January 11, 2013

Investment Team Update 31 December 2017

Templeton Global Fixed Income Report PERSPECTIVE FROM TEMPLETON GLOBAL MACRO

IN THIS ISSUE

• Summary of developments during the quarter • Description of fund performance • Country and sector updates • Outlook

Summary The US Federal Reserve (Fed) raised the federal funds target rate 25 basis points (bps) to a range of 1.25% to 1.50% at its December meeting, citing rising economic activity and continued strength in US labour markets. Market expectations for additional rate hikes in 2018 strengthened during the month, with federal funds futures indicating a likely rate hike in March. The Fed also continued unwinding its balance sheet in December at a targeted monthly pace of US$6 billion in US Treasuries (USTs) and US$4 billion in mortgage-backed securities (MBS). That volume is scheduled to increase in January 2018 to US$12 billion in USTs and US$8 billion in MBS. Additionally, the US government enacted tax reform in late December with expectations that it would further stimulate the economy. Deregulation efforts across a number of business sectors also continued, incentivising additional economic activity. Overall, we expect UST yields to continue rising as the Fed unwinds its balance sheet and tightens policy, while inflation pressures build on exceptional strength in the US labour market and resilient expansion of the US economy. In Europe, 10-year government bond yields rose in Germany, France, Italy and Spain, while short-term yields remained negative. Overall, we continue to expect widening rate differentials between the rising yields in the US and the low to negative yields in the eurozone to depreciate the euro against the US dollar. Monetary accommodation from the European Central Bank (ECB) is on pace to continue through much of 2018, even as the ECB reduces the pace of its bond-buying programme in January 2018 to €30 billion per month, down from the December pace of €60 billion per month. Overall, the net effects would still be highly accommodative even at the reduced pace. Additionally, ECB President Mario Draghi has continued to indicate that rates are not likely to be hiked until quantitative

easing (QE) ends, implying that rates would likely remain unchanged in 2018. We also continue to see ongoing risks to the political cohesion across Europe as populist movements continue to influence the political discourse. In Germany, Angela Merkel’s efforts to form a coalition government remained unfulfilled, complicating the political mandates in Europe. The euro continues to be vulnerable to unresolved structural and political risks across Europe, in our view. In Japan, Prime Minister Shinzo Abe’s political mandate has remained strong since his political coalition maintained its supermajority in October elections. We expect Abenomics programmes to continue as planned with Abe’s ongoing political strength. The Bank of Japan (BOJ) continued with its QE programme in December as short-term yields in Japan remained negative. Rising UST yields should produce a more effective environment for the BOJ to actively deploy additional monetary accommodation that weakens the yen, as it continues to target a 0.0% yield on the 10-year Japanese government bond. We expect the Japanese yen to weaken on widening rate differentials with the US. Across emerging markets, yields declined in specific areas of Latin America and Asia, notably Indonesia and Brazil, but rose in other countries, such as India and Mexico. Emerging-market currencies broadly strengthened against a weakened US dollar in December, with a few notable exceptions such as depreciations of the Mexican peso and Argentine peso. Overall, we continue to see a number of local-currency markets that we believe remain undervalued, particularly in India, Indonesia, Mexico and Colombia. We also see attractive risk-adjusted yields in places like Brazil and Argentina. The potential impact of Fed policy tightening on emerging markets should vary from country to country, in our view. Several emerging markets have significantly higher yields than the US—Brazil has around a 9.8% yield on its 10-year bonds, Mexico around 7.6%, Indonesia around 6.3%. Countries with this type of yield advantage over USTs should fare better as the Fed unwinds its balance sheet, however, emerging markets with lower yields would likely be more vulnerable, particularly if the interest rate differential flips. Overall, we see additional scope for currency

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appreciation in specific emerging markets over the medium term, particularly in countries with economic resilience and relatively higher, maintainable rate differentials. During the month, we remained positioned in a number of emerging markets, with notable local-currency duration exposures in Brazil, Argentina, Colombia, Indonesia and India, and notable currency exposure to the Mexican peso. We adjusted specific positions during 2017, notably increasing our local-currency exposures in India in March and exiting much of our local-currency exposures in Malaysia in April. We exited our remaining Ukrainian sovereign bonds in August, but continued to hold the Ukrainian GDP (gross domestic product) warrants. We continued to hold net-negative positions in the euro and Japanese yen based on our expectations for widening rate differentials with the US as the Fed tightens policy while the ECB and BOJ continue with monetary accommodation. The short positions in the euro and yen represent directional views on the currencies, as well as hedges against broad strengthening of the US dollar. The short euro position is also a hedge against eurosceptic political risks and unresolved structural risks in Europe. We also continued to hold netnegative positioning in the Australian dollar based on the Reserve Bank of Australia’s continued leanings towards accommodative rates, and as a partial hedge against potential economic risks in China as well as broad-based beta risk across emerging markets. In credit markets, we continued to see areas of value in some specific sovereign credits. However, we largely prefer the risk-adjusted returns in specific areas of the localcurrency bond markets over the more fully valued credit markets. We also remained positioned for rising yields by maintaining low overall portfolio duration and holding negative duration exposure to USTs through interest-rate swaps.

Performance1, 2 Templeton Global Bond Fund – Absolute Performance In December, Templeton Global Bond Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies and sovereign credit exposures had largely neutral effects on absolute results. Amongst currencies, positions in Latin America (the Mexican peso and Argentine peso) detracted from absolute performance. The fund’s netnegative positions in the Australian dollar and the euro also detracted from absolute results, while its net-negative position in the Japanese yen had a largely neutral effect. However, currency positions in Africa (the South African rand) and Asia ex Japan (the Indian rupee) contributed to absolute performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. Negative duration exposure to US Treasuries detracted from absolute results, while select duration exposures in multiple regions contributed. In the fourth quarter of 2017, Templeton Global Bond Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies and sovereign credit exposures had largely neutral effects on absolute results.

Amongst currencies, positions in Latin America (the Mexican peso and Brazilian real) detracted from absolute performance. The fund’s net-negative position in the euro also detracted from absolute results, while its net-negative position in the Japanese yen had a largely neutral effect. However, currency positions in Asia ex Japan (the Indian rupee) contributed to absolute performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. The net effect of duration exposures during the period was limited. Templeton Global Bond Fund – Relative Performance In December, Templeton Global Bond Fund’s relative underperformance was primarily due to currency positions. Interest-rate strategies and sovereign credit exposures had largely neutral effects on relative results. Amongst currencies, overweighted positions in Latin America (the Mexican peso and Argentine peso) detracted from relative performance. The fund’s underweighted positions in the euro and the Australian dollar also detracted from relative results, while its underweighted position in the Japanese yen contributed. Overweighted currency positions in Africa (the South African rand) and Asia ex Japan (the Indian rupee) contributed to relative performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. Select underweighted duration exposures in Europe contributed to relative results, as did select overweighted duration exposures in multiple regions. However underweighted duration exposure in the United States detracted. In the fourth quarter of 2017, Templeton Global Bond Fund’s relative underperformance was primarily due to currency positions, followed by interest-rate strategies. Sovereign credit exposures had a largely neutral effect on relative results. Amongst currencies, overweighted positions in Latin America (the Mexican peso and Brazilian real) detracted from relative performance. The fund’s underweighted position in the euro also detracted from relative results, while its underweighted position in the Japanese yen had a largely neutral effect. However, overweighted currency positions in Asia ex Japan (the Indian rupee) contributed to relative performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. Select underweighted duration exposures in Europe detracted from relative results. Templeton Global Total Return Fund – Absolute Performance In December, Templeton Global Total Return Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies and overall credit exposures had largely neutral effects on absolute results. Amongst currencies, positions in Latin America (the Mexican peso and Argentine peso) detracted from absolute performance. The fund’s net-negative positions in the Australian dollar and the euro also detracted from absolute results, while its net-negative position in the Japanese yen had a largely neutral effect.

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However, currency positions in Africa (the South African rand) and Asia ex Japan (the Indian rupee) contributed to absolute performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. Select duration exposures in multiple regions contributed to absolute results, while negative duration exposure to US Treasuries detracted. In the fourth quarter of 2017, Templeton Global Total Return Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies and overall credit exposures had largely neutral effects on absolute results. Amongst currencies, positions in Latin America (the Mexican peso and Brazilian real) detracted from absolute performance. The fund’s net-negative position in the euro also detracted from absolute results, while its net-negative position in the Japanese yen had a largely neutral effect. However, currency positions in Asia ex Japan (the Indian rupee) contributed to absolute performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. The net effect of duration exposures during the period was limited. Templeton Global Total Return Fund – Relative Performance In December, Templeton Global Total Return Fund’s relative underperformance was primarily due to currency positions. Interest-rate strategies and overall credit exposures had largely neutral effects on relative results. Amongst currencies, overweighted positions in Latin America (the Mexican peso and Argentine peso) detracted from relative performance. The fund’s underweighted positions in the euro and the Australian dollar also detracted from relative results, while its underweighted position in the Japanese yen contributed. Overweighted currency positions in Africa (the South African rand) and Asia ex Japan (the Indian rupee) contributed to relative performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. Select overweighted duration exposures in multiple regions contributed to relative results, while underweighted duration exposure in the United States detracted. In the fourth quarter of 2017, Templeton Global Total Return Fund’s relative underperformance was primarily due to currency positions. Interest-rate strategies and overall credit exposures had largely neutral effects on relative results. Amongst currencies, overweighted positions in Latin America (the Mexican peso and Brazilian real) detracted from relative performance. The fund’s underweighted position in the euro also detracted from relative results, while its underweighted position in the Japanese yen had a largely neutral effect. However, overweighted currency positions in Asia ex Japan (the Indian rupee) contributed to relative performance. The fund maintained a defensive approach regarding interest rates in developed markets, while holding duration exposures in select emerging markets. The net effect of duration exposures during the period was limited.

Templeton Emerging Markets Bond Fund – Absolute Performance In December, Templeton Emerging Markets Bond Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies contributed to absolute results, while overall credit exposures had a largely neutral effect. Amongst currencies, positions in Latin America (the Mexican peso and Argentine peso) detracted from absolute performance. The fund’s net-negative position in the Australian dollar also detracted from absolute results, while its net-negative positions in the euro and the Japanese yen had largely neutral effects. However, currency positions in Africa (the South African rand) and Asia ex Japan (the Indian rupee) contributed to absolute performance. The fund maintained low overall portfolio duration while holding duration exposures in select emerging markets. Select duration exposures in Africa and Latin America (Brazil) contributed to absolute results. In the fourth quarter of 2017, Templeton Emerging Markets Bond Fund’s negative absolute performance was primarily due to currency positions. Interest-rate strategies contributed to absolute results, while overall credit exposures had a largely neutral effect. Amongst currencies, positions in Latin America (the Mexican peso, Argentine peso and Brazilian real) detracted from absolute performance. The fund's net-negative positions in the euro and the Japanese yen had largely neutral effects on absolute results. The fund maintained low overall portfolio duration while holding duration exposures in select emerging markets. Select duration exposures in Africa and Latin America contributed to absolute performance.

Fund Returns and Rankings

Templeton Global Bond Fund generated a net return of -1.54% (in US dollars) in December, while the J.P. Morgan (JPM) Global Government Bond Index (GGBI) returned 0.15%. The fund returned -1.94% over the three-month period ended 31 December 2017, while the JPM GGBI returned 0.99%. On a 12-month basis, the fund returned 2.20%, while the benchmark index returned 6.83%. The fund outperformed the JPM GGBI over the five-year and 10-year periods. The fund ranked in the fourth quartile within its Morningstar peer group in December and over the three-month period. It ranked in the fourth quartile over the one-year and three-year periods, in the second quartile over the five-year period and in the first quartile over the tenyear period. Templeton Global Total Return Fund generated a net return of -1.33% (in US dollars) in December, while the Bloomberg Barclays Multiverse Index returned 0.36%. The fund returned -1.71% over the three-month period ended 31 December 2017, while the Bloomberg Barclays Multiverse Index returned 1.06%. On a 12-month basis, the fund returned 3.57%, while the benchmark index returned 7.69%. The fund outperformed the Bloomberg Barclays Multiverse Index over the five-year and 10-year periods. The fund ranked in the fourth quartile within its Morningstar peer group in December and over the three-month period. It ranked in the fourth quartile over the one-year period,

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in the third quartile over the three-year period, and in the first quartile over the five-year and ten-year periods. Templeton Emerging Markets Bond Fund generated a net return of -0.64% (in US dollars) in December, while the US dollar-denominated JPM Emerging Markets Bond Index Global returned 0.63%. The fund returned -1.18% over the three-month period ended 31 December 2017, while the benchmark index returned 0.54%. The fund returned 9.85% on a 12-month basis, while the benchmark index returned 9.32%. The fund ranked in the fourth quartile within its Morningstar peer group in December and over the three-month period. It ranked in the third quartile over the one-year, three-year, five-year and tenyear periods.

Country and Sector Updates Americas In the United States, real GDP growth was revised down slightly to 3.2% annual rate (ar) in the third quarter 2017 (Q3), according to the final estimate, about the same as in the second quarter 2017 (Q2). Monthly indicators suggest that the solid level of activity continued in the fourth quarter of 2017 (Q4); the Atlanta Fed GDP now estimate Q4 growth stands at 2.7% ar. Nominal personal spending accelerated to 4.5% year-on-year (y/y) in November as the savings rate fell to 2.9%, and real personal consumption expenditure (PCE) edged up to 2.7% y/y. Industrial production accelerated to 3.4% y/y in October, while orders of core capital goods disappointed falling sequentially but the y/y rate is very high at 8.9%. Sentiment remains elevated in December, although recent data have been somewhat mixed. Nonfarm payrolls increased by 148,000 in December, below 190,000 expected. Non-farm payroll gains averaged 171,000 in 2017 in comparison to 187,000 in 2016, and the unemployment rate declined to 4.1% from 4.8% at the beginning of the year. Average hourly earnings stood at 2.5% y/y in December and core PCE inflation came in at 1.5% y/y. The Fed increased the target range for the federal funds rate to 1.25-1.5% in its December meeting. The passage of the GOP tax bill should have a material expansionary impact on the economy in 2018-19. In Canada, real GDP growth was flat in October but rose by 3.4% relative to last year, according to the monthly production measure. Retail sales surprised to the upside in October, growing by 6.7% y/y. Manufacturing sales declined in October against market expectation of 1% month-on-month (m/m), the y/y rate decelerated to 4.3%. The trade deficit was larger than expected in November, widening to 2.5 billion Canadian dollars. Imports surged across all categories, rising by 5.8% m/m and 8.1% y/y. Total employment increased by 79,000 following a similar increase in November, well above expectations of 2,000. The full-year employment gain was very impressive at 423,000, mostly concentrated in full-time jobs, the highest annual increase since 2002. Correspondingly, the unemployment rate dropped to 5.7% from 6.3%% in October, the lowest level since the series began in 1976. Consumer price index (CPI) increased to 2.1% y/y in November, about as expected. The average of

the core measures increased to 1.7% y/y. The Teranet/National Bank housing price index decelerated in October to 9.2% y/y. The Bank of Canada kept its policy rate at 1% in the October meeting. The Canadian dollar appreciated 2.60% against the US dollar in December. In Brazil, Q3 GDP grew by 1.4% y/y versus 0.3% y/y in Q2. Growth was primarily driven by private expenditure while investment contracted by less. Markit Composite Purchasing Managers’ Index (PMI) edged down to 48.9 in November. Manufacturing PMI was 53.5 while services was 46.9. Economic activity grew by 2.9% y/y in October. Industrial production (IP) increased by 5.3 y/y % in October while capacity utilisation edged up to 77.7%. The unemployment rate edged down to 12.2% y/y in October. Retail sales increased by 2.5% y/y. Inflation edged up to 2.8% y/y in November. The trade surplus weakened to $3.5 billion in November. On a 12-month annualised basis, it is 3.1% of GDP. Exports rose by 2.9% y/y while imports increased by 14.6% y/y. The Central Bank of Brazil cut the SELIC rate by 50 bps to 7%. The Brazilian real depreciated 1.23% against the US dollar in December. In Mexico, Mexico has benefitted from the recent upturn in the manufacturing cycle. Both the manufacturing and nonmanufacturing index improved. PMI also rebounded to 52.4 from 49.2. The rebound was also seen in consumer confidence and remittances. October economic activity grew 1.52% y/y, up from 0.47% y/y in the prior month. However, PMI data has not yet translated into hard data. Economic moderation was seen in both domestic demand and mining production. October IP contracted 1.1%, driven by a 10.2% y/y contraction in mining production. Weaker retail sales appeared tied to negative real wage growth. Nominal wage growth was 5.0% y/y but inflation has been above 6.0% y/y. Inflation has surprised to the upside, reaching 6.7% y/y in Mid-December. The Bank of Mexico increased its key rate a quarter point to 7.25%, as expected— the first rate hike since June. Three board members voted for a quarter point increase, while one wanted a full half point. The balance of risks to inflation has deteriorated, according to the board. A potentially unfavourable conclusion to North American Free Trade Agreement (NAFTA) negotiations presents an inflation risk. NAFTA uncertainty has been affecting growth and investment. Policy makers say they will be vigilant and, if necessary, take corresponding actions "as soon as would be required." Mexico's key rate is above Brazil's for the first time in history. The Mexican peso depreciated 5.32% against the US dollar in December. In Argentina, GDP growth accelerated to 4.2% y/y in Q3 from 2.7% in Q2 (revised from 2.5%). On a quarter-on-quarter (q/q) seasonally adjusted annual rate basis, GDP grew 3.6% in Q3 up from 3.4% in Q2. The economic activity index accelerated to 5.2% y/y in October from 3.8% in September. The current account deficit widened to US$8.68 billion in Q3 from US$6.63 billion in Q2 and US$2.90 billion a year prior. On a four quarter basis, the deficit widened to 4.4% of GDP in Q3 from 3.5% of GDP in Q2. On a y/y basis, the Greater Buenos Aires CPI decelerated to 22.4% in November from 22.9% in October. Core

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CPI inflation decelerated to 21.5% from 22.0%. 2017, 2018 and 2019 inflation expectations continue to move higher. On 28 December, the government and the BCRA (Central Bank of Argentina) announced that the 5% inflation target timing would be delayed by one year to 2020 and raised the interim inflation targets. For 2018, the central bank target is now 15%, which compares to the prior target band of 10% plus or minus 2%. The 2019 inflation target was raised to 10%, from 5% plus or minus 1.5%, previously. The government set a 5% target from 2020 onwards. The BCRA kept the reference rate unchanged in December. Congress approved a raft of laws in the waning days of 2017 including pension reform, tax reform, a fiscal responsibility law, a new fiscal agreement between the federal government and the provinces, and the 2018 budget. The Argentine peso depreciated 7.03% against the US dollar in December. In Colombia, economic activity remained soft. The economic activity index improved to 1.4% in October from 0.4% in September but remains subdued. Industrial production growth improved to -0.3% y/y in October from -1.9% in September. Retail sales decelerated to -0.6% y/y in October from 1.4% in September. The current account balance widened to US$2.6 billion in Q3 from US$2.2 billion in Q2 but is narrower than US$3.5 billion a year prior. On a four quarter rolling basis, the deficit narrowed to 3.6% of GDP in Q3 from 4.0% in Q2 and as wide as 6.8% of GDP in late 2018. CPI inflation edged up to 4.12% in November from 4.05% in October. Core inflation edged up to 4.8% from 4.7%. The Monetary Policy Committee left the policy rate unchanged at 4.75% at its 14 December meeting, pausing the easing cycle after two surprise rate cuts in October and November. The decision was unanimous for the first time since October 2016. The Colombian peso appreciated 1.07% against the US dollar in December.

54.8. Retail sales rose by 10.2% y/y in November. IP increased by 6.1% while fixed asset investment expanded by 7.2% y/y. CPI rose by 1.7% y/y due to lower food prices. Core expanded by 2.3% y/y. PPI increased by 5.8% y/y. M2 expanded by 9.1% y/y in November while M1 increased by 12.7% y/y. Total social financing reached 1.6 trillion yuan in November and new yuan loans was 1.1 trillion. In Chinese yuan terms, the trade surplus edged up in November to 263.6 billion. Exports increased by 10.3% y/y while imports grew by 15.6% y/y. Foreign reserves edged up to USD$3.21 trillion while headline reserves increased by USD$10.5 billion. The People's Bank of China (PBOC) kept the policy rate unchanged at 4.35%. The Chinese yuan appreciated 1.63% against the US dollar in December. In India, IP growth slowed in October to 2.2% y/y from 4/1% y/y in September, as demand shock lingered from the goods and service tax reform. However, manufacturing PMI rose to 54.7 in December from 52.6 in November. GDP accelerated in Q3 to 6.3% y/y growth, up from 5.7% y/y growth in Q2. Private consumption was the main driver of growth. The current account deficit improved to US$7.2 billion in Q3 from US$14.3 billion in Q2 on lower gold imports. Moody’s upgraded India’s bond rating to Baa2 from Baa3 on continued economic reforms. The Reserve Bank of India kept the policy rate unchanged at 6.0%. The Indian rupee appreciated 1.02% against the US dollar in December. In South Korea, IP improved in November but only marginally, expanding 0.2% m/m, after contracting 1.5% in October. Exports decelerated slightly to 8.9% y/y growth in December from 9.5% y/y growth in November. The Bank of Korea raised the base rate by 25 bps to 1.5%, as expected. There was one dissenter who opposed the rate cut. The South Korean won appreciated 1.85% against the US dollar in December.

Asia In Japan, IP expanded for two consecutive months; in November by 0.6% m/m and in October by 0.5% m/m. All industry output bounced back in November, expanding 0.3% m/m, after contracting 0.5% m/m in October. Consumption was stronger in November with retail sales growing 1.9% m/m and household spending increasing 1.7% y/y. Capital expenditure was stronger in Q3, growing 4.2% y/y after growing 1.5% in Q2. Company profits moderated to growth of 5.5% y/y in Q3 from 22.6% in Q2. GDP for Q3 was revised up to 0.6% q/q seasonally adjusted (sa) growth from the previous preliminary figure of 0.3% q/q sa. Core machine orders bounced back in October, expanding 5% m/m after falling 8.1% m/m September. Headline CPI inflation rose in November to 0.6% y/y from 0.2% y/y in October. Core CPI inflation (ex-fresh food) increased to 0.9% y/y from 0.8% y/y as fresh food became less deflationary. However, core-core inflation (ex-fresh food & energy) was still relatively muted at 0.3% y/y in November. The BOJ kept its current monetary policy in place. The Japanese yen depreciated 0.13% against the US dollar in December.

In Australia, real GDP growth increased by 2.8% y/y in Q3; disappointing private consumption was offset by strong business investment. In y/y terms, capital expenditures increased for the first time since the fourth quarter of 2012. Retail sales were strong in October and the y/y figure improved to 1.8%. The trade balance was weaker than expected in November; a $630 million Australian dollar deficit was recorded against expectation of a $550 million Australian dollar surplus. Metal ores exports rebounded (1% m/m) following a significant drop in October but imports growth was stronger. In y/y terms, export growth dropped by 0.7% due to base effects after running at double-digit rates over the previous year. Total employment increased by 62,000 in November, significantly higher than expected. The unemployment rate remained at 5.4% as the participation rate improved. The official house price index, released by Australian Bureau of Statistics, disappointed in Q3 falling by 0.2% q/q though it is 8.3% higher than last year. The Melbourne Institute monthly inflation gauge edged up to 2.7% y/y in November. The Reserve Bank of Australia kept the cash rate target at 1.5% in its October meeting. The Australian dollar appreciated 3.11% against the US dollar in December.

In China, manufacturing PMI in November was 51.8 due to stronger new orders and production. Services PMI edged up to

In Indonesia, PMI in November edged up to 50.4 from 50.1 in

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October. CPI in November rose by 3.3% y/y while core expanded by 3.1% y/y. M2 y/y increased by 10.6% y/y and M1 increased by 16% y/y. The trade surplus narrowed to US$127 million November. Exports grew by 13.2% y/y while imports expanded by 19.6% y/y. Foreign reserves edged down to US$126 billion in November. Bank Indonesia kept the policy rate unchanged at 4.25%. The Indonesian rupiah depreciated 0.31% against the US dollar in December. Europe, Middle East, Africa (EMEA) In the eurozone, growth continued with Q3 final GDP expanding 0.6% q/q, or 2.6% y/y. October IP also showed a continued uptrend. PMI continued to surprise to the upside at 57.5. October retail sales moderated to 0.4% y/y, from 4.0% in September. The 3-month rolling average remained strong, above 2% y/y. Consumer confidence reached its highest level since 2000 (December: 0.5). However, inflation remained low at 1.5% y/y for headline and 0.9% y/y for core. Nominal wages grew 1.6% y/y in Q3, suggesting real wage growth remains low. The ECB kept interest rates unchanged: 0.0% for the main refinancing rate, 0.25% for marginal lending facility and -0.40% for the deposit facility rate. The ECB raised its inflation and growth forecasts for 2018 to 1.4% inflation from 1.2% and 2.3% growth from 1.8%. The euro appreciated 0.77% against the US dollar in December. In the United Kingdom, Q3 GDP growth was revised up from 1.5% y/y to 1.7%. PMI remained strong, notably on the manufacturing side. There are more indications that the economy is largely supported by manufacturing production, which grew 3.9% y/y in October. Manufacturing PMI was 58.2 in November, up from 56.6 in the prior month. Retail sales rebounded in November to 1.5% y/y growth, from 0.0% in October. However, the trend remained quite weak. Consumers seem cautious on big purchase commitments. Both construction activities and new car registration remained weak. The unemployment rate remained tight at 4.3%. Wage growth of 2.5% y/y in October has been overwhelmed by the 3.9% y/y increase in the retail price index. Bank of England kept interest rate at 0.5% unchanged as expected. The British pound depreciated -0.17% against the US dollar in December.

-0.06% for the month, and the Bloomberg Barclays PanEuropean High Yield Index returned -0.12%.

Outlook •

We expect UST yields to rise and the US dollar to strengthen as the Fed moves towards tightening policy while US inflation pressures pick up. We also expect the Fed’s balance sheet unwinding to put upward pressure on yields. Although the Fed’s credibility came into question when it backtracked on projected rate hikes in 2016, we expect it to remain on course with balance sheet unwinding and rate hikes. Recent indications from the Fed project three rate hikes in 2018 and a trend towards a policy rate of 2.75% in 2019. Janet Yellen is expected to be replaced by Jay Powell as Fed Chair in February.



The Fed continued unwinding its nearly US$4.5 trillion balance sheet in December, targeting around $6 billion in USTs and US$4 billion in MBS to roll-off each month. Markets have appeared to place a lot of focus on the speed and extent of rate hikes, in our view, but not placed enough attention on balance sheet unwinding—an unprecedented event for the UST and MBS markets. Investors who are holding longer duration exposures are taking on a lot of asymmetric risk, in our opinion, particularly in an environment of economic resilience and growing inflation pressures.



US growth remains in a prolonged phase of expansion, but we are not seeing overcapacities develop just yet. The US administration has pushed ahead with deregulation and tax reform which we expect to have expansionary impacts. Additionally, lending activity has picked up with banks drawing down reserves and second tier financing increasing. These activities can fuel the economy and boost inflation, but also can accelerate the pace at which we eventually get to an overheated economy and ultimately to a contraction.



In 2017, we saw notable strength across a number of localcurrency emerging markets. Some positive tailwinds developed from foreign investment returning to several undervalued markets. A lot of foreign capital left in prior years—when it came back the valuations in those asset categories tended to come back quickly as well. However, there is still a lot of room to strengthen given how far valuations dropped in prior years, particularly during the selloffs in 2016.



The impact of Fed policy tightening on emerging markets will likely vary significantly by country. Many emerging markets have a significant yield advantages over the US, so even if US rates go up 200 bps, there is still a large interest rate differential. For example, Brazilian local currency 10-year bonds yield around 9.8%. Countries with this type of yield advantage could actually do quite well relative to other markets as the Fed tightens and the rate environment shifts higher. However, emerging markets with low yields will likely be more vulnerable to rising rates.

Credit US dollar-denominated sovereign credits saw generally positive returns across the globe on tightening spreads, most notably in Africa. The Bloomberg Barclays Emerging Markets USD Sovereign Index returned 0.57% in December, with the investment-grade sub-index returning 0.22% for the month and the high-yield sub-index returning 0.91%. US investment-grade corporate credit and US high-yield corporate credit also saw largely positive returns, recovering from modestly negative returns in the prior month. The Bloomberg Barclays US Corporate Index returned 0.91% for the month and the Bloomberg Barclays US Corporate High Yield Index returned 0.30%. European corporate credit returns were modestly negative in an environment of broadly rising yields. The Bloomberg Barclays Pan-European Corporate Index returned

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We continue to see a subset of emerging markets with domestically strong economies that have demonstrated their resilience to potential increases in trade costs and other external shocks. We remain focused on specific countries that are less externally vulnerable and more domestically driven, and that have responsible, credible central banks that consistently respond with appropriate monetary policies. Certainly, 20 years ago it may have been difficult for a number of emerging markets to weather a protectionist trade shock, a commodity price shock and an exchange rate shock all at the same time, but today several countries have greatly reduced those external vulnerabilities. In Latin America, several countries have recently turned away from previous failed experiments with populism and have moved towards more orthodox policies, taking pro-market and fiscally conservative approaches while maintaining credible monetary policy, proactive business environments and outward-looking trade. We remain optimistic for the economic turnarounds underway in Argentina and Brazil. In Brazil, bond markets notably strengthened in the second half of 2017. Although policy efforts have been delayed by the corruption charges against President Michel Temer, longerterm reform efforts continue. Pension reform may be delayed until a new administration takes over, however, the overall political will in Brazil to move beyond its failed policies of the past remains strong, and it goes beyond President Temer’s mandate. The country currently has an orthodox central bank and finance ministry that appear committed to moving the country forward with appropriate policy measures. While some near-term risks remain, the longer-term economic picture continues to show tremendous potential, in our assessment. In Mexico, the peso weakened further in December on renewed concerns over NAFTA negotiations with the US and uncertainty over the upcoming presidential election in July 2018. However, on a fundamental basis the Mexican peso remains undervalued, in our assessment, and we see scope for additional strengthening. Growth has been largely in line with potential while the government remains committed to orthodox policies, with a highly credible central bank. The institutions in Mexico remain strong, regardless of who takes over the presidency in December 2018. Additionally, we see continued resilience in Mexico’s economy and do not see it being derailed by potential tariffs or NAFTA negotiations. In Asia, we have recently focused on specific emerging markets that have domestically driven strength and are less leveraged to China, such as India and Indonesia, while avoiding exposure to economies that are more externally dependent, such as Malaysia. In India, Prime Minister Narendra Modi’s reform policies have been bringing the country’s growth closer towards its potential, while policy credibility from the central bank has created a stronger environment for attracting foreign investment. In Indonesia, growth has remained strong while the country has

demonstrated continued resilience to external shocks, benefitting from ongoing reforms over the last decade that have sought to balance its growth drivers and accelerate domestic development.



China's economy remains in a soft landing, but ongoing rebalancing is needed for the long term. The near-term picture looks fairly stable, in our assessment, but we have concerns for two or three years down the road as China's pace of growth now depends on significantly more credit expansion per unit of GDP than it did over the last decade. Although markets tend to focus on the potential trade risks to Mexico, we see greater risks from potential trade adjustments with China.



In the major developed economies, we anticipate continued monetary accommodation and low rates in Japan and the eurozone while rates rise in the US—those increasing rate differentials should depreciate the yen and euro against the US dollar, in our opinion. Despite the eurozone being in a cyclical upswing, we continue to have a negative view on the euro not only because of ongoing monetary accommodation, but also because of populist risks and unresolved structural vulnerabilities in certain countries, such as Italy.



The ECB will reduce the monthly volume of its bond-buying program to €30 billion per month in January, from €60 billion per month. Nonetheless, monetary policy remains highly accommodative. Draghi has indicated that the ECB is not likely to raise rates until QE ends, making it likely that the ECB will keep its policy rate unchanged at 0.0% in the upcoming year. We expect the euro to weaken against the US dollar as the ECB’s tightening cycle lags the tightening cycle in the US. On the whole, Draghi has continued to indicate that overall monetary accommodation is still needed for the near term, with eventual policy normalising still several quarters away.



In Japan, Prime Minister Shinzo Abe’s political mandate remains strong after his coalition maintained its supermajority in the October elections. Abe has continued to advocate for a weaker yen to drive his economic agenda. Rising yields in the US and rate hikes from the Fed should produce better conditions for the BOJ’s monetary accommodation to have its intended effect of weakening the yen.



Overall, we continue to maintain low portfolio duration while aiming at a negative correlation with UST returns. We continue to hold select local-currency duration exposures in countries that we believe have healthy fundamentals and significantly higher yields than those available in developed markets. Looking ahead, we anticipate rising UST yields with continued economic expansion and exceptionally strong US labour markets. We also expect depreciations of the euro and Japanese yen against the US dollar and currency appreciations across a select subset of emerging markets.

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Balance Sheet Unwinding and Rate Hikes from the Fed Should Pressure Yields Higher We expect UST yields to rise and the US-dollar to strengthen as the Fed moves towards tightening policy while US inflation pressures pick up. The Fed’s balance sheet unwinding is likely to put additional upward pressure on yields, in our view. Several major buyers of USTs have pulled back from the UST market in recent years, including foreign governments and central banks in Asia, notably the PBOC. Major oil producing countries have also pulled back, becoming net borrowers instead of net lenders as they were when oil prices were above US$100 per barrel. The Fed will now be added to that list of diminishing demand, as it unwinds its UST positions at a pace of US$6 billion per month, raising that pace by US$6 billion every three months until reaching a pace of US$30 billion per month. It will also unwind its MBS purchases at a pace of US$4 billion per month, increasing that pace by US$4 billion every three months until reaching a pace of US$20 billion per month. Although the Fed’s credibility came into question when it backtracked on projected rate hikes in 2016, we expect it to remain on course with balance sheet unwinding and rate moves in 2018. The Fed has indicated intentions to hike rates three times in 2018 and move towards a policy rate of 2.75% in 2019. Markets have appeared to focus on the speed and extent of rate hikes from the Fed, but not placed enough attention on the effect of the Fed’s balance sheet unwinding, an unprecedented course of action. It could theoretically go smoothly with few disruptions, but in practicality we think that’s unlikely. Uncertainties in the markets would likely put further pressure on bond valuations, in our view. Investors who are holding longer duration exposures are taking on a lot of asymmetric risk, in our opinion, particularly in an environment of economic resilience and growing inflation pressures. On the whole, we continue to expect inflation pressures to rise with resilience in the US economy and exceptionally strong US labour markets. We have seen wage pressures pick up in specific pockets of the economy, and we expect those pressures to accelerate. Policy constraints on immigration have also been pressuring wages in various labour sectors. Additionally, financial sector deregulation has the potential to accelerate credit activity, stimulate investment and accelerate the velocity of money, which would further drive inflation. Fiscal expansion could similarly add to inflation dynamics. Overall, our expectations for rising inflation are not dependent on a specific policy adjustment (nor are they dependent on commodity prices); rather they reflect all of the already-existing factors combined with the potential for supplemental policy factors. We see preconditions for rising inflation over the next couple years, which should pressure yields higher.

The US Is Poised for Continued Expansion, with Recession Risks Still a Couple Years Away We continue to anticipate resilient expansion of the US economy over the next year. US labour markets remain exceptionally strong, with unemployment in December at 4.1%. Certainly, we watch for signs of a recession, but we still see that

as being a few years away. Just because we have had a longerthan-usual expansion period does not mean a recession is imminent. It is not the timeline of an expansion that triggers a recession, rather it is the eventual buildup of overcapacity—the US is not at that point yet, in our assessment. A number of potential Trump administration policies may fuel growth and add to existing inflation pressures, in our view. The administration has pushed ahead with deregulation and tax reform which we expect to have expansionary impacts. Additionally, lending activity has picked up with banks drawing down reserves and second tier financing increasing. These activities can fuel the economy and boost inflation, but also can accelerate the pace at which we eventually get to an overheated economy and ultimately to a contraction. The US economy has been growing above potential in an environment of full employment for several quarters—additional stimulus at this late stage of the current expansion raises the potential for overcapacities.

We Remain Focused on Domestically Driven Emerging Markets We have recently focused on countries that are less externally vulnerable and more domestically driven, and that have demonstrated their resilience to potential increases in trade costs. Select emerging markets that have higher rate environments and domestically-oriented economies are likely to fair better in a rising rate environment than countries with low yields and more externally-driven economies, in our view. In Asia, we currently prefer countries with strong domestic drivers that are less leveraged to China, such as India and Indonesia, while we have moved away from economies that are more externally dependent, such as Malaysia. In Latin America, we are focused on countries that have turned away from previous failed experiments with populism, such as Brazil and Argentina, and are now moving towards more orthodox policies with credible monetary policy, proactive business environments and outward-looking trade. We also see attractive valuations in countries like Mexico and Colombia that have maintained sound policy discipline while broadening their economies beyond commodities. Over the last decade, several emerging-market countries have significantly improved their resiliencies, by increasing their external reserve cushions, bringing their current accounts into surplus or close to balance, improving their fiscal accounts, and reducing US-dollar liabilities by increasingly turning to domestic sources of financing. Thus, episodes of currency depreciation have not triggered solvency crises as they often did in the past. Additionally, a number of countries have more external assets than liabilities, so currency depreciation actually lowers their debt-to-GDP ratio. Certainly 20 years ago it may have been difficult for many emerging markets to weather a protectionist trade shock, a commodity price shock and an exchange rate shock all at the same time, but today several countries have greatly reduced those external vulnerabilities.

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In 2017 we saw notable strength in the local-currency markets of Brazil and Indonesia, amongst others. We saw tailwinds develop across a number of emerging markets as foreign investment returned to several undervalued markets this year. A lot of capital left in prior years—when it came back the valuations in those asset categories tended to come back quickly as well. However, there is still a lot of room to strengthen given how far valuations dropped in prior years, particularly during the selloffs in 2016. We see a lot of upside potential ahead in select local-currency markets in Latin America and Asia, particularly in countries with resilient economies and relatively higher, maintainable rate differentials.

Argentina and Brazil Are in the Early Stages of Unlocking Tremendous Economic Potential We have been seeing more opportunities in Latin America than we traditionally have in the past. Several countries in the region have already suffered through populist polices, learned the consequences and are now appropriately moving in the opposite direction. Ultimately, the laws of economics prevail— one has to cure the actual problems, not disregard or worsen them through loose fiscal and monetary policy. Brazil and Argentina are currently undergoing those crucial adjustments to policy that can put them on a significantly stronger economic course. In Brazil, the changes underway are massive structural shifts that should unlock the domestic drivers of the economy. While there are certainly some near-term risks, the longer-term economic picture continues to show tremendous potential, in our view. Brazilian markets experienced some short-term volatility in late May when the political scandal related to President Temer escalated. However, markets ultimately rebounded and stabilised within days, correcting that temporary overreaction. Since then, Brazilian local-currency markets have strengthened significantly, with yields declining to levels not equaled since 2013. On the whole, the political will in Brazil to move beyond its failed policies of the past remains strong, and it goes far beyond President Temer’s mandate. The country now has a technocratic, conservative central bank and finance ministry that are taking appropriate action and following orthodox policies. Although some reform efforts have been delayed by the corruption charges against President Temer, longer-term reform efforts continue. Pension reform may be delayed until a new administration takes over. Nonetheless, the overall political will to enact important structural reforms is much stronger today than it was during much of the past decade—the country’s economic prospects continue to look strong, in our view. Argentina also went through an experiment with populism that ended in economic disaster: rapid inflation, high unemployment, a lack of growth, a lack of investment, and social unrest. After a decade of failed policies, the population finally had enough and voted out the Kirchner government, bringing in President Mauricio Macri and his more orthodox policies. The Macri administration has quickly turned policy around, notably

unshackling the economy by deregulating, opening trade and ending manipulations of the exchange rate and utility prices. In October 2017, Macri’s political coalition captured a number of key victories in elections that were largely viewed as a referendum on his political mandate. The victories strengthened his coalition’s positions in both houses of Congress, and improved the likelihood of passing tax and labour reforms in upcoming quarters. Certainly, Argentina is still in the early phases of its policy turnaround, which will take a couple years to have effect. But the removal of toxic policies has already demonstrated how the economy can function without the burden of a heavy-handed government. We are no longer seeing career bureaucrats, instead we are seeing highly competent, highly trained PhD economists in important posts such as the central bank board and the ministry of finance. The result has been a return to responsible policymaking, which has re-energised investment in the country. This early stage of the turnaround story in Argentina is one of those unique periods in financial markets when a country may be experiencing both a rise in growth and a decline in inflation at the same time, because the policies are aimed at those ends. We see enormous economic potential if these types of reform efforts continue. Overall, Argentina’s localcurrency markets have significant risk premiums priced in that we believe appropriately compensate investors for the nearterm risks.

The Mexican Peso Remains Fundamentally Undervalued The Mexican peso weakened further in December on renewed concerns over NAFTA negotiations with the US and uncertainty over the upcoming presidential election in July 2018. However, on a fundamental basis the Mexican peso remains undervalued, in our assessment, and we see scope for additional strengthening. Growth has been largely in line with potential while the government remains committed to orthodox policies, with a highly credible central bank. Overall, the institutions in Mexico remain strong, regardless of who takes over the presidency in December 2018. Ongoing strength in the US economy would also benefit the Mexican economy, in our assessment, helping to support a recovery in Mexico’s exchange rate. Overall, we see continued resilience in Mexico’s economy and do not see it being derailed by potential tariffs or NAFTA negotiations.

Structural Reforms in India Should Significantly Improve the Country’s Economy In India, Prime Minister Narendra Modi’s reform policies have been bringing the country’s growth closer to its potential, while policy credibility from the central bank has created a stronger environment for attracting foreign investment. Although markets have appeared (at times) disappointed with the pace of reforms, we expect ultimately positive effects and we remain comfortable with the way monetary policy is being run. Regional political victories are strengthening Modi’s hand and supporting the path he is on, while the economy is running well on reasonable fiscal policy, appropriate monetary policy and reduced inflation.

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Potential risks or shocks to the economy appear likely to be external, which can be mitigated by the domestically driven nature of India’s economy. Currently, we prefer these types of large, domestically driven economies that are less impacted by what may be happening around the world. If global trade issues were to develop (through US policy adjustments, for example), trade with China would likely be the most significantly impacted. We have preferred countries in Asia, such as India, that are less dependent on what happens with China.

China’s Over-Dependence on Credit May Increase its Vulnerability to External Shocks in a Couple Years China’s economy remains in a “soft landing,” but ongoing rebalancing is needed for the long term. The near-term picture looks fairly stable, in our assessment, but we have concerns for two or three years down the road as China’s pace of growth now depends on almost five times as much credit to generate one unit of GDP as it took in the surge of post global financial crisis growth, starting in 2009. The Chinese authorities appear aware of this, but it remains to be seen if they can effectively manage a slowdown in credit. We have seen a number of policies wind down, but we do not expect a hard landing at this point. However, if China has not reduced its credit dependence in a couple years and we get an exogenous shock, such as a recession in the US, then China’s ability to intervene to stimulate its economy will be substantially less effective than it was during the last US recession. These risks warrant ongoing monitoring, but the near-term picture appears to support a continued moderation in growth and not a hard landing. With regard to the currency, China has done a good job of managing its exchange rate policy. It has allowed its exchange rate to depreciate while also clamping down on the capital account. Earlier this year, the PBOC introduced a countercyclical factor to its currency fixing, in an attempt to dampen one way depreciation expectations for the renminbi, resulting in a period of strengthening. The PBOC subsequently removed two regulations in early September, quickly resulting in a resumption of the renminbi’s depreciation trend. Longer-term, we expect the renminbi to gradually weaken as the PBOC continues to allow the exchange rate to depreciate. We do not expect a sharp 20% depreciation or a rapid loss of all external reserves in a month. Instead, we anticipate gradual reserve management and gradual currency depreciation.

The Japanese Yen is Poised for Depreciation as Rates Rise in the US In Japan, Prime Minister Shinzo Abe’s political mandate was fortified with snap elections held in late October. Abe’s political coalition maintained its supermajority, holding 313 of the 465 seats in the House of Representatives, a two-thirds majority. Abe has continued to advocate for a weaker yen to drive his economic agenda. Rising yields in the US and rate hikes from the Fed should produce better conditions for the BOJ’s monetary accommodation to have its intended effect of weakening the yen. Fortunately, Japan now has its monetary policies in a good place to essentially allow the Fed to do the work of depreciating the yen for them. During much of 2016, no

matter what the BOJ did, the Fed’s actions (or lack of action) determined the rate differentials and the currency valuations. When the Fed lowered expectations for rate hikes in March 2016, that move essentially washed out the effectiveness of any easing policies from the BOJ. The same can now be true in the reverse—the BOJ does not have to change its current policy stance to get the depreciation it seeks if the Fed now resumes raising rates at a more meaningful pace. The policy of anchoring the 10-year Japanese government bond yield at 0% essentially gives the BOJ unlimited QE capacity to buy as much of the bond market as it needs to target that rate. Additionally, the BOJ is nowhere close to a stage where it can taper its QE programme, as Japan continues to battle deflation. Thus, ongoing QE is expected for quite some time.

The Euro Remains Vulnerable to Populist Risks, as Well as Ongoing Monetary Accommodation Despite the eurozone being in a cyclical upswing, we continue to have a negative view on the euro not only because of ongoing monetary accommodation, but also because of populist risks. ECB President Mario Draghi has indicated a desire to eventually normalise rates but has also said that the eurozone continues to need monetary accommodation. Eurozone optimism surged during the summer months but appeared inconsistent with the unresolved structural and political risks within the union, in our view. Angela Merkel’s election victory in September 2017 came with new uncertainties around forming a coalition. Additionally, the far-right movement polled at its highest level in several generations. Merkel’s efforts to from a coalition were unsuccessful in 2017, increasing the political uncertainty for Europe. In October 2017, ECB President Mario Draghi announced a reduction in the ECB’s bond-buying programme, as expected, to €30 billion per month, down from the current pace of €60 billion per month. The adjustment is scheduled to begin in January 2018 and continue at that pace through at least September. Draghi indicated that bond purchases could continue beyond September if necessary, until the governing council sees a sustained adjustment in inflation. Reinvestments would still continue after the purchase programme ends, effectively preserving the accommodating effects. Draghi also indicated that rates would not be hiked until QE ends, implying that rates would likely remain unchanged in 2018. We expect the euro to weaken against the US dollar as the ECB’s tightening cycle lags the tightening cycle in the US. Additionally, we continue to see ongoing risks to the political cohesion across Europe as populist movements continue to influence the political discourse. The euro remains vulnerable to unresolved structural and political risks across Europe, in our view. Additionally, widening rate differentials between the rising yields in the US and the low to negative yields in the eurozone should depreciate the euro against the US dollar, in our view. A number of investors seemed to conclude during the summer months that Emmanuel Macron’s victory over Marine Le Pen in the French presidential election meant we no longer needed to be concerned for populist risks in the eurozone. But there are

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still issues within the union. Certainly, there are parts of the eurozone that are doing much better than others on structural reforms, fiscal balancing and growth, such as Germany, but other countries like Italy remain structurally vulnerable to an eventual increase in rates. Overall, the eurozone at large is still vulnerable to an exogenous shock, in our view. Eurosceptic movements are likely to be an ongoing issue in Europe until the underlying causes are mitigated. Unfortunately, the factors that have generated populism (i.e., immigration issues, the refugee crisis and terrorism) do not show signs of diminishing, in our view.

Unconstrained Strategies Have More Options for All Types of Market Conditions We continue to believe that an unconstrained global strategy is the most effective way to position for shifting global markets because it provides access to the full global opportunity set and unlimited capacity to directionally position (long and short) for prevailing market conditions. Unconstrained strategies can adjust duration to any suitable level for current interest-rate risks, including driving overall portfolio duration closer to zero while taking negative duration exposure to US Treasuries. The strategies can also selectively add suitable duration exposures from specific emerging markets that have relatively higher yields, such as those currently available in a number of localcurrency emerging markets. Unconstrained strategies have the flexibility to directionally position (long positions and short positions) across currency markets, which present a wide range of valuation opportunities in each direction, during each phase of each country’s investment cycle. We have used shorts of the euro and yen to hedge against broad-based strengthening of the US dollar, and we have taken long positions in select emerging-market currencies that we view as having attractive longer-term valuations.

We Remain Positioned for Rising UST Yields and Currency Appreciations in Select Emerging Markets On the whole, we have continued to position our strategies for rising rates by maintaining low portfolio duration and aiming at a negative correlation with UST returns. We have also continued to actively seek select duration exposures in emerging markets that can offer positive real yields without taking undue interestrate risk, favouring countries that have solid underlying fundamentals and prudent fiscal and monetary policies. When investing globally, investment opportunities may take time to materialise, which may require weathering short-term volatility as the longer-term investing theses develop. In recent quarters, we have focused our positioning on select local-currency markets in Asia and Latin America that we believe have attractive medium- to longer-term valuations. We have incrementally shifted out of positions that have completed our envisioned investment cycle to reallocate to new localcurrency opportunities and to add to existing positions. We have notably added to some of our strongest investment convictions when prices became cheaper during periods of heightened volatility. On the whole, we are optimistic for the macro environments in a number of emerging markets. Currently, we favour currencies in countries where growth remains healthy and yields remain relatively high, yet the local currency remains fundamentally undervalued. Looking ahead, we anticipate rising UST yields, depreciations of the euro and yen against the US dollar and currency appreciation across a select subset of emerging markets.

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IMPORTANT LEGAL INFORMATION This document is intended to be of general interest only and does not constitute legal or tax advice nor is it an offer for shares or invitation to apply for shares of any of the Luxembourgdomiciled SICAV Franklin Templeton Investment Funds (the “Fund”). Given the rapidly changing market environment, Franklin Templeton Investments disclaims responsibility for updating this material. Subscriptions to shares of the Fund can only be made on the basis of the current prospectus of the Fund, accompanied by the latest available audited annual report and the latest semi-annual report if published thereafter. An investment in the Fund entails risks which are described in the Fund's prospectus. The value of shares in the Fund and income received from it can go down as well as up, and investors may not get back the full amount invested. Past performance is not an indicator or a guarantee of future performance. Currency fluctuations may affect the value of overseas investments. When investing in a fund denominated in a foreign currency, your performance may also be affected by currency fluctuations. In emerging markets, the risks can be greater than in developed markets. Investments in derivative instruments entail specific risks that may increase the risk profile of the fund and are more fully described in the Fund’s prospectus. If the fund invests in a specific sector or geographical area, the returns may be more volatile than a more diversified fund.

No shares of the Fund may be directly or indirectly offered or sold to residents of the United States of America. Shares of the Fund are not available for distribution in all jurisdictions and prospective investors should confirm availability with their local Franklin Templeton Investments representative before making any plans to invest. Opinions expressed are the author’s at publication date and they are subject to change without prior notice. Any research and analysis contained in this document has been procured by Franklin Templeton Investments for its own purposes and is provided to you only incidentally. A copy of the latest prospectus, the annual report and semi-annual report, if published thereafter can be found on our website: www.franklintempletongem.com or can be obtained, free of charge, from the address below. Issued by Franklin Templeton Investments (ME) Limited, authorized and regulated by the Dubai Financial Services Authority. Dubai office: Franklin Templeton Investments, The Gate, East Wing, Level 2, Dubai International Financial Centre, P.O. Box 506613, Dubai, U.A.E., Tel.: +9714-4284100 Fax:+9714-4284140.

1. Source for all fund information is Franklin Templeton Investments. Benchmark-related data provided by FactSet. Past performance is no guarantee of future results. Portfolio holdings are subject to change. 2. Source for Morningstar rankings is © 2018 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.

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