By Jayson Forrest - Managing Editor - IMAP Perspectives
Speaking at the 2022 IMAP Portfolio Management Conference, Francyne Mu CFA (Franklin Templeton) provides her views on the current global environment, and how macro and geopolitical issues will affect Franklin Templeton’s approach to identifying investment opportunities.
Since the beginning of the COVID-19 pandemic, markets have experienced considerable volatility, which has escalated this year. The start of 2020 has seen the market oscillate between risk-on and risk-off trades, as markets continue to adjust to a number of macro issues.
These issues include: rising inflation and interest rates; Central Bank policies, including how aggressive the Federal Reserve will be with its monetary policy; continuing geopolitical tensions, particularly with Russia and Ukraine, and the effect that will have on oil and gas supply; potential global food shortages and supply chain risks.
Therefore, it’s not surprising that for Francyne Mu CFA - Vice President and Portfolio Manager/Research Analyst for Franklin Equity Group - these market risks are impacting consumer sentiment and consumer demand.
“When you consider all these macro and geopolitical concerns, I think it’s fair to say that volatility will continue,” says Francyne.
Francyne Mu, CFA - Franklin Equity Group
The quality companies that Franklin Templeton own have strong balance sheets, generate strong free cash flow, and are often supported by strong secular growth drivers. In our view, these companies are more attractive now and present good opportunities over the long-term.”
Focus on company fundamentals
According to Francyne, January 2022 was extreme in terms of market movement. Back in December 2021, when the Federal Reserve indicated that inflation was less transitory and more permanent, the market experienced an extreme value rotation.
“The gap between growth and value was skewed towards the value side by about 833bps in January. Since then, we have continued to see volatility, with another 200bps in February and a further 400bps to value in March,” says Francyne. “This has meant that traditional value sectors, like energy and financials, have been the key sectors that have outperformed over this recent time period.”
And what about the hightail risks in terms of growth over this period? Francyne points to sectors like information technology, consumer discretionary, and healthcare, which have all underperformed, as the market readjusts interest rates and discount rates.
“It’s true that some of this multiple contraction is justified, given that there were some companies burning though cash with little revenue to show for it,” says Francyne. “And with rising interest rates and discount rates, debt laden companies are feeling the squeeze. So, it can be difficult to see this value materialise over time.”
Instead, she believes the key to building portfolios during times of high market volatility is to focus on company fundamentals when stock picking.
“The key is to build in-depth knowledge of these companies from the bottom-up and to clearly understand their business models. The quality companies that Franklin Templeton own have strong balance sheets, generate strong free cash flow, and are often supported by strong secular growth drivers. In our view, these companies are more attractive now and present good opportunities over the long-term.”
And what about market timing? Francyne refers to a number of empirical studies of portfolio managers and their market timing. She believes that in times of volatility, like now, it’s very difficult to time the market by picking turning points.
By focusing on company fundamentals, Franklin Templeton has been able to ensure that its companies are meeting revenue and earnings expectations, with little change to their business models.
“These companies have managed well through the COVID pandemic and are now also progressing well through the recovery. Pleasingly, most are continuing to invest in their businesses over the long-term.”
However, Francyne concedes that what is currently happening in the Ukraine will continue to cloud the way for investors, while the COVID response and fiscal/monetary policies by Governments - particularly in China with its net zero approach to COVID and continued lockdowns of cities and regions - will continue to be a concern for supply chains and inflation.
“While we are mindful of these challenges, we are confident that the diversification and careful positioning of investment portfolios will place investors in good stead moving forward,” she says.
We try to limit economic overlap amongst our positions, so we are careful not to double up on key risks within the portfolio. And we look globally. We search without borders for the best opportunities
We have a long-term investment horizon, and with our risk management framework - the fact that we try to limit economic overlap - means we tend to go down the market cap spectrum. We prefer pure play companies to conglomerates. We are looking for those companies that can take us into the next growth phase
Despite the current volatility of markets, Francyne is confident there remains strong growth opportunities in the market. Franklin Templeton’s approach to identifying opportunities is to look beyond the ‘mega caps’, by finding well managed companies in a particular supply chain.
“We try to limit economic overlap amongst our positions, so we are careful not to double up on key risks within the portfolio. And we look globally. We search without borders for the best opportunities,” Francyne says.
“We have a long-term investment horizon, and with our risk management framework - the fact that we try to limit economic overlap - means we tend to go down the market cap spectrum. We prefer pure play companies to conglomerates. We are looking for those companies that can take us into the next growth phase.”
To demonstrate Franklin Templeton’s approach to identifying growth opportunities, Francyne refers to three companies: DSM, Intuitive Surgical, and Synopsys.
DSM: A global leader in the animal feed and human food value chain as an end-to-end provider of active ingredients, delivery systems, and customised premix solutions.
Growth drivers: Benefits from sustainability, and health and wellness in the food supply chain; and penetration of new markets and new products across animal and human nutrition.
Competitors: Cargill, ADM, DuPont, and Nestle.
Intuitive Surgical: A pioneer with a strong market share in robotic surgical systems, with the Da Vinci Surgical System in its fourth generation model.
Growth drivers: Robotic surgeries will increase in penetration over time across multiple surgeries, including general surgery; and international expansion opportunities and incremental robotic platforms also support growth.
Competitors: Medtronic, Johnson & Johnson, and Stryker.
Synopsys: A leading provider of design tools that help manufacturers develop next-gen microchips.
Growth drivers: Increased chip complexity is driving outsourcing to reduce the time to design and improve speed to market; highly visible revenue stream, with 90 per cent of sales in recurring subscriptions; and strong free cash flow for strategic acquisitions, which further enhances its market position, and for stock buybacks.
Competitors: A duopoly with Cadence Design Systems.
“So, moving forward, we believe there are strong growth opportunities in the market. The key is stock picking and solid company fundamentals, which are absolutely critical in building and managing portfolios,” says Francyne.
Francyne Mu CFA is Vice President and Portfolio Manager/Research Analyst for Franklin Equity Group.
She spoke on global equities as part of the 2022 IMAP Portfolio Management Conference.