Franklin Global Growth continues to be a high-quality manager despite recent headwinds. Following the changes in 2018 when longstanding portfolio manager Coleen Barbeau departed, replaced by John Remmert, the fund has continued to march forward. The Canadian vehicle continues to be capably managed by John Remmert, Patrick Mckeegan and Yan Lager, which added to the fund’s management team in 2020 and 2021.
We were pleased to see the firm's commitment to developing more generalist analysts to manage succession. Though two experienced analysts departed in 2019, and another in 2021, they have been replaced by solid hires. Notwithstanding these changes, we are pleased to see that the team’s quality remains strong and the standard of their research and consistency of the process have not been affected.
The fund's strategy invests in companies with long-term growth prospects, proven management teams, and ample free cash flow generation. This approach is similar to other growth-oriented strategies, but the resulting portfolio is differentiated. The team pays little attention to the index and well-known large-cap growth names are rarely included in the portfolio. The focus is on mid-cap names with uncorrelated earnings. This is particularly important as the portfolio is relatively concentrated, typically holding around 35 names. The concentration and the style of the portfolio mean returns can fluctuate over shorter periods, but patient investors should be rewarded over the longer term. In the first half of 2022, the fund has been buffeted by the turning of the market from growth to value and this fund has not been alone in being significantly affected. That said, we continue to maintain strong faith in Franklin Global Growth.
Process
Franklin Global Growth uses an unwavering buy-and-hold approach to gain exposure to sustainable growth companies. The management team seeks high-quality stocks powered by sustainable business models, proven management teams, and strong free cash flow generation. That may seem like a standard approach, but Franklin uses a novel process to achieve that exposure.
The fund seeks holdings with earnings streams that are relatively uncorrelated, so its analysts go beyond sector classifications to think more deeply about the source of a company's revenue and the long-term market, economic, and demographic factors that will influence it. They put stocks into subgroups with uncorrelated characteristics and zero in on one winner within each. The analysts must present their recommendations to the management team. All stocks must be rated either "outperform" or "sell," which removes the possibility of fence-sitting. While the managers are willing to pay for sustainable growth—the portfolio often has higher price ratios than the broader market—they keep an eye on valuations and sell when the stock prices are no longer justifiable. Portfolio turnover is low at about 30%-50% annually, which is consistent with the team’s long-term approach and helps minimize trading costs and tax impact. The strategy can invest up to 20% directly in emerging markets.
Portfolio
Franklin focuses on sustainable, high-quality businesses. It has a lower average market cap than most rivals in its search for growth companies, which can increase volatility. Adding to that risk is the punchiness of the portfolio, with around 35 stocks. However, the portfolio diversifies away concentration risk by holding companies with relatively uncorrelated revenue streams and by limiting individual weightings to 1.5%-4.0%. Franklin invests across regions, though US and European stocks dominated (as of July 31, 2022) with 74% and 8% exposure, respectively. Emerging markets took up 5% of the portfolio (July 31, 2022).
Technology, healthcare, financial services, consumer discretionary, and industrials are the largest allocations in the fund (at July 31, 2022). True to its approach, however, Franklin limits investments in stocks with high economic overlap, for example, those with commodity price exposure. The portfolio can hold up to 10% in cash, though historically the team has kept this number below 5%. The fund is best used as a supporting player within a global equity sleeve of a portfolio given its stock concentration and mid-cap bias. We think supporting players should not comprise more than one-third of exposure to the asset class.
Performance
Over the decade through July 31, 2022, the strategy’s fee-based share class delivered 12.95%, slightly beating the Morningstar Global Markets Gross Return Index’s 12.60%, and comfortably above the Morningstar Global Equity Category average, which returned 9.60%. The portfolio's concentration can lead to lumpy returns over the short-term and its growth style can cause it to lag in rough equity markets such as that experienced this year to date ending July 31, 2022.
Given the fund's concentration, stock-specific results typically drive returns. The fund delivered favorable returns in 2015 largely thanks to tech names. But performance took a sharp turn in 2016 as the fund notably lagged both its category and index as value made a comeback and growth fell out of favor. The strategy made a comeback in 2017 thanks to the consumer cyclical name MercadoLibre. 2018 was weak compared with the index as communication services and energy materially detracted. However, in 2019’s strong growth rally, the strategy outperformed by a considerable margin. The strong outperformance continued in 2020 with tech and consumer discretionary names contributing positively. In 2021 Chinese TAL Education was the largest detractor as the change in government policy caused the stock to crater amid the de-rating of growth stocks by the market.
People
Portfolio manager and head of Franklin's global equity team Coleen Barbeau retired at the end of 2018. Senior portfolio manager for the global large-cap team and longtime investor alongside Barbeau, John Remmert assumed her investment responsibilities for all global equity portfolios. Remmert has managed similar portfolios for the firm, and co-portfolio managers Patrick Mckeegan and Yan Lager will continue to support the Canadian vehicle, which provides some continuity. Considering these changes, the analyst team has also seen the addition of two generalists (one external hire, one internal rotation) in 2018-19 as a step toward succession planning in the long term.
The experience and tenure of the analysts are key to our continued confidence in this strategy, so it is unfortunate that there were two further departures in 2019 and another in 2021. Most of the team is based in New York, with an average of 17 years of investment experience and nine years at the firm. Bonus schemes focus primarily on strategy performance and the analyst or manager's contribution to it. Bonus payments are mostly in cash, one-third paid either in firm stock or fund shares vesting over three years.
Price
On the A and T series funds: It’s critical to evaluate expenses, as they come directly out of returns. The share class on this report levies a fee that ranks in its Morningstar category’s second-costliest quintile. That’s poor, but based on our assessment of the fund’s People, Process and Parent pillars in the context of these fees, we still think this share class will be able to overcome its high fees and deliver positive alpha relative to the category benchmark index, explaining its Morningstar Analyst Rating of Bronze.
On the F series fund: The share class on this report levies a fee that ranks in its Morningstar category’s second-cheapest quintile. Based on our assessment of the fund’s People, Process and Parent pillars in the context of these fees, we think this share class will be able to deliver positive alpha relative to the category benchmark index, explaining its Morningstar Analyst Rating of Silver.
