RFS Advice’s Troy Theobald was featured in the Financial Review last week, discussing market cycles.

Active investment management can generate returns not just when markets are dislocated but across market cycles. This approach allows fund managers to see through short-term volatility and identify growth themes that resonate over time…

Portfolio manager Donald Huber says active management is at the heart of Franklin Templeton’s underlying philosophy. “Our holdings are driven by deep, fundamental research to create a diversified portfolio of high-quality, growth companies.”

Investing during uncertain times. Getty.

As a result, its portfolio looks very different to one that is passively aligned to a benchmark index such as the ASX200.

“Our preference for long-term growth opportunities and specialist businesses leads us to include top mid-cap companies, in addition to large caps, in the portfolio. We are in an uncertain period, provoking challenges for many companies. Investing based on informed decisions, rather than passively owning an index, is more important than ever,” he adds.

Tim Wedd, executive director of financial planning firm Crystal Wealth, agrees an active approach makes sense in the current market. “You don’t want to own the index when markets are dislocated. These are times when anomalies emerge. You want active managers.”

When markets are volatile it’s tempting to question whether a portfolio is positioned for an upturn or a downturn. What’s more important is whether the fund is positioned for the long-term. As such, Wedd says it’s essential to minimise short-term market noise and take a long-term structural view. “The idea is to form a view as to whether megatrends will still be in place after the lockdown ends. It’s not about picking the top or bottom of the market.”

Additionally, it may be tempting to engage in short-term trading strategies to make quick profits when markets are dislocated. But, says Huber, this is problematic given no-one, including scientists, politicians, economists and market strategists, has yet a clear view on the outcome of the crisis. “Some may use shares to place bets over the market. But this is not what I’d consider to be equity investing and it’s not what we do on behalf of our investors.”

Troy Theobald, director of RFS Advice, takes a similar approach. “You don’t need to race into markets during these times. A structured buying approach over four to six months should provide a good average entry point for investing for the long term.”

The role of research

Franklin Templeton employs a concentrated strategy when it composes its investment portfolio, which comprises between 35 and 40 companies.

“Deep, fundamental research is the only way to gain conviction for this strategy,” says Huber. “Our analysts only cover up to 12 companies. They are able to gain a thorough knowledge of these businesses, as well as a strong understanding of their competitors, customers and suppliers.”

Only high-quality, growth companies are included in the portfolio. They must generate strong free cash flow, which they use to support growth and shareholder value. “We only invest in businesses with a competitive advantage, quality management and balance sheet strength,” Huber adds.

With an investment horizon of between three and five years, Franklin Templeton is in a strong position to understand the potential impact of immediate events on the portfolio.

“We usually don’t need to eliminate holdings due to market dislocations – be it the current pandemic, the market swoon in the fourth quarter of 2018 or the financial crisis of 2007/2008. This is due to research, the diversified nature of our portfolio, the type of companies we own and their financial flexibility. Our conviction tends to be rewarded,” explains Huber.

It’s a sentiment with which Theobald concurs. “We stick to our asset allocations with quarterly reweighting. This allows our clients to take profits in strong quarters and then buy into negative quarters.” Nevertheless, he acknowledges the current pandemic has tested investors’ resolve. “The flow on effects will continue for years. This needs to be factored into any investment decisions.”

Identifying opportunities

For Franklin Templeton, what’s important is finding businesses with sustainable growth.

“Over time, there will be potential to rebalance outperformers and laggards across the portfolio. This is the benefit of active management combined with fundamental research,” he adds.

As clarity emerges as to the way out of the coronavirus pandemic, the team will also be able to identify companies to add to the portfolio that were once considered expensive.

Says Huber: “We may also find opportunities in areas where we aren’t invested now. We have no direct exposure to travel, for example. We’ve been rewarded for that in the early months of the crisis. But this could be a sector to consider in the future.”

He cites healthcare as another interesting and relevant sector during this period: “Therapeutics and testing companies, specifically those with potential treatments for COVID-19, or a vaccine or testing, are clearly doing well right now. But there is also a group of companies tied to more elective procedures, which have either been restricted in the lockdown period, or suffering from patient skittishness at going into a hospital or outpatient facility. Those companies have lagged in this early period, and they may become more attractive as an easing of shelter-in-place measures comes into view.”

Different industries will follow unique paths to recovery. What’s important from this point is to analyse a range of scenarios for all companies currently held or under consideration for the portfolio to help drive shareholder returns.

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