Are There Realistic Alternatives to Stocks?

Franklin Templeton Multi-Asset Solutions

PREVIEW

In this issue, we focus on notable steps toward fiscal cooperation in Europe that were prompted by the current COVID-induced recession. We review the reasons that progress is being made now, the potential risks to the recovery and the view that policymakers believe “there is no alternative.”

We discuss whether bonds can provide a realistic alternative to stocks, and look at the prospects of different sectors of the global bond market. Over a longer-term horizon, we continue to believe global stocks have greater performance potential than global bonds, but that this outcome will not be reached along a smooth path.

Major themes driving our views

  • Significant headwinds to global growth
    The coronavirus has pushed the global economy into a deep recession, though growth momentum is stabilizing. Risks to the recovery are tilted to the downside due to fears about a second wave of infection. Political uncertainty contributes to the outlook remaining less clear than usual and presents an ongoing headwind for business investment intentions.

  • Subdued inflation across economies
    We believe that changes in inflation are driven mainly by demand, but expectations have already fallen to historical lows. While it is premature to call an end to globalized production, its influence might moderate as a result of onshoring.

  • Dovish bias to monetary policy
    In responding to the current virus crisis, policymakers remain accommodative and will do whatever it takes. Emergency measures have exceeded consensus expectations, but the easy wins may already have been delivered, while the need for fiscal policy coordination is increasing.

Practical positioning

  • Government bonds remain expensive
    In a multi-asset portfolio, we seek assets that provide the potential for diversification. Bonds traditionally fulfill that role. Global bonds—especially long-duration issues— appear vulnerable due to low term premia. However, slower growth and subdued inflation balance this, leaving us only modestly defensive in our overall levels of conviction.

  • Corporate bonds are more attractive to us
    The yield spread on corporate bonds is somewhat higher than average, reflecting market concerns over the economic environment. The attractions of corporate bonds lie in this modest additional yield and some potential diversification benefits from government bonds, but not as a long-term return generating alternative to stocks.

  • Emerging market bonds
    Emerging market investments can be a very attractive addition to a broadly diversified portfolio. However, we always believe that a selective approach is particularly appropriate in these less-developed markets. However, right now, emerging market bonds do not represent compelling alternatives to stocks, in our view.

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Franklin Templeton Thinks: Allocation Views
Our research process monitors a consistent set of objective indicators and screens them to identify signals that help our analysts to make better recommendations. By doing this we aim to filter out the daily noise to reveal the underlying trend.

Our macro-economic research group aims to challenge the consensus forecasts for growth and inflation by digging deeper into the data. Just as important, we aim not to be swayed unduly by topics that are dominating current market debate.



Editorial review

Ed Perks, CFA Chief Investment Officer,
Franklin Templeton Multi-Asset Solutions

Gene Podkaminer, CFA Head of Multi-Asset Research Strategies,
Chair of Investment Strategy & Research Committee,
Franklin Templeton Multi-Asset Solutions


WHAT ARE THE RISKS?

All investments involve risks, including possible loss of principal. The positioning of a specific portfolio may differ from the information presented herein due to various factors, including, but not limited to, allocations from the core portfolio and specific investment objectives, guidelines, strategy and restrictions of a portfolio. There is no assurance any forecast, projection or estimate will be realized. 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 the prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments. Investments in emerging markets, of which frontier markets are a subset, involve heightened risks related to the same factors, in addition to those associated with these markets’ smaller size, lesser liquidity and lack of established legal, political, business and social frameworks to support securities markets. Because these frameworks are typically even less developed in frontier markets, as well as various factors including the increased potential for extreme price volatility, illiquidity, trade barriers and exchange controls, the risks associated with emerging markets are magnified in frontier markets. Derivatives, including currency management strategies, involve costs and can create economic leverage in a portfolio which may result in significant volatility and cause the portfolio to participate in losses (as well as enable gains) on an amount that exceeds the portfolio’s initial investment. A strategy may not achieve the anticipated benefits, and may realize losses, when a counterparty fails to perform as promised. Currency rates may fluctuate significantly over short periods of time and can reduce returns. Investing in the natural resources sector involves special risks, including increased susceptibility to adverse economic and regulatory developments affecting the sector—prices of such securities can be volatile, particularly over the short term. Real estate securities involve special risks, such as declines in the value of real estate and increased susceptibility to adverse economic or regulatory developments affecting the sector. Investments in REITs involve additional risks; since REITs typically are invested in a limited number of projects or in a particular market segment, they are more susceptible to adverse developments affecting a single project or market segment than more broadly diversified investments. Actively managed strategies could experience losses if the investment manager’s judgment about markets, interest rates or the attractiveness, relative values, liquidity or potential appreciation of particular investments made for a portfolio, proves to be incorrect. There can be no guarantee that an investment manager’s investment techniques or decisions will produce the desired results.