The fund’s exposure to high-yield bonds and small-value stocks helped push it to a 16.3% gain for the year after a disappointing 2015.
Franklin Income rewarded faithful investors in 2016 following 2015’s struggles. The same value bias in equities and reliance on high-yield bonds that caused this multiasset income fund to lose 7.3% in 2015 played to its favor in 2016, when it climbed 16.3% for the year. The fund has seen similar performance swings in the past. While this rocky path may not suit all income-hungry investors, those willing to stick with the fund through hard times still have much to like here. The fund retains its Morningstar Analyst Rating of Bronze.
Lead manager Ed Perks continues to uphold the fund’s decades-old legacy of pursuing income via multiple asset classes, which he has done since taking the helm in 2002. The fund’s 12-month yield has averaged roughly 6.4% during his tenure. True, Perks has additional responsibilities, most recently becoming the chief investment officer of all Franklin Templeton equity teams in October 2015, but this flagship fund still has his attention. Plus, he has ample research support, including two comanagers--Alex Peters and Matt Quinlan--and various equity and fixed-income teams across the firm.
An enormous asset base--$79 billion in assets as of November 2016--hasn’t prevented Perks from making sizable portfolio shifts here. Perks still managed to quickly add to the fund’s equity exposure during 2015's third-quarter stock market dip. This lifted its equity stake to nearly 60% of assets as of September 2015--the fund’s highest level under Perks and notably higher than the roughly 40% average during his tenure. Subsequently, he trimmed equity exposure to 50% by June 2016, including the sale of strong-performing utilities stocks, and shifted toward high-yield bonds that he found attractive because of tightening credit spreads. High-yield bonds still represented more than 90% of fixed-income exposure as of September 2016.
The fund has met its two objectives--maximize income and capital appreciation--but investors should be aware of the potential for deep losses. The fund lost 39.1% from November 2007 through February 2009 amid the economic crisis.
Process Pillar: Positive | Jeff Holt, CFA 01/05/2017
This fund aims to deliver income and long-term capital appreciation using a diversified, valuation-conscious approach. Management invests in a mix of dividend-paying stocks, investment-grade and high-yield bonds, bank loans, convertibles, and equity-linked securities. This decades-old approach has consistently produced a relatively high yield and solid long-term absolute returns, supporting the fund’s Positive Process rating.
Management has significant flexibility to shift the portfolio, relying on bottom-up security selection to drive the asset allocation without regard to sector weightings or credit quality breakdown. The fund has no prospectus limits on its asset class or high-yield exposure, though non-U.S. exposure is capped at 25% of assets. The portfolio has averaged roughly 40% in equities since lead manager Ed Perks took the helm in 2002, but that stake has ranged from 25% to 60% of assets during that time.
Within equities, management gravitates toward large-cap dividend-payers, which often results in big slugs of utilities, materials, and energy stocks. On the fixed-income side, the fund mostly consists of high-yield bonds. Convertibles and equity-linked securities make up the balance of the portfolio and have collectively accounted for 5%-15% of the fund’s assets during the past 10 years. It is not uncommon for the fund to hold the same company across the capital structure.
Despite this fund’s large size, lead manager Ed Perks continues to demonstrate his ability to make meaningful portfolio shifts. After ramping up the fund’s equity exposure to a peak of nearly 60% as of September 2015, Perks pared back the position in early 2016--Morningstar data shows it represented roughly 52% of the portfolio as of September 2016. Perks trimmed exposure to utilities stocks, which was a top-performing sector in early 2016, and added to high-yield bonds as tightening credit spreads made them attractive. The fund’s value-tilted position on the holdings-based style map clearly reflects his attention to valuations.
The fund’s equity stake consists primarily of large-cap, dividend-paying companies. Utilities and energy stocks continue to play a significant role in the equity portfolio, but Perks’ largest additions in the past year were outside those sectors, including Anheuser-Busch InBev BUD and Apple AAPL from the consumer staples and information technology sectors, respectively.
The fund’s fixed-income exposure remains predominantly invested in high-yield bonds. Morningstar data indicates that below-investment-grade bonds comprise more than 90% of the bond portfolio as of September 2016. This position, combined with the fund’s size, courts liquidity risk, though Perks was able to manage the portfolio to his liking when high-yield bonds struggled in late 2015/early 2016.
Performance Pillar: Neural | Jeff Holt, CFA 01/05/2017
This fund’s healthy appetite for risk causes dramatic performance swings. The fund surged ahead in 2016, generating a 16.3% return that beat 99% of allocation peers that generally hold between 30% and 50% in stocks. The fund’s atypically heavy stake in stocks coming into the year--55% of the portfolio as of December 2015 according to Morningstar data--proved beneficial as stocks generally outpaced bonds. A bias toward energy and utilities stocks also boosted results, as did sizable exposure to high-yield bonds, which represent most of the fund’s bond allocation. The strong 2016 results follow the fund’s 7.8% loss in 2015 that landed near the bottom of its Morningstar Category. A similar performance swing occurred when the fund’s 30.5% loss lagged 96% of its category peers in 2008, only to bounce back with top-decile returns in four of the five following calendar years.
The fund boasts solid long-term results on both an absolute and relative basis, but the rocky path to achieve those results supports a Neutral Performance rating. The fund’s 7.3% annualized gain since Ed Perks took over in 2002 through December 2016 matched the S&P 500’s 7.3% return, but its sizable equity and high-yield bond exposure pushed volatility higher than that of the typical category peer. Investors should expect the fund to suffer when equity or high-yield markets pull back.
People Pillar: Positive | Jeff Holt, CFA 1/05/2017
This fund’s long-tenured lead manager--Ed Perks has been at the helm since May 2002--drives the fund’s Positive People rating, and investors can be confident that this fund still has his attention. He also runs Franklin Balanced FBLAX, but Franklin Income’s $79 billion in assets dwarfs that fund’s $3 billion. Plus, he has four comanagers on that fund. In addition to his portfolio management responsibilities, Perks assumed the new position of chief investment officer over all Franklin Templeton equity teams effective October 2015. Previously, he was the CIO of Franklin Equity Group.
The leadership responsibilities require Perks’ attention, but he’s not alone here. A pair of experienced managers--Matt Quinlan and Alex Peters--joined the manager roster in December 2012, after helping Perks run an identical strategy for institutional clients. Quinlan has been a manager on Franklin Equity Income FISEX and Franklin Convertible Securities FISCX since March 2011 and October 2007, respectively, having joined the firm in 2005. Franklin Real Estate Securities FREEX generated disappointing results on Peters' watch from early 2003 through early 2008. He joined the firm in 1992 as an analyst.
This trio leverages the research of various teams within Franklin Templeton, including the credit research team. Franklin's portfolio analysis and investment risk group provides risk-management support.