Monthly Commentary as of July 2010

By Dr. Mark Mobius, Executive Chairman, Templeton Emerging Markets Group

OVERVIEW

Emerging stock markets rebounded in July. Reasons for the improved confidence included the reporting of better than expected corporate results and positive economic data. Higher commodity prices and stronger domestic currencies versus the U.S. dollar also supported market performances. The MSCI Emerging Markets index rose 8.4% in US$ terms. Markets in Eastern Europe and Latin America were among the top performers with double-digit returns due to a recovery in regional currencies and commodity prices. The South African market (MSCI South Africa Index) returned 12.6% in US$ terms as it benefited from increased global exposure and the successful hosting of the 2010 World Cup. Despite recording gains, Asian markets, however, underperformed as regional GDP and manufacturing growth rates moderated. South Korea, Pakistan, Taiwan and Singapore outperformed their regional peers, while overheating concerns and rising inflationary pressures led the Indian market to end the month virtually unchanged.

REGIONAL UPDATE

ASIA

The Chinese economy grew 10.3% y-o-y in the second quarter of 2010s compared to GDP growth of 11.9% in the first quarter of 2010. This brought the growth for the first half of the year to a robust 11.1% y-o-y, significantly higher than the 7.4% growth in the first six months of 2009. The infrastructure sector was the key driver of growth. A recovery in external and domestic demand further supported the economy. Inflationary pressures also eased due to lower transport and communication costs. Consumer prices increased 2.9% y-o-y in June, less than the 3.1% y-o-y in May. A recovery in exports in recent months led the government to terminate the export rebates which were implemented at the onset of the global crisis in 2008.

South Korea's GDP grew a faster than expected 7.2% y-o-y in the three-month period ended June 2010. While this was faster than market expectations, it lagged the 8.1% y-o-y expansion in the first quarter of the year. South Korea's strong economic recovery led the Central Bank to raise interest rates during the month for the first time since the global financial crisis started in 2008. The benchmark interest rate was raised by 25 basis points (0.25%) to 2.25%. As part of efforts to improve trade and economic relations with its global partners, President Lee Myung-bak visited Canada, Panama and Mexico in July.

The Reserve Bank of India maintained a tightening policy with two interest rate increases in July due to inflation concerns. The reverse repo interest rate was increased by a total of 75 basis points (0.75%) to 4.5% while the repo rate, was raised by 50 basis points (0.5%) to 5.75%. Strong domestic demand continued to fuel inflationary pressures. Wholesale prices rose 10.6% y-o-y in June, compared to an increase of 10.2% in May. The trade sector continued to record strong growth with exports increasing 30.4% y-o-y to US$17.7 billion in June. Imports also recorded double digit growth with a 23.0% y-o-y increase. This led to a trade deficit of US$32.3 billion, higher than the US$23.5 billion recorded in June 2009

LATIN AMERICA

The Brazilian government announced plans to spend US$18.7 billion in infrastructure development as the country continued preparations to host the 2014 FIFA World Cup. Brazil will also host the 2016 Olympics in Rio de Janeiro. The hosting of these two world-class events should not only increase Brazil's reputation and attractiveness to foreign investors but also support the domestic economy as a result of higher investment, consumption, employment and tourism. The Central Bank maintained a tightening monetary policy with a 50 basis points (0.5%) increase to 10.75% in the key interest rate. Consumer prices rose 4.8% y-o-y in June, in line with the increase in May and lower than the 5.3% y-o-y rise recorded in April. The decline in inflation could help alleviate overheating concerns in the economy.

AFRICA

In South Africa, data reported in July pointed towards a recovery in domestic demand with growth in household consumption strengthening due to higher incomes and lower interest rates. Household consumption increased to 5.7% q-o-q in the first three months of 2010 from 1.6% q-o-q in the final quarter of 2009. Inflation remained at its lowest level in close to four years and remained within the Central Bank's target range of 3% to 6%. Consumer prices rose 4.2% y-o-y in June, less than the 4.6% y-o-y increase in May, mainly due to lower transportation costs.

EUROPE

Russia's industrial output growth remained strong with a 10.9% y-o-y growth in the second quarter of 2010. This compared to an increase of 9.5% y-o-y in the preceding quarter. Key drivers included the manufacturing, and machinery and equipment sectors. The government is expected to raise about US$30 billion in 2011-13 from the partial privatization of state-run companies. During a trip by Vietnam's Party General Secretary Nong Duc Manh to Russia, both countries agreed to accelerate negotiations on a free trade agreement as well as increase relations in areas such as trade, investment and education.

GDP growth in Turkey accelerated due to higher consumption and investment. First quarter GDP grew 11.7% y-o-y, compared to a 6.0% expansion in the final three months of 2009. Private consumption growth doubled to 9.9% y-o-y in the first quarter, from 4.8% y-o-y in the preceding three-month period. Inflationary pressures continued to ease in July. Consumer price inflation reached a seven-month low of 7.6% y-o-y in July. This compared to an increase of 8.4% y-o-y in June. In the political arena, Prime Minister Recep Tayyip Erdogan refuted allegations that the government would hold early elections after the constitutional referendum next month.

FEATURE OF THE MONTH:
A FOCUS ON THE MIDDLE EAST

What is your view on the Middle East?
We maintain a long-term positive view on the region. With about 60% of the world's oil reserves, countries in the Middle East have benefitted and will continue to benefit directly or indirectly from the long-term uptrend in oil prices. The region continues to record positive macroeconomic data including robust economic growth. Higher domestic consumption as a result of recovering consumer confidence and domestic demand is also expected to continue. Moreover, regional governments have been implementing strategies that targets boosting economic growth, allowing foreign capital into local markets, promoting higher levels of corporate governance and transparency and more sophisticated capital markets structures.

Are you planning any investments in the Middle East?
We already have investments in the Middle East and are constantly on the lookout for attractive and undervalued investments in the region as well as all emerging and frontier markets.

Which Middle East markets are you most interested in?
Currently, our largest exposures in the Middle East are to the United Arab Emirates, Qatar, Saudi Arabia, Jordan, Lebanon and Kuwait.

Are there any sectors in particular that you find attractive?
In terms of sectors, commodity stocks look good because we expect the global demand for commodities to continue its long-term growth. Consumer stocks are also favored. With rising per capita income and strong demand for consumer goods, the earnings growth outlook for these stocks is positive. And by consumer stocks, we don't just mean consumer-related products, we also mean services such as finance & banking, telecommunications, and so forth.

Do you think Dubai's problems are over and it is a good time to invest in its stock and property markets? Are you planning to invest in them?
We believe that the best time to invest is when everyone else is selling and you are convinced that value exists from a long term point of view. Dubai has been such a case. There have been substantial improvements in the country's finances but more needs to be done so it will take time for the area to recover completely. We therefore continue to search for investment bargains there and in neighboring markets.

Do you see a lot of cross-border investments between Asia and the Middle East? Why?
In this day and age, cross-border investments are taking place continuously - Asia and the Middle East are no different. The world has become so interconnected that it is no longer a viable option to restrict investments in one region or country.

Do you think that recession in the world economy is over?
Actually, in some parts of the world there was no recession so it is important to look at each individual country. For example, in Brazil, growth continued at a high pace and standards of living were increasing during the period. This was also true for China. It is important to note that the crisis was a financial crisis and not a business crisis. The financial crises impacted businesses that were heavily leveraged. Those who were not leveraged were in a good position to expand market share.

Does the economic decoupling theory between emerging and developed countries make any sense?
No, it does not make sense and is not a good guide for future action. All countries today are inextricably intertwined through trade and communication in one form or other. Therefore it is not realistic to say that one country or one group of countries is decoupled from another. That does not mean that they must move in the same direction at the same time or pace. For example, economic growth in emerging markets is three times greater than economic growth in the developed markets even though trade between those two groups of countries has increased substantially and will continue to increase.

What's your view on the global economic recovery? Are we facing the prospects of a double dip?
No, a great deal of money is being pumped into the economic system by governments all over the world so there is a low likelihood of a "double dip" recession.

Please click for more information on the following funds:
FTIF - Templeton Asian Growth Fund
FTIF - Templeton Asian Smaller Companies Fund
FTIF - Templeton BRIC Fund
FTIF - Templeton China Fund
FTIF - Templeton Eastern Europe Fund
FTIF - Templeton Emerging Markets Fund
FTIF - Templeton Emerging Markets Smaller Companies Fund
FTIF - Templeton Frontier Markets Fund
FTIF - Templeton Korea Fund
FTIF - Templeton Latin America Fund
FTIF - Templeton Thailand Fund

Posted: 17 August 2010