Navigating the uncertain waters

By: Franklin Templeton

Michael Hasenstab, Executive Vice President and Portfolio Manager at Franklin Templeton recently wrote a paper titled ‘Navigating the uncertain waters: Preparing for a post-pandemic world’ – Download the PDF here

In the paper, he poignantly points out that we’re now globally witnessing the early stages of an economic and social downturn.  He predicts that this downturn will be relatively more impactful than the global financial crisis (GFC). Global growth is expected to experience a contraction five times, compared to what was felt in 2008.  Meanwhile, growth in the US will likely double its 2008 contraction to the downside. Changes in public health strategies are likely to forever alter how business is conducted and society functions.

The policy response so far has been substantial from both the fiscal and monetary sides. However, already stretched deficits and central bank balance sheets across the developed world will likely present a constraint on stimulus efforts.

Moving forward will be challenging from an epidemiological and economic standpoint. Considering the potential paths ahead, we see a gradual reopening and recovery as the most likely scenario. Pursuant to this view, we see US unemployment spiking to levels unseen since the 1930s, and remaining peaked over the medium term due to delicate business dynamics that will be seriously tested during the lockdown period.

Here is a summary of key takeouts extracted from the paper:

1.Where are we? Macroeconomic and policy backdrop

  • Economic collapse (both supply and demand shock) and TGM estimate on growth.
    • The world now faces a momentous crisis, gripped by an unprecedented sharp economic downturn whose only comparator in modern history is the Great Depression. The ongoing pandemic has already claimed the lives of at least 286,000 people globally and, shut international borders as well as cities and localities around the world. Even as the impact of the pandemic’s magnitude begins to be better understood, the path to recovery remains as uncertain as the characteristics of the post-pandemic economy into which we are headed.

 2. Reopening the economy

  • Growth path during the crisis and after
    • There are many reasons for the international economic recovery to proceed at a measured pace over the next few months and years. As noted in the above sections, the source of the economic crisis is a mirror effect of the ongoing health crisis. Until economies can safely move on to full containment and mitigation of the disease, social distancing measures and other restrictions will continue to weigh on growth.

 3. Where will we be post-virus?

  • Even more stretched monetary and fiscal balance sheets
    • Heading into this crisis, debt levels and accommodative monetary stances were already stretched to unprecedented levels. As governments respond presently, we see those levels climbing further into uncharted territory. In the US, using the CBO’s deficit and growth forecasts from April, debt-to-GDP would rise by another 20% of GDP from its already high level.

4. Investment implications

  • Flexible and opportunistic strategies to better capitalise on market shifts
    • Unconstrained strategies often have the flexibility to reduce or increase portfolio risk based on market developments. This flexibility enables the team to shift from a defensive position and a reduced risk budget in the lead-up to a bear market, to quickly re-position for an eventual risk-on environment.

5. Environmental, social and governance implications

  • One of the few positive developments of this period has been the substantial reduction in carbon emissions globally following the implementation of lockdowns. During a four-week period beginning in February China, the world’s largest emitter, saw its emissions fall by 25%.  In Europe, the daily carbon emissions of the EU’s twenty-seven member states have fallen by 58% since the implementation of strict measures to curb the pandemic, including nationwide lockdowns. In the United States (the world’s second largest emitter), the Energy Information Agency has predicted that national energy related carbon dioxide emissions will fall by 7.5% in 2020, compared to a decrease of 2.7% in 2019. Although the majority of these gains may be lost after we emerge from the pandemic, a portion of this improvement in emissions is likely to persist regardless of policy decisions.

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