Weekly Market Snapshot

4 December 2017

U.S. Growth: The Beat Goes On “In [this] above-average economic environment, I would expect asset values would be above average as well”

– New York Fed President William Dudley

THE WEEK IN REVIEW...

U.S. Growth: The beat goes on Lingering skepticism about the U.S. economy took a beating this week. Gross Domestic Product (GDP) for Q3 was revised upward to a consensus-beating 3.2% annualized rate; consumer confidence for November beat expectations; the 20-city housing price index rose 6.3% year-over-year for September; PMIs were solidly in the expansion range for November; construction spending rose 1.4% in November from the previous month’s 0.3% rise; wholesale and retail inventories fell -0.4% and -0.1% for October, suggesting that sales are outrunning manufacturing. The week’s tree-topper: the National Retail Federation reported that the ailing retail sector drew in more holiday shoppers than expected, both on line and in person. The week’s only worry: the Treasury yield curve continues to be flattish; economists who view this as a precursor to recession are on the alert.

Equity markets responded accordingly. The Dow Jones industrial Average, the S&P500 and NASDAQ Composite Index showed year-to-date gains of 22.4%, 17.8% and 26.9% respectively,1 breaking their own recently-set records.

Brexit: Rough weekend The negotiations face a deadline of Monday, December 4, according to the original agreement between the EU and UK – which appears unlikely to met as of this writing And though progress appears to have been made on the amount of the UK’s payment to the EU to compensate for past aid and future income – with the amount growing higher to as much as a $100 billion euro in the face of stern EU demands, the knottier issue of the border between the UK and Ireland will be harder to solve, given its longstanding role as a flashpoint of political conflict within the island.

1 Source: Bloomberg, Dec 1 2017 2:40 PM ET

... CHART OF THE WEEK:

Europe Stocks: Lending a Hand


Chart of the week

Source: Bloomberg, 11/29/17. Past performance is no guarantee of future results. Indexes are un-managed, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

The bottom line:

  • One reliable way to measure near-term optimism: watch how businesses and households approach investing in their future.
  • In recessions, both tend to hoard cash to help weather difficult times ahead. Sadly, their reluctance to spend can worsen a downturn, contributing to a vicious cycle of slowing consumption and underinvestment.
  • Conversely, an uptick in spending and investment can transform a cycle from vicious to virtuous, as households imagine brighter futures ahead, and businesses position themselves to boost their own returns.
  • Implicit in that activity is the expectation of their investment rewards will more than offset the cost of borrowing – which is why recent figures from Europe about lending are good news.
  • Year-on-year growth in lending (roughly 2.5% for business and 1.5% for consumers) shows not only that banks are now willing, but borrowers are willing too.
  • In aggregate, this suggests that lending in the open market has now grown more appealing than lending to the European Central Bank’s secure ongoing quantitative easing program. That’s a clear sign of increased risk appetite among bankers – the kind of shift that can feed the virtuous circle of commerce, and in the process, help European companies to build their bottom line and cultivate the kind of share price growth seen in the U.S., further along on the arc of recovery.
  • The bottom line for investors: this is continued good news for the fundamentals of European companies, and is one reason – among many – that this category is deserving of investor attention and interest.

The chart:

  • The chart shows the year-on-year growth of lending to non-financial corporations and households, as measured by the European Central Bank, from September 2012 to September 2017, the most recent figures available.


DEFINITIONS:

Quantitative easing (QE) refers to a monetary policy implemented by a central bank in which it increases the excess reserves of the banking system through the direct purchase of debt securities.

The European Central Bank (ECB) is responsible for the monetary system of the European Union (EU) and the euro currency.


Important Information:

In the U.S. - INVESTMENT PRODUCTS: NOT FDIC INSURED | NO BANK GUARANTEE | MAY LOSE VALUE

All investments involve risk, including possible loss of principal.

The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested.

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Past performance is no guarantee of future results. Please note that an investor cannot invest directly in an index.

Unmanaged index returns do not reflect any fees, expenses or sales charges.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice. Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc. Unless otherwise noted the "$" (dollar sign) represents U.S. Dollars.

This material is only for distribution in those countries and to those recipients listed.

All investors in the UK, professional clients and eligible counterparties in EU and EEA countries ex UK and Qualified Investors in Switzerland.
Issued and approved by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444.

All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

All Investors in the People's Republic of China ("PRC"):

This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC. The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC's commercial bank in accordance with the regulation of China Banking Regulatory Commission. Investors should read the offering document prior to any subscription. Please seek advice from PRC's commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only. Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.

This material has not been reviewed by any regulatory authority in the PRC.

Distributors and existing investors in Korea and Distributors in Taiwan:
This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in Korea or Taiwan.

All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.

All Investors in Australia:
This material is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827) ("Legg Mason"). The contents are proprietary and confidential and intended solely for the use of Legg Mason and the clients or prospective clients to whom it has been delivered. It is not to be reproduced or distributed to any other person except to the client's professional advisers.

Weekly Market Snapshot

27 November 2017

The Fed: Yellen’s Parting Shot? “Removing policy accommodation too quickly risks leaving inflation below our target”

– Fed Chair Janet Yellen on the challenges of setting interest rate policy

THE WEEK IN REVIEW...

The Fed: Early valedictory Fed Chair Janet Yellen’s term won’t expire until February, but last week’s speech at New York University sounded like advice for her presumed successor, Fed Governor Jerome Powell. The main message was a warning about the dangers of raising the Fed’s target rate too slowly. For Yellen, the main risk is less the rate itself than the economy’s longer-term expectations for those rates – which she described as much more difficult to influence, and potentially more important to the economy than the rate itself. The Fed’s policy-making body, the Federal Open Market Committee (FOMC), will announce its next rate decision on December 13; it’s widely expected that the Fed Funds target rate will be raised another 25 basis points, to 1.5%.

Germany’s post-election challenge Rather than granting Chancellor Angela Merkel’s stated wish for new elections, Germany’s President Frank Walter Steinmeier sent the parties back to the negotiating table for another attempt to form a majority coalition. One result: the Social Democrat (SPD) party has now decided to join the negotiations for a new government. The SPD suffered heavy losses in the election, and initially preferred to play the role of loyal opposition to whatever coalition arose, thereby preventing the far-right AfD party from becoming the main voice of the political opposition. This change of heart increased the odds that a broader “Grand Coalition” might be the final result, despite the party’s misgivings.

The difficulty of these negotiations appears not to be affecting economic optimism; the Ifo index, a widely followed index of business confidence, rose notably in November, despite economists’ expectations that it would remain at its previous level.

OPEC and Russia: The art of the deal Russia and OPEC are scheduled to meet this week at OPEC’s Vienna headquarters. The main topic of discussion: Russia’s interest in continuing to participate in extending the current production caps, due to expire at the end of March. Russia isn’t a member of the OPEC cartel, but its role as one of the world’s largest oil producers makes its participation in any agreement critical to success.

... CHART OF THE WEEK:

High Yield: Spread’s the Word

Bloomberg Barclays US Corp. HY and US Aggregate Corp. Avg. Option Adjusted Spreads, 11/21/16 - 11/21/17

Source: Bloomberg, 11/21/17. Past performance is no guarantee of future results. Indexes are un-managed, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment

The bottom line:

  • High Yield (HY) bonds have gotten the attention of investors in recent weeks, thanks to a rapid rise of HY spreads – that is, the difference in average yields between HY and similar investment-grade bonds.
  • HY spreads can sometimes “blow out” as issuers’ ability to pay deteriorates due to a recession. So the key question is whether this signals a looming problem in general business conditions – or something more benign.
  • What’s important to realize is that when considered relative to HY spreads over the past year, current levels aren’t the anomaly; it’s the rest of the year that’s been unusual.
  • The tightening of spreads at the start of 2017 looks more to do with the post-election hopefulness about improving business conditions.
  • Indeed, that optimism, which has continued all year, has had a positive impact on perceived creditworthiness at all rating levels. Investment-grade spreads also headed downward for much of the year.
  • In fact, the upward moves in both spreads suggests that the explanation for the rise might lie elsewhere. Possibilities include doubts about the outcome of U.S. tax legislation; a surge in issuance of corporate debt in advance of a widely expected rate hike by the Fed in December, driving bond prices down and bringing yields up; and differentiation with in the HY market, as buyers took advantage of new issuance to upgrade the credit profiles of their bond portfolios.
  • With an average coupon of 6.4%1 vs 3.9% for U.S. Corporates, the attractiveness of HY is clearly strong.
  • In the hands of a discerning active bond manager, able to perform the credit analysis needed to separate the mispriced from the rest in the category, High Yield may clearly be worthy of consideration – especially for income-oriented investors.

The chart:

  • The chart shows the average option-adjusted spreads for the Bloomberg Barclays indexes for U.S. Corporate High Yield and U.S. Aggregate Corporate from Nov 21, 2016 to Nov 21, 2017.

1 Source: Bloomberg, Nov 21, 2017


DEFINITIONS:

High yield (HY), or below-investment grade bonds are those with a credit quality rating of BB or below.

Spread is the difference in yield between two different types of fixed income securities


Important Information:

In the U.S. - INVESTMENT PRODUCTS: NOT FDIC INSURED | NO BANK GUARANTEE | MAY LOSE VALUE

All investments involve risk, including possible loss of principal.

The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested.

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Past performance is no guarantee of future results. Please note that an investor cannot invest directly in an index.

Unmanaged index returns do not reflect any fees, expenses or sales charges.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice. Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc. Unless otherwise noted the "$" (dollar sign) represents U.S. Dollars.

This material is only for distribution in those countries and to those recipients listed.

All investors in the UK, professional clients and eligible counterparties in EU and EEA countries ex UK and Qualified Investors in Switzerland.
Issued and approved by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444.

All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

All Investors in the People's Republic of China ("PRC"):

This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC. The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC's commercial bank in accordance with the regulation of China Banking Regulatory Commission. Investors should read the offering document prior to any subscription. Please seek advice from PRC's commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only. Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.

This material has not been reviewed by any regulatory authority in the PRC.

Distributors and existing investors in Korea and Distributors in Taiwan:
This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in Korea or Taiwan.

All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.

All Investors in Australia:
This material is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827) ("Legg Mason"). The contents are proprietary and confidential and intended solely for the use of Legg Mason and the clients or prospective clients to whom it has been delivered. It is not to be reproduced or distributed to any other person except to the client's professional advisers.

Weekly Market Snapshot

20 November 2017

Fed rate hike: Places, everyone
“I’m struggling to see how we’ll reach an agreement quickly."

- Wolfgang Kubicki, senior lawmaker of Germany’s Free Democratic Party (FDP), on forming a coalition government

... The week in review:

U.S. growth: Solid week This was a difficult week for doubters of U.S. economic progress. Producer and consumer prices, ex-food and energy, rose 2.4% and 1.8% respectively;1 capacity utilization rose to 77%, also beating expectations. Housing starts rose to a 1.29 million annualized rate, also beating expectations and auguring well for Q4 growth. With the labor shortage in housing construction growing more acute, wage growth could be expected to follow. Business inventories were flat in September but total sales rose 1.4%, suggesting that sales outran inventory replenishment– and that production will have to increase in order to keep up. However, the U.S. Treasury yield curve, continued flattening, sounding a cautionary note; at week’s end, 30-year yields moved down nearly 10 basis points to 2.783%, while 10-year yields dropped a bit less than 6 basis points to 2.34%. In an environment where inflation has appeared to be rebounding, this move sowed a few seeds of doubt. But the Fed Funds futures rate appeared not to share in the concern; the odds of a rate hike at the December 13 FOMC meeting remained solidly strong at 92.3%.

Norway: Canary in the oil field? Norway’s $1 trillion sovereign wealth fund is the world’s largest investor in equities, so its proposal to sell off its entire $35 billion holdings in the stocks of oil companies in order to diversify away from fossil fuels was big news – and not just for proponents of sustainable investing. The rationale is the need for diversification of risk; Norway’s overall economy is highly dependent on its own oil production. The move wouldn’t be sudden; it’s believed that the proposal will take a year to gain approval.

UK retail: Less than merry October saw retail sales fall 0.3% from a year ago, the first such fall in more than four years. Not counting fuel, October sales rose just 0.1% from September, which itself saw a 0.6% month-over-month decline. Though possibly a reaction to the month’s 3% growth in consumer prices, the worry is that consumers could begin to pull back from the Christmas shopping season due to doubts about Brexit’s impact on their own household budgets.

India: Thumbs up from Moody’s Rating agency Moody’s upgraded India’s’ sovereign debt to Baa2 from Baa3 – from the lowest to the second lowest investment-grade rating. This brought the rating to the highest level since 1988 and was seen by many as an endorsement of Prime Minister Narendra Modi’s efforts at financial reform. The timing attracted attention, since the government has been dropping hints that it would ease its own budgetary goal “glidepath” toward an eventual budget shortfall of only 34% of GDP in 2019. The news sent India’s Sensex equity index up over 2.5% and was seen as especially favorable for the financial sector.

1 All data Source: Bloomberg, Friday November 17, 2017, 12:50 PM ET

... CHART OF THE WEEK:

Bond yields: Flattening, in a good way

Chart of the week

Source: Bloomberg and Legg Mason,11/15/17.Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

The bottom line:

  • The news that the US Treasury yield curve is flattening is seen as an ominous sign by investors skeptical about the equity and bond markets now.
  • And indeed it can be; when flattening leads to a so-called “inverted” curve, where long-term rates are lower than short-term rates, recessions have often followed.
  • Among the rationales is the belief that falling long-term yields reflect pessimism about the near-term state of the economy.
  • But there are reasons to welcome, rather than fear, the shifting shape of the yield curve.
  • First, the curve is moving most at the short end – with the rise in short-term rates a direct result of the Fed’s policy moves. Contrast the rise of 78 basis points (bps) for 6-month notes, vs a fall of 28 bps for 30-year bonds.
  • Second, the falling rates at the long end of the curve reflect the low inflation present in many parts of the U.S. – which can be a boost to future growth as the costs of production stay low, rather than a signal of a slowdown
  • Perhaps most important: despite the tilt, the yield curve suggests that the market remains willing to pay investors for borrowing their money. An inverted curve suggests the opposite: that cash in hand is worth more than cash invested in the bond market – a pessimistic outlook indeed.
  • Whatever twists and turns may await us in the Treasury market, investors should consider what skilled active fixed income managers may be able to do amid shifting conditions across all sectors of the bond market.

The chart:

  • The chart shows the yield curves of the U.S. Treasury markets at 12/30/2016 and November 2017, along with the changes in yield between those two dates.


Important Information:

In the U.S. - INVESTMENT PRODUCTS: NOT FDIC INSURED | NO BANK GUARANTEE | MAY LOSE VALUE

All investments involve risk, including possible loss of principal.

The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested.

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Past performance is no guarantee of future results. Please note that an investor cannot invest directly in an index.

Unmanaged index returns do not reflect any fees, expenses or sales charges.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice. Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc. Unless otherwise noted the "$" (dollar sign) represents U.S. Dollars.

This material is only for distribution in those countries and to those recipients listed.

All investors in the UK, professional clients and eligible counterparties in EU and EEA countries ex UK and Qualified Investors in Switzerland.
Issued and approved by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444.

All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

All Investors in the People's Republic of China ("PRC"):

This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC. The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC's commercial bank in accordance with the regulation of China Banking Regulatory Commission. Investors should read the offering document prior to any subscription. Please seek advice from PRC's commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only. Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.

This material has not been reviewed by any regulatory authority in the PRC.

Distributors and existing investors in Korea and Distributors in Taiwan:
This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in Korea or Taiwan.

All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.

All Investors in Australia:
This material is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827) ("Legg Mason"). The contents are proprietary and confidential and intended solely for the use of Legg Mason and the clients or prospective clients to whom it has been delivered. It is not to be reproduced or distributed to any other person except to the client's professional advisers.

Weekly Market Snapshot

13 November 2017

Saudi oil: Uneasy times “Opening up [trade] will bring progress, and those who close down will inevitably lag behind."

– Xi Jinping, promoting globalization at the APEC regional summit

THE WEEK IN REVIEW...

Saudi oil: Uneasy lies the head… Adding a dose of uncertainty to the global oil markets last week was the highly visible leadership shake-up in Saudi Arabia and related anti-corruption drive. Unlike the past, this shift in the balance of power took place in full view; among those detained was Prince Alwaleed bin Talal, one of the world’s richest people, an actively engaged investor in high-profile companies including Citigroup, News Corp and Twitter.

So far, there’s been no sign of a change in the country’s policy toward oil exports or global trade. Crude oil prices rose, but only by 4% to 5%, and stabilized during the rest of the week; Brent Crude is at $63.58 and West Texas Intermediate is at %56.80.1 But the new leadership has significantly ramped up its anti-Iran rhetoric and actions, which could embroil the global market for oil in regional politics with unpredictable results.

Brexit: Hitting a snag in Ireland The most recent round of negotiations between the European Union (EU) and the UK has become ensnared in the challenges of British-Irish politics. The EU, along with the government of Ireland, have declared their objective of keeping EU-style free trade in place between Ireland, a member of the EU, and Northern Ireland, which is part of the UK. The EU’s stated vision involves the absence of a physical border between the two.

But the UK will likely find that arrangement impossible to make – especially since Prime Minister Theresa May’s coalition government depends for its ruling majority on Northern Ireland’s Democratic Unionist Party, which would be strongly opposed to the arrangement.

China and the U.S.: Trading places President Trump’s extended trip through Asia included two days of talks in Beijing with Chairman Xi Jinping, finding some common ground despite differences. China continued to build on its advocacy of free global trade, while the U.S. reiterated its intention to protect its national interests in any future trade arrangements that might be reached. China also announced the opening of its banking industry to foreign participation, a major change – which could offer foreign support to the challenges faced in China’s debt markets.

President Trump continued on to Vietnam to attend the Asia-Pacific Economic Cooperation (APEC) summit, where the U.S. declared its interest in rekindling trade relationships with “Indo-Pacific” nations, including India.

1 Source: Bloomberg, Friday November 10,2017, 2:50 PM ET

... CHART OF THE WEEK:

Emerging Markets: The cost of weighting

Country weights, MSCI Emerging Markets Index - October, 2017

Source: Bloomberg and Legg Mason,11/9/17. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

The bottom line:

  • Emerging Market (EM) stocks have been drawing attention recently; the combination of improving fundamentals, attractive valuations and strong performance stands out in the context of a U.S. equity bull market that has set records for longevity.
  • The temptation for investors new to this part of the market is to gain exposure to these positive prospects through passive strategies – in the hope of buying the entire sector through one of a variety of well-established indexes.
  • But despite the care with which these passive indexes are designed, most share the problem of being more or less based on the relative amount of stock available for investment in each country.
  • Underlying this otherwise sensible is a capitalization-weighted structure, where the largest stocks have greater weight than others.
  • This results in a problematic skew in the direction of the countries with the largest equity markets. For example, China and South Korea together make up close to half of the MSCI Emerging Market Index,2 while Brazil and India comprise 8.6% and 7.0% respectively.
  • The result: a passive investment in EM could very well have strong country biases that represent neither the prospects for those countries’ stock market, nor the informed preferences of an investor focused on those particular countries – to say nothing of environmental, social and governance (ESG) considerations.
  • All of which strongly suggests that both the opportunities in EM investing and the well-understood inefficiencies of many of these markets can best accessed through an active, discriminating investment manager – rather than by an index which is both mechanical and inherently backward-looking.

The chart:

  • The chart shows the weights of the countries and territories represented by the 838 stocks in the MSCI Emerging Market Index, as of October 31, 2017.

2 Source: Bloomberg and Legg Mason, as of October 31, 2017.


DEFINITIONS:

Emerging markets are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.

The MSCI Emerging Markets Index captures large- and mid-cap representation across 27 Emerging Markets (EM) countries. With 838 constituent stocks, the index covers approximately 85% of the free float adjusted market capitalization in each country.

Capitalization-weighting refers to an approach where individual components of an index or asset class are weighted according to their market capitalization, so that larger components carry a larger percentage weighting. Market capitalization is the total dollar market value of all of a company's outstanding shares; it is calculated by multiplying a company's shares outstanding by the current market price of one share.


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