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CONTRIBUTORS

Wylie Tollette, CFA

Chief Investment Officer,
Franklin Templeton Investment Solutions

Tom Nelson, CFA, CAIA

Head of Market Strategy
Franklin Templeton Investment Solutions

Miles Sampson, CFA

Head of Asset Allocation Research,
Franklin Templeton Investment Solutions

Laurence Linklater

Senior Research Analyst, Franklin Templeton Investment Solutions

Preview

Investor sentiment has turned more positive in our view, against a backdrop of improving macro and corporate fundamentals and the promise of seasonal tailwinds for risk assets. Leading indicators of global growth have strengthened during the past month, as positive US economic data reduces recession risks and fuels renewed hopes that the US economy can achieve a soft landing.  

Against this background, we upgrade our view on equities in this month’s Allocation Views, with a preference for North American and emerging market stocks. We are less enthusiastic about Europe, the United Kingdom and Japan amid weak macro environments. Our improved attitude toward risk informs a reduced overall fixed income allocation, while an uptick in yields encourages us to add developed-market duration within our bond portfolio.

Macro themes driving our views

Growth remains constructive

  • Leading economic indicators suggest positive global growth
  • Global growth reflects strength in the services sector, but manufacturing remains sluggish
  • Recession risks appear low across most major developed economies

Inflation risks still balanced

  • Significant progress has been made, although it has been bumpy, and inflation is still above targeted levels
  • Elevated services inflation is normalizing alongside labor market strength
  • Core goods inflation has already normalized

Divergent policy outcomes

  • Western central banks continue to cut rates
  • Globally, we expect policy easing to influence a greater divergence of outcomes
  • Inflation progress allows policymakers leeway to implement easier monetary policy, offering greater downside protection for markets
     

Portfolio positioning themes

Growth supports risk assets

  • A constructive macro environment is typically associated with strong markets
  • Extended sentiment reflects strong fundamentals, but equity risk premiums remain low, despite seasonal tailwinds. 
  • Policy changes and greater US political certainty may help to offset any growth and inflation surprises

A changing equity landscape

  • Stronger earnings growth in the United States influences our improved outlook for US equities
  • Recent stimulus measures inform our neutral view on China, while emerging markets ex China remains a preferred cyclical region
  • Greater risk-on sentiment diminishes the broad appeal of UK equities, given their defensive characteristics

More attractive yields for bonds

  • Higher yields enhance the return potential from global fixed income, supporting our marginal long-duration preference in government bonds
  • Market expectations around the depth and duration of some policy easing cycles have retraced to more appropriate levels
  • Relatively healthy financial conditions support optimism toward high-yield corporate bonds, which we prefer over investment-grade issues

WHAT ARE THE RISKS?

All investments involve risks, including possible loss of principal.

Equity securities are subject to price fluctuation and possible loss of principal.

Fixed income securities involve interest rate, credit, inflation and reinvestment risks, and possible loss of principal. As interest rates rise, the value of fixed income securities falls. Changes in the credit rating of a bond, or in the credit rating or financial strength of a bond’s issuer, insurer or guarantor, may affect the bond’s value. Low-rated, high-yield bonds are subject to greater price volatility, illiquidity and possibility of default.

The allocation of assets among different strategies, asset classes and investments may not prove beneficial or produce the desired results. To the extent a strategy invests in companies in a specific country or region, it may experience greater volatility than a strategy that is more broadly diversified geographically.

Commodity-related investments are subject to additional risks such as commodity index volatility, investor speculation, interest rates, weather, tax and regulatory developments.

International investments are subject to special risks, including currency fluctuations and social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets. The government’s participation in the economy is still high and, therefore, investments in China will be subject to larger regulatory risk levels compared to many other countries.

Investing in privately held companies presents certain challenges and involves incremental risks as opposed to investments in public companies, such as dealing with the lack of available information about these companies as well as their general lack of liquidity.

Active management does not ensure gains or protect against market declines. Diversification does not guarantee a profit or protect against a loss.

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