?

All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in developing markets involve heightened risks related to the same factors, in addition to those associated with their relatively small size and lesser liquidity. Past performance is not an indicator or guarantee of future performance.

This article reflects the analysis and opinions of Franklin Templeton’s European Trading Desk as of 20th July 2020, and may vary from the analysis and opinions of other investment teams, platforms, portfolio managers or strategies at Franklin Templeton. Because market and economic conditions are often subject to rapid change, the analysis and opinions provided may change without notice. An assessment of a particular country, market, region, security, investment or strategy is not intended as an investment recommendation, nor does it constitute investment advice. Statements of fact are from sources considered reliable, but no representation or warranty is made as to their completeness or accuracy. This article does not provide a complete analysis of every material fact regarding any country, region, market, industry or security. Nothing in this document may be relied upon as investment advice or an investment recommendation. The companies named herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. Data from third-party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user. Products, services and information may not be available in all jurisdictions and are offered by FT affiliates and/or their distributors as local laws and regulations permit. Please consult your own professional adviser for further information on availability of products and services in your jurisdiction. 

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MeDirect Disclaimers:

This information has been accurately reproduced, as received from Franklin Templeton Investment Management Limited (FTIML). No information has been omitted which would render the reproduced information inaccurate or misleading. This information is being distributed by MeDirect Bank (Malta) plc to its customers. The information contained in this document is for general information purposes only and is not intended to provide legal or other professional advice nor does it commit MeDirect Bank (Malta) plc to any obligation whatsoever. The information available in this document is not intended to be a suggestion, recommendation or solicitation to buy, hold or sell, any securities and is not guaranteed as to accuracy or completeness.

The financial instruments discussed in the document may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in this product you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

Exploring Mutual Funds – Matching Your Portfolio to Your Financial Goals

Ray Calleja

An article written by Ray Calleja: Head – Private Clients, MeDirect


Following on from the previous article, where we discussed the importance of diversification within your portfolio, in this piece we will discuss the best way to choose and combine the funds that will make up your investment portfolio.

However, before taking any investing decisions there are some basic but fundamental steps that you need to take. You need to look at your financial situation and figure out your financial goals and also your risk tolerance – either on your own or with the help of an Investment Advisor. If you follow through with an intelligent plan, you should be able to gain financial security over the years and enjoy the benefits that this brings to you. Your financial goals, can be short-term, medium-term or long-term but it is imperative that you stay the course and stick to your plans irrespective of market swings.

All investments involve a degree of risk. Before you invest. it is important that you understand that you could lose some or all your money. Investment securities such as equities, bonds or mutual funds come with this warning. Unlike bank deposits, the money you invest in these securities are not covered by any state-run compensation guarantees (such as the Depositor Compensation Scheme).  However, the reward for taking on risk is the potential for a greater investment return. If your financial goal has a long-time horizon, you are likely to make more money by investing in assets that carry greater risk, like equities or bonds, rather than just sticking to bank deposits, which obviously carry less risk. Investing in cash investments (such as bank deposits) only, especially in the current scenario where interest rates are at or close to zero, will only cover you to reach your short-term financial goals. Even in such a situation there is the risk of inflation, since inflation may erode your returns over time.

As mentioned in the previous article, by diversifying and including asset categories with investment returns that move up and down under different market conditions within a portfolio, an investor can help protect against sizeable losses. By investing in more than one asset category, you will be reducing the risk that you will lose money and your overall investment returns will have a smoother ride. If the return on your investment in one asset category falls, most of the time you will be in a position to counteract your losses in that particular category with better investment returns in the other asset category.

Asset allocation is also very important because it has major influence on whether you will be able to meet your financial goals. If you don’t include enough risk in your portfolio, your investments may not earn a large enough return to meet your goal. For example, if you are saving for your retirement, which is, obviously, a long-term goal you will likely need to include some equities or mutual funds which invest in equities, in your portfolio.

For shorter-term financial goals, you will want to tilt your portfolio more towards bonds, which can provide income while keeping your principal sum relatively safe. Bonds lack the powerful long-term return potential of equities, but they are preferred by investors for whom income is also a priority. Most of the time, bonds are less risky than stocks. While their prices fluctuate in the market, especially those of lower quality in the higher-risk market segments (such as high yield bonds) the vast majority of bonds tend to pay back the full amount of principal at maturity, and there is much less risk of loss than there is with equities.

To make it easier for investors to hold well-rounded portfolios, mutual fund management companies have established core funds that can be used as the foundation of your investment strategy.

Core Funds

Core funds are designed to constitute the essential elements of your overall investment portfolio. Typically, these funds include several types of investments that are suitable for most investors, making it easier to get the investment exposure they want without buying a large number of individual shares, funds, or other securities.

The primary purpose of core funds is to provide a stable base that doesn’t require much, if any, adjustment over long periods of time. Although people might invest a small portion of their overall portfolios in other opportunities in an effort to boost overall returns, keeping their core funds intact ensures they can reliably stick to their investment strategy and simplifies the handling of additional investments.

The rise of index mutual funds dramatically increased the use of the core fund concept, as index funds tracking broad-based indexes such as the S&P 500 made excellent core funds for most investors seeking to match the return of the broader stock market.

MeDirect’s research company and partner, Morningstar points to large-cap blend and large-cap value funds as good core fund holdings, as they offer solid yet non-spectacular returns but with less volatility, which more aggressive equity mutual funds tend to have. Similarly, on the fixed-income side, core funds often combine government and corporate bonds (plus municipal bonds in the US) to provide balanced exposure to the bond market. There are nowadays global core funds, which aim to balance their investments in developed and emerging-market countries around the world.

It is important to note, as an investor, that a fund which has the word ‘core’ in its title may not necessarily be considered as a core fund and the securities it invests in may not contain the core holdings for a wide range of investors.

The biggest advantage of using core funds in your portfolio is to maintain discipline and make sure that you have a solid foundation to help you achieve your investment goals. It is not uncommon to find investors who own a large number of mutual funds that they initially chose, based on their popularity and good performance, but may no longer serve a useful purpose in their overall portfolio. Additionally, many different mutual funds may own very similar holdings if not exactly identical, which defeat the investor’s intention to diversify his/her portfolio by owning various funds.

Core funds can help simplify your overall investing immensely. Keep in mind to retain most of your money in a select group of core funds. This can help you stay on course no matter the noise that is coming out of the markets on a daily basis. It is fine to use a portion of your portfolio to invest in other sectors or securities but keeping most of your money in core equity funds and core bond funds is very important to get the reliability and the peace of mind that you seek, year in year out.

When looking for core funds, there are simple rules which prevail. You should look for steady gains; funds with low fees, fund managers with long years of experience, clear fund strategies and objectives with moderate risk and consistent performance.

There is no hard and fast rule how large the core of your portfolio should be. But a rule of thumb seems to be 70% to 80% of your portfolio being invested in core holdings. The rest can go to non-core investments. These would be securities, which focus on a specific part of the market only. They help add variety to your portfolio, enhancing its returns and also help temper the portfolio’s overall volatility. Small-cap funds, funds which invest in specific sectors (e.g. technology), high-yield bond funds, emerging market funds are all examples of non-core investments.

Portfolios for Shorter-Term Goals

Short-term goals usually span one to two years. Maybe you want to buy that new TV or replace some old furniture. You can easily invest your money in a savings or term deposit bank account to accumulate a small amount of interest, and as already mentioned, hopefully this is not erased by inflation.

Mid-term goals are more or less like short-term goals with the added challenge that you must stay the course a little longer, between, say, two to five years. Buying a new car would fall in this category.

Preserving your money should be your top priority, here. So, typically you would invest in term deposits but possibly, also in bonds or bond funds. It is not normally suggested to invest in equity funds when your time horizon is relatively short. But if you do, you should only do so conservatively.

For the core of your short- or mid-term portfolio, you should focus on finding a high-quality intermediate-term (3 to 10 years) bond fund that is well diversified across bond-market sectors. For shorter-term bond funds you can consider funds which invest in short-term government, mortgage-backed, and corporate bonds and those which do not tend to be affected if and when interest rates rise (even though this is unlikely in the current market environment).

Number of Funds To Own

There is no ideal number of funds to own. There are some investors who end up owning a large number of funds whiles others can be perfectly diversified owning just two or three funds.

What you should worry about is how diversified your portfolio is, regardless of how many funds are in it. If all of your funds were growth funds or were heavy on a particular sector, you could end up with a large number of funds and still not be adequately diversified. Conversely, a one-fund portfolio could be better diversified than a multi-fund portfolio, if that one fund were an index fund covering the entire stock market.

So when deciding on how many mutual funds and which funds you should have in your portfolio, aim for diversification in your portfolio at two levels: across asset classes (like equities, bonds, and cash) and within asset categories (industries and companies).

Adding new mutual funds to your portfolio is far easier than reorganizing your fund portfolio and discarding inappropriate, redundant, or simply poor-performing mutual funds. The answer to the question of how many mutual funds you should have in your portfolio is not just a number. But if you have more than ten mutual funds in your portfolio, chances are you need to do some portfolio cleaning.

First, in order to be well-diversified, your mutual fund portfolio should be invested in equity funds and in fixed-income mutual funds. Within the developed stock markets (such as the US and Europe), your mutual funds should cover large stocks, small stocks, and ones in between, even though large equity funds run down into the mid-size range and the same with small equity funds, which push up into the mid-size companies. Diversification by geographical region especially for emerging markets is also important. So, having a mutual fund specifically for emerging markets stocks is to be considered.

Next will be your fixed-income fund that will possibly also provide you with income. A simple choice would be to consider intermediate government and investment grade corporate bond mutual funds. The intermediate maturity, as already mentioned above, will have a 3- to 10-year weighted average maturity range for the bonds in the portfolio. Such a duration will help capture most of the yield of longer-term mutual funds with much less volatility when interest rates change (bearing in mind that the longer the maturity of the bond the more sensitive it is to changes in interest rates). More aggressive investors can opt to invest in high-yield corporate bond funds. While high-yield (junk) bond funds invest in lower-quality corporate debt that pays relatively higher income, the individual default risk of the bonds in the portfolio is softened through diversification and the high income dampens portfolio volatility. Furthermore, high-yield bonds tend to be sensitive to the economic cycle, acting more like stocks than government or investment-grade corporate bonds.

Just remember that the key is to remain disciplined, rational, and avoid being moved by short-term price movements in the market. Your goal is to build wealth over the long-term. You simply cannot do that moving in and out of funds.

Even if you own a lot of investments, you could still have gaps in your portfolios. Make sure to address such issues. A final word is not to obsess over the number of securities or funds that you own, but to concentrate on their diversity.

 

The above is for informative purposes only and should not be construed as an offer to sell or solicitation of an offer to subscribe for or purchase any investment. The information provided is subject to change without notice and does not constitute investment advice. MeDirect Bank (Malta) plc has based this document on information obtained from sources it believes to be reliable but which have not been independently verified and therefore does not provide any guarantees, representations or warranties.

The financial instruments discussed may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in any of the products discussed you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

MeDirect Bank (Malta) plc, company registration number C34125, is licensed by the Malta Financial Services Authority under the Banking Act (Cap. 371) and the Investment Services Act (Cap. 370).

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