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Investment Team Update May 16, 2021–June 15, 2021

Perspective from Franklin Debt Opportunities Team Opportunities Monthly Review

Market Environment Oil prices rose to nearly US$73 per barrel during the month under review, which boosted those emerging markets that are net oil First-quarter US GDP (gross domestic product) growth was exporters. In early June, OPEC+ (the Organization of the confirmed at 6.4%, quarter-on-quarter (q/q) annualized, and non- Petroleum Exporting Countries and allies such as ) farm payrolls rose 559,000 in May, below consensus but around projected global demand of 5.5 million barrels per day (mbpd) for twice as high as in April. Eurozone activity also advanced strongly the fourth quarter of 2021, and global supply of only 4.6 mbpd. Oil as vaccination programs picked up speed, with the eurozone market participants viewed this 0.9 mbpd supply shortfall as composite PMI (purchasing managers’ index) rising from 50.5 in supportive for prices if, for example, a new US- deal were to April to 55.1% in May. increase global supply. The US Consumer Price Index (CPI) climbed 0.6%, month-on- Emerging Market Developments month, in May, after April’s 0.8% rise, which was the highest monthly number since 2009. Despite this acute price pressure, ’s CPI rose 0.17% in the second half of May, higher than investors appeared to scale back their long-term forecasts for US investors had expected, for a monthly increase of 0.20%, m/m. inflation. Ten-year US Treasury yields fell 0.13% over the month This rise implied inflation of 5.89%, y/y, down from 6.08% in April. under review, to 1.50% on June 14. Recent upside surprises in core inflation, Banxico said, had been driven by pandemic effects such as consumers' new spending Investors’ concerns over runaway inflation in developed markets habits and supply shocks. Banxico now expects more “sticky” core may have ebbed during the month under review, but prices in inflation this year, but recent pressures should be transitory and emerging markets continued to climb. In South America, ’s fade by the second quarter of 2022. monthly inflation rate hit 0.8%, its highest rate for May since 1996, and Mexico’s inflation rate rose to 6.1%, year-on-year (y/y), in Protests in continued. First initiated at the end of April April, twice its central bank’s target. ’s inflation rate in relation to Colombia’s tax reform, people also took to the streets remained at 5.1% in May, an eight-year high, while ’s over widespread allegations of human rights abuses. inflation rate breached 4% y/y in April and ’s central bank Standard & Poor’s (S&P) lowered its long- issued a warning that inflation may exceed 4% y/y soon. Inflation term foreign currency credit rating of Colombia’s government from rates in Belarus, Russia, and central Asia are on the rise BBB- to BB+ and its long-term local-currency rating from BBB to as well. In Africa, ’s inflation rate accelerated to a 14- BBB-. S&P believes that, after the popular protests led to month high of 4.4%, y/y, in April, and the projects that uncertainty over budget reform in Colombia’s parliament, fiscal ’s inflation rate will reach 16.5% in 2021. Prices in and adjustment will be more protracted and gradual than previously several other Asian economies rose above their central banks’ expected. targets. In , consumer prices rose 1.3% in May, yoy, compared with 0.9% in April. But the country’s central bank In mid-May, Chileans elected city councilors, mayors, governors declared that it expects inflation to stay under 2% for 2021, well and members of the Constitutional Convention, the body that will below the Chinese government’s 3% target. develop the country’s next constitution. The results were a blow to traditional political parties. No coalition secured enough votes to Several central banks in emerging markets such as Brazil, Russia control one third of the 155 seats in the Convention. and Belarus have raised rates, citing capacity constraints as their economies recover and faster-than-expected rises in commodity El Salvador surprised investors when it announced a US$500 and food prices. But central banks in some emerging markets see million bilateral loan from China, two weeks after its finance these inflationary pressures as transitory. Mexico’s central bank, minister dismissed rumors of a Chinese loan as fake news. An for example, estimates that inflation will fall back to the 3% mid- IMF (International Monetary Fund) spokesperson later indicated point of its target range in early 2022. For most other central that El Salvador and the IMF continued to make progress in banks, it remains to be seen how soon, and how fast, they might discussing macroeconomic and structural policies that could raise rates in coming months, or if they choose to adopt a wait- underpin a program supported by the IMF. and-see approach.

For Professional Client Use Only. Not for Distribution to Retail Clients. Peruvian public opinion was shocked by the worst terrorist attack The Executive Board of the IMF completed its fifth review of in the country in more than a decade, as 18 people were killed, Angola’s economic program under the country’s Extended Fund allegedly by a remnant of the Shining Path group. President Facility (EFF). An immediate disbursement of SDR535.1 million Sagasti called to avoid using the event for political purposes, but (about US$772 million), will be released, bringing total the attack increased uncertainty ahead of presidential elections on disbursements under the arrangement to SDR2.7 billion (about June 6. US$3.9 billion). At the occasion of that election, Pedro Castillo, a teacher’s union leader and head of a Marxist party, narrowly defeated his right- The Gabonese authorities and an IMF mission team reached wing opponent Keiko Fujimori, taking 50.2% of the vote. The rise staff-level agreement on economic and structural policies and of a 51-year-old rural schoolteacher, who was little known a few reforms that would underpin a three-year arrangement under months ago, could push Peruvian politics dramatically to the left. Gabon’s EFF. The new IMF-supported home-grown program aims at reducing fiscal and debt vulnerabilities and fostering a high The ’s president, Luis Abinader, marked his first nine months in office with an interview, stating that now is not sustainable, green, and inclusive private sector-led growth. The the time to table fiscal reform. This is a shift in stance from late fiscal consolidation effort is centered on increasing non-oil March and early April, when Abinader and surrogates stated that revenue by reducing tax expenditure and improving tax fiscal reform could not be delayed. Most likely, events in administration. Colombia, where mass protests have forced the government to rein in reform, pushed Abinader to delay his plans. Annual Credit rating agency Moody's downgraded the government of inflation in the Dominican Republic is running at close to 10%, Ethiopia's long-term issuer and senior unsecured ratings from B2 and this might also have been a consideration in delaying reform. to Caa1 and maintained it on review for a further downgrade. The downgrade reflects Moody's view that protracted deliberations During May, the Dominican Republic government completed a over Ethiopia's application for debt relief under the G-20 Common buyback of DOP92.4 billion (US$1.6 billion) of local securities, Framework have increased the risk of private sector creditors including both US-dollar and Dominican-peso notes. The government took advantage of record-low local rates to retire incurring losses. The passage of time since Ethiopia's application expensive debt, expand maturities and consolidate its yield curve to the Common Framework suggests a relatively complex into more liquid series. decision by the Common Framework's creditor committee.

The Surinamese government presented the broad lines of its Moreover, the US imposed sanctions against Ethiopia in response restructuring proposal in the context of an IMF program and debt to its handling of the conflict in Tigray, after President Biden sustainability projections. Its message continues to be clear, in accused Ethiopian and Eritrean forces of “ethnic cleansing” in that the economic damage from the prior administration is such March. The sanctions include restrictions on visas for Ethiopian that a massive effort is needed from both the population and and Eritrean officials, and a request that the World Bank and IMF Suriname’s creditors. The proposed haircut on Suriname’s bonds withhold funding to the country. is 70%. Despite a small maturity extension, the Net Present Value (NPV) of this proposal, at a discount rate of 8%, is only 27.5% of Africa-focused Savannah Energy and ExxonMobil are in exclusive pre-restructuring cash flows. The authorities have suggested talks over the sale of ExxonMobil’s energy assets in Chad and adding a so-called value recovery instrument to compensate Cameroon. The British oil and gas producer is proposing to buy a bondholders for this steep loss. For multilateral and bilateral debt, 40% operated interest in the Doba oil project in Chad, and a 40% the government is aiming for a haircut of “only” 30% but with large interest in the Chad-Cameroon oil transportation pipeline. The maturity extensions. The government’s proposal is unlikely to be accepted and probably marks the beginning of a long, drawn-out Doba oil project produced 33,700 barrels of oil per day (bopd) on process. average last year, while the Chad-Cameroon pipeline transported 129,200 bopd. South Africa’s economy grew at a seasonally adjusted annualized rate of 4.6%, q/q, in the first quarter of 2021, slightly In a surprise move, the central bank of ’s monetary policy below the downwardly revised 5.8% q/q in the fourth quarter of committee voted to slash interest rates. Specifically, the central 2020. Growth was largely driven by household spending and bank lowered its benchmark interest rate by 1.00%, to 13.50%, its significant restocking, while investment detracted from headline lowest level in almost a decade. Bank of Ghana’s decision was GDP growth. South Africa saw its first-quarter current account underpinned by the recent pullback in headline inflation and surplus widen to 5.0% of GDP, due to higher commodity prices, renewed growth concerns. Its move goes against a generally which resulted in a trade surplus of 8.0% of GDP. The income hawkish shift in global monetary policy as international inflation deficit narrowed to -1.1% of GDP, which also contributed. A full year current account surplus remains a highly likely outcome for expectations continue to mount amid soaring commodity and food 2021. By unanimous decision, South Africa’s central bank kept its prices. policy rate on hold at 3.5% during May, as expected.

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Emerging Market Debt Opportunities Monthly Review 2 Countries attending the “Summit on the Financing of African Within the hard-currency segment covered by the EMBIGD, Economies” in Paris agreed to take steps to persuade wealthy bonds from Tajikistan (+7.75%) and (+6.71%) were the countries to commit to a US$100 billion reallocation in IMF special best performers. Surinamese and Salvadoran bonds were the drawing rights (SDRs) to African nations. This SDR reallocation is index’s bottom performers, recording losses of 7.77% and 7.27%, needed by October this year, said French President Emmanuel respectively. Macron, who announced that his government would be redirecting The GBI-EM Broad Diversified Index, which measures returns on its SDRs to African countries. IMF Managing Director Kristalina EM local-currency government bonds, rose 1.09%, in US-dollar Georgieva described the push to reallocate SDRs as an “all- terms. The yield to maturity on this local-currency index fell by hands-on-deck situation” and pledged to draw up a fresh three bps, to 5.28% at the end of the month under review. allocation proposal by August. A US$100 billion reallocation is “not enough,” Georgieva said, given the additional US$285 billion The strongest performers in the local-currency segment were required to respond to the pandemic in Africa. South Africa (+5.42%) and Brazil (+4.85%). By contrast, local- currency bonds from and posted the month’s poorest Belarus’s military used the pretense of a bomb threat to redirect a performance, at -9.60% and -6.10%. commercial passenger flight flying from to to Minsk, where it arrested one of its passengers. Their target was Outlook and Strategy Roman Protasevich, an independent journalist who covered the Volatility in US Treasury yields made for a weak start to 2021 for mass protests in Belarus after the country’s disputed presidential election in 2020. The interception of a flight between two EM debt. But the much calmer environment from April onwards and NATO member states drew international has helped EM bond prices rebound. Several variables have criticism. contributed to this strong performance. Optimism about the global recovery has boosted commodity prices. Central banks around Russia’s central bank increased its key policy rate from 5.0% to the world have maintained their accommodative stance. And 5.5%, as expected. Its main policy rate is now at the mid-point of internationally, the has agreed to extend its Debt Service its long-term neutral range of 5% to 6%. In its statement, the bank acknowledged that the economy is recovering faster than Suspension Initiative (DSSI), while the IMF is planning a US$650 expected and will reach pre-crisis level in the second quarter of billion allocation of SDRs. 2021, helped by a progressive easing of lockdown restrictions. The gap in vaccine rollouts between developing countries and S&P revised its outlook on the long-term bonds of Uzbekistan emerging markets has widened. However, strong economic from negative to stable. It also affirmed its BB-/B long- and short- recoveries in Europe and the United States have spilled over into term foreign and local currency sovereign credit ratings. The emerging markets, by way of higher exports and commodity stable outlook reflects S&P’s expectation that fiscal and external prices. That recovery has gained traction in most emerging debt will continue to increase rapidly but remain at moderate markets, although some continue to suffer from a prolonged levels over the next 12-24 months. S&P also raised its GDP economic shock. growth forecast for Uzbekistan to over 5% per annum as of 2022. ’s headline inflation fell from 17.14% in April to 16.59% in As concerns about growth fade, investors have started to focus on May, y/y, mainly because of base effects that lowered inflation. rising inflation in some emerging markets. Many EM central banks This decline is expected to be temporary, as Turkey shut down all have switched from supporting their pandemic-stricken economies but the most essential businesses between April 29 and May 17, to tightening policy as the recovery brings on above-target and the pass-through effect of recent currency depreciation and inflation. We expect concerns about inflation to be largely increases in producer prices should raise inflation soon. President transitory, although the situation will differ from one emerging Erdogan has pointed to July-August for the central bank to start market to another. cutting rates, but central bank governor Kavcioglu has stated that rate cut expectations were premature. Idiosyncratic, country-specific developments continue to overshadow the improving macro-economic picture. Such The People’s Bank of China increased the reserve ratio for foreign exchange holdings at financial institutions from 5% to 7% developments include the coronavirus situation in India, and from June 15. The move followed a noticeable strengthening for elections in Peru, Brazil and Colombia, where political and social the yuan over recent months that’s sent it to a three-year high turmoil is slowing fiscal reform. In addition, a lack of clarity against the US dollar. continues to surround the G20’s “Common Framework for Debt Performance Overview Treatments beyond the DSSI.” This is weighing on countries with (May 16, 2021–June 15, 2021) unsustainable debt levels such as Ethiopia, Zambia, and Chad. Ten-year US Treasury yields ended the month under review Talks of US policy normalization will remain a key driver of EM 0.13% lower, at 1.50%. During that time, the spread-to-worst on bond prices. But the analysis described above supports our the JPMorgan EMBIG Diversified (EMBIGD) Index, which tracks bullish view of EM debt overall, with differences in returns emerging market (EM) hard-currency government bonds, fell five between individual markets based on their idiosyncrasies. basis points (bps) to 328 bps. The EMBIGD gained 1.38%, in US- dollar terms during the month. For Professional Client Use Only. Not for Distribution to Retail Clients.

Emerging Market Debt Opportunities Monthly Review 3 WHAT ARE THE RISKS? All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments. Investments in emerging markets involve heightened risks related to the same factors, in addition to those associated with these markets’ smaller size and lesser liquidity. The companies and case studies shown herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The opinions are intended solely to provide insight into how securities are analyzed . The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio. This is not a complete analysis of every material fact regarding any industry, security or investment and should not be viewed as an investment recommendation. This is intended to provide insight into the portfolio selection and research process. Factual statements are taken from sources considered reliable but have not been independently verified for completeness or accuracy. These opinions may not be relied upon as investment advice or as an offer for any particular security.

IMPORTANT LEGAL INFORMATION The foregoing information reflects our analysis and opinions as of June 15, 2021, unless otherwise indicated. This material is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice. Because market and economic conditions are subject to rapid change, opinions provided are valid only as of the date indicated. The portfolio managers’ analysis of issues, market sectors, and of the economic environment may have changed since the date of this commentary. There is no assurance that any forecast, projection or estimate will be realized or that any investment strategy will be successful. The views expressed are those of the investment manager and the comments, opinions and analyses are rendered as of the publication date and may change without notice. The information provided in this material is not intended as a complete analysis of every material fact regarding any country, region or market. All investments involve risks, including possible loss of principal. The JP Morgan EMBI Global Diversified Index is a market value weighted fixed income index comprised of U.S. dollar denominated debt instruments issued by emerging market sovereign and quasi-sovereign entities. The secondary benchmark, JP Morgan GBI-EM Broad Diversified Index, includes securities denominated in local currencies. The JP Morgan GBI-EM Broad Diversified USD-Unhedged Index is a U.S. dollar denominated market value weighted fixed income index comprised of local currency government bonds of emerging market countries. As of December 31, 2012 the third benchmark was changed to The BofA Merrill Lynch Emerging Markets Corporate Plus (100% Hedged into USD) Index. This benchmark is a capitalization weighted fixed income index hedged to the U.S. dollar and comprised of U.S. dollar and Euro denominated emerging markets non-sovereign debt publicly issued within the major domestic and European markets. Because three countries dominate most emerging markets indices, the firm does not base its asset allocation upon any emerging market index. Rather, the firm’s asset allocation is constrained by three sets of investment guidelines consisting of currency denomination, regions, and country selection. Although the firm’s strategy in emerging market debt is not managed to a benchmark, we are including three indices for comparative purposes, to represent the investment environment existing during the time periods shown. Indexes are unmanaged, and one cannot invest directly in an index. They do not reflect any fees, expenses or sales charges. Data from third party sources may have been used in the preparation of this material and Franklin Templeton has not independently verified, validated or audited such data. Franklin Templeton accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments opinions and analyses in the material is at the sole discretion of the user. Products, services and information may not be available in all jurisdictions and are offered outside the U.S. by other Franklin Templeton affiliates and/or their distributors as local laws and regulation permits. Please consult your own financial professional for further information on availability of products and services in your jurisdiction. Past performance is not an indicator or a guarantee of future performance. Issued in the U.S. by Franklin Templeton Distributors, Inc., One Franklin Parkway, San Mateo, California 94403-1906, (800) DIAL BEN/342-5236, franklintempleton.com - Franklin Templeton Distributors, Inc. is the principal distributor of Franklin Templeton Investments’ U.S. registered products, which are available only in jurisdictions where an offer or solicitation of such products is permitted under applicable laws and regulation.

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