Ed Perks, CFA¹
SVP, Director of Core/Hybrid Portfolio Management

Fear and uncertainty gripped fixed income markets at the start of 2009, setting off flight-to-quality trades across the entire U.S. Treasury yield curve. Interest rates fell to levels close to zero, and in the equity markets, fear led to significant declines as well until stocks bottomed out around March 9, 2009.

From that point on, government intervention-U.S. and worldwide-resulted in massive monetary and fiscal stimulus measures designed to ultimately repair markets, which sent them into recovery mode. Markets started to function again, and there was an unwinding in fixed income markets from the flight-to-quality trades made earlier in the year. U. S. Treasury yields started to increase, but more importantly, credit markets began thawing. Once prospects for recovery emerged, there were numerous opportunities to increase exposures to corporate bonds. Spreads tightened for investment-grade as well as high-yield bonds, and the fixed income rally contributed to investment gains made in our income-oriented portfolios during the year.

For 2010, markets face a very different starting point than they did a year ago. This could be a year for a gradual shift in asset allocations. As we look ahead, we see much more of a balance between the opportunities in bonds and stocks. Opportunities in corporate credit last year may have resulted in a fixed income bias over equities in our investment strategy.

However, as the long-term outlook for interest rates appears uncertain, bonds, especially those with longer maturities, may not offer the best returns in our opinion. We believe shifting away from bonds into equities could become a trend this year.

This may also be the year to revisit utility stocks, whose prices declined last year as power consumption fell in the U.S. We believe those investors who bypassed utilities in last year's rally in favor of stocks with prices that were pushed more to the brink, could return to utility shares this year. The sector is starting to look attractive to us again on a both valuation and dividend yield basis.

Elsewhere in the investment universe, non-U.S. common stocks, convertible shares and corporate debt may also present interesting prospects. Actively monitoring investment opportunities outside the U.S. could also be potentially beneficial to our strategy, as emerging markets may continue to be important as an investment focus this year. Investing in emerging markets directly is certainly one option, but investing in U.S. companies that are positioned to benefit from emerging market growth in areas such as natural resources, agricultural and technology firms could also possibly prove beneficial. It is always worth noting that investors can acquire non-U.S. exposure whenever they hold U.S.-based companies with business interests overseas.

Please click here for more information on the FTIF - Franklin Income Fund.

Footnote
1. CFA ® and Chartered Financial Analyst® are registered trademarks owned by the CFA Institute.