| | | |
As
filed with the Securities and Exchange Commission on July 26, 2024. |
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File Nos. 333-186504 and 811-22801 |
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SECURITIES
AND EXCHANGE COMMISSION |
WASHINGTON,
D.C. 20549 |
|
FORM N-1A |
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REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 | [X] |
|
Pre-Effective Amendment
No. | | [ ] |
| | |
Post-Effective Amendment
No. | 24 | [X] |
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and/or |
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REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 | [X] |
|
Amendment No. | 26 | [X] |
|
FRANKLIN ETF TRUST |
(Exact Name of Registrant as Specified in Charter) |
|
ONE FRANKLIN PARKWAY, SAN MATEO, CA 94403-1906 |
(Address of Principal Executive Offices) (Zip Code) |
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(650) 312-2000 |
(Registrant's Telephone Number, Including Area Code) |
|
ALISON E. BAUR, ONE FRANKLIN PARKWAY, SAN MATEO, CA 94403-1906 |
(Name and Address of Agent for Service
of Process) |
|
Approximate Date of Proposed Public Offering:
|
|
It is proposed that this filing will become effective (check
appropriate box) |
|
[ ] | immediately upon filing pursuant to paragraph (b) |
[ X] | on August
1, 2024 pursuant to paragraph (b) |
[ ] | 60
days after filing pursuant to paragraph (a)(1) |
[
] | on (date)
pursuant to paragraph (a)(1) of Rule 485 |
[
] | 75 days after filing pursuant
to paragraph (a)(2) |
[ ] | on (date) pursuant to paragraph (a)(2) of rule 485 |
|
If appropriate, check the following box: |
|
[
] | This post-effective amendment
designates a new effective date for a previously filed post-effective amendment. |
| |
|
| | | | | | | |
| | PROSPECTUS | | | |
| | | |
| | FRANKLIN SHORT DURATION U.S. GOVERNMENT ETF Franklin ETF Trust | |
| | | |
| | August
1, 2024 | |
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Ticker: | Exchange: |
FTSD | NYSE Arca, Inc. |
The
U.S. Securities and Exchange Commission (SEC) has not approved or disapproved these securities or passed
upon the adequacy of this prospectus. Any representation to the contrary is a criminal offense.
Contents
Fund Summary
Information about the Fund you should know before investing
Fund
Details
More information on investment
policies, practices and risks/financial highlights
Shareholder Information
Information about Fund transactions
For More Information
Where
to learn more about the Fund
Back Cover
FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
Fund Summary
Investment Goal
A high level of current income as is consistent with prudent
investing, while seeking preservation of capital.
Fees and Expenses of the Fund
The following table
describes the fees and expenses that you will incur if you buy, hold and sell shares of the Fund. You
may also incur other fees, such as usual and customary brokerage commissions and other fees to financial
intermediaries, which are not reflected in the table and the Example that follows.
Annual Fund
Operating Expenses
(expenses that you pay each year as a percentage of the value of your investment)
| | |
| | |
Management
fees | | 0.25% |
Distribution and service (12b-1) fees | | None |
Other expenses | | None |
Total annual Fund operating
expenses | | 0.25% |
Example
This
Example is intended to help you compare the cost of investing in the Fund with the cost of investing
in other funds. The Example assumes that you invest $10,000 in the Fund for the time periods indicated
and then sell all of your shares at the end of the period. The Example also assumes that your investment
has a 5% return each year and that the Fund's operating expenses remain the same. Although your actual
costs may be higher or lower, based on these assumptions your costs would be:
| | | | | | | | | |
| | | 1
Year | | 3
Years | | 5
Years | | 10
Years |
Franklin Short Duration U.S. Government ETF | | $26 | | $81 | | $141 | | $318 |
| | | | | | | | |
Portfolio Turnover
The Fund pays transaction costs, such as
commissions, when it buys and sells securities (or "turns over" its portfolio). A higher portfolio turnover
rate may indicate higher transaction costs and may result in higher taxes when Fund shares are held in
a taxable account. These costs, which are not reflected in annual Fund operating expenses or in the Example,
affect the Fund's performance. During the most recent
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
fiscal
year, the Fund's portfolio turnover rate was 105.52% of the average value of its portfolio.
Principal Investment Strategies
Under
normal market conditions, the Fund invests at least 80% of its net assets in securities issued or guaranteed
by the U.S. government, its agencies, or instrumentalities. The Fund currently targets an estimated portfolio
duration of three (3) years or less. The Fund generally invests 50-80% of its assets in mortgage securities
issued or guaranteed by the U.S. government, its agencies, or instrumentalities, including adjustable
rate mortgage securities (ARMs) and collateralized mortgage obligations (CMOs), but the Fund also invests
in direct obligations of the U.S. government (such as Treasury bonds, bills and notes) and in securities
issued or guaranteed by the U.S. government, its agencies or instrumentalities, including government
sponsored entities. All of the Fund’s principal investments are debt securities, including bonds, notes
and debentures.
In comparison to maturity (which is the date on which a debt instrument ceases
and the issuer is obligated to repay the principal amount), duration is a measure of the expected price
volatility of a debt instrument as a result of changes in market rates of interest, based on the weighted
average timing of the instrument’s expected principal and interest payments and other factors. For
purposes of calculating the Fund’s portfolio duration, the Fund includes the effect of interest rate/bond
futures contracts and options on interest rate/bond futures contracts held by the Fund.
Mortgage securities represent
an interest in a pool of mortgage loans made by banks and other financial institutions to finance purchases
of homes, commercial buildings and other real estate. As the underlying mortgage loans are paid off,
investors receive periodic principal and interest payments as well as any unscheduled principal prepayments
on the underlying mortgage loans. The mortgage securities purchased by the Fund include, but are not
limited to, bonds and notes issued or guaranteed by the Government National Mortgage Association (Ginnie
Mae) and U.S. government-sponsored entities, such as the Federal National Mortgage Association (Fannie
Mae), and the Federal Home Loan Mortgage Corporation (Freddie Mac).
Government agency or instrumentality issues
have different levels of credit support. Ginnie Mae pass-through mortgage certificates are backed by
the full faith and credit of the U.S. government. U.S. government-sponsored entities, such as Fannie
Mae and Freddie Mac, may be chartered by Acts of Congress, but their securities are neither issued nor
guaranteed by the U.S. government. Although the U.S. government has provided financial support to Fannie
Mae and Freddie Mac, no assurance can be given that the U.S. government will continue to do so. The Fund
may invest in obligations of other U.S. government-sponsored entities, which may
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
be
supported only by the credit of the issuing agency or instrumentality, such as securities issued by members
of the Farm Credit System.
The Fund may invest in mortgage dollar rolls. In a mortgage dollar roll, the Fund
sells (or buys) mortgage securities for delivery on a specified date and simultaneously contracts to
repurchase (or sell) substantially similar (same type, coupon, and maturity) securities on a future date.
The Fund may also purchase or sell mortgage securities on a delayed delivery or forward commitment basis
through the "to-be-announced" (TBA) market. With TBA transactions, the particular securities to be delivered
must meet specified terms and standards. The Fund will invest only in covered mortgage dollar rolls or
TBA transactions, meaning that the Fund designates liquid securities in its portfolio equal in value
to the securities it will repurchase.
The Fund invests in investment grade securities and investments
or in unrated securities and investments that the Fund’s investment manager determines are of comparable
quality. The Fund may invest in U.S. inflation-indexed securities issued by the U.S. government.
To
pursue its investment goal, the Fund may invest in certain interest rate-related derivative transactions,
principally U.S. Treasury futures contracts and options on interest rate/bond futures. The use of these
derivative transactions may allow the Fund to obtain net long or short exposures to selected interest
rates or durations. These derivatives may be used to hedge risks associated with the Fund’s other portfolio
investments and to manage the duration of the Fund’s portfolio.
Principal Risks
You could lose money by investing in the Fund. ETF shares
are not deposits or obligations of, or guaranteed or endorsed by, any bank, and are not insured by the
Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other agency of the U.S. government.
The Fund is subject to the principal risks noted below, any of which may adversely affect the Fund’s
net asset value (NAV), trading price, yield, total return and ability to meet its investment goal. Unlike
many ETFs, the Fund is not an index-based ETF.
Interest Rate:
When interest rates rise, debt security prices generally fall. The opposite is also generally true:
debt security prices rise when interest rates fall. Interest rate changes are influenced by a number
of factors, including government policy, monetary policy, inflation expectations, perceptions of risk,
and supply of and demand for bonds. In general, securities with longer maturities or durations are more
sensitive to interest rate changes.
Mortgage Securities: Mortgage securities
differ from conventional debt securities because principal is paid back periodically over the life of
the security rather than at maturity. The Fund may receive unscheduled payments of principal due to
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
voluntary
prepayments, refinancings or foreclosures on the underlying mortgage loans. Because of prepayments, mortgage
securities may be less effective than some other types of debt securities as a means of "locking in"
long-term interest rates and may have less potential for capital appreciation during periods of falling
interest rates. A reduction in the anticipated rate of principal prepayments, especially during periods
of rising interest rates, may increase or extend the effective maturity and duration of mortgage securities,
making them more sensitive to interest rate changes, subject to greater price volatility, and more susceptible
than some other debt securities to a decline in market value when interest rates rise.
Mortgage
securities purchased on a delayed delivery or forward commitment basis through the to-be-announced market
(TBA) are subject to the risk that the actual securities received by the Fund may be less favorable than
anticipated, or that a counterparty will fail to deliver the security. Entering into a when-issued, delayed
delivery or TBA transaction may be viewed as a form of leverage and will result in associated risks for
the Fund. Sales of debt securities on a when-issued or delayed delivery basis are also subject to the
risk that the Fund is unable to purchase securities for delivery at the settlement date with the characteristics
agreed upon at the time of the transaction, which may subject the Fund to market losses or other penalties.
Prepayment:
Prepayment risk occurs when a debt security can be repaid in whole or in part prior to the security's
maturity and the Fund must reinvest the proceeds it receives, during periods of declining interest rates,
in securities that pay a lower rate of interest. Also, if a security has been purchased at a premium,
the value of the premium would be lost in the event of prepayment. Prepayments generally increase when
interest rates fall.
Variable Rate Securities: Because changes in
interest rates on variable rate securities (including floating rate securities) may lag behind changes
in market rates, the value of such securities may decline during periods of rising interest rates until
their interest rates reset to market rates. During periods of declining interest rates, because the interest
rates on variable rate securities generally reset downward, their market value is unlikely to rise to
the same extent as the value of comparable fixed rate securities.
Income:
The Fund's distributions to shareholders may decline when prevailing interest rates fall, when the Fund
experiences defaults on debt securities it holds or when the Fund realizes a loss upon the sale of a
debt security.
Extension: Some debt securities, particularly mortgage-backed
securities, are subject to the risk that the debt security’s effective maturity is extended because
calls or prepayments are less or slower than anticipated, particularly when interest
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
rates
rise. The market value of such security may then decline and become more interest rate sensitive.
Inflation-Indexed
Securities: Inflation-indexed securities have a tendency to react to changes
in real interest rates. Real interest rates represent nominal (stated) interest rates lowered by the
anticipated effect of inflation. In general, the price of an inflation-indexed security decreases when
real interest rates increase, and increases when real interest rates decrease. Interest payments on inflation-indexed
securities will fluctuate as the principal and/or interest is adjusted for inflation and can be unpredictable.
Any increase in the principal amount of an inflation-protected debt security will be considered taxable
ordinary income, even though investors, such as the Fund, do not receive their principal until maturity.
Market:
The
market values of securities or other investments owned by the Fund will go up or down, sometimes rapidly
or unpredictably. The market value of a security or other investment may be reduced by market activity
or other results of supply and demand unrelated to the issuer. This is a basic risk associated with all
investments. When there are more sellers than buyers, prices tend to fall. Likewise, when there are more
buyers than sellers, prices tend to rise.
Mortgage Dollar Rolls: In a mortgage dollar
roll, the Fund takes the risk that: the market price of the mortgage-backed securities will drop below
their future repurchase price; the securities that it repurchases at a later date will have less favorable
market characteristics; the other party to the agreement will not be able to perform; the roll adds leverage
to the Fund's portfolio; and, it increases the Fund's sensitivity to interest rate changes. In addition,
investment in mortgage dollar rolls may increase the portfolio turnover rate for the Fund.
Portfolio
Turnover: Active and frequent trading may increase a shareholder’s tax liability and the
Fund’s transaction costs, which could detract from Fund performance.
Derivative
Instruments: The performance of derivative instruments depends largely on the performance
of an underlying instrument, such as a security, interest rate or index, and such instruments often have
risks similar to their underlying instrument, in addition to other risks. Derivative instruments involve
costs and can create economic leverage in the Fund's portfolio which may result in significant volatility
and cause the Fund to participate in losses (as well as gains) in an amount that exceeds the Fund's initial
investment. Other risks include illiquidity, mispricing or improper valuation of the derivative instrument,
and imperfect correlation between the value of the derivative and the underlying instrument so that the
Fund may not realize the intended benefits. When a derivative is used for hedging, the change in value
of the derivative may also not correlate specifically with the security, interest rate, index or other
risk being hedged. With over-the-counter
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
derivatives,
there is the risk that the other party to the transaction will fail to perform.
Credit:
An issuer of debt securities may fail to make interest payments or repay principal when due, in whole
or in part. Changes in an issuer's financial strength or in a security's or government's credit rating
may affect a security's value. While securities issued by Ginnie Mae are backed by the full faith and
credit of the U.S. government, not all securities of the various U.S. government agencies are, including
those of Fannie Mae and Freddie Mac. Accordingly, securities issued by Fannie Mae and Freddie Mac may
involve a risk of non-payment of principal and interest.
U.S. government guarantees of timely repayment
of principal and interest on government securities do not apply to the market prices and yields of the
securities or to the NAV, trading price or performance of the Fund. Irrespective of such U.S. government
guarantees, the market prices and yields of the securities and, consequently, the NAV, trading price
and performance of the Fund, will vary with changes in interest rates and other market conditions. Any
downgrade of the credit rating of the securities issued by the U.S. Government may result in a downgrade
of securities issued by its agencies or instrumentalities, including government-sponsored entities. The
Fund may incur losses on debt securities that are inaccurately perceived to present a different amount
of credit risk by the market, the investment manager or the rating agencies than such securities actually
do.
Management:
The Fund is subject to management risk because it is an actively managed ETF. The Fund's investment
manager applies investment techniques and risk analyses in making investment decisions for the Fund,
but there can be no guarantee that these decisions will produce the desired results.
Cybersecurity:
Cybersecurity incidents, both intentional and unintentional, may allow an unauthorized party to gain
access to Fund assets, Fund or customer data (including private shareholder information), or proprietary
information, cause the Fund, the investment manager, authorized participants, or index providers (as
applicable) and listing exchanges, and/or their service providers (including, but not limited to, Fund
accountants, custodians, sub-custodians, transfer agents and financial intermediaries) to suffer data
breaches, data corruption or loss of operational functionality or prevent Fund investors from purchasing,
redeeming shares or receiving distributions. The investment manager has limited ability to prevent or
mitigate cybersecurity incidents affecting third party service providers, and such third party service
providers may have limited indemnification obligations to the Fund or the investment manager. Cybersecurity
incidents may result in financial losses to the Fund and its shareholders, and substantial costs may
be incurred in an effort to prevent or mitigate future cybersecurity incidents. Issuers of securities
in which the Fund invests are also subject to cybersecurity risks, and the
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
value
of these securities could decline if the issuers experience cybersecurity incidents.
Because technology is
frequently changing, new ways to carry out cyber attacks are always developing. Therefore, there is a
chance that some risks have not been identified or prepared for, or that an attack may not be detected,
which puts limitations on the Fund's ability to plan for or respond to a cyber attack. Like other funds
and business enterprises, the Fund, the investment manager, and their service providers are subject to
the risk of cyber incidents occurring from time to time.
Market Trading:
The Fund faces numerous market trading risks, including the potential lack of an active market for Fund
shares, losses from trading in secondary markets, periods of high volatility and disruption in the creation/redemption
process of the Fund. Any of these factors, among others, may lead to the Fund’s shares trading at a
premium or discount to NAV. Thus, you may pay more (or less) than NAV when you buy shares of the Fund
in the secondary market, and you may receive less (or more) than NAV when you sell those shares in the
secondary market. The investment manager cannot predict whether shares will trade above (premium), below
(discount) or at NAV.
Authorized Participant Concentration: Only an Authorized
Participant may engage in creation or redemption transactions directly with the Fund. "Authorized Participants"
are broker-dealers that are permitted to create and redeem shares directly with the Fund and who have
entered into agreements with the Fund’s distributor. The Fund has a limited number of institutions
that act as Authorized Participants. To the extent that these institutions exit the business or are unable
to proceed with creation and/or redemption orders with respect to the Fund and no other Authorized Participant
is able to step forward to create or redeem Creation Units (as defined below), Fund shares may trade
at a discount to NAV and possibly face trading halts and/or delisting. This risk may be more pronounced
in volatile markets, potentially where there are significant redemptions in ETFs generally.
Cash
Transactions: Unlike certain ETFs, the Fund expects to generally effect its creations and
redemptions entirely for cash, rather than for in-kind securities. Therefore, it may be required to sell
portfolio securities and subsequently recognize gains on such sales that the Fund might not have recognized
if it were to distribute portfolio securities in-kind. As such, investments in Fund shares may be less
tax-efficient than an investment in an ETF that distributes portfolio securities entirely in-kind.
Small
Fund:
When the Fund's size is small, the Fund may experience low trading volume and wide bid-ask spreads.
In addition, the Fund may face the risk of being delisted if the Fund does not meet certain conditions
of the listing exchange.
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
Large
Shareholder: Certain large shareholders, including other funds or accounts advised by the
investment manager or an affiliate of the investment manager, may from time to time own a substantial
amount of the Fund’s shares. In addition, a third-party investor, the investment manager or an affiliate
of the investment manager, an authorized participant, a lead market maker, or another entity may invest
in the Fund and hold its investment for a limited period of time solely to facilitate commencement of
the Fund or to facilitate the Fund’s achieving a specified size or scale. There can be no assurance
that any large shareholder would not redeem its investment, that the size of the Fund would be maintained
at such levels or that the Fund would continue to meet applicable listing requirements. Redemptions by
large shareholders could have a significant negative impact on the Fund. In addition, transactions by
large shareholders may account for a large percentage of the trading volume on the listing exchange and
may, therefore, have a material upward or downward effect on the market price of the shares.
Performance
The
following bar chart and table provide some indication of the risks of investing in the Fund. The bar
chart shows changes in the Fund's performance from year to year. The table shows how the Fund's average
annual returns for 1 year, 5 years, 10 years or since inception, as applicable, compared with those of
a broad measure of market performance and an additional index with characteristics relevant to the Fund.
The
Fund's past performance (before and after taxes) is not necessarily an indication of how the Fund will
perform in the future. You can obtain updated performance information at www.franklintempleton.com or
by calling (800) DIAL BEN/342-5236.
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
Annual Total Returns
| | |
Best Quarter: | 2023, Q4 | 2.37% |
Worst Quarter: | 2022, Q1 | -1.80% |
|
As of June 30, 2024, the
Fund’s year-to-date return was 2.08%. |
Average Annual Total Returns
For periods ended December
31, 2023
| | | | | | | | |
| | 1
Year | | 5
Years | | 10
Years | |
Franklin
Short Duration U.S. Government ETF | | | | | | | |
| Return before taxes | | 4.85% | | 1.32% | |
1.05% | |
| Return
after taxes on distributions | |
3.09% | | 0.40% | | 0.15% | |
| Return after taxes on distributions and sale of Fund shares | | 2.85% | |
0.62% | | 0.41% | |
Bloomberg US Aggregate
Index (index reflects no deduction for fees, expenses or taxes) | | 5.53% | |
1.10% | | 1.81% | |
Bloomberg US Government
Index: 1-3 Year Component (index reflects no deduction for fees, expenses or taxes) | | 4.32% | |
1.28% | | 1.05% | |
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The after-tax returns
presented in the table are calculated using the historical highest individual federal marginal income
tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on
an investor's tax situation and may differ from those shown. After-tax returns are not relevant to investors
who hold their Fund shares through tax-advantaged arrangements, such as 401(k) plans or individual retirement
accounts.
Investment
Manager
Franklin Advisers, Inc. (Advisers or investment manager)
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
Portfolio Managers
Patrick
Klein, Ph.D.
Senior Vice President of Advisers and portfolio manager of the Fund since inception
(2013).
Paul Varunok
Senior Vice President of Advisers and portfolio manager of
the Fund since 2019.
Neil Dhruv
Vice President of Advisers and portfolio manager of the Fund
since 2021.
Purchase
and Sale of Fund Shares
The Fund is an ETF. Fund shares may only be purchased and sold on a national securities
exchange through a broker-dealer. The price of Fund shares is based on market price, and because ETF
shares trade at market prices rather than NAV, shares may trade at a price greater than NAV (a premium)
or less than NAV (a discount). The Fund issues or redeems shares that have been aggregated into blocks
of 25,000 shares or multiples thereof (Creation Units) to Authorized Participants who have entered into
agreements with the Fund’s distributor, Franklin Distributors, LLC (Distributors). The Fund will generally
issue or redeem Creation Units in exchange for a basket of cash and/or securities that the Fund specifies
each day.
An investor may incur costs attributable to the difference between the highest
price a buyer is willing to pay to purchase shares of the Fund (bid) and the lowest price a seller is
willing to accept for shares of the Fund (ask) when buying or selling shares in the secondary market
(the “bid-ask spread”). Recent information, including information on the Fund’s NAV, market price,
premiums and discounts, and bid-ask spreads is available on the Fund’s website at https://www.franklintempleton.com/investments/options/exchange-traded-funds.
Taxes
The
Fund’s distributions are generally taxable to you as ordinary income, capital gains, or some combination
of both, unless you are investing through a tax-advantaged arrangement, such as a 401(k) plan or an individual
retirement account, in which case your distributions would generally be taxed when withdrawn from the
tax-advantaged account.
Payments
to Broker-Dealers and Other Financial Intermediaries
If you purchase shares of the Fund through
a broker-dealer or other financial intermediary (such as a bank), the investment manager or other related
companies
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND SUMMARY
may
pay the intermediary for certain Fund-related activities, including those that are designed to make the
intermediary more knowledgeable about exchange traded products, such as the Fund, as well as for marketing,
education or other initiatives related to the sale or promotion of Fund shares. These payments may create
a conflict of interest by influencing the broker-dealer or other intermediary and your salesperson to
recommend the Fund over another investment. Ask your salesperson or visit your financial intermediary’s
website for more information.
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND DETAILS
Fund Details
Investment Goal
The Fund’s investment goal is to seek to provide a high
level of current income as is consistent with prudent investing, while seeking preservation of capital.
The Fund’s investment goal is non-fundamental, which means it may be changed by the Board of Trustees
without shareholder approval. Shareholders will be given at least 60 days’ advance notice of any change
to the Fund’s investment goal.
Principal
Investment Policies and Practices
Under normal market conditions, the Fund invests at least
80% of its net assets in securities issued or guaranteed by the U.S. government, its agencies, or instrumentalities.
Shareholders will be given at least 60 days’ advance notice of any change to the 80% investment policy.
The Fund currently targets an estimated portfolio duration of three (3) years or less. Such targeted
portfolio duration may change in the future. The Fund generally invests 50-80% of its assets in mortgage
securities issued or guaranteed by the U.S. government, its agencies, or instrumentalities, including
adjustable rate mortgage securities (ARMS) and collateralized mortgage obligations (CMOs), but the Fund
also invests in direct obligations of the U.S. government (such as Treasury bonds, bills and notes) and
in securities issued or guaranteed by the U.S. government, its agencies or instrumentalities, including
government sponsored entities. All of the Fund’s principal investments are debt securities. Debt securities
represent the obligation of the issuer to repay a loan of money to it and generally pay interest to the
holder. Bonds, notes and debentures are examples of debt securities.
In comparison to maturity (which is the date
on which a debt instrument ceases and the issuer is obligated to repay the principal amount), duration
is a measure of the expected price volatility of a debt instrument as a result of changes in market rates
of interest, based on the weighted average timing of the instrument’s expected principal and interest
payments and other factors. Duration differs from maturity in that it considers a security’s yield,
coupon payments, principal payments, call features and coupon adjustments in addition to the amount of
time until the security finally matures. As the value of a security changes over time, so will its duration.
Prices of securities with lower durations tend to be less sensitive to interest rate changes than securities
with higher durations. In general, a portfolio of securities with a lower duration can be expected to
be less sensitive to interest rate changes than a portfolio with a higher duration. Duration measures
a fixed income security's price sensitivity to interest rates by indicating the approximate change in
a fixed income security's price if interest rates move up or down in 1% increments. For example, when
the level of interest rates increases by 1%, the price of a fixed income security or a portfolio of fixed
income securities having a positive duration
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FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
FUND DETAILS
of
five years generally will decrease by approximately 5% and the price of a fixed income security or a
portfolio of fixed income securities having a negative duration of five years generally will increase
by approximately 5%. Conversely when the level of interest rates decreases by 1%, the price of a fixed
income security or a portfolio of fixed income securities having a positive duration of five years generally
will increase by approximately 5% and the price of a fixed income security or a portfolio of fixed income
securities having a negative duration of five years generally will decrease by approximately 5%. The
Fund does not target a specific range or average maturity for the debt securities in which it invests.
The
Fund invests in investment grade securities and investments or in unrated securities and investments
the Fund’s investment manager determines are of comparable quality. Securities rated in the top four
ratings categories by one or more independent rating agencies such as S&P Global Ratings (S&P®)
(rated BBB- or better), Moody’s Investors Service (Moody’s) (rated Baa3 or higher) are considered
investment grade. If subsequent to its purchase, a security is downgraded in rating or goes into default,
the Fund will consider such events in its evaluation of the overall investment merits of that security
but will not necessarily dispose of that security immediately. For purposes of calculating the Fund's
portfolio duration, the Fund includes the effect of interest rate/bond futures contracts and options
on interest rate/bond futures contracts held by the Fund.
The mortgage securities in which the Fund
substantially invests are issued or guaranteed by the U.S. government, its agencies or instrumentalities,
such as Ginnie Mae and U.S. government-sponsored entities, such as Fannie Mae and Freddie Mac. Mortgage
securities represent an interest in a pool of mortgage loans made by banks and other financial institutions
to finance purchases of homes, commercial buildings and other real estate. The individual mortgage loans
are packaged or “pooled” together for sale to investors. As the underlying mortgage loans are paid
off, investors receive principal and interest payments. These securities may be fixed-rate securities
or ARMS. Most mortgage securities are pass-through securities which means they provide investors with
monthly payments consisting of a pro rata share of both regular interest and principal payments as well
as unscheduled prepayments on the underlying mortgage loans. Factors affecting mortgage prepayments include
the prevailing level of interest rates, the location of the mortgaged property, the age of the mortgage
loan and general economic conditions. Because prepayment rates of individual mortgage pools vary widely,
the average life of a particular pool cannot be predicted accurately. Adjustable-rate mortgage securities
include ARMS and other mortgage securities with interest rates that adjust periodically to reflect prevailing
market interest rates.
Government agency or instrumentality issues have different levels of credit support.
Ginnie Maes carry a guarantee as to the timely repayment of principal and interest that is backed by
the full faith and credit of the U.S. government. The full faith and
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credit
guarantee does not apply to the market prices and yields of the Ginnie Maes or to the NAV, trading price
or performance of the Fund, which will vary with changes in interest rates and other market conditions.
U.S.
government-sponsored entities, such as Fannie Mae and Freddie Mac, are chartered by Acts of Congress,
but their securities are neither issued nor guaranteed by the U.S. government. Although the U.S. government
has recently provided financial support to Fannie Mae and Freddie Mac, no assurance can be given that
the U.S. government will continue to do so. For example, Fannie Mae and Freddie Mac pass-through mortgage
certificates are backed by the credit of the respective instrumentality and are not guaranteed by the
U.S. government. The U.S. Department of the Treasury, however, has the authority to support Fannie Mae
and Freddie Mac by purchasing limited amounts of their respective obligations. Other securities issued
by government agencies or instrumentalities, including government sponsored entities, may only be backed
by the credit worthiness of the issuing institution, not the U.S. Government, or the issuers may have
the right to borrow from the U.S. Treasury to meet its obligations. The Fund may invest in securities
with various levels of credit support including, but not limited to, those issued or guaranteed by the
Federal Home Loan Banks, Veterans Administration, Federal Housing Authority, Export-Import Bank of the
United States, Overseas Private Investment Corporation, Commodity Credit Corporation, Small Business
Administration, U.S. Agency for International Development, Tennessee Valley Authority and Farm Credit
System. Investors should remember that guarantees of timely repayment of principal and interest on the
securities do not apply to the market prices and yields of the securities or to the NAV, trading price
or performance of the Fund. Irrespective of such guarantees, the market prices and yields of the securities
and, consequently, the NAV, trading price and performance of the Fund, will vary with changes in interest
rates and other market conditions. Any downgrade of the credit rating of the securities issued by the
U.S. government may result in a downgrade of securities issued by its agencies or instrumentalities,
including government-sponsored entities.
The Fund may also invest in U.S. government inflation-indexed
securities. Inflation-indexed securities are fixed-income securities that are structured to provide protection
against inflation. The value of the security’s principal or the interest income paid on the security
is adjusted to track changes in an official inflation measure. The U.S. Treasury uses the Consumer Price
Index for Urban Consumers as the inflation measure.
The Fund may also invest in mortgage dollar
rolls. In a mortgage dollar roll, the Fund sells (or buys) mortgage securities for delivery on a specified
date and simultaneously contracts to repurchase (or sell) substantially similar (same type, coupon, and
maturity) securities on a future date. During the period between a sale and repurchase, the Fund forgoes
principal and interest paid on the
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mortgage-backed
securities. The Fund earns or loses money on a mortgage dollar roll from any difference between the sale
price and the future purchase price. In a sale and repurchase, the Fund also earns money on the interest
earned on the cash proceeds of the initial sale. The Fund will invest only in covered mortgage dollar
rolls, meaning that the Fund establishes a segregated account with liquid securities equal in value to
the securities it will repurchase.
The Fund may purchase or sell mortgage securities on a delayed
delivery or forward commitment basis through the “to-be-announced” (TBA) market. With TBA transactions,
the particular securities to be delivered are not identified at the trade date but the delivered securities
must meet specified terms and standards (such as yield, duration, and credit quality). In addition to
buying securities on a when-issued, delayed delivery or TBA basis, the Fund may also sell these securities
on a TBA basis to close out an existing TBA position before the settlement date, to take advantage of
an expected decline in value of the securities, or for hedging purposes.
For purposes of pursuing
its investment goal, the Fund may enter into interest rate-related derivative transactions, principally
U.S. Treasury futures contracts and options on interest rate/bond futures. The use of these derivative
transactions may allow the Fund to obtain net long or short exposures to selected interest rates or durations.
These derivatives may be used to hedge risks associated with the Fund’s other portfolio investments
and to manage the duration of the Fund’s portfolio. The investment manager considers various factors,
such as availability and cost, in deciding whether, when and to what extent to enter into derivative
transactions.
A futures contract is a standard binding agreement that trades on an exchange
to buy or sell a specified quantity of an underlying instrument or asset at a specified price at a specified
later date. A “sale” of a futures contract means the acquisition of a contractual obligation to deliver
the underlying instrument called for by the contract at a specified price on a specified date. A “purchase”
of a futures contract means the acquisition of a contractual obligation to acquire a specified quantity
of the underlying instrument called for by the contract at a specified price on a specified date. The
purchase or sale of a futures contract will allow the Fund to increase or decrease its exposure to the
underlying instrument or asset. Although most futures contracts used by the Fund allow for a cash payment
of the net gain or loss on the contract at maturity, in lieu of delivery of the underlying instrument
or asset, some require the actual delivery or acquisition of the underlying instrument or asset.
A
call option gives the purchaser of the option, upon payment of a premium, the right to buy, and the seller
the obligation to sell, the underlying instrument at the exercise price. Conversely, a put option gives
the purchaser of the option, upon
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payment
of a premium, the right to sell, and the seller of the option the obligation to buy, the underlying instrument
at the exercise price.
Principal
Risks
Interest
Rate: Interest rate changes can be sudden and unpredictable, and are influenced by a
number of factors, including government policy, monetary policy, inflation expectations, perceptions
of risk, and supply of and demand for bonds. Changes in government or central bank policy, including
changes in tax policy or changes in a central bank’s implementation of specific policy goals, may have
a substantial impact on interest rates. There can be no guarantee that any particular government or central
bank policy will be continued, discontinued or changed, nor that any such policy will have the desired
effect on interest rates. Debt securities generally tend to lose market value when interest rates rise
and increase in value when interest rates fall. A rise in interest rates also has the potential to cause
investors to rapidly sell fixed income securities. A substantial increase in interest rates may also
have an adverse impact on the liquidity of a debt security, especially those with longer maturities or
durations. Securities with longer maturities or durations or lower coupons or that make little (or no)
interest payments before maturity tend to be more sensitive to interest rate changes.
Mortgage
Securities: Mortgage securities differ from conventional
debt securities because principal is paid back over the life of the security rather than at maturity.
The Fund may receive unscheduled prepayments of principal due to voluntary prepayments, refinancing or
foreclosure on the underlying mortgage loans. To the Fund this means a loss of anticipated interest,
and a portion of its principal investment represented by any premium the Fund may have paid. Mortgage
prepayments generally increase when interest rates fall. Because of prepayments, mortgage securities
may be less effective than some other types of debt securities as a means of "locking in" long-term interest
rates and may have less potential for capital appreciation during periods of falling interest rates.
When the Fund reinvests the prepayments of principal it receives, it may receive a rate of interest that
is lower than the rate on the existing security.
Mortgage securities also are subject to extension
risk. An unexpected rise in interest rates could reduce the rate of prepayments on mortgage securities
and extend their life. This could cause the price of the mortgage securities and the Fund's NAV and trading
price to fall and would make the mortgage securities more sensitive to interest rate changes.
Since September 2008,
the Federal Housing Finance Agency (FHFA), an agency of the U.S. government, has acted as the conservator
to operate Fannie Mae and Freddie Mac until they are stabilized. It is unclear how long the conservatorship
will last or what effect this conservatorship will have on the securities issued or guaranteed by Fannie
Mae or Freddie Mac for the long-term.
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Although
the mortgage securities that are delivered in TBA transactions must meet certain standards, there is
a risk that the actual securities received by the Fund may be less favorable than what was anticipated
when entering into the transaction. TBA transactions also involve the risk that a counterparty will fail
to deliver the security, exposing the Fund to losses. Whether or not the Fund takes delivery of the securities
at the termination date of a TBA transaction, it will nonetheless be exposed to changes in the value
of the underlying investments during the term of the agreement. Entering into a when-issued, delayed
delivery or TBA transaction may also be viewed as a form of leverage and will result in associated risks
for the Fund. Sales of debt securities on a when-issued or delayed delivery basis are also subject to
the risk that the Fund is unable to purchase securities for delivery at the settlement date with the
characteristics agreed upon at the time of the transaction, which may subject the Fund to market losses
or other penalties.
Prepayment: Debt securities are
subject to prepayment risk when the issuer can "call" the security, or repay principal, in whole or in
part, prior to the security's maturity. When the Fund reinvests the prepayments of principal it receives,
it may receive a rate of interest that is lower than the rate on the existing security, potentially lowering
the Fund's income, yield and its distributions to shareholders. Securities subject to partial or complete
prepayment(s) may offer less potential for gains during a declining interest rate environment and have
greater price volatility. Prepayment risk is greater in periods of falling interest rates for fixed-rate
investments, and for floating or variable rate securities, rising interest rates generally increase the
risk of refinancings or prepayments.
Variable Rate Securities: Variable
rate securities (which include floating rate debt securities) generally are less price sensitive to interest
rate changes than fixed rate debt securities. However, the market value of variable rate debt securities
may decline or not appreciate as quickly as expected when prevailing interest rates rise if the interest
rates of the variable rate securities do not rise as much, or as quickly, as interest rates in general.
Conversely, variable rate securities will not generally increase in market value if interest rates decline.
When interest rates fall, there may be a reduction in the payments of interest received by the Fund from
its variable rate securities.
The NAV and trading price of the Fund may decline or not appreciate
as expected during periods of rising interest rates until the interest rates on these securities reset
to market rates. You could lose money if you sell your shares of the Fund before these rates reset.
Income:
The Fund's distributions to shareholders may decline when prevailing interest rates fall, when the Fund
experiences defaults on debt securities it holds or when the Fund realizes a loss upon the sale of a
debt security. The Fund's income generally declines during periods of falling benchmark interest rates
because the
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Fund
must reinvest the proceeds it receives from existing investments (upon their maturity, prepayment, amortization,
sale, call, or buy-back) at a lower rate of interest or return.
Extension: The market value of
some debt securities (such as certain asset-backed and mortgage-backed securities) will be adversely
affected when bond calls or prepayments on underlying mortgages or other assets are less or slower than
anticipated, particularly when interest rates rise. When that occurs, the effective maturity date of
the Fund’s investment may be extended, resulting in an increase in interest rate sensitivity to that
of a longer-term instrument. Such extension may also effectively lock-in a below market interest rate
and reduce the value of the debt security.
Inflation-Indexed Securities: Inflation-indexed securities
have a tendency to react to changes in real interest rates. Real interest rates represent nominal (stated)
interest rates lowered by the anticipated effect of inflation. In general, the price of an inflation-indexed
security decreases when real interest rates increase, and increases when real interest rates decrease.
Interest payments on inflation-indexed securities will fluctuate as the principal and/or interest is
adjusted for inflation and can be unpredictable. Any increase in the principal amount of an inflation-protected
debt security will be considered taxable ordinary income, even though investors, such as the Fund, do
not receive their principal until maturity.
Market: The market values of
securities or other investments owned by the Fund will go up or down, sometimes rapidly or unpredictably.
The Fund’s investments may decline in value due to factors affecting individual issuers (such as the
results of supply and demand), or sectors within the securities markets. The value of a security or other
investment also may go up or down due to general market conditions that are not specifically related
to a particular issuer, such as real or perceived adverse economic conditions, changes in interest rates
or exchange rates, or adverse investor sentiment generally. Furthermore, events involving limited liquidity,
defaults, non-performance or other adverse developments that affect one industry, such as the financial
services industry, or concerns or rumors about any events of these kinds, have in the past and may in
the future lead to market-wide liquidity problems, may spread to other industries, and could negatively
affect the value and liquidity of the Fund’s investments. In addition, unexpected events and their
aftermaths, such as the spread of diseases; natural, environmental or man-made disasters; financial,
political or social disruptions; terrorism and war; and other tragedies or catastrophes, can cause investor
fear and panic, which can adversely affect the economies of many companies, sectors, nations, regions
and the market in general, in ways that cannot necessarily be foreseen. During a general downturn in
the securities markets, multiple asset classes may decline in value. When markets perform well, there
can be no
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assurance
that securities or other investments held by the Fund will participate in or otherwise benefit from the
advance.
The
global outbreak of the novel strain of coronavirus, COVID-19 and its subsequent variants, has resulted
in market closures and dislocations, extreme volatility, liquidity constraints and increased trading
costs. The long-term impact on economies, markets, industries and individual issuers is not known. Some
sectors of the economy and individual issuers have experienced or may experience particularly large losses.
Periods of extreme volatility in the financial markets; reduced liquidity of many instruments; and disruptions
to supply chains, consumer demand and employee availability, may continue for some time. The U.S. government
and the Federal Reserve, as well as certain foreign governments and central banks, have taken extraordinary
action to support local and global economies and the financial markets in response to the COVID-19 pandemic.
This and other government interventions into the economy and financial markets may not work as intended,
and have resulted in a large expansion of government deficits and debt, the long term consequences of
which are not known. In addition, the COVID-19 pandemic, and measures taken to mitigate its effects,
could result in disruptions to the services provided to the Fund by its service providers.
Mortgage
Dollar Rolls: In a mortgage dollar roll, the Fund takes the risk that the
market price of the mortgage-backed securities will drop below their future purchase price. The Fund
also takes the risk that the mortgage-backed securities that it repurchases at a later date will have
less favorable market characteristics than the securities originally sold (e.g., greater prepayment risk).
When the Fund uses a mortgage dollar roll, it is also subject to the risk that the other party to the
agreement will not be able to perform. Mortgage dollar rolls add leverage to the Fund's portfolio and
increase the Fund's sensitivity to interest rate changes. In addition, investment in mortgage dollar
rolls will increase the Fund's portfolio turnover rate.
Portfolio Turnover:
Active
and frequent trading may increase a shareholder’s tax liability and the Fund’s transaction costs,
which could detract from Fund performance.
Derivative Instruments: The performance of
derivative instruments depends largely on the performance of an underlying instrument, such as a security,
interest rate, or index, and such instruments often have risks similar to the underlying instrument,
in addition to other risks. Derivative instruments involve costs and can create economic leverage in
the Fund’s portfolio, which may result in significant volatility and cause the Fund to participate
in losses (as well as gains) in an amount that significantly exceeds the Fund’s initial investment.
Other risks include illiquidity, mispricing or improper valuation of the derivative instrument, and imperfect
correlation between the value of the derivative and the underlying instrument so that the Fund may not
realize the intended benefits. Their successful use will
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usually
depend on the investment manager’s ability to accurately forecast movements in the market relating
to the underlying instrument. Should a market or markets, or prices of particular classes of investments,
move in an unexpected manner, especially in unusual or extreme market conditions, the Fund may not realize
the anticipated benefits of the transaction, and it may realize losses, which could be significant. If
the investment manager is not successful in using such derivative instruments, the Fund’s performance
may be worse than if the investment manager did not use such derivative instruments at all. When a derivative
is used for hedging, the change in value of the derivative instrument also may not correlate specifically
with the security, interest rate, index or other risk being hedged. There is also the risk, especially
under extreme market conditions, that an instrument, which usually would operate as a hedge, provides
no hedging benefits at all.
Use of these instruments could also result in a loss if the
counterparty to the transaction does not perform as promised, including because of such counterparty’s
bankruptcy or insolvency. This risk is heightened with respect to over-the-counter (OTC) instruments
and may be greater during volatile market conditions. Other risks include the inability to close out
a position because the trading market becomes illiquid (particularly in the OTC markets) or the availability
of counterparties becomes limited for a period of time. In addition, the presence of speculators in a
particular market could lead to price distortions. To the extent that the Fund is unable to close out
a position because of market illiquidity, the Fund may not be able to prevent further losses of value
in its derivatives holdings and the Fund’s liquidity may be impaired. Some derivatives can be particularly
sensitive to changes in interest rates or other market prices. Investors should bear in mind that, while
the Fund intends to use derivative strategies on a regular basis, it is not obligated to actively engage
in these transactions, generally or in any particular kind of derivative, if the investment manager elects
not to do so due to availability, cost or other factors.
The use of derivative strategies may also
have a tax impact on the Fund. The timing and character of income, gains or losses from these strategies
could impair the ability of the investment manager to use derivatives when it wishes to do so.
Management:
The Fund is actively managed and could experience losses if the investment manager’s judgment about
markets, interest rates or the attractiveness, relative values, liquidity, or potential appreciation
of particular investments made for the Fund's portfolio prove to be incorrect. The Fund could also experience
losses if there are imperfections, errors or limitations in the models, tools, and data used by the investment
manager or if the investment manager’s techniques or investment decisions do not produce the desired
results. Additionally, legislative, regulatory, or tax developments may affect the investment techniques
available to the investment
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manager
in connection with managing the Fund and may also adversely affect the ability of the Fund to achieve
its investment goal.
Credit: The Fund could lose
money on a debt security if the issuer or borrower is unable or fails to meet its obligations, including
failing to make interest payments and/or to repay principal when due. Changes in an issuer's financial
strength, the market's perception of the issuer's financial strength or an issuer's or security's credit
rating, which reflects a third party's assessment of the credit risk presented by a particular issuer
or security, may affect debt securities' values. The Fund may incur substantial losses on debt securities
that are inaccurately perceived to present a different amount of credit risk by the market, the investment
manager or the rating agencies than such securities actually do.
While securities issued
or guaranteed by Ginnie Mae are backed by the full faith and credit of the U.S. government, not all securities
of the various U.S. government agencies are, including those of Fannie Mae and Freddie Mac. While the
U.S. government has provided financial support to Fannie Mae and Freddie Mac, no assurance can be given
that the U.S. government will always do so, since the U.S. government is not so obligated by law. Accordingly,
securities issued by Fannie Mae and Freddie Mac may involve a risk of non-payment of principal and interest.
Also, guarantees of principal and interest do not apply to market prices, yields or the Fund's share
price. Any downgrade of the credit rating of the securities issued by the U.S. government may result
in a downgrade of securities issued by its agencies or instrumentalities, including government-sponsored
entities.
Cybersecurity: Cybersecurity incidents, both intentional
and unintentional, may allow an unauthorized party to gain access to Fund assets, Fund or customer data
(including private shareholder information), or proprietary information, cause the Fund, the investment
manager, authorized participants, or index providers (as applicable) and listing exchanges, and/or their
service providers (including, but not limited to, Fund accountants, custodians, sub-custodians, transfer
agents and financial intermediaries) to suffer data breaches, data corruption or loss of operational
functionality or prevent Fund investors from purchasing, redeeming shares or receiving distributions.
The investment manager has limited ability to prevent or mitigate cybersecurity incidents affecting third
party service providers, and such third party service providers may have limited indemnification obligations
to the Fund or the investment manager. Cybersecurity incidents may result in financial losses to the
Fund and its shareholders, and substantial costs may be incurred in an effort to prevent or mitigate
future cybersecurity incidents. Issuers of securities in which the Fund invests are also subject to cybersecurity
risks, and the value of these securities could decline if the issuers experience cybersecurity incidents.
Because
technology is frequently changing, new ways to carry out cyber attacks are always developing. Therefore,
there is a chance that some risks have not been
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identified
or prepared for, or that an attack may not be detected, which puts limitations on the Fund's ability
to plan for or respond to a cyber attack. Like other funds and business enterprises, the Fund, the investment
manager, and their service providers are subject to the risk of cyber incidents occurring from time to
time.
Market Trading:
Absence of active market: Although shares of
the Fund are listed for trading on one or more stock exchanges, there can be no assurance that an active
trading market for such shares will develop or be maintained. There are no obligations of market makers
to make a market in the Fund’s shares or of an Authorized Participant to submit purchase or redemption
orders for Creation Units. Decisions by market makers or Authorized Participants to reduce their role
or step away from these activities in times of market stress could inhibit the effectiveness of the arbitrage
process in maintaining the relationship between the underlying value of the Fund’s portfolio securities
and the Fund’s market price. This reduced effectiveness could result in Fund shares trading at a premium
or discount to its NAV and also greater than normal intraday bid-ask spreads. Additionally, in stressed
market conditions, the market for the Fund’s shares may become less liquid in response to deteriorating
liquidity in the markets for the Fund’s portfolio holdings, which may cause a significant variance
in the market price of the Fund’s shares and their underlying value and wider bid-ask spreads.
Secondary
listings: The Fund's shares may be listed or traded on U.S. and non-U.S. stock exchanges
other than the U.S. stock exchange where the Fund's primary listing is maintained, and may otherwise
be made available to non-U.S. investors through funds or structured investment vehicles similar to depositary
receipts.
The Fund’s shares may be less actively traded in certain markets than in others,
and investors are subject to the execution and settlement risks and market standards of the market where
they or their broker direct their trades for execution. Certain information available to investors who
trade Fund shares on a U.S. stock exchange during regular U.S. market hours may not be available to investors
who trade in other markets, which may result in secondary market prices in such markets being less efficient.
Secondary
market trading: Shares of the Fund may trade in the secondary market at times when the Fund
does not accept orders to purchase or redeem shares. At such times, shares may trade in the secondary
market with more significant premiums or discounts than might be experienced at times when the Fund accepts
purchase and redemption orders.
There can be no assurance that the Fund's shares will continue
to trade on a stock exchange or in any market or that the Fund's shares will continue to meet the
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requirements
for listing or trading on any exchange or in any market, or that such requirements will remain unchanged.
Secondary market trading in Fund shares may be halted by a stock exchange because of market conditions
or other reasons. In addition, trading in Fund shares on a stock exchange or in any market may be subject
to trading halts caused by extraordinary market volatility pursuant to “circuit breaker” rules on
the stock exchange or market.
During a “flash crash,” the market prices of the Fund’s shares may decline
suddenly and significantly. Such a decline may not reflect the performance of the portfolio securities
held by the Fund. Flash crashes may cause Authorized Participants and other market makers to limit or
cease trading in the Fund’s shares for temporary or longer periods. Shareholders could suffer significant
losses to the extent that they sell shares at these temporarily low market prices.
Shares of the Fund, similar
to shares of other issuers listed on a stock exchange, may be sold short and are therefore subject to
the risk of increased volatility associated with short selling.
Premium/discount:
Shares of the Fund may trade at prices other than NAV. Shares of the Fund trade on stock exchanges at
prices at, above or below their most recent NAV. The NAV of the Fund is calculated at the end of each
business day and fluctuates with changes in the market value of the Fund’s holdings since the most
recent calculation. The trading prices of the Fund’s shares fluctuate continuously throughout trading
hours based on market supply and demand rather than NAV. As a result, the trading prices of the Fund’s
shares may deviate significantly from NAV during periods of market volatility.
Any of these factors,
among others, may lead to the Fund’s shares trading at a premium or discount to NAV. Thus, you may
pay more (or less) than NAV when you buy shares of the Fund in the secondary market, and you may receive
less (or more) than NAV when you sell those shares in the secondary market. The investment manager cannot
predict whether shares will trade above (premium), below (discount) or at NAV. However, because shares
can be created and redeemed in Creation Units at NAV, the investment manager believes that large discounts
or premiums to the NAV of the Fund are not likely to be sustained over the long-term. While the creation/redemption
feature is designed to make it likely that the Fund’s shares normally will trade on stock exchanges
at prices close to the Fund’s next calculated NAV, exchange prices are not expected to correlate exactly
with the Fund’s NAV due to timing reasons as well as market supply and demand factors. In addition,
disruptions to creations and redemptions or extreme market volatility may result in trading prices for
shares of the Fund that differ significantly from its NAV.
Cost of buying or selling
Fund shares: Buying or selling Fund shares on an exchange involves two types of costs that
apply to all securities transactions. When
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buying
or selling shares of the Fund through a broker, you will likely incur a brokerage commission or other
charges imposed by brokers as determined by that broker. In addition, you may incur the cost of the “spread,”
that is, the difference between what investors are willing to pay for Fund shares (the “bid” price)
and the price at which they are willing to sell Fund shares (the “ask” price). Because of the costs
inherent in buying or selling Fund shares, frequent trading may detract significantly from investment
results and an investment in Fund shares may not be advisable for investors who anticipate regularly
making small investments.
Small Fund: When the Fund’s size is small, the
Fund may experience low trading volume and wide bid-ask spreads. In addition, the Fund may face the risk
of being delisted if the Fund does not meet certain conditions of the listing exchange. If the Fund were
to be required to delist from the listing exchange, the value of the Fund may rapidly decline and performance
may be negatively impacted. In addition, any resulting liquidation of the Fund could cause the Fund to
incur elevated transaction costs for the Fund and negative tax consequences for its shareholders.
Large
Shareholder: Certain large shareholders, including other funds or accounts advised by the
investment manager or an affiliate of the investment manager, may from time to time own a substantial
amount of the Fund’s shares. In addition, a third party investor, the investment manager or an affiliate
of the investment manager, an authorized participant, a lead market maker, or another entity may invest
in the Fund and hold its investment for a limited period of time solely to facilitate commencement of
the Fund or to facilitate the Fund’s achieving a specified size or scale. There can be no assurance
that any large shareholder would not redeem its investment. Dispositions of a large number of shares
by these shareholders may adversely affect the Fund’s liquidity and net assets to the extent such transactions
are executed directly with the Fund in the form of redemptions through an authorized participant, rather
than executed in the secondary market. These redemptions may also force the Fund to sell portfolio securities
when it might not otherwise do so, which may negatively impact the Fund’s NAV and increase the Fund’s
brokerage costs. To the extent these large shareholders transact in shares on the secondary market, such
transactions may account for a large percentage of the trading volume on the listing exchange and may,
therefore, have a material upward or downward effect on the market price of the shares.
Authorized
Participant Concentration: Only an Authorized Participant may engage in creation or
redemption transactions directly with the Fund. The Fund has a limited number of institutions that act
as Authorized Participants. To the extent that these institutions exit the business or are unable to
proceed with creation and/or redemption orders with respect to the Fund and no other Authorized Participant
is able to step forward to create or redeem Creation Units, Fund shares may trade at a discount to NAV
and possibly face trading halts and/or delisting.
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This
risk may be more pronounced in volatile markets, potentially where there are significant redemptions
in ETFs generally.
Liquidity: Liquidity risk exists
when the markets for particular securities or types of securities or other investments are or become
relatively illiquid so that the Fund is unable, or it becomes more difficult for the Fund, to sell the
security or other investment at the price at which the Fund has valued the security. Illiquidity may
result from political, economic or issuer specific events; supply/demand imbalances; changes in a specific
market’s size or structure, including the number of participants; or overall market disruptions. Securities
or other investments with reduced liquidity or that become illiquid may involve greater risk than securities
with more liquid markets. Market prices or quotations for illiquid securities may be volatile, and there
may be large spreads between bid and ask prices. Reduced liquidity may have an adverse impact on market
price and the Fund's ability to sell particular securities when necessary to meet the Fund's liquidity
needs, which may arise or increase in response to a specific economic event or because the investment
manager wishes to purchase particular investments or believes that a higher level of liquidity would
be advantageous. An investment may become illiquid if the Fund and its affiliates receive material non-public
information about the issuer or the investment. To the extent that the Fund and its affiliates hold a
significant portion of an issuer's outstanding securities, the Fund may be subject to greater liquidity
risk than if the issuer's securities were more widely held.
Cash Transactions:
ETFs generally are able to make in-kind redemptions and avoid being taxed on gain on the distributed
portfolio securities at the Fund level. To the extent that the Fund effects redemptions partly or entirely
in cash, rather than in-kind, it may be required to sell portfolio securities in order to obtain the
cash needed to distribute redemption proceeds. If the Fund recognizes gain on these sales, this generally
will cause the Fund to recognize gain it might not otherwise have recognized, or to recognize such gain
sooner than would otherwise be required if it were to distribute portfolio securities in-kind. The Fund
generally intends to distribute these gains to shareholders to avoid being taxed on this gain at the
Fund level and otherwise comply with the special tax rules that apply to it. This strategy may cause
shareholders to be subject to tax on gains they would not otherwise be subject to, or at an earlier date
than, if they had made an investment in a different ETF. Moreover, cash transactions may have to be carried
out over several days if the securities market is relatively illiquid and may involve considerable brokerage
fees and taxes. These brokerage fees and taxes, which will be higher than if the Fund sold and redeemed
its shares principally in-kind, could be imposed on the Fund and thus decrease the Fund's NAV to the
extent they are not offset by the creation and redemption transaction fees paid by purchasers and redeemers
of Creation Units.
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SHORT DURATION U.S. GOVERNMENT ETF
FUND DETAILS
Exclusion of Investment Manager from Commodity Pool Operator Definition
With
respect to the Fund, the investment manager has claimed an exclusion from the definition of “commodity
pool operator” (CPO) under the Commodity Exchange Act (CEA) and the rules of the Commodity Futures
Trading Commission (CFTC) and, therefore, is not subject to CFTC registration or regulation as a CPO.
In addition, with respect to the Fund, the investment manager is relying upon a related exclusion from
the definition of “commodity trading advisor” (CTA) under the CEA and the rules of the CFTC.
The
terms of the CPO exclusion require the Fund, among other things, to adhere to certain limits on its investments
in commodity futures, commodity options and swaps, which in turn include non-deliverable currency forward
contracts, as further described in the Fund's Statement of Additional Information (SAI). Because the
investment manager and the Fund intend to comply with the terms of the CPO exclusion, the Fund may, in
the future, need to adjust its investment strategies, consistent with its investment goal, to limit its
investments in these types of instruments. The Fund is not intended as a vehicle for trading in the commodity
futures, commodity options, or swaps markets. The CFTC has neither reviewed nor approved the investment
manager’s reliance on these exclusions, or the Fund, its investment strategies or this prospectus.
Temporary
Investments
When
the investment manager believes market or economic conditions are unfavorable for investors, the investment
manager may invest up to 100% of the Fund’s assets in a temporary defensive manner by holding all or
a substantial portion of its assets in cash, cash equivalents or other high quality short-term investments.
Temporary defensive investments generally may include short-term U.S. government securities, high grade
commercial paper, bank obligations, repurchase agreements, money market fund shares (including shares
of an affiliated money market fund), and other money market instruments. The investment manager also
may invest in these types of securities or hold cash while looking for suitable investment opportunities
or to maintain liquidity. In these circumstances, the Fund may be unable to achieve its investment goal.
More
detailed information about the Fund and its policies and risks can be found in the Fund's SAI.
A
description of the Fund's policies and procedures regarding the release of portfolio holdings information
is also available in the Fund's SAI. The Fund discloses its portfolio holdings daily at https://www.franklintempleton.com/investments/options/exchange-traded-funds.
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SHORT DURATION U.S. GOVERNMENT ETF
FUND DETAILS
Management
Franklin
Advisers, Inc. (Advisers or investment manager), One Franklin Parkway, San Mateo, CA 94403-1906, is the
Fund’s investment manager. Advisers is a wholly-owned subsidiary of Franklin Resources, Inc. (Resources).
Together, Advisers and its affiliates manage, as of June 30, 2024, approximately $1.65 trillion in assets,
and have been in the investment management business since 1947.
The Fund is managed by
a team of dedicated professionals focused on investments in securities issued or guaranteed by the U.S.
government, its agencies, or instrumentalities. The portfolio managers of the Fund are as follows:
Patrick
Klein, Ph.D. Senior Vice President of Advisers
Dr. Klein has been a portfolio manager
of the Fund since inception and a co-lead portfolio manager of the Fund since 2019. He joined Franklin
Templeton in 2005.
Paul Varunok Senior Vice President of Advisers
Mr.
Varunok has been a co-lead portfolio manager of the Fund since 2019. He joined Franklin Templeton in
2001.
Neil
Dhruv
Vice
President of Advisers
Mr. Dhruv has been a co-lead portfolio manager of the Fund since 2021. He joined
Franklin Templeton in 2002.
The portfolio managers of the Fund are jointly and primarily
responsible for the day-to-day management of the Fund's portfolio. They have equal authority over all
aspects of the Fund's investment portfolio, including, but not limited to, purchases and sales of individual
securities, portfolio risk assessment, and the management of daily cash balances in accordance with anticipated
investment management requirements. The degree to which each portfolio manager may perform these functions,
and the nature of these functions, may change from time to time.
The Fund’s SAI provides additional information
about portfolio manager compensation, other accounts that they manage and their ownership of Fund shares.
Pursuant
to the investment management agreement approved by the board of trustees, the Fund pays Advisers a unified
management fee for managing the Fund’s assets. Advisers reimburses the Fund for all acquired fund fees
and expenses (such as those associated with the Fund’s investment in a Franklin Templeton money fund)
and pays all of the ordinary operating expenses of the Fund, except for (i) the Fund’s management fee,
(ii) payments under the Fund’s Rule 12b-1 plan (if any), (iii) brokerage expenses (including any costs
incidental to transactions in portfolio securities or instruments), (iv) taxes, (v) interest (including
borrowing costs and dividend expenses on securities sold short and overdraft charges), (vi) litigation
expenses (including litigation to which the Trust or the Fund
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FUND DETAILS
may
be a party and indemnification of the trustees and officers with respect thereto), and (vii) other non-routine
or extraordinary expenses.
For the fiscal year ended March 31, 2024, the Fund paid Advisers
an effective management fee of 0.24% of the Fund’s average daily net assets for management services.
Manager
of Managers Structure
The investment manager and the Trust have received an exemptive order from the
SEC that allows the Fund to operate in a “manager of managers” structure whereby the investment manager
can appoint and replace both wholly-owned and unaffiliated sub-advisors, and enter into, amend and terminate
sub-advisory agreements with such sub-advisors, each subject to board approval but without obtaining
prior shareholder approval (Manager of Managers Structure). The Fund will, however, inform shareholders
of the hiring of any new sub-advisor within 90 days after the hiring. The SEC exemptive order provides
the Fund with greater flexibility and efficiency and alleviates the need for the Fund to incur the expense
and delays associated with obtaining shareholder approval of such sub-advisory agreements.
The use of the Manager
of Managers Structure with respect to the Fund is subject to certain conditions that are set forth in
the SEC exemptive order. Under the Manager of Managers Structure, the investment manager has the ultimate
responsibility, subject to oversight by the Fund's board of trustees, to oversee sub-advisors and recommend
their hiring, termination and replacement. The investment manager will also, subject to the review and
approval of the Fund's board of trustees: set the Fund's overall investment strategy; evaluate, select
and recommend sub-advisors to manage all or a portion of the Fund's assets; and implement procedures
reasonably designed to ensure that each sub-advisor complies with the Fund's investment goal, policies
and restrictions. Subject to review by the Fund's board of trustees, the investment manager will allocate
and, when appropriate, reallocate the Fund's assets among sub-advisors and monitor and evaluate the sub-advisors’
performance.
Distributions and Taxes
Income
and Capital Gain Distributions
As a regulated investment company, the Fund generally pays no federal income tax
on the income and gains it distributes to you. The Fund intends to pay income dividends monthly from
its net investment income. Capital gains, if any, may be paid at least annually. The Fund may distribute
income dividends and capital gains more frequently, if necessary, in order to reduce or eliminate federal
excise or income taxes on the Fund. The amount of any distribution will vary, and there is no guarantee
the Fund will pay either income dividends or capital gain distributions.
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Distributions
in cash may be reinvested automatically in additional whole Fund shares only if the broker through whom
you purchased the shares makes such option available.
Annual statements. After the close of each
calendar year, you will receive tax information from the broker with respect to the federal income tax
treatment of the Fund’s distributions and any taxable sales of Fund shares occurring during the prior
calendar year. You may receive revised tax information if the Fund must reclassify its distributions
or the broker must adjust the cost basis of any covered shares sold after you receive your tax information.
Distributions declared in October, November or December to shareholders of record in such month and paid
in January are taxable as if they were paid in December. Additional tax information about the Fund’s
distributions is available at www.franklintempleton.com.
Avoid "buying a dividend."
At the time you purchase your Fund shares, the price of the shares may reflect undistributed income,
undistributed capital gains, or net unrealized appreciation in the value of the portfolio securities
held by the Fund. For taxable investors, a subsequent distribution to you of such amounts, although constituting
a return of your investment, would be taxable. Buying shares in the Fund just before it declares an income
dividend or capital gain distribution is sometimes known as “buying a dividend.”
Tax Considerations
If
you are a taxable investor, Fund distributions are generally taxable to you as ordinary income, capital
gains or some combination of both. This is the case whether you reinvest your distributions in additional
Fund shares or receive them in cash.
Dividend income. Income dividends are generally subject
to tax at ordinary rates. Income dividends reported by the Fund as qualified dividend income may be subject
to tax by individuals at reduced long-term capital gains tax rates provided certain holding period requirements
are met. Because the Fund invests primarily in debt securities, it is expected that either none or only
a small portion of the Fund's income dividends may be qualified dividends. A return-of-capital distribution
is generally not taxable but will reduce the cost basis of your shares, and will result in a higher capital
gain or a lower capital loss when you later sell your shares.
Capital gains.
Fund distributions of short-term capital gains are also subject to tax at ordinary rates. Fund distributions
of long-term capital gains are taxable at the reduced long-term capital gains rates no matter how long
you have owned your Fund shares. For single individuals with taxable income not in excess of
$47,025 in 2024 ($94,050 for married individuals filing jointly), the long-term capital gains tax rate
is 0%. For single individuals and joint filers with taxable income in excess of these amounts but not
more than $518,900 or $583,750, respectively, the long-term capital gains tax rate is 15%. The rate is
20% for single individuals with
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FUND DETAILS
taxable
income in excess of $518,900 and married individuals filing jointly with taxable income in excess of
$583,750. An additional 3.8% Medicare tax may also be imposed as discussed below.
Sales
of exchange-listed shares. Currently, any capital gain or loss realized on the sale
of Fund shares generally is treated as long-term capital gain or loss if the shares have been held for
more than one year and as short-term capital gain or loss if the shares have been held for one year or
less.
Cost
basis reporting. Contact the broker through whom you purchased your Fund shares to obtain information
with respect to the available cost basis reporting methods and elections for your account.
Taxes
on creation and redemption of creation units. An Authorized Participant who exchanges
securities for Creation Units generally will recognize a gain or loss. The gain or loss will be equal
to the difference between the market value of the Creation Units at the time of purchase and the exchanger’s
aggregate basis in the securities surrendered plus any cash paid for the Creation Units. An Authorized
Participant who exchanges Creation Units for securities will generally recognize a gain or loss equal
to the difference between the exchanger’s basis in the Creation Units and the aggregate market value
of the securities and the amount of cash received. The Internal Revenue Service, however, may assert
that a loss realized upon an exchange of securities for Creation Units cannot be deducted currently under
the rules governing “wash sales,” or on the basis that there has been no significant change in economic
position. Authorized Participants exchanging securities should consult their own tax advisor with respect
to whether wash sale rules apply and when a loss might be deductible.
Authorized Participants
that create or redeem Creation Units will be sent a confirmation statement showing how many shares they
purchased or sold and at what price.
Under current federal tax laws, any capital gain or loss realized
upon a redemption of Creation Units is generally treated as long-term capital gain or loss if the shares
have been held for more than one year and as a short-term capital gain or loss if the shares have been
held for one year or less.
If the Fund redeems Creation Units in part or entirely in cash, it may recognize
more capital gains than it will if it redeems Creation Units in-kind.
Medicare tax. An additional 3.8%
Medicare tax is imposed on certain net investment income (including ordinary dividends and capital gain
distributions received from the Fund and net gains from the sales of Fund shares) of U.S. individuals,
estates and trusts to the extent that such person’s “modified adjusted gross income” (in the case
of an individual) or “adjusted gross income” (in the case
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of
an estate or trust) exceeds a threshold amount. Any liability for this additional Medicare tax is reported
on, and paid with, your federal income tax return.
Backup withholding. A shareholder may be subject to backup
withholding on any distributions of income capital gains or proceeds from the sale of Fund shares if
the shareholder has provided either an incorrect tax identification number or no number at all, is subject
to backup withholding by the IRS for failure to properly report payments of interest or dividends, has
failed to certify that the shareholder is not subject to backup withholding, or has not certified that
the shareholder is a U.S. person (including a U.S. resident alien). The backup withholding rate is currently
24%. State backup withholding may also apply.
State and local taxes. Distributions of ordinary
income and capital gains, and gains from the sale of your Fund shares, are generally subject to state
and local taxes.
Non-U.S. investors. Non-U.S. investors may be subject to U.S. withholding tax
at 30% or a lower treaty rate on Fund dividends of ordinary income. Non-U.S. investors may be subject
to U.S. estate tax on the value of their shares. They are subject to special U.S. tax certification requirements
to avoid backup withholding, claim any exemptions from withholding and claim any treaty benefits. Exemptions
from U.S. withholding tax are generally provided for capital gains realized on the sale of Fund shares,
capital gain dividends paid by the Fund from net long-term capital gains, short-term capital gain dividends
paid by the Fund from net short-term capital gains and interest-related dividends paid by the Fund from
its qualified net interest income from U.S. sources. However, notwithstanding such exemptions from U.S.
withholding tax at source, any such dividends and distributions of income and capital gains will be subject
to backup withholding at a rate of 24% if you fail to properly certify that you are not a U.S. person.
Other
reporting and withholding requirements. Payments to a shareholder that is either a foreign financial
institution or a non-financial foreign entity within the meaning of the Foreign Account Tax Compliance
Act (FATCA) may be subject to a 30% withholding tax on income dividends paid by the Fund. The FATCA withholding
tax generally can be avoided by such foreign entity if it provides the broker, and in some cases, the
IRS, information concerning the ownership of certain foreign financial accounts or other appropriate
certifications or documentation concerning its status under FATCA. In order to comply with these requirements,
information about a shareholder in the Fund may be disclosed to the IRS, non-U.S. taxing authorities
or other parties as necessary to comply with FATCA.
Other tax information. This discussion of
"Distributions and Taxes" is for general information only and is not tax advice. You should consult your
own tax advisor regarding your particular circumstances, and about any federal, state, local and
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SHORT DURATION U.S. GOVERNMENT ETF
FUND DETAILS
foreign
tax consequences before making an investment in the Fund. Additional information about the tax consequences
of investing in the Fund may be found in the SAI.
Financial Highlights
The Financial Highlights present the Fund's
financial performance for the past five years or since its inception. Certain information reflects financial
results for a single Fund share. The total returns represent the rate that an investor would have earned
or lost on an investment in the Fund assuming reinvestment of dividends and capital gains. This information
has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, whose
report, along with the Fund's financial statements, are available on the Fund's website and are included
in the Form N-CSR filed with the SEC, which is available upon request.
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FUND DETAILS
| | | | | | | | | | | |
| | Year
Ended March 31, |
| | 2024 | | 2023 | | 2022 | | 2021 | | 2020 | |
Per share operating performance (for a share outstanding throughout the
year) | | | | | | | | | | | |
Net asset value, beginning
of year | | $90.45 | | $92.17 | | $95.24 | | $94.84 | | $94.40 | |
Income from investment operationsa: | | | | | | | | | | | |
Net investment incomeb | | 3.75 | | 1.65 | | 0.41 | | 0.79 | | 2.11 | |
Net realized and unrealized gains (losses) | | (0.12 | ) | (1.46 | ) | (2.72 | ) | 0.89 | | 0.85 | |
Total from investment operations | | 3.63 | | 0.19 | | (2.31 | ) | 1.68 | | 2.96 | |
Less distributions from: | | | | | | | | | | | |
Net
investment income | | (3.95 | ) | (1.91 | ) | (0.76 | ) | (1.28 | ) | (2.52 | ) |
Net asset value, end of year | | $90.13 | | $90.45 | | $92.17 | | $95.24 | | $94.84 | |
Total
returnc | | 4.13% | | 0.24% | | (2.45)% | | 1.77% | | 3.18% | |
Ratios to average net
assets | | | | | | | | | | | |
Expenses before waiver and payments by affiliates | | 0.25% | | 0.25% | | 0.30% | | 0.37% | | 0.43% | |
Expenses net of waiver and payments by affiliates | | 0.24% | | 0.24% | | 0.25% | d | 0.24% | | 0.23% | |
Net investment income | | 4.17% | | 1.82% | | 0.43% | | 0.82% | | 2.23% | |
Supplemental data | | | | | | | | | | | |
Net
assets, end of year (000’s) | | $148,813 | | $203,612 | | $359,566 | | $435,827 | | $187,395 | |
Portfolio
turnover ratee | | 105.52% | | 196.59% | | 156.78% | | 210.16% | | 169.35% | |
Portfolio
turnover rate excluding mortgage dollar rollse,f | | 84.63% | | 107.64% | | 84.03% | | 189.55% | | 105.08% | |
a. The amount shown for a share outstanding
throughout the period may not correlate with the Statement of Operations for the period due to the timing
of sales and repurchases of creation unit Fund shares in relation to income earned, adjustments to interest
income for the inflation index bonds, and/or fluctuating market value of the investments of the Fund.
b. Based on average daily shares outstanding.
c. Total return is calculated
assuming an initial investment made at the net asset value at the beginning of the period, reinvestment
of all dividends and distributions at net asset value during the period, and redemption at net asset
value on the last day of the period.
d. Benefit of expense reduction rounds to
less than 0.01%.
e. Portfolio turnover rate includes portfolio transactions
that are executed as a result of the Fund offering and redeeming Creation Units solely for cash (“Cash
creations”).
f. See Note 1(d) regarding mortgage dollar rolls.
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SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
Shareholder Information
Buying
and Selling Shares
Shares of the Fund may be acquired or redeemed directly from the Fund only in
Creation Units or multiples thereof, as discussed in the Creations and Redemptions section of this prospectus.
Only an Authorized Participant may engage in creation or redemption transactions directly with the Fund.
Once created, shares of the Fund generally trade in the secondary market in amounts less than a Creation
Unit.
Shares
of the Fund are listed on a national securities exchange for trading during the trading day. Shares can
be bought and sold throughout the trading day like shares of other publicly traded companies. Franklin
ETF Trust (Trust) does not impose any minimum investment for shares of the Fund purchased on an exchange.
Shares of the Fund trade under the following symbol: FTSD
Buying or selling Fund shares on an exchange
involves two types of costs that may apply to all securities transactions. When buying or selling shares
of the Fund through a broker, you will likely incur a brokerage commission or other charges determined
by your broker. The commission is frequently a fixed amount and may be a significant proportional cost
for investors seeking to buy or sell small amounts of shares. In addition, you may incur the cost of
the “spread,” that is, any difference between the bid price and the ask price. The spread varies
over time for shares of the Fund based on the Fund’s trading volume and market liquidity, and is generally
lower if the Fund has a lot of trading volume and market liquidity, and higher if the Fund has little
trading volume and market liquidity.
The board of trustees has not adopted a policy of monitoring
for frequent purchases and redemptions of Fund shares (frequent trading) that appear to attempt to take
advantage of a potential arbitrage opportunity presented by a lag between a change in the value of the
Fund’s portfolio securities after the close of the primary markets for the Fund’s portfolio securities
and the reflection of that change in the Fund’s NAV (market timing), because the Fund generally sells
and redeems its shares directly through transactions that are in-kind and/or for cash, subject to the
conditions described below under Creations and Redemptions. The board of trustees has not adopted a policy
of monitoring for frequent trading activity because shares of the Fund are listed for trading on a national
securities exchange.
The primary listing exchange for the Fund is NYSE Arca, Inc. (“NYSE Arca”
or the “Exchange”). NYSE Arca is open for trading Monday through Friday and is closed on weekends
and the following holidays: New Year’s Day, Martin Luther King, Jr. Day, Presidents’ Day, Good Friday,
Memorial Day, Juneteenth National Independence Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas Day.
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SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
Section
12(d)(1) of the Investment Company Act of 1940 (1940 Act) restricts investments by investment companies
in the securities of other investment companies. Registered investment companies are permitted to invest
in the Fund beyond the limits set forth in Section 12(d)(1), subject to certain terms and conditions
set forth in SEC rules or in other exemptive relief as applicable. In order for a registered investment
company to invest in shares of the Fund beyond the limitations of Section 12(d)(1), the registered investment
company must generally enter into an agreement with the Fund.
Book
Entry
Shares
of the Fund are held in book-entry form, which means that no share certificates are issued. The Depository
Trust Company (DTC) or its nominee is the record owner of all outstanding shares of the Fund and is recognized
as the owner of all shares for all purposes.
Investors owning shares of the Fund are beneficial owners
as shown on the records of DTC or its participants. DTC serves as the securities depository for shares
of the Fund. DTC participants include securities brokers and dealers, banks, trust companies, clearing
corporations and other institutions that directly or indirectly maintain a custodial relationship with
DTC. As a beneficial owner of shares, you are not entitled to receive physical delivery of stock certificates
or to have shares registered in your name, and you are not considered a registered owner of shares. Therefore,
to exercise any right as an owner of shares, you must rely upon the procedures of DTC and its participants.
These procedures are the same as those that apply to any other securities that you hold in book-entry
or “street name” form.
Share
Prices
The trading prices of the Fund’s shares in the secondary market generally differ
from the Fund’s daily NAV and are affected by market forces such as supply and demand, economic conditions
and other factors.
Calculating
NAV
The
NAV of the Fund is determined by deducting the Fund’s liabilities from the total assets of the portfolio.
The NAV per share is determined by dividing the total NAV of the Fund by the number of shares outstanding.
The
Fund calculates the NAV per share each business day as of 1 p.m. Pacific time which normally coincides
with the close of trading on the New York Stock Exchange (NYSE). The Fund does not calculate the NAV
on days the NYSE is closed for trading, which include New Year’s Day, Martin Luther King Jr. Day, President’s
Day, Good Friday, Memorial Day, Juneteenth National Independence Day, Independence Day, Labor Day, Thanksgiving
Day and Christmas Day. If the
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SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
NYSE
has a scheduled early close or unscheduled early close, the Fund’s share price would still be determined
as of 1 p.m. Pacific time/4 p.m. Eastern time. The Fund’s NAV per share is readily available online
at www.franklintempleton.com.
When determining its NAV, the Fund values cash and receivables
at their realizable amounts, and records interest as accrued and dividends on the ex-dividend date. The
Fund generally utilizes two independent pricing services to assist in determining a current market value
for each security. If market quotations are readily available for portfolio securities listed on a securities
exchange, the Fund values those securities at the last quoted sale price or the official closing price
of the day, respectively, or, if there is no reported sale, within the range of the most recent quoted
bid and ask prices. The Fund values over-the-counter portfolio securities within the range of the most
recent bid and ask prices. If portfolio securities trade both in the over-the-counter market and on a
stock exchange, the Fund values them according to the broadest and most representative market. Prices
received by the Fund for securities may be based on institutional “round lot” sizes, but the Fund
may hold smaller, “odd lot” sizes. Odd lots may trade at lower prices than round lots.
Generally, trading in
corporate bonds, U.S. government securities and money market instruments is substantially completed each
day at various times before 1 p.m. Pacific time. The value of these securities used in computing the
NAV is determined as of such times. Occasionally, events affecting the values of these securities may
occur between the times at which they are determined and 1 p.m. Pacific time that will not be reflected
in the computation of the NAV. The Fund relies on third-party pricing vendors to provide evaluated prices
that reflect current fair market value at 1 p.m. Pacific time.
Fair Valuation – Individual
Securities
The
Fund’s investment manager, in its role as valuation designee, has adopted procedures, approved by the
board of trustees, to determine the fair value of individual securities and other assets for which market
prices are not readily available (such as certain restricted or unlisted securities and private placements)
or which may not be reliably priced (such as in the case of trade suspensions or halts, price movement
limits set by certain foreign markets, and thinly traded or illiquid securities). Some methods for valuing
these securities may include: fundamental analysis (earnings multiple, etc.), matrix pricing, discounts
from market prices of similar securities, or discounts applied due to the nature and duration of restrictions
on the disposition of the securities. The board of trustees oversees the application of fair value pricing
procedures with respect to the Fund.
The application of fair value pricing procedures represents
a good faith determination based upon specifically applied procedures. There can be no assurance that
the Fund could obtain the fair value assigned to a security if it were
| | |
38 | Prospectus | www.franklintempleton.com |
FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
able
to sell the security at approximately the time at which the Fund determines its NAV per share.
Security
Valuation – Pass-Through Securities, CMO, ABS, MBS
Mortgage pass-through securities (such as
Ginnie Mae, Fannie Mae and Freddie Mac), other mortgage-backed securities (MBS), collateralized mortgage
obligations (CMOs) and asset-backed securities (ABS) generally trade in the over-the-counter market rather
than on a securities exchange. The Fund may value these portfolio securities by utilizing quotations
from bond dealers, information with respect to bond and note transactions and may rely on independent
pricing services. The Fund's pricing services use valuation models or matrix pricing to determine current
value. In general, they use information with respect to comparable bond and note transactions, quotations
from bond dealers or by reference to other securities that are considered comparable in such characteristics
as rating, interest rate, maturity date, option adjusted spread models, prepayment projections, interest
rate spreads and yield curves. Matrix pricing is considered a form of fair value pricing.
Security
Valuation – Options
The Fund values traded call options at their market price as determined above.
The current market value of any option the Fund holds is its last sale price on the relevant exchange
before the Fund values its assets. If there are no sales that day or if the last sale price is outside
the bid and ask prices, the Fund values options within the range of the current closing bid and ask prices
if the Fund believes the valuation fairly reflects the contract’s market value.
Creations and Redemptions
Prior to trading in the
secondary market, shares of the Fund are “created” at NAV by market makers, large investors and institutions
only in block-size Creation Units of 25,000 shares or multiples thereof. An “Authorized Participant”
is a member or participant of a clearing agency registered with the SEC, which has a written agreement
with the Fund or one of its service providers (AP Agreement) that allows such member or participant to
place orders for the purchase and redemption of Creation Units. All orders for the creation or redemption
of Creation Units for the Fund must be placed by or through an Authorized Participant that has entered
into an AP Agreement with Distributors, an affiliate of Advisers.
A creation transaction, which is subject
to acceptance by Distributors or its agents, generally takes place when an Authorized Participant deposits
into the Fund a designated portfolio of securities, assets or other positions and/or an amount of cash
(which may include cash in lieu of certain securities, assets or other positions) in exchange for a specified
number of Creation Units. With respect to the Fund, these deposits are generally in cash.
| | |
www.franklintempleton.com | Prospectus | 39 |
FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
Similarly,
shares can be redeemed only in Creation Units, generally for a designated portfolio of securities, assets
or other positions and/or an amount of cash (which may include cash in lieu of certain securities, assets
or other positions). With respect to the Fund, redemptions are generally in cash, although the Fund
reserves the right to meet redemptions on an in-kind basis. Except when aggregated in Creation Units,
shares are not redeemable by the Fund.
The prices at which creations and redemptions occur are based
on the next calculation of NAV after a creation or redemption order is received in an acceptable form
under the AP Agreement.
Creation and redemption baskets may differ and the Fund will accept “custom
baskets.” More information regarding custom baskets is contained in the Fund’s SAI. As a result of
any system failure or other interruption, creation or redemption orders either may not be executed according
to the Fund’s instructions or may not be executed at all, or the Fund may not be able to place or change
such orders. Information about the procedures regarding creations and redemptions of Creation Units (including
the cut-off times for receipt of creation and redemption orders) is included in the Fund’s SAI.
Because
new shares may be created and issued on an ongoing basis, at any point during the life of the Fund a
“distribution,” as such term is used in the 1933 Act, may be occurring. Broker-dealers and other
persons are cautioned that some activities on their part may, depending on the circumstances, result
in their being deemed participants in a distribution in a manner that could render them statutory underwriters
and subject to the prospectus delivery and liability provisions of the 1933 Act. Any determination of
whether one is an underwriter must take into account all the relevant facts and circumstances of each
particular case.
Broker-dealers should also note that dealers who are not “underwriters” but
are participating in a distribution (as contrasted to ordinary secondary transactions), and thus dealing
with shares that are part of an “unsold allotment” within the meaning of Section 4(a)(3)(C) of the
1933 Act, would be unable to take advantage of the prospectus delivery exemption provided by Section
4(a)(3) of the 1933 Act. For delivery of prospectuses to exchange members, the prospectus delivery mechanism
of Rule 153 under the 1933 Act is available only with respect to transactions on a national securities
exchange.
Premium/Discount Information
Information
regarding how often the shares of the Fund traded on the Exchange at a price above (at a premium) or
below (at a discount) the NAV of the Fund for the most recently completed calendar year, and the most
recently completed calendar quarters since that year, can be found at https://www.franklintempleton.com/investments/options/exchange-traded-funds.
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40 | Prospectus | www.franklintempleton.com |
FRANKLIN
SHORT DURATION U.S. GOVERNMENT ETF
SHAREHOLDER INFORMATION
Delivery of Shareholder Documents - Householding
You
will receive the Fund's financial reports every six months as well as an annual updated prospectus. Householding
for the Fund is available through certain broker-dealers. Householding is a process in which related
shareholders in a household will be sent only one copy of the financial reports and prospectus. You may
contact your broker-dealer to enroll in householding. Once enrolled, this process will continue indefinitely
unless you instruct your broker-dealer otherwise. If you prefer not to have these documents householded,
please contact your broker-dealer. At any time you may view current prospectuses and financial reports
on our website.
Distribution
Distributors
or its agents distribute Creation Units for the Fund on an agency basis. Distributors does not maintain
a secondary market in shares of the Fund. Distributors is an affiliate of Advisers.
Distribution
and service (12b-1) fees
The board of trustees has adopted a distribution plan, sometimes known as a Rule
12b-1 plan, that allows the Fund to pay distribution fees of up to 0.25% per year, to those who sell
and distribute Fund shares and provide other services to shareholders. However, the board of trustees
has determined not to authorize payment of a Rule 12b-1 plan fee at this time.
Because these fees are
paid out of the Fund’s assets on an ongoing basis, to the extent that a fee is authorized, over time
these fees will increase the cost of your investment and may cost you more than paying other types of
sales charges.
| | |
www.franklintempleton.com | Prospectus | 41 |
For More Information
Information on the Fund’s NAV, market price,
premiums and discounts, and bid-ask spreads can be found online at https://www.franklintempleton.com/investments/options/exchange-traded-funds.
You
can learn more about the Fund in the following documents:
Annual/Semiannual Report to
Shareholders and Form N-CSR Filed with the SEC
Contain additional information about the Fund’s investments.
The Fund’s annual report also discusses the market conditions and investment strategies that significantly
affected the Fund’s performance during its last fiscal year. In Form N-CSR, you will find the Fund's
annual and semi-annual financial statements.
Statement of Additional Information
(SAI)
Contains
more information about the Fund, its investments and policies. It is incorporated by reference (is legally
a part of this prospectus).
For a free copy of the current annual/semiannual report, financial
statements or the SAI, please contact your investment representative or call us at the number below.
You also can view the current annual/semiannual report, financial statements and the SAI online through
www.franklintempleton.com.
Reports and other information about the Fund are available on the EDGAR Database
on the SEC's Website at http://www.sec.gov, and copies of this information may be obtained, after paying
a duplicating fee, by electronic request at the following email address: publicinfo@sec.gov.
Individual
investors should contact their financial advisor or broker dealer representative for more information
about Franklin Templeton ETFs.
Financial Professionals should call (800) DIAL BEN®/342-5236.
| | | | |
| | | | |
| | | | |
| One Franklin Parkway San
Mateo, CA 94403-1906 (800) DIAL BEN®/342-5236 www.franklintempleton.com | | | For
hearing impaired assistance, please contact us via a Relay Service. |
Investment
Company Act file #811-22801 © 2024 Franklin Templeton. All rights reserved. | | | | |
| | | | | | | |
| | STATEMENT OF ADDITIONAL INFORMATION | | |
| | | |
| | FRANKLIN SHORT DURATION U.S. GOVERNMENT ETF | |
| | Franklin ETF Trust | |
| | | |
| | August
1, 2024 | |
| | | |
| | | |
| | | |
| | | |
| | | | |
| | | | | |
| |
Ticker: | Exchange: |
FTSD | NYSE
Arca, Inc. |
This Statement of Additional Information (SAI) is not a prospectus.
It contains information in addition to the information in the Fund’s prospectus. The Fund's prospectus,
dated August 1, 2024, which we may amend from time to time, contains the basic information you should
know before investing in the Fund. You should read this SAI together with the Fund's prospectus.
The audited financial
statements and Report of Independent Registered Public Accounting Firm in the Fund’s Form N-CSR, for
the fiscal year ended March 31, 2024, are incorporated by reference (are legally a part of this SAI).
For
a free copy of the current prospectus, shareholder report, and/or financial statements, contact your
investment representative or call (800) DIAL BEN/342-5236.
Contents
Appendix A A-1
| | |
ETFs, annuities, and other investment products: •
are not insured by the Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other
agency of the U.S. government; • are not deposits or obligations of, or
guaranteed or endorsed by, any bank; and • are subject to investment risks, including
the possible loss of principal. |
| | |
P.O. Box 997151 Sacramento, CA 95899-7151 | | |
Individual investors should contact their
financial advisor or broker dealer representative for more information about Franklin Templeton ETFs.
Financial Professionals should call (800) DIAL BEN®/342-5236. |
| | |
| 1 | FTSD SAI 08/24 |
General Description of the Trust and the Fund The
Fund is a diversified series of Franklin ETF Trust (Trust), an open-end management investment company.
The Trust was organized as a Delaware statutory trust effective June 1, 2012 and is registered with the
U.S. Securities and Exchange Commission (SEC).
The Fund's investment
manager is Franklin Advisers, Inc. (Advisers). Advisers is a wholly owned subsidiary of Franklin Resources,
Inc. (Resources), a publicly owned company engaged in the financial services industry through its subsidiaries.
The Fund offers and issues shares at their net asset value per share (NAV) only
in aggregations of a specified number of shares (Creation Unit). The Fund may offer Creation Units of
its shares in exchange for a designated portfolio of securities, assets or other positions (including
any portion of such securities, assets or other positions for which cash may be substituted) (Deposit
Securities), together with the deposit of a specified cash payment (Cash Component). Currently, the Fund
generally offers Creation Units of its shares solely for cash. Shares of the Fund are listed for trading
on NYSE Arca, Inc. (Listing Exchange or NYSE Arca), a national securities exchange. Shares of the Fund
are traded in the secondary market and elsewhere at market prices that may be at, above or below the
Fund’s NAV. Shares of the Fund are redeemable only in Creation Units. The Fund may redeem Creation
Units of its shares in exchange for portfolio securities, assets or other positions and a Cash Component.
Currently, the Fund generally redeems Creation Units of its shares solely for cash. Creation Units typically
are a specified number of shares, generally 25,000 or multiples thereof.
The
Trust reserves the right to permit or require that creations and redemptions of shares are effected fully
or partially in cash. Shares may be issued in advance of receipt of Deposit Securities, subject to various
conditions, including a requirement to maintain with the Trust a cash deposit equal to at least 105%
and up to 115%, which percentage the Trust may change from time to time, of the market value of the omitted
Deposit Securities. See the “Creation and Redemption of Creation Units” section of this SAI. Transaction
fees and other costs associated with creations or redemptions that include a cash portion may be higher
than the transaction fees and other costs associated with in-kind creations or redemptions. In all cases,
transaction fees will be limited in accordance with the requirements of SEC rules and regulations applicable
to management investment companies offering redeemable securities.
Exchange
Listing and Trading A discussion of exchange listing and trading
matters associated with an investment in the Fund is contained in the “Shareholder Information” section
of the Fund’s prospectus. The discussion below supplements, and should be read in conjunction with,
that section of the prospectus.
Shares of the Fund are listed for trading,
and trade throughout the day, on the Listing Exchange and in other secondary markets. Shares of the Fund
may also be listed on certain non-U.S. exchanges. There can be no assurance that the requirements of
the Listing Exchange necessary to maintain the listing of shares of the Fund will continue to be met.
The Listing Exchange may, but is not required to, remove the shares of the Fund from listing if (i) following
the initial 12-month period beginning upon the commencement of trading of Fund shares, there are fewer
than 50 beneficial owners of shares of the Fund, (ii) the Fund is no longer eligible to operate in reliance
on Rule 6c-11 under the Investment Company Act of 1940 (1940 Act), (iii) the Fund fails to meet certain
continued listing standards of the Listing Exchange, or (iv) any other event shall occur or condition
shall exist that, in the opinion of the Listing Exchange, makes further dealings on the Listing Exchange
inadvisable. The Listing Exchange will also remove shares of the Fund from listing and trading upon termination
of the Fund.
As in the case of other publicly traded securities, when you
buy or sell shares through a broker, you will incur a brokerage commission determined by that broker.
The Trust reserves the right to adjust the share prices of the Fund in the future
to maintain convenient trading ranges for investors. Any adjustments would be accomplished through stock
splits or reverse stock splits, which would have no effect on the net assets of the Fund or an investor’s
equity interest in the Fund.
Goal, Strategies and Risks The following information provided with respect to the Fund is in addition to
that included in the Fund’s prospectus. The Fund is an actively managed exchange-traded fund (ETF)
that does not seek to replicate the performance of a specified index. In addition to the main types of
investments and strategies undertaken by the Fund as described in the prospectus, the Fund also may invest
in other types of instruments and engage in and pursue other investment strategies, which are described
in this SAI. Investments and investment strategies with respect to the Fund are discussed in greater
detail in the section below entitled "Glossary of Investments, Techniques, Strategies and Their Risks."
Generally, the policies and restrictions discussed in this SAI and in the prospectus
apply when the Fund makes an investment. In most cases, the Fund is not required to sell an investment
because circumstances change and the investment no longer meets one or more of the Fund's policies or
restrictions. If a percentage restriction or limitation is met at the time of investment, a later increase
or decrease
2
in the percentage due to a change in the value of portfolio investments will not
be considered a violation of the restriction or limitation, with the exception of the Fund's limitations
on borrowing and illiquid securities as described herein or unless otherwise noted herein.
Incidental
to the Fund’s other investment activities, including in connection with a bankruptcy, restructuring,
workout, or other extraordinary events concerning a particular investment the Fund owns, the Fund may
receive securities (including convertible securities, warrants and rights), real estate or other investments
that the Fund normally would not, or could not, buy. If this happens, the Fund may, although it is not
required to, sell such investments as soon as practicable while seeking to maximize the return to shareholders.
The Fund has adopted certain investment restrictions as fundamental and non-fundamental
policies. A fundamental policy may only be changed if the change is approved by (i) more than 50% of
the Fund's outstanding shares or (ii) 67% or more of the Fund's shares present at a shareholder meeting
if more than 50% of the Fund's outstanding shares are represented at the meeting in person or by proxy,
whichever is less. A non-fundamental policy may be changed without the approval of shareholders.
For more information about the restrictions of the 1940 Act on the Fund with respect
to borrowing and senior securities, see “Glossary of Investments, Techniques, Strategies and Their
Risks - Borrowing” below.
Fundamental Investment Policies
The
Fund has adopted the following restrictions as fundamental investment policies:
The
Fund may not:
1. Borrow money, except to the extent permitted by the 1940
Act, or any rules, exemptions or interpretations thereunder that may be adopted, granted or issued by
the SEC.
2. Act as an underwriter, except to the extent the Fund may be deemed to be an
underwriter when disposing of securities it owns or when selling its own shares.
3.
Make loans if, as a result, more than 33 1/3% of its total assets would be lent to other persons, including
other investment companies to the extent permitted by the 1940 Act or any rules, exemptions or interpretations
thereunder that may be adopted, granted or issued by the SEC. This limitation does not apply to (i) the
lending of portfolio securities, (ii) the purchase of debt securities, other debt instruments, loan participations
and/or engaging in direct corporate loans in accordance with its investment goals and policies, and (iii)
repurchase agreements to the extent the entry into a repurchase agreement is deemed to be a loan.
4. Purchase or sell real estate unless acquired as a result of ownership of securities
or other instruments and provided that this restriction does not prevent the Fund from (i) purchasing
or selling securities or instruments secured by real estate or interests therein, securities or instruments
representing interests in real estate or securities or instruments of issuers that invest, deal or otherwise
engage in transactions in real estate or interests therein, and (ii) making, purchasing or selling real
estate mortgage loans.
5. Purchase or sell commodities, except to the extent permitted
by the 1940 Act or any rules, exemptions or interpretations thereunder that may be adopted, granted or
issued by the SEC.
6. Issue senior securities, except to the extent permitted
by the 1940 Act or any rules, exemptions or interpretations thereunder that may be adopted, granted or
issued by the SEC.
7. Invest more than 25% of the Fund's net assets in securities
of issuers in any one industry (other than securities issued or guaranteed by the U.S. government or
any of its agencies or instrumentalities or securities of other investment companies, whether registered
or excluded from registration under Section 3(c) of the 1940 Act).
8. Purchase the securities
of any one issuer (other than the U.S. government or any of its agencies or instrumentalities or securities
of other investment companies, whether registered or excluded from registration under Section 3(c) of
the 1940 Act) if immediately after such investment (i) more than 5% of the value of the Fund’s total
assets would be invested in such issuer or (ii) more than 10% of the outstanding voting securities of
such issuer would be owned by the Fund, except that up to 25% of the value of the Fund’s total assets
may be invested without regard to such 5% and 10% limitations.
Non-Fundamental Investment
Policies
The
Fund’s investment goal is to seek to provide a high level of current income as is consistent with prudent
investing, while seeking preservation of capital. Under normal market conditions, the Fund invests at
least 80% of its net assets in securities issued or guaranteed by the U.S. government, its agencies,
or instrumentalities. The Fund’s investment goal and 80% policy are non-fundamental, which means that
they may be changed by the board of trustees without the approval of shareholders. Shareholders will
be given at least 60 days’ advance notice of any change to the Fund’s investment goal or 80% policy.
Net assets for purposes of the 80% policy include the amount of any borrowings for investment purposes.
Additional Strategies
In trying to achieve its investment goal,
the Fund may invest in the types of instruments or engage in the types of transactions identified below
and in the section “Glossary of
3
Investments, Techniques, Strategies and Their Risks,” which also describes the
risks associated with these investment policies. The Fund may or may not use all of these techniques
at any one time.
The Fund may invest, buy or engage in:
• zero coupon bonds
issued or guaranteed by the U.S. government, its agencies or instrumentalities
• up to 20% of its
net assets in securities not issued or guaranteed by the U.S. government, its agencies or instrumentalities,
including mortgage-backed securities
• securities of other investment companies, including Franklin
Templeton money market funds
• interest rate, bond, U.S. Treasury and fixed income index
futures contracts and options on these interest rate and bond futures
Glossary
of Investments, Techniques, Strategies and Their Risks
Certain words or phrases
may be used in descriptions of Fund investment policies and strategies to give investors a general sense
of the Fund's levels of investment. They are broadly identified with, but not limited to, the following
percentages of Fund total assets:
| |
“small portion” | less
than 10% |
“portion” | 10% to 25% |
“significant” | 25%
to 50% |
“substantial” | 50% to 66% |
“primary” | 66%
to 80% |
“predominant” | 80% or more |
If
the Fund intends to limit particular investments or strategies to no more than specific percentages of
Fund assets, the prospectus or SAI will clearly identify such limitations. The percentages above are
not limitations unless specifically stated as such in the Fund's prospectus or elsewhere in this SAI.
The
Fund may invest in securities that are rated by various rating agencies such as Moody's Investors Service
(Moody's) and S&P® Global Ratings (S&P®),
as well as securities that are unrated.
The NAV and trading price
of your shares in the Fund will increase as the value of the investments owned by the Fund increases
and will decrease as the value of the Fund's investments decreases. In this way, you participate in any
change in the value of the investments owned by the Fund. In addition to the factors that affect the
value of any particular investment that the Fund owns, the NAV and trading price of the Fund's shares
may also change with movements in the investment markets as a whole.
The following is a description
of various types of securities, instruments and techniques that may be purchased and/or used by the Fund.
Bank
obligations Bank obligations include fixed, floating or variable rate certificates of deposit
(CDs), letters of credit, time and savings deposits, bank notes and bankers' acceptances. CDs are negotiable
certificates issued against funds deposited in a commercial bank for a definite period of time and earning
a specified return. Time deposits are non-negotiable deposits that are held in a banking institution
for a specified period of time at a stated interest rate. Savings deposits are deposits that do not have
a specified maturity and may be withdrawn by the depositor at any time. Bankers' acceptances are negotiable
drafts or bills of exchange normally drawn by an importer or exporter to pay for specific merchandise.
When a bank “accepts” a bankers' acceptance, the bank, in effect, unconditionally agrees to pay the
face value of the instrument upon maturity. The full amount of the Fund's investment in time and savings
deposits or CDs may not be guaranteed against losses resulting from the default of the commercial or
savings bank or other institution insured by the Federal Deposit Insurance Corporation (FDIC).
Bank obligations are exempt from registration with the SEC if issued by U.S. banks
or foreign branches of U.S. banks. As a result, the Fund will not receive the same investor protections
when investing in bank obligations as opposed to registered securities. Bank notes and other unsecured
bank obligations are not guaranteed by the FDIC, so the Fund will be exposed to the credit risk of the
bank or institution. In the event of liquidation, bank notes and unsecured bank obligations generally
rank behind time deposits, savings deposits and CDs, resulting in a greater potential for losses to the
Fund.
The Fund’s investments in bank obligations may be negatively impacted if adverse
economic conditions prevail in the banking industry (such as substantial losses on loans, increases in
non-performing assets and charge-offs and declines in total deposits). The activities of U.S. banks and
most foreign banks are subject to comprehensive regulations which, in the case of U.S. regulations, have
undergone substantial changes in the past decade. The enactment of new legislation or regulations, as
well as changes in interpretation and enforcement of current laws, may affect the manner of operations
and profitability of domestic and foreign banks. Significant developments in the U.S. banking industry
have included increased competition from other types of financial institutions, increased acquisition
activity and geographic expansion. Banks may be particularly susceptible to certain economic factors,
such as interest rate changes and adverse developments in the market for real estate. Fiscal and monetary
policy and general economic cycles can affect the availability and cost of funds, loan demand and asset
quality and thereby impact the earnings and financial conditions of banks.
4
Borrowing
The 1940 Act and the SEC's current rules, exemptions and interpretations thereunder, permit the Fund
to borrow up to one-third of the value of its total assets (including the amount borrowed, but less all
liabilities and indebtedness not represented by senior securities) from banks. The Fund is required to
maintain continuous asset coverage of at least 300% with respect to such borrowings and to reduce the
amount of its borrowings (within three days excluding Sundays and holidays) to restore such coverage
if it should decline to less than 300% due to market fluctuations or otherwise. In the event that the
Fund is required to reduce its borrowings, it may have to sell portfolio holdings, even if such sale
of the Fund's holdings would be disadvantageous from an investment standpoint.
If
the Fund makes additional investments while borrowings are outstanding, this may be considered a form
of leverage. Leveraging by means of borrowing may exaggerate the effect of any increase or decrease in
the value of portfolio securities on the Fund's net asset value, and money borrowed will be subject to
interest and other costs (which may include commitment fees and/or the cost of maintaining minimum average
balances), which may or may not exceed the income or gains received from the securities purchased with
borrowed funds.
In addition to borrowings that are subject to 300% asset coverage
and are considered by the SEC to be permitted “senior securities,” the Fund is also permitted under
the 1940 Act to borrow for temporary purposes in an amount not exceeding 5% of the value of its total
assets at the time when the loan is made. A loan will be presumed to be for temporary purposes if it
is repaid within 60 days and is not extended or renewed.
Callable securities Callable securities
give the issuer the right to redeem the security on a given date or dates (known as the call dates) prior
to maturity. In return, the call feature is factored into the price of the debt security, and callable
debt securities typically offer a higher yield than comparable non-callable securities. Certain securities
may be called only in whole (the entire security is redeemed), while others may be called in part (a
portion of the total face value is redeemed) and possibly from time to time as determined by the issuer.
There is no guarantee that the Fund will receive higher yields or a call premium on an investment in
callable securities.
The period of time between the time of issue
and the first call date, known as call protection, varies from security to security. Call protection
provides the investor holding the security with assurance that the security will not be called before
a specified date. As a result, securities with call protection generally cost more than similar securities
without call protection. Call protection will make a callable security more similar to a long-term debt
security, resulting in an associated increase in the callable security's interest rate sensitivity.
Documentation for callable securities usually requires that investors be notified
of a call within a prescribed period of time. If a security is called, the Fund will receive the principal
amount and accrued interest, and may receive a small additional payment as a call premium. Issuers are
more likely to exercise call options in periods when interest rates are below the rate at which the original
security was issued, because the issuer can issue new securities with lower interest payments. Callable
securities are subject to the risks of other debt securities in general, including prepayment risk, especially
in falling interest rate environments.
Cybersecurity With the increased use of technologies
such as mobile devices and Web-based or “cloud” applications, and the dependence on the Internet
and computer systems to conduct business, the Fund is susceptible to operational, information security
and related risks. In general, cybersecurity incidents can result from deliberate attacks or unintentional
events (arising from external or internal sources) that may cause the Fund to lose proprietary information,
suffer data corruption, physical damage to a computer or network system or lose operational capacity.
Cybersecurity attacks include, but are not limited to, infection by malicious software, such as malware
or computer viruses or gaining unauthorized access to digital systems, networks or devices that are used
to service the Fund’s operations (e.g., through “hacking,” “phishing” or malicious software
coding) or other means for purposes of misappropriating assets or sensitive information, corrupting data,
or causing operational disruption. Cybersecurity attacks may also be carried out in a manner that does
not require gaining unauthorized access, such as causing denial-of-service attacks on the Fund’s websites
(i.e., efforts to make network services unavailable to intended users). Recently, geopolitical tensions
may have increased the scale and sophistication of deliberate cybersecurity attacks, particularly those
from nation-states or from entities with nation-state backing. In addition, authorized persons could
inadvertently or intentionally release confidential or proprietary information stored on the Fund’s
systems.
Cybersecurity incidents affecting the Fund’s investment
manager and other service providers to the Fund or its shareholders (including, but not limited to, sub-advisors,
accountants, custodians, sub-custodians, transfer agents, financial intermediaries, authorized participants,
index providers (as applicable) and listing exchanges) have the ability to cause disruptions and impact
business operations, potentially resulting in financial losses to both the Fund and its shareholders,
interference with the Fund’s ability to calculate its net asset value, impediments to trading, the
inability of Fund shareholders to transact business and the Fund to process transactions (including fulfillment
of purchases and redemptions), violations of applicable privacy and other laws (including the release
of private shareholder information) and attendant breach notification and credit monitoring costs, regulatory
fines, penalties, litigation costs, reputational
5
damage, reimbursement or other compensation costs, forensic investigation and
remediation costs, and/or additional compliance costs. Similar adverse consequences could result from
cybersecurity incidents affecting issuers of securities in which the Fund invests, counterparties with
which the Fund engages in transactions, governmental and other regulatory authorities, exchange and other
financial market operators, banks, brokers, dealers, insurance companies and other financial institutions
(including financial intermediaries and other service providers) and other parties. In addition, substantial
costs may be incurred in order to safeguard against and reduce the risk of any cybersecurity incidents
in the future. In addition to administrative, technological and procedural safeguards, the Fund’s investment
manager has established business continuity plans in the event of, and risk management systems to prevent
or reduce the impact of, such cybersecurity incidents. However, there are inherent limitations in such
plans and systems, including the possibility that certain risks have not been identified, as well as
the rapid development of new threats. Furthermore, the Fund cannot control the cybersecurity plans and
systems put in place by its service providers or any other third parties whose operations may affect
the Fund and its shareholders. The Fund and its shareholders could be negatively impacted as a result.
Because technology is frequently changing, new ways to carry out cyber attacks
are always developing. Therefore, there is a chance that some risks have not been identified or prepared
for, or that an attack may not be detected, which puts limitations on the Fund's ability to plan for
or respond to a cyber attack. Like other funds and business enterprises, the Fund, the investment manager
and their service providers are subject to the risk of cyber incidents occurring from time to time.
Debt
securities - general description In general, a debt security represents a loan of money to
the issuer by the purchaser of the security. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's money over a certain time
period. A company typically meets its payment obligations associated with its outstanding debt securities
before it declares and pays any dividend to holders of its equity securities. Bonds, notes and commercial
paper are examples of debt securities and differ in the length of the issuer's principal repayment schedule,
with bonds carrying the longest repayment schedule and commercial paper the shortest:
Bonds.
A bond is a debt security in which investors lend money to an entity that borrows for a defined period
of time, usually a period of more than five years, at a specified interest rate.
Commercial paper.
Commercial paper is an unsecured, short-term loan to a corporation, typically for financing accounts
receivable and inventory with maturities of up to 270 days.
Debentures. A debenture is
an unsecured debt security backed only by the creditworthiness of the borrower, not by collateral.
Bills.
A bill is a short-term debt instrument, usually with a maturity of two years or less.
Notes.
A note is a debt security usually with a maturity of up to ten years.
For
purposes of the discussion in this SAI of the risks of investing in debt securities generally, loans
or other short-term instruments, which otherwise may not technically be considered securities, are included.
Debt securities are all generally subject to interest rate, credit, income and
prepayment risks and, like all investments, are subject to liquidity and market risks to varying degrees
depending upon the specific terms and type of security. The Fund's investment manager attempts to reduce
credit and market risk through diversification of the Fund's portfolio and ongoing credit analysis of
each issuer, as well as by monitoring economic developments, but there can be no assurance that it will
be successful at doing so.
Defaulted debt securities If the issuer of a debt security in the
Fund's portfolio defaults, the Fund may have unrealized losses on the security, which may lower the Fund's
net asset value. Defaulted securities tend to lose much of their value before they default. Thus, the
Fund's net asset value may be adversely affected before an issuer defaults. The Fund may incur additional
expenses if it tries to recover principal or interest payments on a defaulted security. Defaulted debt
securities often are illiquid. An investment in defaulted debt securities is generally considered speculative
and may expose the Fund to similar risks as an investment in high-yield debt.
The
Fund may not buy defaulted debt securities. However, the Fund is not required to sell a debt security
that has defaulted if the investment manager believes it is advantageous to continue holding the security.
Derivative
instruments Generally, derivatives are financial instruments whose value depends on or is
derived from, the value of one or more underlying assets, reference rates, or indices or other market
factors (a "reference instrument") and may relate to stocks, bonds, interest rates, credit, currencies,
commodities or related indices. Derivative instruments can provide an efficient means to gain or reduce
exposure to the value of a reference instrument without actually owning or selling the instrument. Some
common types of derivatives include options, futures, forwards and swaps.
6
Derivative instruments may be used for “hedging,” which means that they may
be used when the investment manager seeks to protect the Fund's investments from a decline in value resulting
from changes to interest rates, market prices, currency fluctuations or other market factors. Derivative
instruments may also be used for other purposes, including to seek to increase liquidity, provide efficient
portfolio management, broaden investment opportunities (including taking short or negative positions),
implement a tax or cash management strategy, gain exposure to a particular security or segment of the
market, modify the effective duration of the Fund's portfolio investments and/or enhance total return.
However derivative instruments are used, their successful use is not assured and will depend upon, among
other factors, the investment manager's ability to gauge relevant market movements.
Derivative
instruments may be used for purposes of direct hedging. Direct hedging means that the transaction must
be intended to reduce a specific risk exposure of a portfolio security or its denominated currency and
must also be directly related to such security or currency. The Fund’s use of derivative instruments
may be limited from time to time by policies adopted by the board of trustees or the Fund’s investment
manager.
Exclusion of investment manager from commodity pool operator definition. With
respect to the Fund, the investment manager has claimed an exclusion from the definition of “commodity
pool operator” (CPO) under the Commodity Exchange Act (CEA) and the rules of the Commodity Futures
Trading Commission (CFTC) and, therefore, is not subject to CFTC registration or regulation as a CPO.
In addition, with respect to the Fund, the investment manager is relying upon a related exclusion from
the definition of “commodity trading advisor” (CTA) under the CEA and the rules of the CFTC.
The terms of the CPO exclusion require the Fund, among other things, to adhere
to certain limits on its investments in “commodity interests.” Commodity interests include commodity
futures, commodity options and swaps, which in turn include non-deliverable currency forward contracts,
as further described below. Because the investment manager and the Fund intend to comply with the terms
of the CPO exclusion, the Fund may, in the future, need to adjust its investment strategies, consistent
with its investment goal, to limit its investments in these types of instruments. The Fund is not intended
as a vehicle for trading in the commodity futures, commodity options or swaps markets. The CFTC has neither
reviewed nor approved the investment manager’s reliance on these exclusions, or the Fund, its investment
strategies or this SAI.
Generally, the exclusion from CPO regulation on which the
investment manager relies requires the Fund to meet one of the following tests for its commodity interest
positions, other than positions entered into for bona fide hedging purposes (as defined in the rules
of the CFTC): either (1) the aggregate initial margin and premiums required to establish the Fund’s
positions in commodity interests may not exceed 5% of the liquidation value of the Fund’s portfolio
(after taking into account unrealized profits and unrealized losses on any such positions); or (2) the
aggregate net notional value of the Fund’s commodity interest positions, determined at the time the
most recent such position was established, may not exceed 100% of the liquidation value of the Fund’s
portfolio (after taking into account unrealized profits and unrealized losses on any such positions).
In addition to meeting one of these trading limitations, the Fund may not be marketed as a commodity
pool or otherwise as a vehicle for trading in the commodity futures, commodity options or swaps markets.
If, in the future, the Fund can no longer satisfy these requirements, the investment manager would withdraw
its notice claiming an exclusion from the definition of a CPO, and the investment manager would be subject
to registration and regulation as a CPO with respect to the Fund, in accordance with CFTC rules that
apply to CPOs of registered investment companies. Generally, these rules allow for substituted compliance
with CFTC disclosure and shareholder reporting requirements, based on the investment manager’s compliance
with comparable SEC requirements. However, as a result of CFTC regulation with respect to the Fund, the
Fund may incur additional compliance and other expenses.
Futures contracts. Generally, a
futures contract is a standard binding agreement to buy or sell a specified quantity of an underlying
reference instrument, such as a specific security, currency or commodity, at a specified price at a specified
later date. A “sale” of a futures contract means the acquisition of a contractual obligation to deliver
the underlying reference instrument called for by the contract at a specified price on a specified date.
A “purchase” of a futures contract means the acquisition of a contractual obligation to acquire the
underlying reference instrument called for by the contract at a specified price on a specified date.
The purchase or sale of a futures contract will allow the Fund to increase or decrease its exposure to
the underlying reference instrument without having to buy the actual instrument.
The
underlying reference instruments to which futures contracts may relate include non-U.S. currencies, interest
rates, stock and bond indices and debt securities, including U.S. government debt obligations. In certain
types of futures contracts, the underlying reference instrument may be a swap agreement. In most cases
the contractual obligation under a futures contract may be offset, or “closed out,” before the settlement
date so that the parties do not have to make or take delivery. The closing out of a contractual obligation
is usually accomplished by buying or selling, as the case may be, an identical, offsetting futures contract.
This transaction, which is effected through a member of an exchange, cancels the obligation to make or
take delivery of the underlying instrument or asset. Although some futures contracts by their
7
terms require the actual delivery or acquisition of the underlying instrument
or asset, some require cash settlement.
Futures contracts may be bought and sold
on U.S. and non-U.S. exchanges. Futures contracts in the U.S. have been designed by exchanges that have
been designated “contract markets” by the CFTC and must be executed through a futures commission
merchant (FCM), which is a brokerage firm that is a member of the relevant contract market. Each exchange
guarantees performance of the contracts as between the clearing members of the exchange, thereby reducing
the risk of counterparty default. Futures contracts may also be entered into on certain exempt markets,
including exempt boards of trade and electronic trading facilities, available to certain market participants.
Because all transactions in the futures market are made, offset or fulfilled by an FCM through a clearinghouse
associated with the exchange on which the contracts are traded, the Fund will incur brokerage fees when
it buys or sells futures contracts.
The Fund generally buys and sells futures
contracts only on contract markets (including exchanges or boards of trade) where there appears to be
an active market for the futures contracts, but there is no assurance that an active market will exist
for any particular contract or at any particular time. An active market makes it more likely that futures
contracts will be liquid and bought and sold at competitive market prices. In addition, many of the futures
contracts available may be relatively new instruments without a significant trading history. As a result,
there can be no assurance that an active market will develop or continue to exist.
When
the Fund enters into a futures contract, it must deliver to an account controlled by the FCM (that has
been selected by the Fund), an amount referred to as “initial margin” that is typically calculated
as an amount equal to the volatility in market value of a contract over a fixed period. Initial margin
requirements are determined by the respective exchanges on which the futures contracts are traded and
the FCM. Thereafter, a “variation margin” amount may be required to be paid by the Fund or received
by the Fund in accordance with margin controls set for such accounts, depending upon changes in the marked-to-market
value of the futures contract. The account is marked-to-market daily and the variation margin is monitored
by the Fund’s investment manager and custodian on a daily basis. When the futures contract is closed
out, if the Fund has a loss equal to or greater than the margin amount, the margin amount is paid to
the FCM along with any loss in excess of the margin amount. If the Fund has a loss of less than the margin
amount, the excess margin is returned to the Fund. If the Fund has a gain, the full margin amount and
the amount of the gain is paid to the Fund.
Some futures contracts provide for the delivery
of securities that are different than those that are specified in the contract. For a futures contract
for delivery of debt securities, on the settlement date of the contract, adjustments to the contract
can be made to recognize differences in value arising from the delivery of debt securities with a different
interest rate from that of the particular debt securities that were specified in the contract. In some
cases, securities called for by a futures contract may not have been issued when the contract was written.
Risks
of futures contracts. The Fund’s use of futures contracts is subject to the
risks associated with derivative instruments generally. In addition, a purchase or sale of a futures
contract may result in losses to the Fund in excess of the amount that the Fund delivered as initial
margin. Because of the relatively low margin deposits required, futures trading involves a high degree
of leverage; as a result, a relatively small price movement in a futures contract may result in immediate
and substantial loss, or gain, to the Fund. In addition, if the Fund has insufficient cash to meet daily
variation margin requirements or close out a futures position, it may have to sell securities from its
portfolio at a time when it may be disadvantageous to do so. Adverse market movements could cause the
Fund to experience substantial losses on an investment in a futures contract.
There
is a risk of loss by the Fund of the initial and variation margin deposits in the event of bankruptcy
of the FCM with which the Fund has an open position in a futures contract. The assets of the Fund may
not be fully protected in the event of the bankruptcy of the FCM or central counterparty because the
Fund might be limited to recovering only a pro rata share of all available funds and margin segregated
on behalf of an FCM’s customers. If the FCM does not provide accurate reporting, the Fund is also subject
to the risk that the FCM could use the Fund’s assets, which are held in an omnibus account with assets
belonging to the FCM’s other customers, to satisfy its own financial obligations or the payment obligations
of another customer to the central counterparty.
The Fund may not be able
to properly hedge or effect its strategy when a liquid market is unavailable for the futures contract
the Fund wishes to close, which may at times occur. In addition, when futures contracts are used for
hedging, there may be an imperfect correlation between movements in the prices of the underlying reference
instrument on which the futures contract is based and movements in the prices of the assets sought to
be hedged.
If the investment manager’s investment judgment about the
general direction of market prices or interest or currency exchange rates is incorrect, the Fund’s
overall performance will be poorer than if it had not entered into a futures contract. For example, if
the Fund has purchased futures to hedge against the possibility of an increase in interest rates that
would adversely affect the price of bonds held in its portfolio and interest rates instead decrease,
the Fund will lose part or all of the benefit of the increased value of the bonds which it has hedged.
This is because its losses in its futures positions
8
will offset some or all of its gains from the increased value of the bonds.
The difference (called the “spread”) between prices in the cash market for
the purchase and sale of the underlying reference instrument and the prices in the futures market is
subject to fluctuations and distortions due to differences in the nature of those two markets. First,
all participants in the futures market are subject to initial deposit and variation margin requirements.
Rather than meeting additional variation margin requirements, investors may close futures contracts through
offsetting transactions that could distort the normal pricing spread between the cash and futures markets.
Second, the liquidity of the futures markets depends on participants entering into offsetting transactions
rather than making or taking delivery of the underlying instrument. To the extent participants decide
to make or take delivery, liquidity in the futures market could be reduced, resulting in pricing distortion.
Third, from the point of view of speculators, the margin deposit requirements that apply in the futures
market are less onerous than similar margin requirements in the securities market. Therefore, increased
participation by speculators in the futures market may cause temporary price distortions. When such distortions
occur, a correct forecast of general trends in the price of an underlying reference instrument by the
investment manager may still not necessarily result in a profitable transaction.
Futures
contracts that are traded on non-U.S. exchanges may not be as liquid as those purchased on CFTC-designated
contract markets. In addition, non-U.S. futures contracts may be subject to varied regulatory oversight.
The price of any non-U.S. futures contract and, therefore, the potential profit and loss thereon, may
be affected by any change in the non-U.S. exchange rate between the time a particular order is placed
and the time it is liquidated, offset or exercised.
The CFTC and the various
exchanges have established limits referred to as “speculative position limits” on the maximum net
long or net short position that any person, such as the Fund, may hold or control in a particular futures
contract. Trading limits are also imposed on the maximum number of contracts that any person may trade
on a particular trading day. An exchange may order the liquidation of positions found to be in violation
of these limits and it may impose other sanctions or restrictions. The regulation of futures, as well
as other derivatives, is a rapidly changing area of law.
Futures exchanges may
also limit the amount of fluctuation permitted in certain futures contract prices during a single trading
day. This daily limit establishes the maximum amount that the price of a futures contract may vary either
up or down from the previous day’s settlement price. Once the daily limit has been reached in a futures
contract subject to the limit, no more trades may be made on that day at a price beyond that limit. The
daily limit governs only price movements during a particular trading day and does not limit potential
losses because the limit may prevent the liquidation of unfavorable positions. For example, futures prices
have occasionally moved to the daily limit for several consecutive trading days with little or no trading,
thereby preventing prompt liquidation of positions and subjecting some holders of futures contracts to
substantial losses.
Options on futures contracts. Options on futures contracts trade on
the same contract markets as the underlying futures contract. When the Fund buys an option, it pays a
premium for the right, but does not have the obligation, to purchase (call) or sell (put) a futures contract
at a set price (called the exercise price). The purchase of a call or put option on a futures contract,
whereby the Fund has the right to purchase or sell, respectively, a particular futures contract, is similar
in some respects to the purchase of a call or put option on an individual security or currency. Depending
on the premium paid for the option compared to either the price of the futures contract upon which it
is based or the price of the underlying reference instrument, the option may be less risky than direct
ownership of the futures contract or the underlying reference instrument. For example, the Fund could
purchase a call option on a long futures contract when seeking to hedge against an increase in the market
value of the underlying reference instrument, such as appreciation in the value of a non-U.S. currency
against the U.S. dollar.
The seller (writer) of an option becomes
contractually obligated to take the opposite futures position if the buyer of the option exercises its
rights to the futures position specified in the option. In return for the premium paid by the buyer,
the seller assumes the risk of taking a possibly adverse futures position. In addition, the seller will
be required to post and maintain initial and variation margin with the FCM. One goal of selling (writing)
options on futures may be to receive the premium paid by the option buyer.
For
more general information about the mechanics of purchasing and writing options, see "Options" below.
Risks
of options on futures contracts. The Fund’s use of options on futures contracts is subject
to the risks related to derivative instruments generally. In addition, the amount of risk the Fund assumes
when it purchases an option on a futures contract is the premium paid for the option plus related transaction
costs. The purchase of an option also entails the risk that changes in the value of the underlying futures
contract will not be fully reflected in the value of the option purchased. The seller (writer) of an
option on a futures contract is subject to the risk of having to take a possibly adverse futures position
if the purchaser of the option exercises its rights. If the seller were required to take such a position,
it could bear substantial losses. An option writer has potentially unlimited economic risk because its
potential loss, except to the extent offset by the premium received, is equal to the amount the option
is “in-the-money” at the expiration date. A call option is in-the-money if the value of the
9
underlying futures contract exceeds the exercise price of the option. A put option
is in-the-money if the exercise price of the option exceeds the value of the underlying futures contract.
Options.
An option is a contract that gives the purchaser of the option, in return for the premium paid, the
right to buy an underlying reference instrument, such as a specified security, currency, index, or other
instrument, from the writer of the option (in the case of a call option), or to sell a specified reference
instrument to the writer of the option (in the case of a put option) at a designated price during the
term of the option. The premium paid by the buyer of an option will reflect, among other things, the
relationship of the exercise price to the market price and the volatility of the underlying reference
instrument, the remaining term of the option, supply, demand, interest rates and/or currency exchange
rates. An American style put or call option may be exercised at any time during the option period while
a European style put or call option may be exercised only upon expiration or during a fixed period prior
thereto. Put and call options are traded on national securities exchanges and in the OTC market.
Options traded on national securities exchanges are within the jurisdiction of
the SEC or other appropriate national securities regulator, as are securities traded on such exchanges.
As a result, many of the protections provided to traders on organized exchanges will be available with
respect to such transactions. In particular, all option positions entered into on a national securities
exchange in the United States are cleared and guaranteed by the Options Clearing Corporation, thereby
reducing the risk of counterparty default. Furthermore, a liquid secondary market in options traded on
a national securities exchange may be more readily available than in the OTC market, potentially permitting
the Fund to liquidate open positions at a profit prior to exercise or expiration, or to limit losses
in the event of adverse market movements. There is no assurance, however, that higher than anticipated
trading activity or other unforeseen events might not temporarily render the capabilities of the Options
Clearing Corporation inadequate, and thereby result in the exchange instituting special procedures which
may interfere with the timely execution of the Fund’s orders to close out open options positions.
Purchasing
call and put options. As the buyer of a call option, the Fund has a right to buy
the underlying reference instrument (e.g., a currency or security) at the exercise price at any time
during the option period (for American style options). The Fund may enter into closing sale transactions
with respect to call options, exercise them, or permit them to expire. For example, the Fund may buy
call options on underlying reference instruments that it intends to buy with the goal of limiting the
risk of a substantial increase in their market price before the purchase is effected. Unless the price
of the underlying reference instrument changes sufficiently, a call option purchased by the Fund may
expire without any value to the Fund, in which case the Fund would experience a loss to the extent of
the premium paid for the option plus related transaction costs.
As
the buyer of a put option, the Fund has the right to sell the underlying reference instrument at the
exercise price at any time during the option period (for American style options). Like a call option,
the Fund may enter into closing sale transactions with respect to put options, exercise them or permit
them to expire. The Fund may buy a put option on an underlying reference instrument owned by the Fund
(a protective put) as a hedging technique in an attempt to protect against an anticipated decline in
the market value of the underlying reference instrument. Such hedge protection is provided only during
the life of the put option when the Fund, as the buyer of the put option, is able to sell the underlying
reference instrument at the put exercise price, regardless of any decline in the underlying instrument’s
market price. The Fund may also seek to offset a decline in the value of the underlying reference instrument
through appreciation in the value of the put option. A put option may also be purchased with the intent
of protecting unrealized appreciation of an instrument when the investment manager deems it desirable
to continue to hold the instrument because of tax or other considerations. The premium paid for the put
option and any transaction costs would reduce any short-term capital gain that may be available for distribution
when the instrument is eventually sold. Buying put options at a time when the buyer does not own the
underlying reference instrument allows the buyer to benefit from a decline in the market price of the
underlying reference instrument, which generally increases the value of the put option.
If
a put option was not terminated in a closing sale transaction when it has remaining value, and if the
market price of the underlying reference instrument remains equal to or greater than the exercise price
during the life of the put option, the buyer would not make any gain upon exercise of the option and
would experience a loss to the extent of the premium paid for the option plus related transaction costs.
In order for the purchase of a put option to be profitable, the market price of the underlying reference
instrument must decline sufficiently below the exercise price to cover the premium and transaction costs.
Writing
call and put options. Writing options may permit the writer to generate additional
income in the form of the premium received for writing the option. The writer of an option may have no
control over when the underlying reference instruments must be sold (in the case of a call option) or
purchased (in the case of a put option) because the writer may be notified of exercise at any time prior
to the expiration of the option (for American style options). In general, though, options are infrequently
exercised prior to expiration. Whether or not an option expires unexercised, the writer retains the amount
of the premium. Writing “covered” call options means that the writer owns the underlying
10
reference instrument that is subject to the call option. Call options may also
be written on reference instruments that the writer does not own.
As the writer of a covered
call option, the Fund gives up the potential for capital appreciation above the exercise price of the
option should the underlying reference instrument rise in value. If the value of the underlying reference
instrument rises above the exercise price of the call option, the reference instrument will likely be
“called away,” requiring the Fund to sell the underlying instrument at the exercise price. In that
case, the Fund will sell the underlying reference instrument to the option buyer for less than its market
value, and the Fund will experience a loss (which will be offset by the premium received by the Fund
as the writer of such option). If a call option expires unexercised, the Fund will realize a gain in
the amount of the premium received. If the market price of the underlying reference instrument decreases,
the call option will not be exercised and the Fund will be able to use the amount of the premium received
to hedge against the loss in value of the underlying reference instrument. The exercise price of a call
option will be chosen based upon the expected price movement of the underlying reference instrument.
The exercise price of a call option may be below, equal to (at-the-money), or above the current value
of the underlying reference instrument at the time the option is written.
As
the writer of a put option, the Fund has a risk of loss should the underlying reference instrument decline
in value. If the value of the underlying reference instrument declines below the exercise price of the
put option and the put option is exercised, the Fund, as the writer of the put option, will be required
to buy the instrument at the exercise price, which will exceed the market value of the underlying reference
instrument at that time. The Fund will incur a loss to the extent that the current market value of the
underlying reference instrument is less than the exercise price of the put option. However, the loss
will be offset in part by the premium received from the buyer of the put. If a put option written by
the Fund expires unexercised, the Fund will realize a gain in the amount of the premium received.
Closing
out options (exchange-traded options). If the writer of an option wants to terminate its obligation,
the writer may effect a “closing purchase transaction” by buying an option of the same series as
the option previously written. The effect of the purchase is that the clearing corporation will cancel
the option writer’s position. However, a writer may not effect a closing purchase transaction after
being notified of the exercise of an option. Likewise, the buyer of an option may recover all or a portion
of the premium that it paid by effecting a “closing sale transaction” by selling an option of the
same series as the option previously purchased and receiving a premium on the sale. There is no guarantee
that either a closing purchase or a closing sale transaction may be made at a time desired by the Fund.
Closing transactions allow the Fund to terminate its positions in written and purchased options. The
Fund will realize a profit from a closing transaction if the price of the transaction is less than the
premium received from writing the original option (in the case of written options) or is more than the
premium paid by the Fund to buy the option (in the case of purchased options). For example, increases
in the market price of a call option sold by the Fund will generally reflect increases in the market
price of the underlying reference instrument. As a result, any loss resulting from a closing transaction
on a written call option is likely to be offset in whole or in part by appreciation of the underlying
instrument owned by the Fund.
Over-the-counter (OTC) options. Like exchange-traded
options, OTC options give the holder the right to buy from the writer, in the case of OTC call options,
or sell to the writer, in the case of OTC put options, an underlying reference instrument at a stated
exercise price. OTC options, however, differ from exchange-traded options in certain material respects.
OTC options are arranged directly with dealers and not with a clearing corporation
or exchange. Consequently, there is a risk of non-performance by the dealer, including because of the
dealer’s bankruptcy or insolvency. While the Fund uses only counterparties, such as dealers, that meet
its credit quality standards, in unusual or extreme market conditions, a counterparty’s creditworthiness
and ability to perform may deteriorate rapidly, and the availability of suitable replacement counterparties
may become limited. Because there is no exchange, pricing is typically done based on information from
market makers or other dealers. OTC options are available for a greater variety of underlying reference
instruments and in a wider range of expiration dates and exercise prices than exchange-traded options.
There can be no assurance that a continuous liquid secondary market will exist
for any particular OTC option at any specific time. The Fund may be able to realize the value of an OTC
option it has purchased only by exercising it or entering into a closing sale transaction with the dealer
that issued it. When the Fund writes an OTC option, it generally can close out that option prior to its
expiration only by entering into a closing purchase transaction with the dealer with which the Fund originally
wrote the option. The Fund may suffer a loss if it is not able to exercise (in the case of a purchased
option) or enter into a closing sale transaction on a timely basis.
Risks of options. The Fund’s options
investments involve certain risks, including general risks related to derivative instruments. There can
be no assurance that a liquid secondary market on an exchange will exist for any particular option, or
at any particular time, and the Fund may have difficulty effecting closing transactions in particular
options. Therefore, the Fund would have to exercise the options it purchased in order to realize any
profit, thus taking or making delivery of the underlying reference instrument when not
11
desired. The Fund could then incur transaction costs upon the sale of the underlying
reference instruments. Similarly, when the Fund cannot effect a closing transaction with respect to a
put option it wrote, and the buyer exercises, the Fund would be required to take delivery and would incur
transaction costs upon the sale of the underlying reference instruments purchased. If the Fund, as a
covered call option writer, is unable to effect a closing purchase transaction in a secondary market,
it will not be able to sell the underlying reference instrument until the option expires, or it delivers
the underlying instrument upon exercise. When trading options on non-U.S. exchanges or in the OTC market,
many of the protections afforded to exchange participants will not be available. For example, there may
be no daily price fluctuation limits, and adverse market movements could therefore continue to an unlimited
extent over an indefinite period of time.
The effectiveness of an options strategy
for hedging depends on the degree to which price movements in the underlying reference instruments correlate
with price movements in the relevant portion of the Fund’s portfolio that is being hedged. In addition,
the Fund bears the risk that the prices of its portfolio investments will not move in the same amount
as the option it has purchased or sold for hedging purposes, or that there may be a negative correlation
that would result in a loss on both the investments and the option. If the investment manager is not
successful in using options in managing the Fund’s investments, the Fund’s performance will be worse
than if the investment manager did not employ such strategies.
Developing government regulation of derivatives.
The regulation of cleared and uncleared swaps, as well as other derivatives, is a rapidly changing area
of law and is subject to modification by government and judicial action. In addition, the SEC, CFTC and
the exchanges are authorized to take extraordinary actions in the event of a market emergency, including,
for example, the implementation or reduction of speculative position limits, the implementation of higher
margin requirements, the establishment of daily price limits and the suspension of trading.
It is not possible to predict fully the effects of current or future regulation.
However, it is possible that developments in government regulation of various types of derivative instruments,
such as speculative position limits on certain types of derivatives, or limits or restrictions on the
counterparties with which the Fund engages in derivative transactions, may limit or prevent the Fund
from using or limit the Fund’s use of these instruments effectively as a part of its investment strategy,
and could adversely affect the Fund’s ability to achieve its investment goal(s). The investment manager
will continue to monitor developments in the area, particularly to the extent regulatory changes affect
the Fund’s ability to enter into desired swap agreements. New requirements, even if not directly applicable
to the Fund, may increase the cost of the Fund’s investments and cost of doing business.
Illiquid securities
Generally, an “illiquid security” or “illiquid investment” is any investment that the Fund reasonably
expects cannot be sold or disposed of in current market conditions in seven calendar days or less without
the sale or disposition significantly changing the market value of the investment. Illiquid investments
generally include investments for which no market exists or which are legally restricted as to their
transfer (such as those issued pursuant to an exemption from the registration requirements of the federal
securities laws). Restricted securities are generally sold in privately negotiated transactions, pursuant
to an exemption from registration under the Securities Act of 1933, as amended (1933 Act). If registration
of a security previously acquired in a private transaction is required, the Fund, as the holder of the
security, may be obligated to pay all or part of the registration expense and a considerable period may
elapse between the time it decides to seek registration and the time it will be permitted to sell a security
under an effective registration statement. If, during such a period, adverse market conditions were to
develop, the Fund might obtain a less favorable price than prevailed when it decided to seek registration
of the security. To the extent it is determined that there is a liquid institutional or other market
for certain restricted securities, the Fund would consider them to be liquid securities. An example is
a restricted security that may be freely transferred among qualified institutional buyers pursuant to
Rule 144A under the 1933 Act, and for which a liquid institutional market has developed. Rule 144A securities
may be subject, however, to a greater possibility of becoming illiquid than securities that have been
registered with the SEC.
The following factors may be taken into account
in determining whether a restricted security is properly considered a liquid security: (i) the frequency
of trades and quotes for the security; (ii) the number of dealers willing to buy or sell the security
and the number of other potential buyers; (iii) any dealer undertakings to make a market in the security;
and (iv) the nature of the security and of the marketplace trades (e.g., any demand, put or tender features,
the method of soliciting offers, the mechanics and other requirements for transfer, and the ability to
assign or offset the rights and obligations of the security). The nature of the security and its trading
includes the time needed to sell the security, the method of soliciting offers to purchase or sell the
security, and the mechanics of transferring the security including the role of parties such as foreign
or U.S. custodians, subcustodians, currency exchange brokers, and depositories.
The
sale of illiquid investments often requires more time and results in higher brokerage charges or dealer
discounts and other selling expenses than the sale of investments eligible for trading on national securities
exchanges or in the over-the-counter (OTC) markets. Illiquid investments often sell at a
12
price lower than similar investments that are not subject to restrictions on resale.
The risk to the Fund in holding illiquid investments is that they may be more
difficult to sell if the Fund wants to dispose of the investment in response to adverse developments
or in order to raise money for redemptions or other investment opportunities. Illiquid trading conditions
may also make it more difficult for the Fund to realize an investment's fair value.
The
Fund may also be unable to achieve its desired level of exposure to a certain investment, issuer, or
sector due to overall limitations on its ability to invest in illiquid investments and the difficulty
in purchasing such investments.
If illiquid investments exceed 15% of the
Fund’s net assets after the time of purchase, the Fund will take steps to reduce its holdings of illiquid
investments to or below 15% of its net assets within a reasonable period of time, and will notify the
Trust’s board of trustees and make the required filings with the SEC in accordance with Rule 22e-4
under the 1940 Act. Because illiquid investments may not be readily marketable, the portfolio managers
and/or investment personnel may not be able to dispose of them in a timely manner. As a result, the Fund
may be forced to hold illiquid investments while their price depreciates. Depreciation in the price of
illiquid investments may cause the net asset value of a Fund to decline.
Inflation-indexed
securities Inflation-indexed securities are debt securities, the value of which is periodically
adjusted to reflect a measure of inflation. Two structures are common for inflation-indexed securities.
The U.S. Treasury and some other issuers use a structure that reflects inflation as it accrues by increasing
the U.S. dollar amount of the principal originally invested. Other issuers pay out the inflation as it
accrues as part of a semiannual coupon. Any amount accrued on an inflation-indexed security, regardless
whether paid out as a coupon or added to the principal, is generally considered taxable income. Where
the accrued amount is added to the principal and no cash income is received until maturity, the Fund
may be required to sell portfolio securities that it would otherwise continue to hold in order to obtain
sufficient cash to make distributions to shareholders required for U.S. tax purposes.
An
investor could experience a loss of principal and income on investments in inflation-indexed securities.
In a deflationary environment, the value of the principal invested in an inflation-indexed security will
be adjusted downward, just as it would be adjusted upward in an inflationary environment. Because the
interest on an inflation-indexed security is calculated with respect to the amount of principal which
is smaller following a deflationary period, interest payments will also be reduced, just as they would
be increased following an inflationary period.
In the case of U.S. Treasury
inflation-indexed securities, the return of at least the original U.S. dollar amount of principal invested
is guaranteed, so an investor receives the greater of its original principal or the inflation-adjusted
principal. If the return of principal is not guaranteed, the investor may receive less than the amount
it originally invested in an inflation-indexed security following a period of deflation. Any guarantee
of principal provided by a party other than the U.S. government will increase the Fund's exposure to
the credit risk of that party.
The value of inflation-indexed securities
is generally expected to change in response to changes in "real" interest rates. The real interest rate
is the rate of interest that would be paid in the absence of inflation. The actual rate of interest,
referred to as the nominal interest rate, is equal to the real interest rate plus the rate of inflation.
If inflation rises at a faster rate than nominal interest rates, real interest rates might decline, leading
to an increase in value of inflation-indexed securities. In contrast, if nominal interest rates increase
at a faster rate than inflation, real interest rates might rise, leading to a decrease in value of inflation-indexed
securities.
While inflation-indexed securities are designed to provide
some protection from long-term inflationary trends, short-term increases in inflation may lead to a decline
in their value. For example, if interest rates rise due to reasons other than inflation, investors in
these securities may not be protected to the extent that the increase is not reflected in the security's
inflation measure. The reasons that interest rates may rise without a corresponding increase in inflation
include changes in currency exchange rates and temporary shortages of credit or liquidity. When interest
rates rise without a corresponding increase in inflation, the Fund's investment in inflation-indexed
securities will forego the additional return that could have been earned on a floating rate debt security.
The periodic adjustment of U.S. inflation-protected debt securities is tied to
the Consumer Price Index for Urban Consumers (CPI-U), which is calculated monthly by the U.S. Bureau
of Labor Statistics. The CPI-U is an index of changes in the cost of living, made up of components such
as housing, food, transportation and energy. Inflation-protected debt securities issued by a foreign
government are generally adjusted to reflect a comparable consumer inflation index, calculated by that
government. There can be no assurance that the CPI-U or any foreign inflation index will accurately measure
the actual rate of inflation in the prices of goods and services. Moreover, there can be no assurance
that the rate of inflation in a foreign country will be correlated to the rate of inflation in the United
States. To the extent that the Fund invests in inflation-indexed securities as a hedge against inflation,
an imperfect hedge will result if the cost of living (as represented in the CPI-U) has a different inflation
rate than the Fund's interests in industries and sectors minimally affected by changes in the cost of
living.
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Interfund
lending program Pursuant to an exemptive order granted by the SEC (Lending Order), the Fund
has the ability to lend money to, and borrow money from, other Franklin Templeton funds for temporary
purposes (Interfund Lending Program) pursuant to a master interfund lending agreement (Interfund Loan).
Lending and borrowing through the Interfund Lending Program provides the borrowing fund with a lower
interest rate than it would have paid if it borrowed money from a bank, and provides the lending fund
with an alternative short-term investment with a higher rate of return than other available short-term
investments. All Interfund Loans would consist only of uninvested cash reserves that the lending fund
otherwise would invest in short-term repurchase agreements or other short-term instruments. The Fund
may only participate in the Interfund Lending Program to the extent permitted by its investment
goal(s), policies and restrictions and only subject to meeting the conditions
of the Lending Order.
The limitations of the Interfund Lending
Program are described below and these and the other conditions of the Lending Order permitting interfund
lending are designed to minimize the risks associated with interfund lending for both the lending and
borrowing fund. However, no borrowing or lending activity is without risk. When a fund borrows money
from another fund under the Interfund Lending Program, there is a risk that the Interfund Loan could
be called on one business day’s notice, in which case the borrowing fund may have to utilize a line
of credit, which would likely involve higher rates, seek an Interfund Loan from another fund, or liquidate
portfolio securities if no lending sources are available to meet its liquidity needs. Interfund Loans
are subject to the risk that the borrowing fund could be unable to repay the loan when due, and a delay
in repayment could result in a lost opportunity by the lending fund or force the lending fund to borrow
or liquidate securities to meet its liquidity needs.
Under the Interfund Lending
Program, the Fund may borrow on an unsecured basis through the Interfund Lending Program if its outstanding
borrowings from all sources immediately after the borrowing total 10% or less of its total assets, provided
that if the Fund has a secured loan outstanding from any other lender, including but not limited to another
fund, the Fund’s Interfund Loan will be secured on at least an equal priority basis with at least an
equivalent percentage of collateral to loan value as any outstanding loan that requires collateral. If
the Fund’s total outstanding borrowings immediately after an Interfund Loan exceed 10% of its total
assets, the Fund may borrow through the Interfund Lending Program on a secured basis only. The Fund may
not borrow under the Interfund Lending Program or from any other source if its total outstanding borrowings
immediately after such borrowing would be more than 33 1/3% of its total assets or any lower threshold
provided for by the Fund’s investment restrictions.
If the Fund has outstanding
bank borrowings, any Interfund Loans to the Fund would: (a) be at an interest rate equal to or lower
than that of any outstanding bank loan, (b) be secured at least on an equal priority basis with at least
an equivalent percentage of collateral to loan value as any outstanding bank loan that requires collateral,
(c) have a maturity no longer than any outstanding bank loan (and in any event not over seven days),
and (d) provide that, if an event of default by the Fund occurs under any agreement evidencing an outstanding
bank loan to the Fund, that event of default will automatically (without need for action or notice by
the lending fund) constitute an immediate event of default under the interfund lending agreement, entitling
the lending fund to call the Interfund Loan (and exercise all rights with respect to any collateral),
and that such call would be made if the lending bank exercises its right to call its loan under its agreement
with the borrowing fund.
In addition, no fund may lend to another
fund through the Interfund Lending Program if the loan would cause the lending fund’s aggregate outstanding
loans through the Interfund Lending Program to exceed 15% of its current net assets at the time of the
loan. A fund’s Interfund Loans to any one fund shall not exceed 5% of the lending fund’s net assets.
The duration of Interfund Loans will be limited to the time required to obtain cash sufficient to repay
such Interfund Loan, either through the sale of portfolio securities or the net sales of the fund’s
shares, but in no event more than seven days, and for purposes of this condition, loans effected within
seven days of each other will be treated as separate loan transactions. Each Interfund Loan may be called
on one business day’s notice by a lending fund and may be repaid on any day by a borrowing fund.
Investment
company securities The Fund may invest in other investment companies to the extent permitted by
the 1940 Act, SEC rules thereunder and exemptions thereto. With respect to funds in which the Fund may
invest, Section 12(d)(1)(A) of the 1940 Act requires that, as determined immediately after a purchase
is made, (i) not more than 5% of the value of the Fund’s total assets will be invested in the securities
of any one investment company, (ii) not more than 10% of the value of the Fund’s total assets will
be invested in securities of investment companies as a group, and (iii) not more than 3% of the outstanding
voting stock of any one investment company will be owned by the Fund. The Fund will limit its investments
in funds in accordance with the Section 12(d)(1)(A) limitations set forth above, except to the extent
that any rules, regulations or no-action or exemptive relief under the 1940 Act permits the Fund’s
investments to exceed such limits. For example, Rule 12d1-4 permits the Fund to invest in other investment
companies beyond the statutory limits, subject to certain conditions. Among other conditions, the Rule
prohibits a fund from acquiring control of another investment company (other than an investment company
in the same group of investment companies),
14
including by acquiring more than 25% of its voting securities. In addition, the
Rule imposes certain voting requirements when a fund's ownership of another investment company exceeds
particular thresholds. If shares of a fund are acquired by another investment company, the “acquired”
fund may not purchase or otherwise acquire the securities of an investment company or private fund if
immediately after such purchase or acquisition, the securities of investment companies and private funds
owned by that acquired fund have an aggregate value in excess of 10% of the value of the total assets
of the fund, subject to certain exceptions. These restrictions may limit the Fund's ability to invest
in other investment companies to the extent desired. In addition, other unaffiliated investment companies
may impose other investment limitations or redemption restrictions which may also limit the Fund's flexibility
with respect to making investments in those unaffiliated investment companies. To the extent that the
Fund invests in another investment company, because other investment companies pay advisory, administrative
and service fees that are borne indirectly by investors, such as the Fund, there may be duplication of
investment management and other fees. The Fund may also invest its cash balances in affiliated money
market funds to the extent permitted by its investment policies and rules and exemptions granted under
the 1940 Act.
The Fund will not acquire shares of other affiliated or unaffiliated
open-end mutual funds, ETFs, or unit investment trusts in reliance on paragraph (F) or (G) of Section
12(d)(1) of the 1940 Act.
Investment grade debt securities Investment grade debt securities are
securities that are rated at the time of purchase in the top four ratings categories by one or more independent
rating organizations such as S&P (rated BBB- or better) or Moody’s (rated Baa3 or higher) or, if
unrated, are determined to be of comparable quality by the Fund’s investment manager. Generally, a
higher rating indicates the rating agency’s opinion that there is less risk of default of obligations
thereunder including timely repayment of principal and payment of interest. Debt securities in the lowest
investment grade category may have speculative characteristics and more closely resemble high-yield debt
securities than investment-grade debt securities. Lower-rated securities may be subject to all the risks
applicable to high-yield debt securities and changes in economic conditions or other circumstances are
more likely to lead to a weakened capacity to make principal and interest payments than is the case with
higher grade debt securities.
A number of risks associated with rating
agencies apply to the purchase or sale of investment grade debt securities.
Mortgage
securities
Overview of mortgage-backed securities. Mortgage-backed securities, represent
an ownership interest in a pool of mortgage loans, usually originated by mortgage bankers, commercial
banks, savings and loan associations, savings banks and credit unions to finance purchases of homes,
commercial buildings or other real estate. The individual mortgage loans are packaged or "pooled" together
for sale to investors. These mortgage loans may have either fixed or adjustable interest rates. A guarantee
or other form of credit support may be attached to a mortgage-backed security to protect against default
on obligations.
As the underlying mortgage loans are paid off, investors receive
principal and interest payments, which "pass-through" when received from individual borrowers, net of
any fees owed to the administrator, guarantor or other service providers. Some mortgage-backed securities
make payments of both principal and interest at a range of specified intervals; others make semiannual
interest payments at a predetermined rate and repay principal at maturity (like a typical bond).
Mortgage-backed securities are based on different types of mortgages, including
those on commercial real estate or residential properties. The primary issuers or guarantors of mortgage-backed
securities have historically been the Government National Mortgage Association (GNMA or Ginnie Mae),
the Federal National Mortgage Association (FNMA or Fannie Mae) and the Federal Home Loan Mortgage Corporation
(FHLMC or Freddie Mac). Other issuers of mortgage-backed securities include commercial banks and other
private lenders. Trading in mortgage-backed securities guaranteed by a governmental agency, instrumentality
or sponsored enterprise may frequently take place in the to-be-announced (TBA) forward market. On June
3, 2019, under the FHFA's “Single Security Initiative” intended to maximize liquidity for both Fannie
Mae and Freddie Mac mortgage-backed securities in the TBA market, Fannie Mae and Freddie Mac started
issuing uniform mortgage-backed securities (“UMBS”) in place of their separate offerings of TBA-eligible
mortgage-backed securities. The issuance of UMBS may not achieve the intended results and may have unanticipated
or adverse effects on the market for mortgage-backed securities. See “When-issued, delayed delivery
and to-be-announced transactions” below.
Ginnie Mae is a wholly-owned United States
government corporation within the Department of Housing and Urban Development. Ginnie Mae guarantees
the principal and interest on securities issued by institutions approved by Ginnie Mae (such as savings
and loan institutions, commercial banks and mortgage bankers). Ginnie Mae also guarantees the principal
and interest on securities backed by pools of mortgages insured by the Federal Housing Administration,
or guaranteed by the Department of Veterans Affairs. Ginnie Mae's guarantees are backed by the full faith
and credit of the U.S. government. Guarantees as to the timely payment of principal and interest do not
extend to the value or yield of mortgage-backed securities nor do they
15
extend to the value of the Fund's shares which will fluctuate daily with market
conditions.
Fannie Mae is a government-sponsored corporation, but its
common stock is owned by private stockholders. Fannie Mae purchases conventional (i.e., not insured or
guaranteed by any government agency) residential mortgages from a list of approved seller/servicers which
include state and federally chartered savings and loan associations, mutual savings banks, commercial
banks and credit unions and mortgage bankers. Pass-through securities issued by Fannie Mae are guaranteed
as to timely payment of principal and interest by Fannie Mae, but are not backed by the full faith and
credit of the U.S. government.
Freddie Mac was created by Congress in 1970
for the purpose of increasing the availability of mortgage credit for residential housing. It is a government-sponsored
corporation formerly owned by the twelve Federal Home Loan Banks but now its common stock is owned entirely
by private stockholders. Freddie Mac issues Participation Certificates (PCs), which are pass-through
securities, each representing an undivided interest in a pool of residential mortgages. Freddie Mac guarantees
the timely payment of interest and ultimate collection of principal, but PCs are not backed by the full
faith and credit of the U.S. government.
Although the mortgage-backed securities of
Fannie Mae and Freddie Mac are not backed by the full faith and credit of the U.S. government, the Secretary
of the Treasury has the authority to support Fannie Mae and Freddie Mac by purchasing limited amounts
of their respective obligations. The yields on these mortgage-backed securities have historically exceeded
the yields on other types of U.S. government securities with comparable maturities due largely to their
prepayment risk. The U.S. government, in the past, provided financial support to Fannie Mae and Freddie
Mac, but the U.S. government has no legal obligation to do so, and no assurance can be given that the
U.S. government will continue to do so.
On September 6, 2008, the Federal Housing
Finance Agency (FHFA) placed Fannie Mae and Freddie Mac into conservatorship. As the conservator, FHFA
succeeded to all rights, titles, powers and privileges of Fannie Mae and Freddie Mac and of any stockholder,
officer or director of Fannie Mae and Freddie Mac. FHFA selected a new chief executive officer and chairman
of the board of directors for each of Fannie Mae and Freddie Mac. Also, the U.S. Treasury entered into
a Senior Preferred Stock Purchase Agreement imposing various covenants that severely limit each enterprise's
operations.
Fannie Mae and Freddie Mac continue to operate as going concerns
while in conservatorship and each remains liable for all of its obligations, including its guaranty obligations
associated with its mortgage-backed securities. The FHFA has the power to repudiate any contract entered
into by Fannie Mae and Freddie Mac prior to FHFA's appointment as conservator or receiver, including
the guaranty obligations of Fannie Mae and Freddie Mac. Accordingly, securities issued by Fannie Mae
and Freddie Mac will involve a risk of non-payment of principal and interest.
Private mortgage-backed
securities. Issuers of private mortgage-backed securities, such as commercial banks, savings
and loan institutions, private mortgage insurance companies, mortgage bankers and other secondary market
issuers, are not U.S. government agencies and may be both the originators of the underlying mortgage
loans as well as the guarantors of the mortgage-backed securities, or they may partner with a government
entity by issuing mortgage loans guaranteed or sponsored by the U.S. government or a U.S. government
agency or sponsored enterprise. Pools of mortgage loans created by private issuers generally offer a
higher rate of interest than government and government-related pools because there are no direct or indirect
government or government agency guarantees of payment. The risk of loss due to default on private mortgage-backed
securities is historically higher because neither the U.S. government nor an agency or instrumentality
have guaranteed them. Timely payment of interest and principal is, however, generally supported by various
forms of insurance or guarantees, including individual loan, title, pool and hazard insurance. Government
entities, private insurance companies or the private mortgage poolers issue the insurance and guarantees.
The insurance and guarantees and the creditworthiness of their issuers will be considered when determining
whether a mortgage-backed security meets the Fund's quality standards. The Fund may buy mortgage-backed
securities without insurance or guarantees if, through an examination of the loan experience and practices
of the poolers, the investment manager determines that the securities meet the Fund's quality standards.
Private mortgage-backed securities whose underlying assets are neither U.S. government securities nor
U.S. government-insured mortgages, to the extent that real properties securing such assets may be located
in the same geographical region, may also be subject to a greater risk of default than other comparable
securities in the event of adverse economic, political or business developments that may affect such
region and, ultimately, the ability of property owners to make payments of principal and interest on
the underlying mortgages. Non-government mortgage-backed securities are generally subject to greater
price volatility than those issued, guaranteed or sponsored by government entities because of the greater
risk of default in adverse market conditions. Where a guarantee is provided by a private guarantor, the
Fund is subject to the credit risk of such guarantor, especially when the guarantor doubles as the originator.
Mortgage-backed securities that are issued or guaranteed by the U.S. government,
its agencies or instrumentalities, are not
16
subject to the Fund's industry concentration restrictions, set forth under "Fundamental
Investment Policies," by virtue of the exclusion from that test available to securities issued or guaranteed
by the U.S. government or any of its agencies or instrumentalities. In the case of privately issued mortgage-backed
securities, the Fund categorizes the securities by the issuer's industry for purposes of the Fund's industry
concentration restrictions.
Additional risks. In addition to the special risks described
below, mortgage securities are subject to many of the same risks as other types of debt securities. The
market value of mortgage securities, like other debt securities, will generally vary inversely with changes
in market interest rates, declining when interest rates rise and rising when interest rates decline.
Mortgage securities differ from conventional debt securities in that most mortgage securities are pass-through
securities. This means that they typically provide investors with periodic payments (typically monthly)
consisting of a pro rata share of both regular interest and principal payments, as well as unscheduled
early prepayments, on the underlying mortgage pool (net of any fees paid to the issuer or guarantor of
such securities and any applicable loan servicing fees). As a result, the holder of the mortgage securities
(i.e., the Fund) receives scheduled payments of principal and interest and may receive unscheduled principal
payments representing prepayments on the underlying mortgages. The rate of prepayments on the underlying
mortgages generally increases as interest rates decline, and when the Fund reinvests the payments and
any unscheduled payments of principal it receives, it may receive a rate of interest that is lower than
the rate on the existing mortgage securities. For this reason, pass-through mortgage securities may have
less potential for capital appreciation as interest rates decline and may be less effective than other
types of U.S. government or other debt securities as a means of "locking in" long-term interest rates.
In general, fixed rate mortgage securities have greater exposure to this "prepayment risk" than variable
rate securities.
An unexpected rise in interest rates could extend the average
life of a mortgage security because of a lower than expected level of prepayments or higher than expected
amounts of late payments or defaults. In addition, to the extent mortgage securities are purchased at
a premium, mortgage foreclosures and unscheduled principal prepayments may result in some loss of the
holder's principal investment to the extent of the premium paid. On the other hand, if mortgage securities
are purchased at a discount, both a scheduled payment of principal and an unscheduled payment of principal
will increase current and total returns and will accelerate the recognition of income that, when distributed
to shareholders, will generally be taxable as ordinary income. Regulatory, policy or tax changes may
also adversely affect the mortgage securities market as a whole or particular segments of such market,
including if one or more government sponsored entities, such as Fannie Mae or Freddie Mac, are privatized
or their conservatorship is terminated.
Guarantees. The existence of a guarantee or other
form of credit support on a mortgage security usually increases the price that the Fund pays or receives
for the security. There is always the risk that the guarantor will default on its obligations. When the
guarantor is the U.S. government, there is minimal risk of guarantor default. However, the risk remains
if the credit support or guarantee is provided by a private party or a U.S. government agency or sponsored
enterprise. Even if the guarantor meets its obligations, there can be no assurance that the type of guarantee
or credit support provided will be effective at reducing losses or delays to investors, given the nature
of the default. A guarantee only assures timely payment of interest and principal, not a particular rate
of return on the Fund's investment or protection against prepayment or other risks. The market price
and yield of the mortgage security at any given time are not guaranteed and likely to fluctuate.
Sector
focus. The Fund's investments in mortgage securities may cause the Fund to have significant,
indirect exposure to a given market sector. If the underlying mortgages are predominantly from borrowers
in a given market sector, the mortgage securities may respond to market conditions just as a direct investment
in that sector would. As a result, the Fund may experience greater exposure to that specific market sector
than it would if the underlying mortgages came from a wider variety of borrowers. Greater exposure to
a particular market sector may result in greater volatility of the security's price and returns to the
Fund, as well as greater potential for losses in the absence or failure of a guarantee to protect against
widespread defaults or late payments by the borrowers on the underlying mortgages.
Similar
risks may result from an investment in mortgage securities if the underlying real properties are located
in the same geographical region or dependent upon the same industries or sectors. Such mortgage securities
will experience greater risk of default or late payment than other comparable but diversified securities
in the event of adverse economic, political or business developments because of the widespread affect
an adverse event will have on borrowers' ability to make payments on the underlying mortgages.
Adjustable
rate mortgage securities (ARMS) ARMS, like traditional fixed rate mortgage-backed securities,
represent an ownership interest in a pool of mortgage loans and are issued, guaranteed or otherwise sponsored
by governmental or by private entities. Unlike traditional mortgage-backed securities, the mortgage loans
underlying ARMS generally carry adjustable interest rates, and in some cases principal repayment rates,
that are reset periodically. An adjustable interest rate may be passed-through or otherwise offered on
certain ARMS. The interest obtained by owning ARMS (and, as a result, the value of the ARMS) may vary
monthly as a
17
result of resets in interest rates and/or principal repayment rates of any of
the mortgage loans that are part of the pool of mortgage loans comprising the ARMS. Investing in ARMS
may permit the Fund to participate in increases in prevailing current interest rates through periodic
adjustments in the interest rate payments on mortgages underlying the pool on which the ARMS are based.
ARMS generally have lower price fluctuations than is the case with more traditional fixed income debt
securities of comparable rating and maturity.
The interest rates paid
on ARMS generally are readjusted at intervals of one year or less to a rate that is an increment over
some predetermined interest rate index, although some securities may have reset intervals as long as
five years. Some adjustable rate mortgage loans have fixed rates for an initial period, typically three,
five, seven or ten years, and adjust annually thereafter. Generally, categories of indices include: those
based on a variable or floating rate indexed to a benchmark, those based on U.S. Treasury securities
and those derived from a calculated measure such as a cost of funds index (indicating the cost of borrowing)
or a moving average of mortgage rates. Commonly used indices include the one-, three-, and five-year
constant-maturity Treasury rates; the three-month Treasury bill rate; the 180-day Treasury bill rate;
rates on longer-term Treasury securities; the 11th District Federal Home Loan Bank Cost of Funds; the
National Median Cost of Funds; the 30-day, 90-day, or 180-day Average SOFR; the prime rate of a specific
bank; or commercial paper rates.
In a changing interest rate environment,
the reset feature may act as a buffer to reduce sharp changes in the ARMS' value in response to normal
interest rate fluctuations. However, the time interval between each interest reset causes the yield on
the ARMS to lag behind changes in the prevailing market interest rate. As interest rates are reset on
the underlying mortgages, the yields of the ARMS gradually re-align themselves to reflect changes in
market rates so that their market values remain relatively stable compared to fixed-rate mortgage-backed
securities.
As a result, ARMS generally also have less risk of a decline
in value during periods of rising interest rates than traditional long-term, fixed-rate mortgage-backed
securities. However, during such periods, this reset lag may result in a lower net asset value until
the interest rate resets to market rates. If prepayments of principal are made on the underlying mortgages
during periods of rising interest rates, the Fund generally will be able to reinvest these amounts in
securities with a higher current rate of return. However, the Fund will not benefit from increases in
interest rates to the extent that interest rates exceed the maximum allowable annual or lifetime reset
limits (or cap rates) for a particular mortgage-backed security. See “Caps and floors.” Additionally,
borrowers with adjustable rate mortgage loans that are pooled into ARMS generally see an increase in
their monthly mortgage payments when interest rates rise which in turn may increase their rate of late
payments and defaults.
Because an investor is "locked in" at a given interest rate
for the duration of the interval until the reset date, whereas interest rates continue to fluctuate,
the sensitivity of an ARMS' price to changes in interest rates tends to increase along with the length
of the interval. To the extent the Fund invests in ARMS that reset infrequently, the Fund will be subject
to similar interest rate risks as when investing in fixed-rate debt securities. For example, the Fund
can expect to receive a lower interest rate than the prevailing market rates (or index rates) in a rising
interest rate environment because of the lag between daily increases in interest rates and periodic readjustments.
During periods of declining interest rates, the interest rates on the underlying
mortgages may reset downward with a similar lag, resulting in lower yields to the Fund. As a result,
the value of ARMS is unlikely to rise during periods of declining interest rates to the same extent as
the value of fixed-rate securities do.
Caps and floors. The underlying mortgages that collateralize
ARMS will frequently have caps and floors that limit the maximum amount by which the interest rate to
the residential borrower may change up or down (a) per reset or adjustment interval and (b) over the
life of the loan. Fluctuations in interest rates above the applicable caps or floors on the ARMS could
cause the ARMS to "cap out" and to behave more like long-term, fixed-rate debt securities.
Negative
amortization. Some mortgage loans restrict periodic adjustments by limiting changes in the
borrower's monthly principal and interest payments rather than limiting interest rate changes. These
payment caps may result in negative amortization, where payments are less than the amount of principal
and interest owed, with excess amounts added to the outstanding principal balance, which can extend the
average life of the mortgage-backed securities.
Collateralized mortgage obligations (CMOs),
real estate mortgage investment conduits (REMICs) and multi-class pass-throughs Some mortgage-backed
securities known as collateralized mortgage obligations (CMOs) are divided into multiple classes. Each
of the classes is allocated a different share of the principal and/or interest payments received from
the pool according to a different payment schedule depending on, among other factors, the seniority of
a class relative to their classes. Other mortgage-backed securities such as real estate mortgage investment
conduits (REMICs) are also divided into multiple classes with different rights to the interest and/or
principal payments received on the pool of mortgages. A CMO or REMIC may designate the most junior of
the securities it issues as a "residual" which will be entitled to any amounts remaining after all classes
of shareholders (and any fees or expenses) have been paid in full. Some of the
18
different rights may include different maturities, interest rates, payment schedules,
and allocations of interest and/or principal payments on the underlying mortgage loans. Multi-class pass-through
securities are equity interests in a trust composed of mortgage loans or other mortgage-backed securities.
Payments of principal and interest on the underlying collateral provide the funds to pay the debt service
on CMOs or REMICs or to make scheduled distributions on the multi-class pass-through securities. Unless
the context indicates otherwise, the discussion of CMOs below also applies to REMICs and multi-class
pass-through securities.
All the risks applicable to a traditional mortgage-backed
security also apply to the CMO or REMIC taken as a whole, even though certain classes of the CMO or REMIC
will be protected against a particular risk by subordinated classes. The risks associated with an investment
in a particular CMO or REMIC class vary substantially depending on the combination of rights associated
with that class. An investment in the most subordinated classes of a CMO or REMIC bears a disproportionate
share of the risks associated with mortgage-backed securities generally, be it credit risk, prepayment
or extension risk, interest rate risk, income risk, market risk, illiquidity risk or any other risk associated
with a debt or equity instrument with similar features to the relevant class. As a result, an investment
in the most subordinated classes of a CMO or REMIC is often riskier than an investment in other types
of mortgage-backed securities.
CMOs are generally required to maintain more
collateral than REMICs to collateralize the CMOs being issued. Most REMICs are not subject to the same
minimum collateralization requirements and may be permitted to issue the full value of their assets as
securities, without reserving any amount as collateral. As a result, an investment in the subordinated
classes of a REMIC may be riskier than an investment in equivalent classes of a CMO.
CMOs
may be issued, guaranteed or sponsored by governmental entities or by private entities. Consequently,
they involve risks similar to those of traditional mortgage-backed securities that have been issued,
guaranteed or sponsored by such government and/or private entities. For example, the Fund is generally
exposed to a greater risk of loss due to default when investing in CMOs that have not been issued, guaranteed
or sponsored by a government entity.
CMOs are typically issued in multiple classes.
Each class, often referred to as a "tranche," is issued at a specified coupon rate or adjustable rate
and has a stated maturity or final distribution date. Principal prepayments on collateral underlying
CMOs may cause the CMOs to be retired substantially earlier than their stated maturities or final distribution
dates. Interest is paid or accrues on most classes of a CMO on a monthly, quarterly or semiannual basis.
The principal and interest on the mortgages underlying CMOs may be allocated among the several classes
in many ways. In a common structure, payments of principal on the underlying mortgages, including any
principal prepayments, are applied to the classes of a series of a CMO in the order of their respective
stated maturities or final distribution dates, so that no payment of principal will be made on any class
until all other classes having an earlier stated maturity or final distribution date have been paid in
full.
One or more classes of a CMO may have interest rates that reset periodically as
ARMS do. These adjustable rate classes are known as "floating-rate CMOs" and are subject to most risks
associated with ARMS. Floating-rate CMOs may be backed by fixed- or adjustable-rate mortgages. To date,
fixed-rate mortgages have been more commonly used for this purpose. Floating-rate CMOs are typically
issued with lifetime "caps" on the interest rate. These caps, similar to the caps on ARMS, limit the
Fund's potential to gain from rising interest rates and increasing the sensitivity of the CMO's price
to interest rate changes while rates remain above the cap.
Timely payment of interest
and principal (but not the market value and yield) of some of these pools is supported by various forms
of insurance or guarantees issued by private issuers, those who pool the mortgage assets and, in some
cases, by U.S. government agencies.
CMOs involve risks including the uncertainty
of the timing of cash flows that results from the rate of prepayments on the underlying mortgages serving
as collateral, and risks resulting from the structure of the particular CMO transaction and the priority
of the individual tranches. The prices of some CMOs, depending on their structure and the rate of prepayments,
can be volatile. Some CMOs may be less liquid than other types of mortgage-backed securities. As a result,
it may be difficult or impossible to sell the securities at an advantageous price or time under certain
circumstances. Yields on privately issued CMOs have been historically higher than the yields on CMOs
issued or guaranteed by U.S. government agencies or instrumentalities. The risk of loss due to default
on privately issued CMOs, however, is historically higher since the U.S. government has not guaranteed
them.
To the extent any privately issued CMOs in which the Fund invests are considered
by the SEC to be an investment company, the Fund will limit its investments in such securities in a manner
consistent with the provisions of the 1940 Act.
CMO and REMIC Residuals. The residual
in a CMO or REMIC structure is the interest in any excess cash flow generated by the mortgage pool that
remains after first making the required payments of principal and interest to the other classes of the
CMO or REMIC and, second, paying the related administrative expenses and any management fee of the issuer.
Each payment of such excess cash flow to a holder of the related CMO or REMIC residual represents income
and/or a return of capital. The amount of residual
19
cash flow resulting from a CMO or REMIC will depend on, among other things, the
characteristics of the mortgage assets, the interest rate of each class, prevailing interest rates, the
amount of administrative expenses and the pre-payment experience on the mortgage assets. In particular,
the return on CMO and REMIC residuals is extremely sensitive to pre-payments on the related underlying
mortgage assets. If a class of a CMO or REMIC bears interest at an adjustable rate, the CMO or REMIC
residual will also be extremely sensitive to changes in the level of the index upon which interest rate
adjustments are based. CMO and REMIC residuals are generally purchased and sold by institutional investors
through several investment banking firms acting as brokers or dealers and may not have been registered
under the 1933 Act. CMO and REMIC residuals, whether or not registered under the 1933 Act, may be subject
to certain restrictions on transferability, and may be deemed "illiquid" and subject to the Fund's limitation
on investment in illiquid securities.
Stripped mortgage-backed securities and net interest margin
securities Some mortgage-backed securities referred to as stripped mortgage-backed securities
are divided into classes which receive different proportions of the principal and interest payments or,
in some cases, only payments of principal or interest (but not both). Other mortgage-backed securities
referred to as net interest margin (NIM) securities give the investor the right to receive any excess
interest earned on a pool of mortgage loans remaining after all classes and service providers have been
paid in full. Stripped mortgage-backed securities may be issued by government or private entities. Stripped
mortgage-backed securities issued or guaranteed by agencies or instrumentalities of the U.S. government
are typically more liquid than privately issued stripped mortgage-backed securities.
Stripped
mortgage-backed securities are usually structured with two classes, each receiving different proportions
of the interest and principal distributions on a pool of mortgage assets. In most cases, one class receives
all of the interest (interest-only or "IO" class), while the other class receives all of the principal
(principal-only or "PO" class). The return on an IO class is extremely sensitive not only to changes
in prevailing interest rates but also to the rate of principal payments (including prepayments) on the
underlying mortgage assets. A rapid rate of principal payments may have a material adverse effect on
any IO class held by the Fund. If the underlying mortgage assets experience greater than anticipated
prepayments of principal, the Fund may fail to recoup its initial investment fully, even if the securities
are rated in the highest rating categories, AAA or Aaa, by S&P or Moody's, respectively.
NIM
securities represent a right to receive any "excess" interest computed after paying coupon costs, servicing
costs and fees and any credit losses associated with the underlying pool of home equity loans. Like traditional
stripped mortgage-backed securities, the return on a NIM security is sensitive not only to changes in
prevailing interest rates but also to the rate of principal payments (including prepayments) on the underlying
home equity loans. NIM securities are highly sensitive to credit losses on the underlying collateral
and the timing in which those losses are taken.
Stripped mortgage-backed
securities and NIM securities tend to exhibit greater market volatility in response to changes in interest
rates than other types of mortgage-backed securities and are purchased and sold by institutional investors,
such as the Fund, through investment banking firms acting as brokers or dealers. Some of these securities
may be deemed "illiquid" and therefore subject to the Fund's limitation on investment in illiquid securities
and the risks associated with illiquidity.
Future developments. Mortgage loan
and home equity loan pools offering pass-through investments in addition to those described above may
be created in the future. The mortgages underlying these securities may be alternative mortgage instruments,
that is, mortgage instruments whose principal or interest payments may vary or whose terms to maturity
may differ from customary long-term, fixed-rate mortgages. As new types of mortgage and home equity loan
securities are developed and offered to investors, the Fund may invest in them if they are consistent
with the Fund's goals, policies and quality standards.
Mortgage Dollar and U.S.
Treasury Rolls
Mortgage dollar rolls. In a mortgage dollar roll, the Fund sells
or buys mortgage-backed securities for delivery in the current month and simultaneously contracts to
repurchase or sell substantially similar (same type, coupon, and maturity) securities on a specified
future date. During the period between the sale and repurchase (known as the "roll period"), the Fund
forgoes principal and interest payments that it would otherwise have received on the securities sold.
The Fund is compensated by the difference between the current sales price, which it receives, and the
lower forward price that it will pay for the future purchase (often referred to as the "drop"), as well
as by the interest earned on the cash proceeds of the initial sale.
The
Fund is exposed to the credit risk of its counterparty in a mortgage dollar roll or U.S. Treasury roll
transaction. The Fund could suffer a loss if the counterparty fails to perform the future transaction
or otherwise meet its obligations and the Fund is therefore unable to repurchase at the agreed upon price
the same or substantially similar mortgage-backed securities it initially sold. The Fund also takes the
risk that the mortgage-backed securities that it repurchases at a later date will have less favorable
market characteristics than the securities originally sold (e.g., greater prepayment risk).
The
Fund intends to enter into mortgage dollar rolls only with high quality securities dealers and banks
as determined by the investment manager under board approved counterparty
20
review procedures. Although rolls could add leverage to the Fund's portfolio,
the Fund does not consider the purchase and/or sale of a mortgage dollar roll to be a borrowing for purposes
of the Fund's fundamental restrictions or other limitations on borrowing.
U.S. Treasury rolls.
In U.S. Treasury rolls, the Fund sells U.S. Treasury securities and buys back "when-issued" U.S. Treasury
securities of slightly longer maturity for simultaneous settlement on the settlement date of the "when-issued"
U.S. Treasury security. Two potential advantages of this strategy are (1) the Fund can regularly and
incrementally adjust its weighted average maturity of its portfolio securities (which otherwise would
constantly diminish with the passage of time); and (2) in a normal yield curve environment (in which
shorter maturities yield less than longer maturities), a gain in yield to maturity can be obtained along
with the desired extension.
During the period before the settlement date,
the Fund continues to earn interest on the securities it is selling. It does not earn interest on the
securities that it is purchasing until after the settlement date. The Fund could suffer an opportunity
loss if the counterparty to the roll failed to perform its obligations on the settlement date, and if
market conditions changed adversely. The Fund generally enters into U.S. Treasury rolls only with government
securities dealers recognized by the Federal Reserve Board or with member banks of the Federal Reserve
System.
Repurchase
agreements Under a repurchase agreement, the Fund agrees to buy securities guaranteed as
to payment of principal and interest by the U.S. government or its agencies or instrumentalities from
a qualified bank, broker-dealer or other counterparty and then to sell the securities back to such counterparty
on an agreed upon date (generally less than seven days) at a higher price, which reflects currently prevailing
short-term interest rates. Entering into repurchase agreements allows the Fund to earn a return on cash
in the Fund's portfolio that would otherwise remain un-invested. The counterparty must transfer to the
Fund's custodian, as collateral, securities with an initial market value of at least 102% of the dollar
amount paid by the Fund to the counterparty. The investment manager will monitor the value of such collateral
daily to determine that the value of the collateral equals or exceeds the repurchase price.
Repurchase agreements may involve risks in the event of default or insolvency
of the counterparty, including possible delays or restrictions upon the Fund's ability to sell the underlying
securities and additional expenses in seeking to enforce the Fund's rights and recover any losses. The
Fund will enter into repurchase agreements only with parties who meet certain creditworthiness standards,
i.e., banks or broker-dealers that the investment manager has determined, based on the information available
at the time, present no serious risk of becoming involved in bankruptcy proceedings within the time frame
contemplated by the repurchase agreement. Although the Fund seeks to limit the credit risk under a repurchase
agreement by carefully selecting counterparties and accepting only high quality collateral, some credit
risk remains. The counterparty could default which may make it necessary for the Fund to incur expenses
to liquidate the collateral. In addition, the collateral may decline in value before it can be liquidated
by the Fund.
A repurchase agreement with more than seven days to maturity
is considered an illiquid security and is subject to the Fund's investment restriction on illiquid securities.
Securities
lending To generate additional income, the Fund may lend certain of its portfolio securities
to qualified banks and broker-dealers (referred to as "borrowers"). In exchange, the Fund receives cash
collateral from a borrower at least equal to the value of the security loaned by the Fund. Cash collateral
typically consists of any combination of cash, securities issued by the U.S. government and its agencies
and instrumentalities, and irrevocable letters of credit. The Fund may invest this cash collateral while
the loan is outstanding and generally retains part or all of the interest earned on the cash collateral.
Securities lending allows the Fund to retain ownership of the securities loaned and, at the same time,
earn additional income.
For each loan, the borrower usually must
maintain with the Fund's custodian collateral with an initial market value at least equal to 102% of
the market value of the domestic securities loaned (or 105% of the market value of foreign securities
loaned), including any accrued interest thereon. Such collateral will be marked-to-market daily, and
if the coverage falls below 100%, the borrower will be required to deliver additional collateral equal
to at least 102% of the market value of the domestic securities loaned (or 105% of the foreign securities
loaned).
The Fund retains all or a portion of the interest received on investment of the
cash collateral or receives a fee from the borrower. The Fund also continues to receive any distributions
paid on the loaned securities. The Fund seeks to maintain the ability to obtain the right to vote or
consent on proxy proposals involving material events affecting securities loaned. The Fund may terminate
a loan at any time and obtain the return of the securities loaned within the normal settlement period
for the security involved.
If the borrower defaults on its obligation
to return the securities loaned because of insolvency or other reasons, the Fund could experience delays
and costs in recovering the securities loaned or in gaining access to the collateral. These delays and
costs could be greater for foreign securities. If the Fund is not able to recover the securities loaned,
the Fund may sell the collateral and purchase a replacement investment in the market. Additional transaction
costs would result, and the value of the collateral could decrease below
21
the value of the replacement investment by the time the replacement investment
is purchased. Until the replacement can be purchased, the Fund will not have the desired level of exposure
to the security which the borrower failed to return. Cash received as collateral through loan transactions
may be invested in other eligible securities, including shares of a money market fund. Investing this
cash subjects the Fund to greater market risk including losses on the collateral and, should the Fund
need to look to the collateral in the event of the borrower's default, losses on the loan secured by
that collateral.
The Fund will loan its securities only to parties who meet
creditworthiness standards approved by the Fund's board (i.e., banks or broker-dealers that the investment
manager has determined are not apparently at risk of becoming involved in bankruptcy proceedings within
the time frame contemplated by the loan). In addition, pursuant to the 1940 Act and SEC interpretations
thereof, the aggregate market value of securities that may be loaned by the Fund is limited to 33 1/3%
of the Fund's total assets or such lower limit as set by the Fund or its board.
Temporary investments
When the investment manager believes market or economic conditions are unfavorable for investors, the
investment manager may invest up to 100% of the Fund's assets in temporary defensive investments, including
cash, cash equivalents or other high quality short-term investments, such as short-term debt instruments,
including U.S. government securities, high grade commercial paper, repurchase agreements, negotiable
certificates of deposit, non-negotiable fixed time deposits, bankers acceptances, and other money market
equivalents. To the extent allowed by exemptions from and rules under the 1940 Act and the Fund's other
investment policies and restrictions, the investment manager also may invest the Fund's assets in shares
of one or more money market funds managed by the investment manager or its affiliates. Unfavorable market
or economic conditions may include excessive volatility or a prolonged general decline in the securities
markets, the securities in which the Fund normally invests, or the economies of the countries where the
Fund invests. Temporary defensive investments can and do experience defaults. The likelihood of default
on a temporary defensive investment may increase in the market or economic conditions which are likely
to trigger the Fund's investment therein.
The investment manager
also may invest in these types of securities or hold cash while looking for suitable investment opportunities
or to maintain liquidity. When the Fund's assets are invested in temporary investments, the Fund may
not be able to achieve its investment goal.
Unrated debt securities Not all debt
securities or their issuers are rated by rating agencies, sometimes due to the size of or manner of the
securities offering, the decision by one or more rating agencies not to rate certain securities or issuers
as a matter of policy, or the unwillingness or inability of the issuer to provide the prerequisite information
and fees to the rating agencies. Some debt securities markets may have a disproportionately large number
of unrated issuers.
In evaluating unrated securities, the investment
manager may consider, among other things, the issuer's financial resources, its sensitivity to economic
conditions and trends, its operating history, the quality of the issuer's management and regulatory matters.
Although unrated debt securities may be considered to be of investment grade quality, issuers typically
pay a higher interest rate on unrated than on investment grade rated debt securities. Less information
is typically available to the market on unrated securities and obligors, which may increase the potential
for credit and valuation risk.
U.S. government securities U.S. government
securities include obligations of, or securities guaranteed by, the U.S. federal government, its agencies,
instrumentalities or sponsored enterprises. Some U.S. government securities are supported by the full
faith and credit of the U.S. government. These include U.S. Treasury obligations and securities issued
by the Government National Mortgage Association (GNMA). A second category of U.S. government securities
are those supported by the right of the agency, instrumentality or sponsored enterprise to borrow from
the U.S. government to meet its obligations. These include securities issued by Federal Home Loan Banks.
A third category of U.S. government securities are those supported by only the
credit of the issuing agency, instrumentality or sponsored enterprise. These include securities issued
by the Federal National Mortgage Association (FNMA) and Federal Home Loan Mortgage Corporation (FHLMC).
In the event of a default, an investor like the Fund would only have legal recourse to the issuer, not
the U.S. government. Although the U.S. government has provided support for these securities in the past,
there can be no assurance that it will do so in the future. The U.S. government has also made available
additional guarantees for limited periods to stabilize or restore a market in the wake of an economic,
political or natural crisis. Such guarantees, and the economic opportunities they present, are likely
to be temporary and cannot be relied upon by the Fund. Any downgrade of the credit rating of the securities
issued by the U.S. government may result in a downgrade of securities issued by its agencies or instrumentalities,
including government-sponsored entities.
Variable rate securities Variable rate
securities are debt securities that provide for periodic adjustments in the interest rate paid on the
debt security. Floating rate securities, adjustable rate securities and inverse floating rate securities
(referred to as "inverse floaters") are types of variable rate securities. An adjustable rate security
is a debt security with an interest rate which is adjusted according to a formula that
22
specifies the interval at which the rate will be reset and the interest rate index,
benchmark or other mechanism upon which the reset rate is based. A floating rate debt security has a
rate of interest which is usually established as the sum of a base lending rate (e.g., SOFR, the U.S.
Prime Rate, the Prime Rate of a designated U.S. bank or the certificate of deposit rate) plus a specified
margin. The interest rate on prime rate-based loans and securities floats periodically as the prime rate
changes. The interest rate on SOFR-based and CD-based loans and securities is reset periodically, typically
at regular intervals ranging between 30 days and one year. Certain floating rate securities will permit
the borrower to select an interest rate reset period of up to one year.
Some
variable rate securities are structured with put features that permit holders to demand payment of the
unpaid principal balance plus accrued interest from the issuers or certain financial intermediaries at
or about the time the interest rate is reset. If the Fund purchases a variable rate security with a put
feature and market movements make exercise of the put unattractive, the Fund will forfeit the entire
amount of any premium paid plus related transaction costs.
Movements in the relevant
index or benchmark on which adjustments are based will affect the interest paid on these securities and,
therefore, the current income earned by the Fund and the securities' market value. The degree of volatility
in the market value of the variable rate securities held by the Fund will generally increase along with
the length of time between adjustments, the degree of volatility in the applicable index, benchmark or
base lending rate and whether the index, benchmark or base lending rate to which it resets or floats
approximates short-term or other prevailing interest rates. It will also be a function of the maximum
increase or decrease of the interest rate adjustment on any one adjustment date, in any one year, and
over the life of the security. These maximum increases and decreases are typically referred to as "caps"
and "floors," respectively.
During periods when short-term interest rates
move within the caps and floors of the security held by the Fund, the interest rate of such security
will reset to prevailing rates within a short period. As a result, the fluctuation in market value of
the variable rate security held by the Fund is generally expected to be limited.
In
periods of substantial short-term volatility in interest rates, the market value of such debt securities
may fluctuate more substantially if the caps and/or floors prevent the interest rates from adjusting
to the full extent of the movements in the market rates during any one adjustment period or over the
term of the security. In the event of dramatic increases in interest rates, any lifetime caps on these
securities may prevent the securities from adjusting to prevailing rates over the term of the security.
In either the case of caps or floors, the market value of the securities may be reduced.
The
income earned by the Fund and distributed to shareholders will generally increase or decrease along with
movements in the relevant index, benchmark or base lending rate. Thus the Fund's income will be more
unpredictable than the income earned on similar investments with a fixed rate of interest.
When-issued, delayed
delivery and to-be-announced transactions When-issued, delayed delivery and to-be-announced
(TBA) transactions are arrangements under which the parties agree on the sale of securities with payment
for and delivery of the security scheduled for a future time. The securities may have been authorized
but not yet issued, or, in the TBA market for U.S. Government agency mortgage-backed securities, the
parties agree on a price, volume, and basic characteristics of securities to be delivered on the settlement
date, rather than particular securities. In addition to buying securities on a when-issued, delayed delivery
or TBA basis, the Fund may also sell these securities on a TBA basis to close out an existing TBA position
before the settlement date, to take advantage of an expected decline in value of the securities, or for
hedging purposes.
Entering into a when-issued, delayed delivery or TBA transaction
may be viewed as a form of leverage and will result in associated risks for the Fund. The Fund does not
consider the purchase and/or sale of securities on a when-issued, delayed delivery or TBA basis to be
a borrowing for purposes of the Fund’s fundamental restrictions or other limitations on borrowing.
Many when-issued, delayed-delivery or TBA transactions also are subject to the
risk that a counterparty may become bankrupt or otherwise fail to perform its obligations due to financial
difficulties, including making payments or fulfilling other obligations to the Fund. The Fund may obtain
no or only limited recovery in a bankruptcy or other organizational proceedings, and any recovery may
be significantly delayed. With respect to forward settling TBA transactions involving U.S. Government
agency mortgage backed securities, the counterparty risk may be mitigated by the exchange of variation
margin on a regular basis between counterparties as the market value of the deliverable security fluctuates.
The Fund also relies on the counterparty to complete the transaction. The counterparty’s
failure to do so may cause the Fund to miss a price or yield considered advantageous to the Fund. Although
their price typically reflects accrued interest, securities purchased on a when-issued or delayed delivery
basis do not generally earn interest until their scheduled delivery date. Purchases or sales of debt
securities on a when-issued or delayed delivery basis are also subject to the risk that the market value
or the yield at delivery may be more or less than the market price or yield available when the transaction
was entered into, or that the Fund is unable to purchase securities for delivery at the settlement date
with the characteristics agreed upon at the time of the transaction.
23
Zero
coupon, deferred interest and pay-in-kind bonds Zero coupon or deferred interest bonds
are debt securities that make no periodic interest payments until maturity or a specified date when the
securities begin paying current interest (cash payment date). Zero coupon and deferred interest bonds
generally are issued and traded at a discount from their face amount or par value.
The
original discount on zero coupon or deferred interest bonds approximates the total amount of interest
the bonds will accumulate over the period until maturity or the first cash payment date and compounds
at a rate of interest reflecting the market rate of the security at the time of issuance. The discount
varies depending on the time remaining until maturity or the cash payment date, as well as prevailing
interest rates, liquidity of the market for the security, and the perceived credit quality of the issuer.
The discount, in the absence of financial difficulties of the issuer, typically decreases as the final
maturity or cash payment date approaches. The discount typically increases as interest rates rise, the
market becomes less liquid or the creditworthiness of the issuer deteriorates.
Pay-in-kind
bonds are debt securities that provide for interest payments to be made in a form other than cash, generally
at the option of the issuer. Common forms include payment of additional bonds of the same issuer or an
increase in principal underlying the pay-in-kind bonds. To the extent that no cash income will be paid
for an extended period of time, pay-in-kind bonds resemble zero coupon or deferred interest bonds and
are subject to similar influences and risks.
For accounting and federal tax purposes,
holders of bonds issued at a discount, such as the Fund, are deemed to receive interest income over the
life of the bonds even though the bonds do not pay out cash to their holders before maturity or the cash
payment date. That income is distributable to Fund shareholders even though no cash is received by the
Fund at the time of accrual, which may require the liquidation of other portfolio securities to satisfy
the Fund's distribution obligations.
Because investors receive no cash prior to
the maturity or cash payment date, an investment in debt securities issued at a discount generally has
a greater potential for complete loss of principal and/or return than an investment in debt securities
that make periodic interest payments. Such investments are more vulnerable to the creditworthiness of
the issuer and any other parties upon which performance relies.
The following is a description of the general
risks associated with the Fund's investing in debt securities:
Credit
Debt securities are subject to the risk of an issuer's (or other party's) failure or inability to meet
its obligations under the security. Multiple parties may have obligations under a debt security. An issuer
or borrower may fail to pay principal and interest when due. A guarantor, insurer or credit support provider
may fail to provide the agreed upon protection. A counterparty to a transaction may fail to perform its
side of the bargain. An intermediary or agent interposed between the investor and other parties may fail
to perform the terms of its service. Also, performance under a debt security may be linked to the obligations
of other persons who may fail to meet their obligations. The credit risk associated with a debt security
could increase to the extent that the Fund's ability to benefit fully from its investment in the security
depends on the performance by multiple parties of their respective contractual or other obligations.
The market value of a debt security is also affected by the market's perception of the creditworthiness
of the issuer.
The Fund may incur substantial losses on debt securities that
are inaccurately perceived to present a different amount of credit risk than they actually do by the
market, the investment manager or the rating agencies. Credit risk is generally greater where less information
is publicly available, where fewer covenants safeguard the investors' interests, where collateral may
be impaired or inadequate, where little legal redress or regulatory protection is available, or where
a party's ability to meet obligations is speculative. Additionally, any inaccuracy in the information
used by the Fund to evaluate credit risk may affect the value of securities held by the Fund.
Obligations
under debt securities held by the Fund may never be satisfied or, if satisfied, only satisfied in part.
Some securities are subject to risks as a result of a credit downgrade or default
by a government, or its agencies or, instrumentalities. Credit risk is a greater concern for high-yield
debt securities and debt securities of issuers whose ability to pay interest and principal may be considered
speculative. Debt securities are typically classified as investment grade-quality (medium to highest
credit quality) or below investment grade-quality (commonly referred to as high-yield or junk bonds).
Many individual debt securities are rated by a third party source, such as Moody's or S&P to help
describe the creditworthiness of the issuer.
Debt securities ratings The investment
manager performs its own independent investment analysis of securities being considered for the Fund's
portfolio, which includes consideration of, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the quality of the issuer's management
and regulatory matters. The investment manager also considers the ratings assigned by various investment
services and independent rating agencies, such as Moody's and S&P, that publish ratings based upon
their assessment of the relative creditworthiness of the rated debt securities. Generally, a lower rating
indicates higher credit risk. Higher yields are ordinarily available from debt securities in the lower
rating categories. These ratings are described at the end of this SAI under “Description of Ratings.”
24
Using credit ratings to evaluate debt securities can involve certain risks. For
example, ratings assigned by the rating agencies are based upon an analysis completed at the time of
the rating of the obligor's ability to pay interest and repay principal. Rating agencies typically rely
to a large extent on historical data which may not accurately represent present or future circumstances.
Ratings do not purport to reflect the risk of fluctuations in market value of the debt security and are
not absolute standards of quality and only express the rating agency's current opinion of an obligor's
overall financial capacity to pay its financial obligations. A credit rating is not a statement of fact
or a recommendation to purchase, sell or hold a debt obligation. Also, credit quality can change suddenly
and unexpectedly, and credit ratings may not reflect the issuer's current financial condition or events
since the security was last rated. Rating agencies may have a financial interest in generating business,
including from the arranger or issuer of the security that normally pays for that rating, and providing
a low rating might affect the rating agency's prospects for future business. While rating agencies have
policies and procedures to address this potential conflict of interest, there is a risk that these policies
will fail to prevent a conflict of interest from impacting the rating.
Extension
The market value of some debt securities, particularly mortgage securities and certain asset-backed
securities, may be adversely affected when bond calls or prepayments on underlying mortgages or other
assets are less or slower than anticipated. This risk is extension risk. Extension risk may result from,
for example, rising interest rates or unexpected developments in the markets for the underlying assets
or mortgages. As a consequence, the security's effective maturity will be extended, resulting in an increase
in interest rate sensitivity to that of a longer-term instrument. Extension risk generally increases
as interest rates rise. This is because, in a rising interest rate environment, the rate of prepayment
and exercise of call or buy-back rights generally falls and the rate of default and delayed payment generally
rises. When the maturity of an investment is extended in a rising interest rate environment, a below-market
interest rate is usually locked-in and the value of the security reduced. This risk is greater for fixed-rate
than variable-rate debt securities.
Income Income risk is the risk that the Fund's
income will decline during periods of falling interest rates, when the Fund experiences defaults on debt
securities it holds or when the Fund realizes a loss upon a sale of a debt security. The Fund's income
declines when interest rates fall because, as the Fund's higher-yielding debt securities mature, are
prepaid or are sold, the Fund may have to re-invest the proceeds in debt securities that have lower interest
rates. The amount and rate of distributions that the Fund's shareholders receive are affected by the
income that the Fund receives from its portfolio holdings. If the income is reduced, distributions by
the Fund to shareholders may be less.
Fluctuations in income
paid to the Fund are generally greater for variable rate debt securities. The Fund may be deemed to receive
taxable income on certain securities which pay no cash payments until maturity, such as zero-coupon securities.
The Fund may be required to sell portfolio securities that it would otherwise continue to hold in order
to obtain sufficient cash to make the distribution to shareholders required for U.S. tax purposes.
Inflation
The market price of debt securities generally falls as inflation increases because the purchasing power
of the future income and repaid principal is expected to be worth less when received by the Fund. Debt
securities that pay a fixed rather than variable interest rate are especially vulnerable to inflation
risk because variable-rate debt securities may be able to participate, over the long term, in rising
interest rates which have historically corresponded with long-term inflationary trends.
Interest
rate The market value of debt securities generally varies in response to changes
in prevailing interest rates. Interest rate changes can be sudden and unpredictable. In addition, short-term
and long-term rates are not necessarily correlated to each other as short-term rates tend to be influenced
by government monetary policy while long-term rates are market driven and may be influenced by macroeconomic
events (such as economic expansion or contraction), inflation expectations, as well as supply and demand.
During periods of declining interest rates, the market value of debt securities generally increases.
Conversely, during periods of rising interest rates, the market value of debt securities generally declines.
This occurs because new debt securities are likely to be issued with higher interest rates as interest
rates increase, making the old or outstanding debt securities less attractive. In general, the market
prices of long-term debt securities or securities that make little (or no) interest payments are more
sensitive to interest rate fluctuations than shorter-term debt securities. The longer the Fund's average
weighted portfolio duration, the greater the potential impact a change in interest rates will have on
its share price. Also, certain segments of the fixed income markets, such as high quality bonds, tend
to be more sensitive to interest rate changes than other segments, such as lower-quality bonds.
Prepayment
Debt securities, especially bonds that are subject to “calls” such as asset-backed or mortgage-backed
securities, are subject to prepayment risk if their terms allow the payment of principal and other amounts
due before their stated maturity. Amounts invested in a debt security that has been “called” or “prepaid”
will be returned to an investor holding that security before expected by the investor. In such circumstances,
the investor, such as a fund, may be required to re-invest the proceeds it receives from the called or
prepaid security in a new security which, in periods of declining interest rates, will typically have
a lower interest rate. Prepayment risk is especially prevalent in periods of declining
25
interest rates and will result for other reasons, including unexpected developments
in the markets for the underlying assets or mortgages. For example, a decline in mortgage interest rates
typically initiates a period of mortgage refinancings. When homeowners refinance their mortgages, the
investor in the underlying pool of mortgage-backed securities (such as a fund) receives its principal
back sooner than expected, and must reinvest at lower, prevailing rates.
Securities
subject to prepayment risk are often called during a declining interest rate environment and generally
offer less potential for gains and greater price volatility than other income-bearing securities of comparable
maturity.
Call risk is similar to prepayment risk and results from the
ability of an issuer to call, or prepay, a debt security early. If interest rates decline enough, the
debt security's issuer can save money by repaying its callable debt securities and issuing new debt securities
at lower interest rates.
The following is a description of other risks associated with the Fund's investments:
Focus
The greater the Fund's exposure to (or focus on) any single type of investment – including investment
in a given industry, sector, country, region, or type of security – the greater the impact of adverse
events or conditions in such industry, sector, country, region or investment will have on the Fund's
performance. To the extent the Fund has greater exposure to any single type of investment, the Fund's
potential for loss (or gain) will be greater than if its portfolio were invested more broadly in many
types of investments.
The Fund's exposure to such industries, sectors,
regions and other investments may also arise indirectly through the Fund's investments in debt securities
(e.g., mortgage or asset-backed securities) that are secured by such investments. Similar risks associated
with focusing on a particular type of investment may result if real properties and collateral securing
the Fund's investments are located in the same geographical region or subject to the same risks or concerns.
Inside
information The investment manager (through its representatives or otherwise) may receive
information that restricts the investment manager's ability to cause the Fund to buy or sell securities
of an issuer for substantial periods of time when the Fund otherwise could realize profit or avoid loss.
This may adversely affect the Fund's flexibility with respect to buying or selling securities and may
impair the Fund's liquidity.
Liquidity Liquidity risk exists when particular
investments are or become difficult to purchase or sell at the price at which the Fund has valued the
security, whether because of current market conditions, the financial condition of the issuer, or the
specific type of investment. If the market for a particular security becomes illiquid (for example, due
to changes in the issuer's financial condition), the Fund may be unable to sell such security at an advantageous
time or price due to the difficulty in selling such securities. To the extent that the Fund and its affiliates
hold a significant portion of an issuer's outstanding securities, the Fund may also be subject to greater
liquidity risk than if the issuer's securities were more widely held. The Fund may also need to sell
some of the Fund's more liquid securities when it otherwise would not do so in order to meet redemption
requests, even if such sale of the liquid holdings would be disadvantageous from an investment standpoint.
Reduced liquidity may also have an adverse impact on a security's market value and the sale of such securities
often results in higher brokerage charges or dealer discounts and other selling expenses. Reduced liquidity
in the secondary market for certain securities will also make it more difficult for the Fund to obtain
market quotations based on actual trades for purposes of valuing the Fund's portfolio and thus pricing
may be prone to error when market quotations are volatile, infrequent and/or subject to large spreads
between bid and ask prices. In addition, prices received by the Fund for securities may be based on institutional
“round lot” sizes, but the Fund may purchase, hold or sell smaller, “odd lot” sizes, which may
be harder to sell. Odd lots may trade at lower prices than round lots, which may affect the Fund’s
ability to accurately value its investments.
The market for certain
equity or debt securities may become illiquid under adverse market or economic conditions independent
of any specific adverse changes in the conditions of a particular issuer. Liquidity risk generally increases
(meaning that securities become more illiquid) as the number, or relative need, of investors seeking
to liquidate in a given market increases; for example, when an asset class or classes fall out of favor
and investors sell their holdings in such classes, either directly or indirectly through investment funds,
such as mutual funds and ETFs.
Management The Fund is an actively managed ETF.
The investment manager's judgments about markets, interest rates or the attractiveness, relative values
or potential appreciation of particular investment strategies or sectors or securities purchased for
the Fund's portfolio may prove to be incorrect, all of which could cause the Fund to perform less favorably
and may result in a decline in the Fund's NAV and trading price.
The
investment manager selects investments for the Fund based on its own analysis and information as well
as on external sources of information, such as information that the investment manager obtains from other
sources including through conferences and discussions with third parties, and data that issuers of securities
provide to the investment manager or file with government agencies. The investment manager may also use
information concerning institutional positions and buying activity in a security.
26
The investment manager is not in a position to confirm the completeness, genuineness
or accuracy of any of such information that is provided or filed by an issuer, and in some cases, complete
and accurate information is not readily available. It is also possible that information on which the
investment manager relies could be wrong or misleading. Additionally, legislative, regulatory, or tax
developments may affect the investment techniques available to the investment manager in connection with
managing the Fund and may also adversely affect the ability of the Fund to achieve its investment goal.
Management risk is greater when less qualitative information is available to the investment manager about
an investment.
Market The market value of securities owned by the Fund may go
up or down, sometimes rapidly or unpredictably due to general market conditions which are not specifically
related to a single corporate borrower or security issuer. These general market conditions include real
or perceived adverse economic or regulatory conditions, changes in the general outlook for corporate
earnings, changes in interest or currency exchange rates or adverse investor sentiment generally. Market
values may also decline due to factors which affect a particular industry or sector, such as labor shortages
or increased production costs and competitive conditions within an industry, or a particular segment,
such as mortgage or government securities. During a general downturn in the securities markets, multiple
asset classes may decline in value simultaneously. When markets perform well, there can be no assurance
that the Fund's securities will participate in or otherwise benefit from the advance.
Secondary listings
risk The Fund’s shares may be listed or traded on U.S. and non-U.S. stock exchanges
other than the U.S. stock exchange where the Fund’s primary listing is maintained. There can be no
assurance that the Fund’s shares will continue to trade on any such stock exchange or in any market
or that the Fund’s shares will continue to meet the requirements for listing or trading on any exchange
or in any market. The Fund’s shares may be less actively traded in certain markets than others, and
investors are subject to the execution and settlement risks and market standards of the market where
they or their broker direct their trades for execution. Certain information available to investors who
trade Fund shares on a U.S. stock exchange during regular U.S. market hours may not be available to investors
who trade in other markets, which may result in secondary market prices in such markets being less efficient.
Portfolio
turnover Portfolio turnover is a measure of how frequently the Fund's portfolio securities
are bought and sold. High portfolio turnover rates generally increase transaction costs, which are Fund
expenses. Such portfolio transactions may also result in the realization of taxable capital gains, including
short-term capital gains, which are generally taxable at ordinary income tax rates for federal income
tax purposes for shareholders subject to income tax and who hold their shares in a taxable account. Higher
transaction costs reduce the Fund's returns.
The SEC requires annual
portfolio turnover to be calculated generally as the lesser of the Fund's purchases or sales of portfolio
securities during a given fiscal year, divided by the monthly average value of the Fund's portfolio securities
owned during that year (excluding securities with a maturity or expiration date that, at the time of
acquisition, was less than one year). For example, a fund reporting a 100% portfolio turnover rate would
have purchased and sold securities worth as much as the monthly average value of its portfolio securities
during the year.
The Fund's portfolio turnover rates are disclosed in the sections
entitled “Portfolio Turnover” and “Financial Highlights” of the Fund's prospectus.
Portfolio turnover is affected by factors within and outside the control of the
Fund and its investment manager. The investment manager's investment outlook for the type of securities
in which the Fund invests may change as a result of unexpected developments in domestic or international
securities markets, or in economic, monetary or political relationships. High market volatility may result
in the investment manager using a more active trading strategy than it might have otherwise pursued.
The Fund's investment manager will consider the economic effects of portfolio turnover but generally
will not treat portfolio turnover as a limiting factor in making investment decisions. Investment decisions
affecting turnover may include changes in investment policies or management personnel, as well as individual
portfolio transactions.
Factors wholly outside the control of the investment manager
that may increase portfolio turnover include increased merger and acquisition activity, increased refinancing
of outstanding debt by an issuer, or increased rates of bankruptcy or default, that may create involuntary
transactions for funds that hold affected securities.
During periods of rapidly
declining interest rates, the rate of prepayments on portfolio investments may increase rapidly. When
this happens, "sales" of portfolio securities are increased due to the return of principal to the Fund
followed by purchases of new portfolio securities to replace the "sold" ones.
The
rate of bond calls by issuers of fixed-income debt securities may increase as interest rates decline.
This causes "sales" of called bonds by the Fund and the subsequent purchase of replacement investments.
In addition, creations or redemptions by Authorized Participants (as defined below)
may require the liquidation or acquisition of portfolio securities. Changes in particular portfolio holdings
may also be made whenever a security is considered to be no longer the most appropriate investment
27
for the Fund, or another security appears to have a relatively better opportunity.
Policies and Procedures Regarding the Release of Portfolio Holdings
On each business day of the Fund, before the opening of regular trading on the
Fund’s primary listing exchange, the Fund will disclose on its website (https://www.franklintempleton.com/investments/options/exchange-traded-funds)
certain information relating to the portfolio holdings that will form the basis for the Fund’s next
calculation of NAV per share. Consistent with current law, the Fund also releases complete portfolio
holdings information each fiscal quarter through regulatory filings with no more than a 60-day lag.
Each business day, the Fund’s portfolio holdings information will be provided
to Franklin Distributors, LLC (Distributors), an affiliate of the Fund's investment manager and sub-advisor
(as applicable), or other agents for dissemination through the facilities of the National Securities
Clearing Corporation (NSCC) and/or other fee-based subscription services to NSCC members and/or subscribers
to those other fee-based subscription services, including large institutional investors (known as “Authorized
Participants”) that have been authorized by Distributors to purchase and redeem large blocks of shares
pursuant to legal requirements, and to entities that publish and/or analyze such information in connection
with the process of purchasing or redeeming Creation Units or trading shares of the Fund in the secondary
market.
Portfolio holdings information made available in connection
with the creation/redemption process may be provided to other entities that provide services to the Fund
in the ordinary course of business after it has been disseminated to the NSCC. From time to time, information
concerning portfolio holdings other than portfolio holdings information made available in connection
with the creation/redemption process, as discussed above, may be provided to other entities that provide
services to the Fund in the ordinary course of business. The eligible third parties to whom portfolio
holdings information may be released in advance of general release fall into the following categories:
data consolidators (including rating agencies), fund rating/ranking services and other data providers
and service providers to the Fund, including Authorized Participants and pricing services.
Continuous
Offering
The method by which Creation Units are created and traded
may raise certain issues under applicable securities laws. Because new Creation Units are issued and
sold by the Fund on an ongoing basis, at any point a “distribution,” as such term is used in the
1933 Act, may occur. Broker-dealers and other persons are cautioned that some activities on their part
may, depending on the circumstances, result in their being deemed participants in a distribution in a
manner that could render them statutory underwriters and subject them to the prospectus delivery requirement
and liability provisions of the 1933 Act.
For example, a broker-dealer firm or its
client may be deemed a statutory underwriter if it takes Creation Units after placing an order with Distributors,
breaks them down into constituent shares and sells such shares directly to customers or if it chooses
to couple the creation of new shares with an active selling effort involving solicitation of secondary
market demand for shares. A determination of whether one is an underwriter for purposes of the 1933 Act
must take into account all the facts and circumstances pertaining to the activities of the broker-dealer
or its client in the particular case and the examples mentioned above should not be considered a complete
description of all the activities that could lead to a categorization as an underwriter.
Broker-dealer
firms should also note that dealers who are not “underwriters” but are effecting transactions in
shares, whether or not participating in the distribution of shares, generally are required to deliver
a prospectus. This is because the prospectus delivery exemption in Section 4(3) of the 1933 Act is not
available in respect of such transactions as a result of Section 24(d) of the 1940 Act. Firms that incur
a prospectus delivery obligation with respect to shares of the Fund are reminded that, pursuant to Rule
153 under the 1933 Act, a prospectus delivery obligation under Section 5(b)(2) of the 1933 Act owed to
an exchange member in connection with a sale on the Listing Exchange is satisfied by the fact that the
prospectus is available at the Listing Exchange upon request. The prospectus delivery mechanism provided
in Rule 153 is available only with respect to transactions on an exchange.
The Trust has a board of trustees. Each trustee
will serve until that person resigns or retires and/or a successor is elected and qualified. The board
is responsible for the overall management of the Trust, including general supervision and review of the
Fund's investment activities. The board, in turn, appoints the officers of the Trust who are responsible
for administering the Trust‘s day-to-day operations. While none are expected, the board will act appropriately
to resolve any material conflict that may arise.
28
The name, year of birth and address of the officers and board members, as well
as their affiliations, positions held with the Trust, principal occupations during at least the past
five years, number of portfolios overseen in the Franklin Templeton fund complex and other directorships
held during at least the past five years are shown below.
Independent Board Members
| | | | |
Name,
Year of Birth and Address | Position | Length of Time Served | Number
of Portfolios in Fund Complex Overseen by Board Member1 | Other Directorships Held During at Least the Past 5 Years |
Rohit
Bhagat (1964) One Franklin Parkway San Mateo, CA 94403-1906 | Lead
Independent Trustee | Since 2017 | 60 | AssetMark Financial
Holdings, Inc. (investment solutions) (2018-present) and PhonePe (payment and financial services) (2020-present); Meesho
(eCommerce) (2023-present); and formerly, Axis Bank (banking
and financial services) (2013-2021), FlipKart Limited (2019-2020) (eCommerce company); CapFloat Financial
Services Pvt., Ltd. (non-banking finance company) (2018); Zentific Investment Management (hedge fund)
(2015-2018) and FinTech Evolution Acquisition (eCommerce company) (2021-2023). |
Principal
Occupation During at Least the Past 5 Years:
Managing Member, Mukt Capital, LLC (private
investment firm) (2014-present); and formerly, Chief Executive Officer and Director,
FinTech Evolution Acquisition (eCommerce company) (2021-2023); Chairman, Asia Pacific, BlackRock (investment
management) (2009-2012); Global Chief Operating Officer, Barclays Global Investors (investment management)
(2005-2009); and Senior Partner, The Boston Consulting Group (management consulting) (1992-2005).
|
Deborah D. McWhinney (1955) One
Franklin Parkway San Mateo, CA 94403-1906 | Trustee | Since 2020 | 60 | IHS Markit (information
services) (2015-present), Borg Warner (automotive) (2018-present), LegalShield (consumer services) (2020-present);
and formerly, Fluor Corporation (construction and engineering) (2014-2020)
and Focus Financial Partners, LLC (financial services) (2018-2020). |
Principal
Occupation During at Least the Past 5 Years:
Director of various companies; and formerly,
Board Member, Lloyds Banking Group (2015-2018) (financial institution) and Fresenius Medical Group (2016-2018)
(healthcare); Chief Executive Officer (2013-2014) and Chief Operating Officer (2011-2013), CitiGroup
Global Enterprise Payments (financial services); and President, Citi’s Personal Banking and Wealth
Management (2009-2011).
|
Anantha
K. Pradeep (1963) One Franklin Parkway San Mateo, CA 94403-1906 | Trustee | Since
2017 | 60 | None |
Principal Occupation During at Least the
Past 5 Years:
Chief Executive Officer, Smilable, Inc. (technology company) (2014-present); Chief
Executive Officer, MachineVantage (technology company) (2018-present); Founder and Managing Partner,
Consult Meridian, LLC (consulting company) (2009-present); and formerly, Founder, BoardVantage
(board portal solutions provider delivering paperless process for boards and leadership) (2000-2002).
|
Interested Board Members and Officers
| | | | |
Name, Year of Birth and Address | Position | Length of Time Served | Number of Portfolios in Fund Complex Overseen
by Board Member1 | Other Directorships
Held During at Least the Past 5 Years |
Jennifer
M. Johnson2 (1964) One Franklin Parkway San Mateo, CA 94403-1906 | Trustee
and Chairperson of the Board | Since 2017 | 70 | None |
Principal Occupation
During at Least the Past 5 Years:
Chief Executive Officer, President and Director, Franklin
Resources, Inc.; officer and/or director or trustee, as the case may be, of some of the other subsidiaries
of Franklin Resources, Inc. and of certain funds in the Franklin Templeton fund complex; and formerly,
Chief Operating Officer and Executive Vice President, Franklin Resources, Inc. (1994-2015); Executive
Vice President of Operations and Technology, Franklin Resources, Inc. (2005-2010); and Senior Vice President,
Franklin Resources, Inc. (2003-2005).
|
29
| | | | |
Name, Year of Birth and Address | Position | Length of Time Served | Number of Portfolios in Fund Complex Overseen
by Board Member1 | Other Directorships
Held During at Least the Past 5 Years |
Harris Goldblat (1969) 100 First Stamford Place 6th
Floor Stamford, CT 06902 | Vice President and Secretary | Since
2023 | Not Applicable | Not Applicable |
Principal Occupation
During at Least the Past 5 Years:
Associate General Counsel, Franklin Templeton; officer of
certain funds in the Franklin Templeton fund complex; formerly, Managing Director
and Associate General Counsel for Legg Mason & Co. |
Fred Jensen (1963) 280 Park Avenue New
York, NY 10017 | Chief Compliance
Officer | Since 2021 | Not Applicable | Not
Applicable |
Principal Occupation During at Least the Past 5 Years:
Director - Global
Compliance of Franklin Templeton; Managing Director of Legg Mason & Co.; Director of Compliance,
Legg Mason Office of the Chief Compliance Officer; Chief Compliance Officer, Franklin Advisory Services,
LLC; Compliance Officer, Franklin Advisers, Inc.; officer of certain funds in the Franklin Templeton
fund complex; formerly, Chief Compliance Officer of Legg Mason Global Asset Allocation; Chief Compliance
Officer, Legg Mason Private Portfolio; Chief Compliance Officer to The Reserves Funds (investment adviser,
funds and broker-dealer) and Ambac Financial Group (investment adviser, funds and broker-dealer).
|
Susan Kerr (1949) 280 Park Avenue New York, NY 10017 | Vice
President - AML Compliance | Since 2021 | Not Applicable | Not Applicable |
Principal Occupation
During at Least the Past 5 Years:
Senior Compliance Analyst, Franklin Templeton; Chief Anti-Money
Laundering Compliance Officer, Legg Mason & Co., or its affiliates; Anti Money Laundering Compliance
Officer; Senior Compliance Officer, Franklin Distributors, LLC; and officer of certain funds in the Franklin
Templeton fund complex.
|
Christopher
Kings (1974) One Franklin Parkway San Mateo, CA 94403-1906 | Chief Executive Officer - Finance and
Administration | Since January 2024 | Not Applicable | Not Applicable |
Principal Occupation
During at Least the Past 5 Years:
Senior Vice President, Franklin Templeton Services, LLC; and
officer of certain funds in the Franklin Templeton fund complex.
|
David Mann (1973) One Franklin Parkway San
Mateo, CA 94403-1906 | Vice President | Since 2023 | Not
Applicable | Not Applicable |
Principal
Occupation During at Least the Past 5 Years:
Head of Global ETF Product and Capital
Markets, Franklin Templeton; and officer of certain funds in the Franklin Templeton fund complex.
|
Todd Mathias (1983) One Franklin Parkway San Mateo, CA 94403-1906 | Vice
President | Since 2023 | Not Applicable | Not Applicable |
Principal Occupation
During at Least the Past 5 Years:
Head of US ETF Product Strategy, Franklin Templeton; and officer
of certain funds in the Franklin Templeton fund complex.
|
Patrick O’Connor (1967) One Franklin Parkway San Mateo, CA 94403-1906 | President
and Chief Executive Officer - Investment Management | Since
2017 | Not Applicable | Not Applicable |
Principal Occupation
During at Least the Past 5 Years:
President and Chief Investment Officer, Franklin Advisory
Services, LLC; Senior Vice President, Franklin Advisers, Inc.; and officer of certain funds in the Franklin
Templeton fund complex.
|
Vivek
Pai (1970) 300 S.E. 2nd Street Fort Lauderdale, FL 33301-1923 | Treasurer, Chief Financial Officer and Chief Accounting Officer | Since 2019 | Not
Applicable | Not Applicable |
Principal
Occupation During at Least the Past 5 Years:
Treasurer, U.S. Fund Administration &
Reporting and officer of certain funds in the Franklin Templeton fund complex.
|
Note 1: Officer information is current as of the date of this SAI. It is possible
that after this date, information about officers may change.
1. Information is for
the calendar year ended December 31, 2023, unless otherwise noted. We base the number of portfolios on
each separate series of the U.S. registered investment companies within the Franklin Templeton fund complex.
These portfolios have a common investment manager or affiliated investment managers.
2.
Jennifer M. Johnson is considered to be an interested person of the Fund under the federal securities
laws due to her position as an officer and director of Franklin Resources, Inc., which is the parent
company of the Fund's investment manager and distributor.
30
The Trust's independent board members constitute the sole independent board members
of five investment companies in the Franklin Templeton complex. Effective May 1, 2023, each independent
board member is paid a $130,000 annual retainer fee, together with a $15,000 per meeting fee for attendance
at each regularly scheduled board meeting, a portion of which fees are allocated to the Trust. To the
extent held, compensation may also be paid for attendance at specially held board meetings. The Trust's
lead independent board member is paid an annual supplemental retainer of $15,000 for services to such
investment companies, a portion of which is allocated to the Trust. Board members who serve on the Audit
Committee of the Trust and such other funds are paid a $3,000 fee per Committee meeting in which they
participate, a portion of which is allocated to the Trust. Rohit Bhagat, who serves as chairman of the
Audit Committee of the Trust and such other funds, receives a fee of $20,000 per year, a portion of which
is allocated to the Trust. Board members who serve on the Nominating and Governance Committee of the
Trust and such other funds are paid a $3,000 fee per Committee meeting in which they participate, a portion
of which is allocated to the Trust. Anantha K. Pradeep, who serves as chairman of the Nominating and
Governance Committee of the Trust and such other funds, receives a fee of $10,000 per year, a portion
of which is allocated to the Trust. Prior to May 1, 2023, each independent board member was paid a $110,000
annual retainer fee, together with a $7,000 per meeting fee ($3,500 per meeting held via telephone) for
attendance at each regularly scheduled board meeting, a portion of which fees were allocated to the Trust.
To the extent held, compensation may also have been paid for attendance at specially held board meetings.
The Trust’s lead independent board member was paid an annual supplemental retainer of $15,000 for services
to such investment companies, a portion of which was allocated to the Trust. Board members who serve
on the Audit Committee of the Trust and such other funds were paid a $3,000 fee per Committee meeting
in which they participated, a portion of which was allocated to the Trust. Rohit Bhagat, who serves as
chairman of the Audit Committee of the Trust and such other funds, received a fee of $10,000 per year,
a portion of which was allocated to the Trust. Board members who serve on the Nominating and Governance
Committee of the Trust and such other funds were paid a $3,000 fee per Committee meeting in which they
participated, a portion of which was allocated to the Trust. Anantha K. Pradeep, who serves as chairman
of the Nominating and Governance Committee of the Trust and such other funds, received a fee of $10,000
per year, a portion of which was allocated to the Trust.
The following table provides
the total fees paid to independent board members by the Trust and by other funds in Franklin Templeton.
| | | | | | | | | | |
Name | | Total
Fees Received from the Trust
($)1 | | | Total
Fees Received from Franklin
Templeton ($)2 | | | Number
of Boards in Franklin Templeton
on which Each Serves3 | |
Rohit Bhagat | | 3,847 | | | 222,167 | | | 5 | |
Deborah D. McWhinney | | 3,281 | | | 191,333 | | | 5 | |
Anantha K. Pradeep | | 3,426 | | | 201,333 | | | 5 | |
| | | | | | | | | | |
1. | For the fiscal year ended March 31, 2024. | |
2. | For the calendar year ended December 31, 2023. | |
3. | We base the number of boards on the number of U.S. registered investment companies
in Franklin Templeton. This number does not include the total number of series or portfolios within each
investment company for which the board members are responsible. | |
Independent
board members are reimbursed for expenses incurred in connection with attending board meetings and such
expenses are paid pro rata by each fund in Franklin Templeton for which they serve as director or trustee.
No officer or board member received any other compensation, including pension or retirement benefits,
directly or indirectly from the Trust or other funds in Franklin Templeton. Certain officers or board
members who are shareholders of Franklin Resources, Inc. (Resources) may be deemed to receive indirect
remuneration by virtue of their participation, if any, in the fees paid to its subsidiaries.
The following tables provide the dollar range of equity securities beneficially
owned by the board members of the Trust on December 31, 2023.
Independent
Board Members
| | |
Name of Board Member | Dollar
Range of Equity Securities in the Fund | Aggregate Dollar Range
of Equity Securities in All Funds Overseen by the Board Member in the Franklin Templeton Fund Complex |
Rohit
Bhagat | None | None |
Deborah
D. McWhinney | None | None |
Anantha
K. Pradeep | None | None |
Interested Board Members
| | |
Name of Board Member | Dollar
Range of Equity Securities in the Fund | Aggregate Dollar Range of Equity Securities in All Funds Overseen
by the Board Member in the Franklin Templeton Fund Complex |
Jennifer M. Johnson | None | Over
$100,000 |
Board committees The board maintains two standing committees:
the Audit Committee and the Nominating and Governance Committee. The Audit Committee is generally responsible
for recommending the selection of the Fund’s independent registered public accounting firm (auditors),
including evaluating their independence and meeting with such auditors to consider and review matters
relating to the Fund’s financial reports and internal controls. The Audit Committee is comprised of
the following independent trustees of the Fund: Rohit Bhagat (Chair), Deborah D. McWhinney
31
and Anantha Pradeep. The Nominating and Governance Committee is comprised of the
following independent trustees of the Fund: Rohit Bhagat, Deborah D. McWhinney and Anantha Pradeep (Chair).
The Nominating and Governance Committee is responsible for selecting candidates
to serve as board members and recommending such candidates (a) for selection and nomination as independent
board members by the incumbent independent board members and the full board; and (b) for selection and
nomination as interested board members by the full board. The Nominating and Governance Committee also
oversees Board governance and related Trustee practices, including, among other things, reviewing and
making recommendations concerning Board structure and operations and overseeing the annual Board self-assessment.
When the board has or expects to have a vacancy, the Nominating and Governance
Committee receives and reviews information on individuals qualified to be recommended to the full board
as nominees for election as board members, including any recommendations by “Qualifying Fund Shareholders”
(as defined below). To date, the Nominating and Governance Committee has been able to identify, and expects
to continue to be able to identify, from its own resources an ample number of qualified candidates. The
Nominating and Governance Committee, however, will review recommendations from Qualifying Fund Shareholders
to fill vacancies on the board if these recommendations are submitted in writing and addressed to the
Nominating and Governance Committee at the Trust's offices at One Franklin Parkway, San Mateo, CA 94403-1906
and are presented with appropriate background material concerning the candidate that demonstrates his
or her ability to serve as a board member, including as an independent board member, of the Trust. A
Qualifying Fund Shareholder is a shareholder who (i) has continuously owned of record, or beneficially
through a financial intermediary, shares of the Fund having a net asset value of not less than two hundred
and fifty thousand dollars ($250,000) during the 24-month period prior to submitting the recommendation;
and (ii) provides a written notice to the Nominating and Governance Committee containing the following
information: (a) the name and address of the Qualifying Fund Shareholder making the recommendation; (b)
the number of shares of the Fund which are owned of record and beneficially by such Qualifying Fund Shareholder
and the length of time that such shares have been so owned by the Qualifying Fund Shareholder; (c) a
description of all arrangements and understandings between such Qualifying Fund Shareholder and any other
person or persons (naming such person or persons) pursuant to which the recommendation is being made;
(d) the name, age, date of birth, business address and residence address of the person or persons being
recommended; (e) such other information regarding each person recommended by such Qualifying Fund Shareholder
as would be required to be included in a proxy statement filed pursuant to the proxy rules of the SEC
had the nominee been nominated by the board; (f) whether the shareholder making the recommendation believes
the person recommended would or would not be an “interested person” of the Trust, as defined in the
1940 Act; and (g) the written consent of each person recommended to serve as a board member of the Trust
if so nominated and elected/appointed.
The Nominating and Governance Committee may
amend these procedures from time to time, including the procedures relating to the evaluation of nominees
and the process for submitting recommendations to the Nominating and Governance Committee.
During the fiscal year ended March 31, 2024, the Audit Committee met twice; the
Nominating and Governance Committee met three times.
Board role in risk oversight
The board, as a whole, considers risk management issues as part of its general oversight responsibilities
throughout the year at regular board meetings, through regular reports that have been developed by management,
in consultation with the board and its counsel. These reports address certain investment, valuation,
liquidity and compliance matters. The board also may receive special written reports or presentations
on a variety of risk issues, either upon the board’s request or upon the investment manager’s initiative.
In addition, the Audit Committee of the board meets regularly with the investment manager's internal
audit group to review reports on their examinations of functions and processes within Franklin Templeton
that affect the Fund.
With respect to investment risk, the board
receives regular written reports describing and analyzing the investment performance of the Fund. In
addition, the portfolio managers of the Fund meet regularly with the board to discuss portfolio performance,
including investment risk. To the extent that the Fund changes a particular investment strategy that
could have a material impact on the Fund’s risk profile, the board generally is consulted with respect
to such change. To the extent that the Fund invests in certain complex securities, including derivatives,
the board receives periodic reports containing information about exposure of the Fund to such instruments.
In addition, the investment manager's investment risk personnel meet regularly with the board to discuss
a variety of issues, including the impact on the Fund of the investment in particular securities or instruments,
such as derivatives and commodities.
With respect to valuation, the Fund’s investment
manager provides periodic reports to the board that enable the board to oversee the Fund's investment
manager, as the board's Valuation Designee, in monitoring and assessing material risks associated with
fair valuation determinations, including material conflicts of interest. In addition, the board reviews
the
32
investment manager's performance of an annual valuation risk assessment under
which the investment manager seeks to identify and enumerate material valuation risks which are or may
be impactful to the Fund including, but not limited to (1) the types of investments held (or intended
to be held) by the Fund, giving consideration to those investments’ characteristics; (2) potential
market or sector shocks or dislocations which may affect the ongoing valuation operations; and (3) the
extent to which each fair value methodology uses unobservable inputs. The investment manager reports
any material changes to the risk assessment, along with appropriate actions designed to manage such risks,
to the Board.
With respect to liquidity risk, the board receives liquidity
risk management reports under the Fund’s Liquidity Risk Management (LRM) Program and reviews, no less
frequently than annually, a written report prepared by the LRM Program Administrator that addresses,
among other items, the operation of the LRM Program and assesses its adequacy and effectiveness of implementation
as well as any material changes to the LRM Program.
With respect to compliance
risks, the board receives regular compliance reports prepared by the investment manager’s compliance
group and meets regularly with the Fund’s Chief Compliance Officer (CCO) to discuss compliance issues,
including compliance risks. In accordance with SEC rules, the independent board members meet regularly
in executive session with the CCO, and the Fund’s CCO prepares and presents an annual written compliance
report to the board. The Fund’s board adopts compliance policies and procedures for the Fund and approves
such procedures for the Fund’s service providers. The compliance policies and procedures are specifically
designed to detect and prevent violations of the federal securities laws.
The
investment manager periodically provides an enterprise risk management presentation to the board to describe
the way in which risk is managed on a complex-wide level. Such presentation covers such areas as investment
risk, reputational risk, personnel risk, and business continuity risk.
Board structure
A super-majority of board members consist of independent board members who are not deemed to be “interested
persons” as provided under the 1940 Act. While the Chairperson of the Board is an interested person,
the board is also served by a lead independent board member. The lead independent board member, together
with independent counsel, reviews proposed agendas for board meetings and generally acts as a liaison
with management with respect to questions and issues raised by the independent board members. The lead
independent board member also presides at separate meetings of independent board members held in advance
of each scheduled board meeting where various matters, including those being considered at such board
meeting are discussed. It is believed such structure and activities assure that proper consideration
is given at board meetings to matters deemed important to the Fund and its shareholders.
Trustee
qualifications Information on the Fund’s officers and board members appears above including
information on the business activities of board members during the past five years and beyond. In addition
to personal qualities, such as integrity, the role of an effective Fund board member inherently requires
the ability to comprehend, discuss and critically analyze materials and issues presented in exercising
judgments and reaching informed conclusions relevant to his or her duties and fiduciary obligations.
The board believes that the specific background of each board member evidences such ability and is appropriate
to his or her serving on the Fund’s board. As indicated, Rohit Bhagat has extensive experience in the
asset management and financial services industries, Deborah D. McWhinney has extensive management, risk
and cyber security experience, Dr. Pradeep has served as chief executive officer of consulting and technology
companies and Jennifer M. Johnson is a high ranking executive officer of Franklin Templeton.
The Fund’s board of
trustees has designated the investment manager as the board’s Valuation Designee to perform fair value
determinations for the Fund and to assess any material risks associated with such determinations, including
material conflicts of interest, if any. The Valuation Designee also performs an annual valuation risk
assessment to identify and enumerate material valuation risks which are or may be impactful to the Fund.
The Fund’s investment manager and its affiliates have formed a Valuation Committee (VC) to assist these
obligations. The VC oversees and administers the policies and procedures governing fair valuation determination
of securities. The VC meets monthly to review and approve fair value reports and conduct other business,
and meets whenever necessary to review potential significant market events and take appropriate steps
to adjust valuations in accordance with established policies. The VC also reviews the investment manager’s
annual valuation risk assessment and provides periodic reports to the board of trustees regarding pricing
determinations.
The Fund's policies and procedures governing fair valuation
determination of securities have been initially reviewed and approved by the board of trustees and any
material amendments will also be reviewed and approved by the board. The investment manager's compliance
staff, or another group within Franklin Templeton, conducts periodic reviews of compliance with the policies
and provides at least annually a report to the board of trustees regarding the operation of the policies
and any material changes recommended as a result of such review.
33
Proxy Voting Policies and Procedures The board of trustees of the Fund has delegated the authority to vote proxies
related to the portfolio securities held by the Fund to the Fund's investment manager, Franklin Advisers,
Inc., in accordance with the Proxy Voting Policies and Procedures (Policies) adopted by the investment
manager. The Policies are included in Appendix A. Shareholders may also view the complete Policies online
at www.franklintempleton.com. Copies of the Fund’s proxy voting records are available online at www.franklintempleton.com
(search proxy voting records) and posted on the SEC website at www.sec.gov. The proxy voting records
are updated each year by August 31 to reflect the most recent 12-month period ended June 30.
Management and Other Services Investment manager and services provided
The Fund's investment manager is Franklin Advisers, Inc. (Advisers), One Franklin Parkway, San Mateo,
CA 94403-1906. The investment manager is a wholly owned subsidiary of Resources, a publicly owned company
engaged in the financial services industry through its subsidiaries. Charles B. Johnson (former Chairman
and Director of Resources) and Rupert H. Johnson, Jr. are the principal shareholders of Resources.
The investment manager provides investment research and portfolio management services,
and selects the securities for the Fund to buy, hold or sell. The investment manager also selects the
brokers who execute the Fund's portfolio transactions. The investment manager provides periodic reports
to the board, which reviews and supervises the investment manager's investment activities. To protect
the Fund, the investment manager and their officers, directors and employees are covered by fidelity
insurance.
The investment manager makes decisions for the Fund in accordance
with its obligations as investment adviser to the Fund. From time to time, certain affiliates may request
that the investment manager focus the Fund’s investments on certain securities, strategies or markets
or shift the Fund’s strategy slightly to enhance its attractiveness to specific investors, which may
create a conflict of interest. The investment manager may, but is not required to, focus or shift the
Fund’s investments in the manner requested provided that the investment manager believes that such
investments are consistent with the Fund’s stated investment goals and strategies and are in the best
interests of the Fund and its shareholders. In addition, the investment manager and its affiliates manage
numerous other investment companies and accounts. The investment manager may give advice and take action
with respect to any of the other funds it manages, or for its own account, that may differ from action
taken by the investment manager on behalf of the Fund. Similarly, with respect to the Fund, the investment
manager is not obligated to recommend, buy or sell, or to refrain from recommending, buying or selling
any security that the investment manager and access persons, as defined by applicable federal securities
laws, may buy or sell for its or their own account or for the accounts of any other fund. The investment
manager is not obligated to refrain from investing in securities held by the Fund or other funds it manages.
The Fund, its investment manager and principal underwriter have each adopted a
code of ethics, as required by federal securities laws. Under the code of ethics, employees who are designated
as access persons may engage in personal securities transactions, including transactions involving securities
that are being considered for the Fund or that are currently held by the Fund, subject to certain general
restrictions and procedures. The personal securities transactions of access persons of the Fund, its
investment manager and principal underwriter will be governed by the code of ethics. The code of ethics
is on file with, and available from, the SEC.
Management fees The Fund pays
Advisers a unified management fee for managing the Fund’s assets. Pursuant to the investment management
agreement with the Trust on behalf of the Fund effective October 1, 2021, Advisers reimburses the Fund
for all acquired fund fees and expenses (such as those associated with the Fund's investment in a Franklin
Templeton money fund) and pays all of the ordinary operating expenses of the Fund, except for (i) the
Fund’s management fee, (ii) payments under the Fund’s Rule 12b-1 plan (if any), (iii) brokerage expenses
(including any costs incidental to transactions in portfolio securities or instruments), (iv) taxes,
(v) interest (including borrowing costs and dividend expenses on securities sold short and overdraft
charges), (vi) litigation expenses (including litigation to which the Trust or the Fund may be a party
and indemnification of the Trustees and officers with respect thereto), and (vii) other non-routine or
extraordinary expenses. The fee is equal to the annual rate of 0.25% of the average daily net assets
of the Fund.
Prior to October 1, 2021, the Fund paid the investment manager
a management fee equal to an annual rate of 0.30% of the average daily net assets of the Fund. Prior
to October 1, 2021, the investment manager had agreed to waive or limit its fees and to assume as its
own certain expenses otherwise payable by the Fund so that expenses (other than certain excluded items)
did not exceed the amount of the management fee level in effect at that time.
34
For the last three fiscal years ended March 31, the Fund paid the following management
fees:
| | | | | | | |
| Management Fees Earned ($) | Acquired Fund Fees
and Expenses Reimbursed ($)1 | Management Fee Paid
(After Acquired Fund Fees and Expenses Reimbursed) ($)2 |
2024 | 427,360 | | 13,287 | | 414,073 | |
2023 | 658,893 | | 15,879 | | 643,014 | |
2022 | 1,215,058 | | 230,282 | | 984,776 | |
1.
For periods prior to October 1, 2021, represents amounts waived or reimbursed under an agreement by the
investment manager to waive or limit its fees and to assume certain expenses otherwise payable by the
Fund.
2. For periods prior to October 1, 2021, represents management
fee paid after waivers and reimbursements pursuant to an agreement with the investment manager to waive
or limit its fees and to assume certain expenses otherwise payable by the Fund.
Portfolio managers
The following table identifies the portfolio managers, the number of other accounts
(other than the Fund) for which the portfolio managers have day-to-day management responsibilities and
the total assets in such accounts, within each of the following categories: registered investment companies,
other pooled investment vehicles, and other accounts. For each category, the number of accounts and total
assets in the accounts where fees are based on performance are also indicated, as applicable. Unless
noted otherwise, all information is provided as of March 31, 2024.
| | | | | | | | |
Name | | | Type of Account | Number of Accounts Managed | Total Assets Managed (x $1 million) | Number
of Accounts Managed for which Advisory Fee is Performance- Based | Assets Managed for
which Advisory Fee is Performance-Based (x $1 million) | |
| | | | | | | | | |
Neil Dhruv | | | Registered Investment Companies | 4 3 2 | 3,468.1 906.6 2,872.0 | | None 1 1 | | None 14.2 2,201.6 |
| | | Other Pooled Investment
Vehicles | | |
| | | Other Accounts | | |
| | | | | | | | | |
Patrick Klein | | | Registered Investment Companies | 11 4 3 | 16,012.2 898.1 603.9 | | None None None | | None None None |
| | | Other Pooled Investment
Vehicles | | |
| | | Other Accounts | | |
| | | | | | | | | |
Paul Varunok | | | Registered Investment Companies | 4 4 10 | 3,468.1 950.3 4,511.4 | | None 1 2 | | None 14.2 3,385.9 |
| | | Other Pooled Investment
Vehicles | | |
| | | Other Accounts | | |
Portfolio managers that
provide investment services to the Fund may also provide services to a variety of other investment products,
including other funds, institutional accounts and private accounts. The advisory fees for some of such
other products and accounts may be different than that charged to the Fund and may include performance
based compensation (as noted above, if any). This may result in fees that are higher (or lower) than
the advisory fees paid by the Fund. As a matter of policy, each fund or account is managed solely for
the benefit of the beneficial owners
35
thereof. As discussed below, the separation of the trading execution function
from the portfolio management function and the application of objectively based trade allocation procedures
help to mitigate potential conflicts of interest that may arise as a result of the portfolio managers
managing accounts with different advisory fees.
Conflicts. The management
of multiple funds, including the Fund, and accounts may also give rise to potential conflicts of interest
if the funds and other accounts have different objectives, benchmarks, time horizons, and fees as the
portfolio manager must allocate his or her time and investment ideas across multiple funds and accounts.
The investment manager seeks to manage such competing interests for the time and attention of portfolio
managers by having portfolio managers focus on a particular investment discipline. Most other accounts
managed by a portfolio manager are managed using the same investment strategies that are used in connection
with the management of the Fund. Accordingly, portfolio holdings, position sizes, and industry and sector
exposures tend to be similar across similar portfolios, which may minimize the potential for conflicts
of interest. As noted above, the separate management of the trade execution and valuation functions from
the portfolio management process also helps to reduce potential conflicts of interest. However, securities
selected for funds or accounts other than the Fund may outperform the securities selected for the Fund.
Moreover, if a portfolio manager identifies a limited investment opportunity that may be suitable for
more than one fund or other account, the Fund may not be able to take full advantage of that opportunity
due to an allocation of that opportunity across all eligible funds and other accounts. The investment
manager seeks to manage such potential conflicts by using procedures intended to provide a fair allocation
of buy and sell opportunities among funds and other accounts.
The structure of a portfolio
manager’s compensation may give rise to potential conflicts of interest. A portfolio manager’s base
pay and bonus tend to increase with additional and more complex responsibilities that include increased
assets under management. As such, there may be an indirect relationship between a portfolio manager’s
marketing or sales efforts and his or her bonus.
Finally, the management
of personal accounts by a portfolio manager may give rise to potential conflicts of interest. While the
funds and the investment manager have adopted a code of ethics which they believe contains provisions
designed to prevent a wide range of prohibited activities by portfolio managers and others with respect
to their personal trading activities, there can be no assurance that the code of ethics addresses all
individual conduct that could result in conflicts of interest.
The investment manager
and the Fund have adopted certain compliance procedures that are designed to address these, and other,
types of conflicts. However, there is no guarantee that such procedures will detect each and every situation
where a conflict arises.
Compensation. The investment manager seeks to maintain a compensation
program that is competitively positioned to attract, retain and motivate top-quality investment professionals.
Portfolio managers receive a base salary, a cash incentive bonus opportunity, an equity compensation
opportunity, and a benefits package. Portfolio manager compensation is reviewed annually, and the level
of compensation is based on individual performance, the salary range for a portfolio manager’s level
of responsibility and Franklin Templeton guidelines. Portfolio managers are provided no financial incentive
to favor one fund or account over another. Each portfolio manager’s compensation consists of the following
three elements:
Base salary Each portfolio manager is paid a base
salary.
Annual bonus Annual bonuses are structured to align
the interests of the portfolio manager with those of the Fund’s shareholders. Each portfolio manager
is eligible to receive an annual bonus. Bonuses generally are split between cash (50% to 65%) and restricted
shares of Resources stock (17.5% to 25%) and fund shares (17.5% to 25%). The deferred equity-based compensation
is intended to build a vested interest of the portfolio manager in the financial performance of both
Resources and funds advised by the investment manager. The bonus plan is intended to provide a competitive
level of annual bonus compensation that is tied to the portfolio manager achieving consistently strong
investment performance, which aligns the financial incentives of the portfolio manager and Fund shareholders.
The Chief Investment Officer of the investment manager and/or other officers of the investment manager,
with responsibility for the Fund, have discretion in the granting of annual bonuses to portfolio managers
in accordance with Franklin Templeton guidelines. The following factors are generally used in determining
bonuses under the plan:
• Investment performance. Primary consideration
is given to the historic investment performance over the 1, 3 and 5 preceding years of all accounts managed
by the portfolio manager. The pre-tax performance of each fund managed is measured relative to a relevant
peer group and/or applicable benchmark as appropriate.
• Non-investment performance. The more qualitative
contributions of the portfolio manager to the investment manager’s business and the investment management
team, including professional knowledge, productivity, responsiveness to client needs and communication,
are evaluated in determining the amount of any bonus award.
36
• Responsibilities.
The characteristics and complexity of funds managed by the portfolio manager are factored in the investment
manager’s appraisal.
Additional long-term equity-based compensation
Portfolio managers may also be awarded restricted shares or units of Resources stock or restricted shares
or units of one or more funds. Awards of such deferred equity-based compensation typically vest over
time, so as to create incentives to retain key talent.
Benefits
Portfolio managers also participate in benefit plans and programs available generally to all employees
of the investment manager.
Ownership of Fund shares. The investment
manager has a policy of encouraging portfolio managers to invest in the funds they manage. Exceptions
arise when, for example, a fund is closed to new investors or when tax considerations or jurisdictional
constraints cause such an investment to be inappropriate for the portfolio manager. The following is
the dollar range of Fund shares beneficially owned by the portfolio managers (such amounts may change
from time to time):
| |
Portfolio Manager | Dollar Range of Fund Shares
Beneficially Owned |
Neil Dhruv | None |
Patrick Klein | $1
- $10,000 |
Paul Varunok | None |
Administrator and services provided
Franklin Templeton Services, LLC (FT Services) has an agreement with the investment manager to provide
certain administrative services and facilities for the Fund. FT Services is an indirect, wholly owned
subsidiary of Resources and is an affiliate of the Fund's investment manager and principal underwriter.
The administrative services FT Services provides include preparing and maintaining
books, records, and tax and financial reports, and monitoring compliance with regulatory requirements.
Administration
fees The Fund’s investment manager pays FT Services a monthly fee equal to 105%
of the internal costs incurred by FT Services for providing administrative services to the Fund. The
investment manager also reimburses FT Services for fees paid by FT Services to any third-party service
provider for sub-administration and other services contemplated by the agreement between the investment
manager and FT Services. The fee is paid by the Fund’s investment manager and is not an additional
expense of the Fund.
For the last three fiscal years ended March
31, the investment manager paid FT Services the following administration fees:
| | | | |
| | | Administration
Fees Paid (After Waivers / Expenses Reimbursed) ($) |
2024 | 249,271 | |
2023 | 180,336 | |
2022 | 42,077 | |
Transfer
agent The Bank of New York Mellon (BNY Mellon), 111 Sanders Creek Parkway, East Syracuse,
NY 13057, acts as the Fund’s transfer agent and dividend-paying agent.
Sub-administrator
BNY Mellon has an agreement with FT Services to provide certain sub-administrative services for the
Fund. The administrative services provided by BNY Mellon include, but are not limited to, certain fund
accounting, financial reporting, tax, corporate governance and compliance and legal administration services.
Custodian
BNY Mellon also acts as custodian of the Fund’s securities and other assets (Custodian). The Custodian
is located at 100 Church Street, New York, NY 10286. As foreign custody manager, the Custodian selects
and monitors foreign subcustodian banks, selects and evaluates non-compulsory foreign depositories, and
furnishes information relevant to the selection of compulsory depositories.
Independent Registered
Public Accounting Firm PricewaterhouseCoopers LLP, 405 Howard Street, Suite 600,
San Francisco, CA 94105, is the Fund's independent registered public accounting firm. The independent
registered public accounting firm audits the financial statements included in the Fund's Form N-CSR filed
with the SEC.
Payments to Financial Intermediaries The investment
manager, Distributors and/or their affiliates may enter into contractual arrangements with certain broker-dealers
and other financial intermediaries that the investment manager, Distributors and/or their affiliates
believe may benefit the Fund. Pursuant to such arrangements, the investment manager, Distributors and/or
their affiliates may provide cash payments or non-cash compensation to intermediaries for certain activities
related to the Fund. Such payments are designed to make registered representatives and other professionals
more knowledgeable about exchange-traded products, including the Fund, or for other activities, such
as participating in marketing activities and presentations, educational training programs, conferences,
data collection and provision, technology support, the development of technology platforms and reporting
systems. The investment manager, Distributors and/or their affiliates may also pay intermediaries for
certain printing, publishing and mailing costs associated with the Fund or materials relating to ETFs
in general.
In addition, the investment manager, Distributors and/or their
affiliates may make payments to intermediaries that make Fund shares available to their clients or for
otherwise promoting the Fund. Payments of this type are sometimes
37
referred to as revenue-sharing payments. Any payments made pursuant to such arrangements
may vary in any year and may be different for different intermediaries. In certain cases, the payments
described in the preceding sentence may be subject to certain minimum payment levels. As of March 31,
2024, the intermediaries receiving such payments include Avantax Investment Services, Cetera Financial
Group, Hantz Financial Services, LPL Financial LLC, Morgan Stanley Smith Barney, Osaic Wealth Inc., Pershing
LLC, Raymond James Financial and Sanctuary Wealth Group, LLC. Any additions, modifications or deletions
to this list of financial intermediaries that have occurred since the date noted above are not included
in the list.
Any payments described above by the investment manager, Distributors
and/or their affiliates will be made from their own assets and not from the assets of the Fund. Although
a portion of the investment manager’s revenue comes directly or indirectly in part from fees paid by
the Fund, payments to financial intermediaries are not financed by the Fund and therefore do not increase
the price paid by investors for the purchase of shares of, or the cost of owning, the Fund or reduce
the amount received by a shareholder as proceeds from the redemption of Fund shares. As a result, such
payments are not reflected in the fees and expenses listed in the fees and expenses sections of the Fund’s
prospectus.
The investment manager periodically assesses the advisability
of continuing to make these payments. Payments to a financial intermediary may be significant to that
intermediary, and amounts that intermediaries pay to your adviser, broker or other investment professional,
if any, may also be significant to such adviser, broker or investment professional. Because an intermediary
may make decisions about what investment options it will make available or recommend, and what services
to provide in connection with various products, based on payments it receives or is eligible to receive,
such payments create conflicts of interest between the intermediary and its clients. For example, these
financial incentives may cause the intermediary to recommend the Fund over other investments. The same
conflict of interest exists with respect to your financial adviser, broker or investment professionals
if he or she receives similar payments from his or her intermediary firm.
Please
contact your salesperson, adviser, broker or other investment professional for more information regarding
any such payments or financial incentives his or her intermediary firm may receive. Any payments made,
or financial incentives offered, by the investment manager, Distributors and/or their affiliates made
to an intermediary may create the incentive for the intermediary to encourage customers to buy shares
of the Fund.
The investment manager selects brokers and dealers to execute the Fund's portfolio
transactions in accordance with criteria set forth in the management agreement and any directions that
the board may give.
When placing a portfolio transaction, the trading department
of the investment manager seeks to obtain "best execution" -- the best combination of high quality transaction
execution services, taking into account the services and products to be provided by the broker or dealer,
and low relative commission rates with the view of maximizing value for the Fund and its other clients.
Orders for fixed-income securities are ordinarily placed with market makers on a net basis, without any
brokerage commissions.
The investment manager may cause the Fund to pay certain brokers
commissions that are higher than those another broker may charge, if the investment manager determines
in good faith that the amount paid is reasonable in relation to the value of the brokerage and research
services it receives. This may be viewed in terms of either the particular transaction or the investment
manager's overall responsibilities to client accounts over which it exercises investment discretion.
The brokerage commissions that are used to acquire services other than brokerage are known as "soft dollars."
Research provided can be either proprietary (created and provided by the broker-dealer, including tangible
research products as well as access to analysts and traders) or third party (created by a third party
but provided by the broker-dealer). To the extent permitted by applicable law, the investment manager
may use soft dollars to acquire both proprietary and third-party research.
The
research services that brokers may provide to the investment manager include, among others, supplying
information about particular companies, markets, countries, or local, regional, national or transnational
economies, statistical data, quotations and other securities pricing information, and other information
that provides lawful and appropriate assistance to the investment manager in carrying out its investment
advisory responsibilities. These services may not always directly benefit the Fund. They must, however,
be of value to the investment manager in carrying out its overall responsibilities to its clients.
Since most purchases by the Fund are principal transactions at net prices, the
Fund incurs little or no brokerage costs. The Fund deals directly with the selling or buying principal
or market maker without incurring charges for the services of a broker on its behalf, unless it is determined
that a better price or execution may be obtained by using the services of a broker. Purchases of portfolio
securities from underwriters will include a commission or concession paid to the underwriter, and purchases
from dealers will include a spread between the bid and ask price. The Fund seeks to obtain prompt execution
38
of orders at the most favorable net price. Transactions may be directed to dealers
in return for research and statistical information, as well as for special services provided by the dealers
in the execution of orders.
It is not possible to place an accurate dollar
value on the special execution or on the research services the investment manager receives from dealers
effecting transactions in portfolio securities. The allocation of transactions to obtain additional research
services allows the investment manager to supplement its own research and analysis activities and to
receive the views and information of individuals and research staffs from many securities firms. The
receipt of these products and services does not reduce the investment manager's research activities in
providing investment advice to the Fund.
As long as it is lawful and appropriate to
do so, the investment manager and its affiliates may use this research and data in their investment advisory
capacities with other clients.
Because Distributors is a member of the Financial
Industry Regulatory Authority (FINRA), it may sometimes receive certain fees when the Fund tenders portfolio
securities pursuant to a tender-offer solicitation. To recapture brokerage for the benefit of the Fund,
any portfolio securities tendered by the Fund will be tendered through Distributors if it is legally
permissible to do so. In turn, the next management fee payable to the investment manager will be reduced
by the amount of any fees received by Distributors in cash, less any costs and expenses incurred in connection
with the tender.
If purchases or sales of securities of the Fund and one or
more other investment companies or clients supervised by the investment manager are considered at or
about the same time, transactions in these securities will be allocated among the several investment
companies and clients in a manner deemed equitable to all by the investment manager, taking into account
the respective sizes of the accounts and the amount of securities to be purchased or sold. In some cases,
this procedure could have a detrimental effect on the price or volume of the security so far as the Fund
is concerned. In other cases, it is possible that the ability to participate in volume transactions may
improve execution and reduce transaction costs to the Fund.
For the last three fiscal
years ended March 31, the Fund paid the following brokerage commissions:
| | | | | |
Brokerage Commissions ($) |
2024 | | 2023 | | 2022 | |
3,925 | | 4,239 | | 5,900 | |
For the fiscal year ended March 31, 2024,
the Fund did not pay brokerage commissions to brokers who provided research services.
As
of March 31, 2024, the Fund did not own securities issued by its regular broker-dealers.
Because the Fund may, from time to time, invest in broker-dealers, it is possible
that the Fund will own more than 5% of the voting securities of one or more broker-dealers through whom
the Fund places portfolio brokerage transactions. In such circumstances, the broker-dealer would be considered
an affiliated person of the Fund. To the extent the Fund places brokerage transactions through such a
broker-dealer at a time when the broker-dealer is considered to be an affiliate of the Fund, the Fund
will be required to adhere to certain rules relating to the payment of commissions to an affiliated broker-dealer.
These rules require the Fund to adhere to procedures adopted by the board to ensure that the commissions
paid to such broker-dealers do not exceed what would otherwise be the usual and customary brokerage commissions
for similar transactions.
The following discussion is a summary of certain additional tax considerations
generally affecting the Fund and its shareholders, some of which may not be described in the Fund’s
prospectus. No attempt is made to present a complete detailed explanation of the tax treatment of the
Fund or its shareholders. The discussions here and in the prospectus are not intended as a substitute
for careful tax planning.
The following discussion is based on the Internal Revenue
Code of 1986, as amended (the “Code”), and applicable regulations in effect on the date of this SAI,
including any amendments to the Code resulting from 2017 legislation commonly known as the Tax Cuts and
Jobs Act ("TCJA"). Future legislative, regulatory or administrative changes, including any provisions
of law that sunset and thereafter no longer apply, or court decisions may significantly change the tax
rules applicable to the Fund and its shareholders. Any of these changes or court decisions may have a
retroactive effect. Where indicated below, IRS refers to the United States Internal Revenue Service.
This is for general information only and not tax advice. All investors should
consult their own tax advisors as to the federal, state, local and foreign tax provisions applicable
to them.
Distributions The Fund intends to declare and pay income dividends monthly
from its net investment income. Capital gains, if any, may be paid at least annually. The Fund may distribute
income dividends and capital gains more frequently, if necessary or appropriate in the board’s discretion.
The amount of any distribution will vary, and there is no guarantee the Fund will pay either income dividends
or capital gain distributions. Distributions in cash may be reinvested automatically in additional whole
Fund shares only if the broker through whom you purchased the shares makes such
39
option available. Distributions declared in October, November or December to shareholders
of record in such month and paid in January are taxable as if they were paid in December.
Distributions of
net investment income. The Fund receives income generally in the form of interest
on its investments. The Fund may also recognize ordinary income from other sources. This income, less
expenses incurred in the operation of the Fund, constitutes the Fund's net investment income from which
dividends may be paid to you. If you are a taxable investor, any income dividends (other than qualified
dividends) the Fund pays are taxable to you at ordinary income tax rates. Generally, none or only a small
portion of the income dividends paid to you may be qualified dividends eligible to be taxed at reduced
rates.
Investment company dividends paid to you from interest earned
on certain U.S. government securities may be exempt from state and local taxation, subject in some states
to minimum investment or reporting requirements that must be met by the Fund.
Distributions of
capital gains. The Fund may realize capital gains and losses on the sale of its portfolio securities.
Distributions of short-term capital gains are taxable to you as ordinary income.
Distributions of long-term capital gains are taxable to you as long-term capital gains, regardless of
how long you have owned your shares in the Fund. Any net capital gains realized by the Fund (in excess
of any available capital loss carryovers) generally are distributed once each year, and may be distributed
more frequently, if necessary, to reduce or eliminate excise or income taxes on the Fund.
Capital gain dividends and any net long-term capital gains you realize from the
sale of Fund shares are generally taxable at the reduced long-term capital gains tax rates. For single
individuals with taxable income not in excess of $47,025 in 2024 ($94,050 for married individuals filing
jointly), the long-term capital gains tax rate is 0%. For single individuals and joint filers with taxable
income in excess of these amounts but not more than $518,900 or $583,750, respectively, the long-term
capital gains tax rate is 15%. The rate is 20% for single individuals with taxable income in excess of
$518,900 and married individuals filing jointly with taxable income in excess of $583,750. The taxable
income thresholds are adjusted annually for inflation. An additional 3.8% Medicare tax may also be imposed
as discussed below.
Returns of capital. If the Fund's distributions exceed its
earnings and profits (i.e., generally, its taxable income and realized capital gains) for a taxable year,
all or a portion of the distributions made in that taxable year may be characterized as a return of capital
to you. A return of capital distribution will generally not be taxable, but will reduce the cost basis
in your Fund shares and will result in a higher capital gain or in a lower capital loss when you sell
your shares. Any return of capital in excess of the basis in your Fund shares, however, will be taxable
as a capital gain. In the case of a non-calendar year fund, earnings and profits are first allocated
to distributions made on or before December 31 of its taxable year and then to distributions made thereafter.
The effect of this provision is to “push” returns of capital into the next calendar year.
Undistributed
capital gains. The Fund may retain or distribute to shareholders its net capital gain for
each taxable year. The Fund currently intends to distribute net capital gains. If the Fund elects to
retain its net capital gain, the Fund will be taxed thereon (except to the extent of any available capital
loss carryovers) at the applicable corporate tax rate. If the Fund elects to retain its net capital gain,
it is expected that the Fund also will elect to have shareholders treated as if each received a distribution
of its pro rata share of such gain, with the result that each shareholder will be required to report
its pro rata share of such gain on its tax return as long-term capital gain, will receive a refundable
tax credit for its pro rata share of tax paid by the Fund on the gain, and will increase the tax basis
for its shares by an amount equal to the deemed distribution less the tax credit.
Dividend reinvestment.
Brokers, at their own discretion, may offer a dividend reinvestment service under which Fund shares
are purchased in the secondary market at current market prices. Investors should consult their broker
for further information regarding any dividend reinvestment service offered by such broker. Dividends
which are reinvested will nevertheless be taxable to the same extent as if such dividends had not been
reinvested.
Investments in foreign securities The following paragraphs describe tax
considerations that are applicable to the Fund's investments in foreign securities.
Foreign income
tax. Investment income received by the Fund from sources within foreign countries
may be subject to foreign income tax withheld at the source and the amount of tax withheld generally
will be treated as an expense of the Fund. The United States has entered into tax treaties with many
foreign countries, which entitle the Fund to a reduced rate of, or exemption from, tax on such income.
Some countries require the filing of a tax reclaim or other forms to receive the benefit of the reduced
tax rate; whether or when the Fund will receive the tax reclaim is within the control of the individual
country. Information required on these forms may not be available such as shareholder information; therefore,
the Fund may not receive the reduced treaty rates or potential reclaims. Other countries have conflicting
and changing instructions and restrictive timing requirements which may cause the Fund not to receive
the reduced treaty rates or potential reclaims. Other countries may subject capital gains realized by
the Fund on sale or disposition of securities of that country to taxation. These and other factors may
make it difficult for the Fund to determine in advance the effective rate of tax on its investments in
certain countries. Under certain
40
circumstances, the Fund may elect to pass-through certain eligible foreign income
taxes paid by the Fund to shareholders, although it reserves the right not to do so. If the Fund makes
such an election and obtains a refund of foreign taxes paid by the Fund in a prior year, the Fund may
be eligible to reduce the amount of foreign taxes reported by the Fund to its shareholders, generally
by the amount of the foreign taxes refunded, for the year in which the refund is received. Certain foreign
taxes imposed on the Fund’s investments, such as a foreign financial transaction tax, may not be creditable
against U.S. income tax liability or eligible for pass through by the Fund to its shareholders.
Effect
of foreign debt investments on distributions. Most foreign exchange gains realized
on the sale of debt securities are treated as ordinary income by the Fund. Similarly, foreign exchange
losses realized on the sale of debt securities generally are treated as ordinary losses. These gains
when distributed are taxable to you as ordinary income, and any losses reduce the Fund's ordinary income
otherwise available for distribution to you. This treatment could increase or decrease the Fund's ordinary
income distributions to you, and may cause some or all of the Fund's previously distributed income to
be classified as a return of capital.
PFIC securities. The Fund may
invest in securities of foreign entities that could be deemed for tax purposes to be passive foreign
investment companies (PFICs). In general, a foreign company is classified as a PFIC if at least one-half
of its assets constitute investment-type assets or 75% or more of its gross income is investment-type
income. When investing in PFIC securities, the Fund intends to mark-to-market these securities and recognize
any gains at the end of its fiscal and excise (described below) tax years. Deductions for losses are
allowable only to the extent of any current or previously recognized gains. These gains (reduced by allowable
losses) are treated as ordinary income that the Fund is required to distribute, even though it has not
sold the securities. Foreign companies are not required to identify themselves as PFICs. Due to various
complexities in identifying PFICs, the Fund can give no assurances that it will be able to identify portfolio
securities in foreign corporations that are PFICs in time for the Fund to make a mark-to-market election.
If the Fund is unable to identify an investment as a PFIC and thus does not make a mark-to-market election,
the Fund may be subject to U.S. federal income tax on a portion of any “excess distribution” or gain
from the disposition of such shares even if such income is distributed as a taxable dividend by the Fund
to its shareholders. Additional charges in the nature of interest may be imposed on the Fund in respect
of deferred taxes arising from such distributions or gains.
The Fund's designation
of a foreign security as a PFIC security will cause the income dividends of any designated securities
to fall outside of the definition of qualified foreign corporation dividends. These dividends generally
will not qualify for the reduced rate of taxation on qualified dividends when distributed to you by the
Fund.
Information
on the amount and tax character of distributions The broker will inform you of the amount
of your income dividends and capital gain distributions at the time they are paid, and will advise you
of their tax status for federal income tax purposes shortly after the close of each calendar year. The
amount of income dividends reported by the Fund, consisting of qualified dividend income (which is relevant
to U.S. investors) and interest-related and short-term capital gain dividends (which are relevant to
non-U.S. investors) may exceed the total amount of income dividends paid. Such characterization will
not result in more income being reported by the Fund, but rather will allow the broker to report dividends
in a manner that is more tax efficient to both U.S. and non-U.S. investors. If you have not owned your
Fund shares for a full year, the Fund may distribute, for a U.S. investor, as an ordinary income, qualified
dividend, or capital gain dividend (a distribution of net long-term capital gains) or, for a non-U.S.
investor, as an interest-related, short-term capital gain, or capital gain dividend, a percentage of
income that may not be equal to the actual amount of each type of income earned during the period of
your investment in the Fund.
The Fund makes every effort to identify reclassifications
of income to reduce the number of corrected forms mailed to shareholders. However, the Fund may at times
find it necessary to reclassify income after you receive your tax reporting statement and you may receive
a corrected tax reporting statement to reflect reclassified information. This can result from rules in
the Code that effectively prevent regulated investment companies such as the Fund from ascertaining with
certainty until after the calendar year end the final amount and character of distributions the Fund
has received on its investments during the prior calendar year. If you receive a corrected tax reporting
statement, use the information on this statement, and not the information on your original statement,
in completing your tax returns.
Avoid "buying a dividend." At the time you
purchase your Fund shares, the price of the shares may reflect undistributed income, undistributed capital
gains, or net unrealized appreciation in the value of the portfolio securities held by the Fund. For
taxable investors, a subsequent distribution to you of such amounts, although constituting a return of
your investment, would be taxable. Buying shares in the Fund just before it declares an income dividend
or capital gain distribution is sometimes known as “buying a dividend.”
Election to be taxed
as a regulated investment company The Fund has elected to be treated as a regulated investment
company under Subchapter M of the Code. It has qualified as a regulated investment company for its most
recent fiscal year, and intends to continue to qualify during the current fiscal year. As a regulated
investment company, the Fund
41
generally pays no federal income tax on the income and gains it distributes to
you. In order to qualify for treatment as a regulated investment company, the Fund must satisfy the requirements
described below.
Distribution requirement. The Fund must distribute an amount equal
to the sum of at least 90% of its investment company taxable income and 90% of its net tax-exempt income,
if any, for the tax year (including, for purposes of satisfying this distribution requirement, certain
distributions made by the Fund after the close of its taxable year that are treated as made during such
taxable year).
Income requirement. The Fund must derive at least 90% of
its gross income from dividends, interest, certain payments with respect to securities loans, and gains
from the sale or other disposition of stock, securities or foreign currencies, or other income (including,
but not limited to, gains from options, futures or forward contracts) derived from its business of investing
in such stock, securities or currencies and net income derived from qualified publicly traded partnerships
(“QPTPs”).
Asset diversification test. The Fund must satisfy the following asset
diversification test at the close of each quarter of the Fund’s tax year: (1) at least 50% of the value
of the Fund’s assets must consist of cash and cash items, U.S. government securities, securities of
other regulated investment companies, and securities of other issuers (as to which the Fund has not invested
more than 5% of the value of the Fund’s total assets in securities of an issuer and as to which the
Fund does not hold more than 10% of the outstanding voting securities of the issuer); and (2) no more
than 25% of the value of the Fund’s total assets may be invested in the securities of any one issuer
(other than U.S. government securities or securities of other regulated investment companies) or of two
or more issuers which the Fund controls and which are engaged in the same or similar trades or businesses
or, in the securities of one or more QPTPs.
In some circumstances,
the character and timing of income realized by the Fund for purposes of the income requirement or the
identification of the issuer for purposes of the asset diversification test is uncertain under current
law with respect to a particular investment, and an adverse determination or future guidance by the IRS
with respect to such type of investment may adversely affect the Fund’s ability to satisfy these requirements.
In other circumstances, the Fund may be required to sell portfolio holdings in order to meet the income
requirement, distribution requirement, or asset diversification test, which may have a negative impact
on the Fund’s income and performance. In lieu of potential disqualification, the Fund is permitted
to pay a tax for certain failures to satisfy the asset diversification test or income requirement, which,
in general, are limited to those due to reasonable cause and not willful neglect.
If
for any taxable year the Fund does not qualify as a regulated investment company, all of its taxable
income (including its net capital gain) would be subject to tax at the applicable corporate tax rate
without any deduction for dividends paid to shareholders, and the dividends would be taxable to the shareholders
as ordinary income (or possibly as qualified dividend income) to the extent of the Fund’s current and
accumulated earnings and profits. Failure to qualify as a regulated investment company, subject to savings
provisions for certain qualification failures, which, in general, are limited to those due to reasonable
cause and not willful neglect, would thus have a negative impact on the Fund’s income and performance.
In that case, the Fund would be liable for federal, and possibly state, corporate taxes on its taxable
income and gains, and distributions to you would be taxed as dividend income to the extent of the Fund’s
earnings and profits. Even if such savings provisions apply, the Fund may be subject to a monetary sanction
of $50,000 or more. Moreover, the board reserves the right not to maintain the qualification of the Fund
as a regulated investment company if it determines such a course of action to be beneficial to shareholders.
Capital
loss carryovers The capital losses of the Fund, if any, do not flow through to shareholders.
Rather, the Fund may use its capital losses, subject to applicable limitations, to offset its capital
gains without being required to pay taxes on or distribute to shareholders such gains that are offset
by the losses. If the Fund has a "net capital loss" (that is, capital losses in excess of capital gains),
the excess (if any) of the Fund's net short-term capital losses over its net long-term capital gains
is treated as a short-term capital loss arising on the first day of the Fund's next taxable year, and
the excess (if any) of the Fund's net long-term capital losses over its net short-term capital gains
is treated as a long-term capital loss arising on the first day of the Fund's next taxable year. Any
such net capital losses of the Fund that are not used to offset capital gains may be carried forward
indefinitely, subject to certain limitations, to reduce any future capital gains realized by the Fund
in succeeding taxable years.
Excise tax distribution requirements
Required
distributions. To avoid federal excise taxes, the Code requires the Fund to distribute to you
by December 31 of each year, at a minimum, the following amounts:
• 98% of its taxable
ordinary income earned during the calendar year;
• 98.2% of its capital gain net income earned during the 12-month
period ending October 31; and
• 100% of any undistributed amounts of these categories of income
or gain from the prior year.
The Fund intends to declare and pay these
distributions in December (or to pay them in January, in which case you must
42
treat them as received in December), but can give no assurances that its distributions
will be sufficient to eliminate all taxes.
Tax reporting for income and excise tax years.
Because the periods for measuring a regulated investment company’s income are different for income
(determined on a fiscal year basis) and excise tax years (determined as noted above), special rules are
required to calculate the amount of income earned in each period, and the amount of earnings and profits
needed to support that income. For example, if the Fund uses the excise tax period ending on October
31 as the measuring period for calculating and paying out capital gain net income and realizes a net
capital loss between November 1 and the end of the Fund’s fiscal year, the Fund may calculate its earnings
and profits without regard to such net capital loss in order to make its required distribution of capital
gain net income for excise tax purposes. The Fund also may elect to treat part or all of any "qualified
late year loss" as if it had been incurred in the succeeding taxable year in determining the Fund’s
taxable income, net capital gain, net short-term capital gain, and earnings and profits. The effect of
this election is to treat any such “qualified late year loss” as if it had been incurred in the succeeding
taxable year, which may change the timing, amount, or characterization of Fund distributions.
A "qualified late year loss” includes (i) any net capital loss incurred after
October 31 of the current taxable year, or, if there is no such loss, any net long-term capital loss
or any net short-term capital loss incurred after October 31 of the current taxable year (“post-October
capital losses”), and (ii) the sum of (1) the excess, if any, of (a) specified losses incurred after
October 31 of the current taxable year, over (b) specified gains incurred after October 31 of the current
taxable year and (2) the excess, if any, of (a) ordinary losses incurred after December 31 of the current
taxable year, over (b) the ordinary income incurred after December 31 of the current taxable year. The
terms “specified losses” and “specified gains” mean ordinary losses and gains from the sale,
exchange, or other disposition of property (including the termination of a position with respect to such
property), foreign currency losses and gains, and losses and gains resulting from holding stock in a
passive foreign investment company (PFIC) for which a mark-to-market election is in effect. The terms
“ordinary losses” and “ordinary income” mean other ordinary losses and income that are not described
in the preceding sentence. Special rules apply to a fund with a fiscal year ending in November or December
that elects to use its taxable year for determining its capital gain net income for excise tax purposes.
The Fund may only elect to treat any post-October capital loss, specified gains and specified losses
incurred after October 31 as if it had been incurred in the succeeding year in determining its taxable
income for the current year.
Because these rules are not entirely clear,
the Fund may be required to interpret the "qualified late-year loss" and other rules relating to these
different year-ends to determine its taxable income and capital gains. The Fund’s reporting of income
and its allocation between different taxable and excise tax years may be challenged by the IRS, possibly
resulting in adjustments in the income reported by the Fund on its tax returns and/or on your year-end
tax statements.
Medicare tax An additional 3.8% Medicare tax is imposed on net investment
income earned by certain individuals, estates and trusts. “Net investment income,” for these purposes,
means investment income, including ordinary dividends and capital gain distributions received from the
Fund and net gains from the sales of Fund shares, reduced by the deductions properly allocable to such
income. In the case of an individual, the tax will be imposed on the lesser of (1) the shareholder’s
net investment income or (2) the amount by which the shareholder’s modified adjusted gross income exceeds
$250,000 (if the shareholder is married and filing jointly or a surviving spouse), $125,000 (if the shareholder
is married and filing separately) or $200,000 (in any other case). Any liability for this additional
Medicare tax is reported by you on, and paid with, your federal income tax return.
Sales of exchange-listed
Fund shares Sales of Fund shares are generally taxable transactions for federal and state
income tax purposes. If you sell your Fund shares, you are required to report any gain or loss on your
sale. If you owned your shares as a capital asset, any gain or loss that you realize is a capital gain
or loss, and is long-term or short-term, depending on how long you owned your shares. Under current law,
shares held one year or less are short-term and shares held more than one year are long-term. Capital
losses in any year are deductible only to the extent of capital gains plus, in the case of a noncorporate
taxpayer, $3,000 of ordinary income.
Sales at a loss within six months of purchase.
Any loss incurred on the sale of Fund shares owned for six months or less is treated as a long-term
capital loss to the extent of any long-term capital gains distributed to you by the Fund on those shares.
Wash
sales. All or a portion of any loss that you realize on the sale of your Fund shares
will be disallowed to the extent that you buy other shares in the Fund (through reinvestment of dividends
or otherwise) within 30 days before or after your sale. Any loss disallowed under these rules will be
added to your tax basis in the new shares.
Reportable transactions. Under Treasury
regulations, if a shareholder recognizes a loss with respect to the Fund’s shares of $2 million or
more for an individual shareholder or $10 million or more for a corporate shareholder (or certain greater
amounts over a combination of years), the shareholder must file with the IRS a disclosure statement on
Form 8886. The fact that a loss is reportable under these
43
regulations does not affect the legal determination of whether the taxpayer’s
treatment of the loss is proper.
Cost basis reporting The cost basis
of Fund shares acquired by purchase will generally be based on the amount paid for the shares and then
may be subsequently adjusted for other applicable transactions as required by the Code. The difference
between the selling price and the cost basis of the Fund shares generally determines the amount of the
capital gain or loss realized on the sale of Fund shares. Contact the broker through whom you purchased
your Fund shares to obtain information with respect to the available cost basis reporting methods and
elections for your account. Capital gains and losses on sales of Fund shares are generally taxable transactions
for federal and state income tax purposes.
Creations and redemptions of creation units.
An Authorized Participant who exchanges securities for Creation Units generally will recognize a gain
or a loss. The gain or loss will be equal to the difference between the market value of the Creation
Units at the time and the sum of the exchanger’s aggregate basis in the securities surrendered plus
the amount of cash paid for such Creation Units. A person who redeems Creation Units will generally recognize
a gain or loss equal to the difference between the exchanger’s basis in the Creation Units and the
sum of the aggregate market value of any securities received plus the amount of any cash received for
such Creation Units. The IRS, however, may assert that a loss realized upon an exchange of securities
for Creation Units cannot be deducted currently under the rules governing “wash sales,” or on the
basis that there has been no significant change in economic position.
Any
capital gain or loss realized upon the creation of Creation Units will generally be treated as long-term
capital gain or loss if the securities exchanged for such Creation Units have been held for more than
one year. Any capital gain or loss realized upon the redemption of Creation Units will generally be treated
as long-term capital gain or loss if the Shares comprising the Creation Units have been held for more
than one year. Otherwise, such capital gains or losses will generally be treated as short-term capital
gain or loss. Any loss upon a redemption of Creation Units held for six (6) months or less will be treated
as a long-term capital loss to the extent of any amounts treated as distributions to the applicable Authorized
Participant of long-term capital gain with respect to the Creation Units (including any amounts credited
to the Authorized Participant as undistributed capital gains).
The Fund has the right
to reject an order for Creation Units if the purchaser (or group of purchasers) would, upon obtaining
the Shares so ordered, own 80% or more of the outstanding shares of the Fund and if, pursuant to sections
351 and 362 of the Code, the Fund would have a basis in the deposit securities different from the market
value of such securities on the date of deposit. The Fund also has the right to require information necessary
to determine beneficial Share ownership for purposes of the 80% determination. If the Fund does issue
Creation Units to a purchaser (or group of purchasers) that would, upon obtaining the Shares so ordered,
own 80% or more of the outstanding Shares of the Fund, the purchaser (or group of purchasers) may not
recognize gain or loss upon the exchange of securities for Creation Units.
If
the Fund redeems Creation Units in cash, it may recognize more capital gains than it will if it redeems
Creation Units in-kind.
Tax certification and backup withholding Tax laws require
that you certify your tax information with the broker when you become an investor in the Fund. For U.S.
citizens and resident aliens, this certification is made on IRS Form W-9. Under these laws, you may be
subject to federal backup withholding at 24%, and state backup withholding may also apply, on a portion
of your taxable distributions and sales proceeds unless you:
• provide your correct Social Security or taxpayer identification
number,
• certify
that this number is correct,
• certify that you are not subject to backup withholding, and
• certify
that you are a U.S. person (including a U.S. resident alien).
The broker must also withhold
if the IRS instructs it to do so. Backup withholding is not an additional tax. Any amounts withheld may
be credited against the shareholder’s U.S. federal income tax liability, provided the appropriate information
is furnished to the IRS. Certain payees and payments are exempt from backup withholding and information
reporting.
U.S. government securities The income earned on certain U.S. government
securities is exempt from state and local personal income taxes if earned directly by you. States also
grant tax-free status to investment company dividends paid to you from interest earned on these securities,
subject in some states to minimum investment or reporting requirements that must be met by the Fund.
The income on Fund investments in certain securities, such as repurchase agreements, commercial paper
and federal agency-backed obligations (e.g., Ginnie Mae and Fannie Mae securities), generally does not
qualify for tax-free treatment. The rules on exclusion of this income are different for corporations.
Qualified
dividends and the corporate dividends-received deduction For individual shareholders, a portion
of the dividends paid by the Fund may be qualified dividend income eligible for taxation at long-term
capital gain tax rates. For
44
single
individuals with taxable income not in excess of $47,025 in 2024 ($94,050 for married individuals filing
jointly), the long-term capital gains tax rate is 0%. For single individuals and joint filers with taxable
income in excess of these amounts but not more than $518,900 or $583,750, respectively, the long-term
capital gains tax rate is 15%. The rate is 20% for single individuals with taxable income in excess of
$518,900 and married individuals filing jointly with taxable income in excess of $583,750.
An additional 3.8% Medicare tax may also be imposed as discussed above.
“Qualified
dividend income” means dividends paid to the Fund (a) by domestic corporations, (b) by foreign corporations
that are either (i) incorporated in a possession of the United States, or (ii) are eligible for benefits
under certain income tax treaties with the United States that include an exchange of information program,
or (c) with respect to stock of a foreign corporation that is readily tradable on an established securities
market in the United States. Both the Fund and the investor must meet certain holding period requirements
to qualify Fund dividends for this treatment. Specifically, the Fund must hold the stock for at least
61 days during the 121-day period beginning 60 days before the stock becomes ex-dividend (or in the case
of certain preferred stocks, for at least 91 days during the 181-day period beginning 90 days before
the stock becomes ex-dividend). Similarly, investors must hold their Fund shares for at least 61 days
during the 121-day period beginning 60 days before the Fund distribution goes ex-dividend. Income derived
from investments in derivatives, fixed-income securities, U.S. REITs, PFICs, and income received “in
lieu of” dividends in a securities lending transaction generally is not eligible for treatment as qualified
dividend income. If the qualified dividend income received by the Fund is equal to or greater than 95%
of the Fund's gross income (exclusive of net capital gain) in any taxable year, all of the ordinary income
dividends paid by the Fund will be qualified dividend income.
While the income received
in the form of a qualified dividend is taxed at the same rates as long-term capital gains, such income
will not be considered a long-term capital gain for other federal income tax purposes. For example, you
will not be allowed to offset your long-term capital losses against qualified dividend income on your
federal income tax return. Any qualified dividend income that you elect to be taxed at these reduced
rates also cannot be used as investment income in determining your allowable investment interest expense.
For corporate shareholders, a portion of the dividends paid by the Fund may qualify
for the corporate dividends-received deduction. This deduction generally is available to corporations
for dividends paid by a fund out of income earned on its investments in domestic corporations. The availability
of the dividends-received deduction is subject to certain holding period and debt financing restrictions
that apply to both the Fund and the investor. Specifically, the amount that the Fund may report as eligible
for the dividends-received deduction will be reduced or eliminated if the shares on which the dividends
earned by the Fund were debt-financed or held by the Fund for less than a minimum period of time, generally
46 days during a 91-day period beginning 45 days before the stock becomes ex-dividend. Similarly, if
your Fund shares are debt-financed or held by you for less than a 46-day period then the dividends-received
deduction for Fund dividends on your shares may also be reduced or eliminated. Income derived by the
Fund from investments in derivatives, fixed-income and foreign securities generally is not eligible for
this treatment.
Each year the Fund will report the portion of the income dividends
paid by the Fund that are eligible for treatment as qualified dividend income, if any, and for the corporate
dividends-received deduction, if any. The amounts reported by the Fund may vary significantly each year
depending on the particular mix of the Fund’s investments. Because the income of the Fund is primarily
derived from investments earning interest rather than dividend income, it is anticipated that only a
small percentage, if any, of the Fund’s income dividends will be qualified dividends for individual
shareholders or will be eligible for the dividends-received deduction for corporate shareholders. If
the percentage of qualified dividend income or dividend income eligible for the corporate dividends-received
deduction is quite small, the Fund reserves the right to not report the small percentage of qualified
dividend income for individuals or income eligible for the corporate dividends-received deduction for
corporations.
Interest income pass through Final Treasury regulations issued in
January 2021 allows the Fund to pass-through its net business interest income (generally the Fund’s
interest income less applicable expenses and deductions) as a “Section 163(j) interest dividend”
to shareholders, provided certain conditions are met. This can potentially increase the amount of a shareholder’s
interest expense deductible under Code section 163(j) as amended by the TCJA. A dividend will be treated
as interest income only if the shareholder held the Fund’s stock for more than 180 days during the
361-day period beginning on the date that is 180 days before the ex-dividend date or provided that the
shareholder is not under an obligation to make related payments with respect to positions in substantially
similar or related property pursuant to a short sale or other transaction. Each year the Fund intends
to report to shareholders the portion of the income dividends paid by the Fund that are eligible for
treatment as interest income.
Investment in complex securities The Fund’s
investment in certain complex securities could subject it to one or more special tax rules (including,
but not limited to, the wash sale rules), which may affect whether gains and losses recognized by the
Fund are treated as ordinary or capital or as short-term or long-term, accelerate the recognition of
income or gains to the Fund, defer losses to the Fund, and cause adjustments to
45
the holding periods of the Fund’s securities. These rules, therefore, could
affect the amount, timing and/or tax character of the Fund’s distributions to shareholders. Moreover,
because the tax rules applicable to complex securities, including derivative financial instruments, are
in some cases uncertain under current law, an adverse determination or future guidance by the IRS with
respect to these rules (which determination or guidance could be retroactive) may affect whether the
Fund has made sufficient distributions and otherwise satisfied the relevant requirements to maintain
its qualification as a regulated investment company and avoid a fund-level tax.
In general. Gain
or loss recognized by the Fund on the sale or other disposition of its portfolio investments will generally
be capital gain or loss. Such capital gain and loss may be long-term or short-term depending, in general,
upon the length of time a particular investment position is maintained and, in some cases, upon the nature
of the transaction. Portfolio investments held for more than one year generally will be eligible for
long-term capital gain or loss treatment.
Derivatives. The Fund may
invest in certain derivative contracts, including some or all of the following types of investments:
options on securities and securities indices; financial and futures contracts; options on financial or
futures contracts and stock index futures; foreign currency contracts; and forward and futures contracts
on foreign currencies. The tax treatment of certain forward and futures contracts entered into by the
Fund, as well as listed non-equity options written or purchased by the Fund on U.S. exchanges (including
options on futures contracts, broad-based equity indices and debt securities), may be governed by section
1256 of the Code (“section 1256 contracts”). Gains or losses on section 1256 contracts generally
are considered 60% long-term and 40% short-term capital gains or losses (“60/40”), although certain
foreign currency gains and losses from such contracts may be treated as ordinary in character. Also,
any section 1256 contracts held by the Fund at the end of each taxable year (and, for purposes of the
4% excise tax, on certain other dates as prescribed under the Code) are “marked to market” with the
result that unrealized gains or losses are treated as though they were realized and the resulting gain
or loss is treated as ordinary or 60/40 gain or loss, as applicable, even though the Fund continues to
hold the contracts. The Fund may be required to distribute this income and gains annually in order to
avoid income or excise taxes on the Fund. Section 1256 contracts do not include any interest rate swap,
currency swap, basis swap, interest rate cap, interest rate floor, commodity swap, equity swap, equity
index swap, credit default swap, or similar agreement.
Constructive sales. The Fund's entry
into certain derivative instruments, including options, forward contracts, and futures could be treated
as the "constructive sale" of an "appreciated financial position," causing it to realize gain, but not
loss, on the position.
Securities lending transactions. The Fund may
obtain additional income by lending its securities, typically to brokers. All amounts that are paid to
the Fund in a securities lending transaction, including substitute dividend or interest payments, are
treated as a “fee” for the temporary use of property. As a result, any substitute dividend payments
received by the Fund are neither qualified dividend income eligible for taxation at reduced long-term
capital gain rates in the case of individual shareholders nor eligible for the corporate dividends received
deduction in the case of corporate shareholders. Similarly, any foreign tax withheld on payments made
“in lieu of” dividends or interest will not qualify for the pass-through of foreign taxes to shareholders.
Tax
straddles. If the Fund invests in certain derivative instruments, if it actively trades
stock or otherwise acquires a position with respect to substantially similar or related property in connection
with certain hedging transactions, or if it engages in spread, straddle or collar transactions, it could
be deemed to hold offsetting positions in securities. If the Fund’s risk of loss with respect to specific
securities in its portfolio is substantially diminished by the fact that it holds offsetting securities,
the Fund could be deemed to have entered into a tax "straddle" or to hold a "successor position" that
would require any loss realized by it to be deferred for tax purposes.
Certain fixed-income
investments. Gain recognized on the disposition of a debt obligation purchased by the Fund
with market discount (generally, at a price less than its principal amount) will be treated as ordinary
income to the extent of the portion of the market discount that accrued during the period of time the
Fund held the debt obligation, unless the Fund made an election to accrue market discount into income
currently. Fund distributions of accrued market discount, including any current inclusions, are taxable
to shareholders as ordinary income to the extent of the Fund’s earnings and profits. If the Fund purchases
a debt obligation (such as a zero coupon security or pay-in-kind security) that was originally issued
at a discount, the Fund generally is required to include in gross income each year the portion of the
original issue discount that accrues during such year. Therefore an investment in such securities may
cause the Fund to recognize income and make distributions to shareholders before it receives any cash
payments on the securities. To generate cash to satisfy those distribution requirements, the Fund may
have to sell portfolio securities that it otherwise might have continued to hold or to use cash flows
from other sources such as the sale of fund shares.
Investments in debt obligations that are
at risk of or in default. The Fund may also hold obligations that are at risk of
or in default. Tax rules are not entirely clear about issues such as whether and to what extent the Fund
should recognize market discount on such a debt obligation, when the Fund may cease to accrue interest,
original issue discount or market discount, when and to what extent the Fund may take deductions for
46
bad debts or worthless securities and how the Fund should allocate payments received
on obligations in default between principal and income. These and other related issues will be addressed
by the Fund in order to ensure that it distributes sufficient income to preserve its status as a regulated
investment company.
Inflation indexed securities. The principal amount of inflation indexed
securities purchased by the Fund will adjust for inflation which may cause the Fund to recognize income
or loss. The inflation adjustment to the principal generally is subject to tax in the year that the adjustment
is made, not at maturity of the security when the cash from the repayment of principal is received, and
is treated as original issue discount in such year. Any interest payable on the inflation indexed security
is accrued by the Fund. Increases in the indexed principal in a given year and accrued interest will
cause the Fund to distribute income not yet received. Decreases in the indexed principal in a given year
generally (i) will reduce the amount of interest income otherwise includible in income for that year
in respect of the security, (ii) to the extent not treated as an offset to current income under (i),
will constitute an ordinary loss to the extent of prior year inclusions of interest, original issue discount
and market discount in respect of the security that exceed ordinary losses in respect of the security
in such prior years, and (iii) to the extent not treated as an offset to current income under (i) or
an ordinary loss under (ii), can be carried forward as an ordinary loss to reduce interest, original
issue discount and market discount in respect of the security in subsequent taxable years. If inflation-indexed
securities are sold prior to maturity, capital losses or gains generally are realized in the same manner
as traditional debt instruments. Special rules apply in respect of inflation-indexed securities issued
with more than a prescribed de minimis amount of discount or premium.
Investment in taxable
mortgage pools (excess inclusion income). Under a Notice issued by the IRS, the
Code and Treasury regulations to be issued, a portion of the Fund’s income from a U.S. REIT that is
attributable to the REIT’s residual interest in a real estate mortgage investment conduit (REMIC) or
equity interests in a “taxable mortgage pool” (referred to in the Code as an excess inclusion) will
be subject to federal income tax in all events. The excess inclusion income of a regulated investment
company, such as the Fund, will be allocated to shareholders of the regulated investment company in proportion
to the dividends received by such shareholders, with the same consequences as if the shareholders held
the related REMIC residual interest or, if applicable, taxable mortgage pool directly. In general, excess
inclusion income allocated to shareholders (i) cannot be offset by net operating losses (subject to a
limited exception for certain thrift institutions), (ii) will constitute unrelated business taxable income
to entities (including a qualified pension plan, an individual retirement account, a 401(k) plan, a Keogh
plan or other tax-exempt entity) subject to tax on unrelated business income (UBTI), thereby potentially
requiring such an entity that is allocated excess inclusion income, and otherwise might not be required
to file a tax return, to file a tax return and pay tax on such income, and (iii) in the case of a foreign
stockholder, will not qualify for any reduction in U.S. federal withholding tax. In addition, if at any
time during any taxable year a “disqualified organization” (which generally includes certain cooperatives,
governmental entities, and tax-exempt organizations not subject to UBTI) is a record holder of a share
in a regulated investment company, then the regulated investment company will be subject to a tax equal
to that portion of its excess inclusion income for the taxable year that is allocable to the disqualified
organization, multiplied by the applicable corporate tax rate. The Notice imposes certain reporting requirements
upon regulated investment companies that have excess inclusion income. There can be no assurance that
the Fund will not allocate to shareholders excess inclusion income.
These
rules are potentially applicable to a fund with respect to any income it receives from the equity interests
of certain mortgage pooling vehicles, either directly or, as is more likely, through an investment in
a U.S. REIT. It is not anticipated that these rules will apply to a fund that does not invest in any
U.S. REITs.
State income taxes Some state tax codes adopt the Code through
a certain date. As a result, such conforming states may not have adopted the version of the Code as amended
by the TCJA, the Regulated Investment Company Modernization Act of 2010, or other federal tax laws enacted
after the applicable conformity date. Other states may have adopted an income or other basis of tax that
differs from the Code.
The tax information furnished to shareholders
and the IRS annually with respect to the amount and character of dividends paid will be prepared on the
basis of current federal income tax law to comply with the information reporting requirements of the
Code, and not necessarily on the basis of the law of any state in which a shareholder is resident or
otherwise subject to tax. Contact your broker with respect to any state information reporting requirements
applicable to your investment in the Fund.
Accordingly, the amount
and character of income, gain or loss realized by a shareholder with respect to an investment in Fund
shares for state income tax purposes may differ from that for federal income tax purposes. Franklin Templeton
provides additional tax information on www.franklintempleton.com to assist shareholders with the preparation
of their federal and state income tax returns. Shareholders are solely responsible for determining the
amount and character of income, gain or loss to report on their federal, state and local income tax returns
each year as a result of their purchase, holding and sale of Fund shares.
47
Non-U.S.
investors Non-U.S. investors may be subject to U.S. withholding and estate tax, and
are subject to special U.S. tax certification requirements.
In general. The United States
imposes a flat 30% withholding tax (or a tax at a lower treaty rate) on U.S. source dividends. Exemptions
from U.S. withholding tax are provided for capital gains realized on the sales of Fund shares, capital
gain dividends paid by the Fund from net long-term capital gains, short-term capital gain dividends paid
by the Fund from net short-term capital gains, and interest-related dividends paid by the Fund from its
qualified net interest income from U.S. sources, unless you are a nonresident alien individual present
in the United States for a period or periods aggregating 183 days or more during the calendar year. “Qualified
interest income” includes, in general, the sum of the Fund’s U.S. source: i) bank deposit interest,
ii) short-term original issue discount, iii) portfolio interest, and iv) any interest-related dividend
passed through from another regulated investment company.
However, notwithstanding
such exemptions from U.S. withholding tax at source, any taxable distributions and proceeds from the
sale of your Fund shares will be subject to backup withholding at a rate of 24% if you fail to properly
certify that you are not a U.S. person.
It may not be practical in every case for
the Fund to report, and the Fund reserves the right in these cases to not report, interest-related or
short-term capital gain dividends. Additionally, the Fund’s reporting of interest-related or short-term
capital gain dividends may not, in turn, be passed through to shareholders by intermediaries who have
assumed tax reporting responsibilities for this income in managed or omnibus accounts due to systems
limitations or operational constraints.
Effectively connected income. Taxable ordinary
income dividends paid by the Fund to non-U.S. investors on portfolio investments are generally subject
to U.S. withholding tax at 30% or a lower treaty rate. However, if you hold your Fund shares in connection
with a U.S. trade or business, your income and gains may be considered effectively connected income and
taxed in the U.S. on a net basis at graduated income tax rates in which case you may be required to file
a nonresident U.S. income tax return.
U.S. estate tax. An individual who is a non-U.S. investor
will be subject to U.S. federal estate tax on the value of the Fund shares owned at the time of death,
unless a treaty exemption applies between the country of residence of the non-U.S. investor and the U.S.
Even if a treaty exemption is available, a decedent’s estate may nevertheless be required to file a
U.S. estate tax return to claim the exemption, as well as to obtain a U.S. federal transfer certificate.
The transfer certificate will identify the property (i.e., Fund shares) on which a U.S. federal tax lien
has been released and is required before such property of a nonresident alien decedent can be released
to his or her estate. A transfer certificate is not required for property administered by an executor
or administrator appointed, qualified and acting within the United States. For estates with U.S. situs
assets of not more than $60,000 (there is a statutory estate tax credit for this amount of property),
an affidavit from the executor of the estate or other authorized individual along with additional evidence
requested by the IRS relating to the decedent’s estate evidencing the U.S. situs assets may be provided
in lieu of a federal transfer certificate. Transfers by gift of shares of the Fund by a non-U.S. investor
who is a nonresident alien individual will not be subject to U.S. federal gift tax. The tax consequences
to a non-U.S. investor entitled to claim the benefits of a treaty between the country of residence of
the non-U.S. investor and the U.S. may be different from the consequences described above.
Tax
certification and backup withholding as applied to non-U.S. investors. Non-U.S. investors
have special U.S. tax certification requirements to avoid backup withholding at a rate of 24% and, if
applicable, to obtain the benefit of any income tax treaty between the non-U.S. investor’s country
of residence and the United States. To claim these tax benefits, the non-U.S. investor must provide a
properly completed Form W-8BEN (or other Form W-8, where applicable) to establish his or her status as
a non-U.S. investor, to claim beneficial ownership over the assets in the account, and to claim, if applicable,
a reduced rate of or exemption from withholding tax under the applicable treaty. A Form W-8BEN generally
remains in effect for a period of three years beginning on the date that it is signed and ending on the
last day of the third succeeding calendar year. In certain instances, Form W-8BEN may remain valid indefinitely
unless the investor has a change of circumstances that renders the form incorrect and necessitates a
new form and tax certification. Non-U.S. investors must advise of any change of circumstances that would
render the information given on the form incorrect and must then provide a new W-8BEN to avoid the prospective
application of backup withholding.
Foreign Account Tax Compliance Act Under the Foreign
Account Tax Compliance Act (FATCA), foreign entities, referred to as foreign financial institutions (FFI)
or non-financial foreign entities (NFFE) that are shareholders in the Fund may be subject to a 30% withholding
tax on income dividends paid by the Fund. The FATCA withholding tax generally can be avoided: (a) by
an FFI, if it reports certain direct and indirect ownership of foreign financial accounts held by U.S.
persons with the FFI, and (b) by an NFFE, if it: (i) certifies that it has no substantial U.S. persons
as owners, or (ii) if it does have such owners, reports information relating to them to the withholding
agent, which will, in turn, report that information to the IRS. The U.S. Treasury has negotiated intergovernmental
agreements (IGA) with certain countries and is in various stages of negotiations with a number of other
48
foreign countries with respect to one or more alternative approaches to implement
FATCA. An entity in one of those countries may be required to comply with the terms of an IGA and applicable
local law instead of U.S. Treasury regulations.
An FFI can avoid FATCA withholding if it
is deemed compliant or by becoming a “participating FFI,” which requires the FFI to enter into a
U.S. tax compliance agreement with the IRS under section 1471(b) of the Code (FFI agreement) under which
it agrees to verify, report and disclose certain of its U.S. accountholders and provided that such entity
meets certain other specified requirements. The FFI will report to the IRS, or, depending on the FFI’s
country of residence, to the government of that country (pursuant to the terms and conditions of an applicable
IGA and applicable law), which will, in turn, report to the IRS. An FFI that is resident in a country
that has entered into an IGA with the U.S. to implement FATCA will be exempt from FATCA withholding provided
that the FFI shareholder and the applicable foreign government comply with the terms of such agreement.
An NFFE that is the beneficial owner of a payment from the Fund can avoid the
FATCA withholding tax generally by certifying that it does not have any substantial U.S. owners or by
providing the name, address and taxpayer identification number of each substantial U.S. owner. The NFFE
will report information either (i) to the applicable withholding agent, which will, in turn, report information
to the IRS, or (ii) directly to the IRS.
Such foreign shareholders also may fall into
certain exempt, excepted or deemed compliant categories as established by U.S. Treasury regulations,
IGAs, and other guidance regarding FATCA. An FFI or NFFE that invests in a Fund will need to provide
documentation properly certifying the entity’s status under FATCA in order to avoid FATCA withholding.
The requirements imposed by FATCA are different from, and in addition to, the U.S. tax certification
rules to avoid backup withholding described above.
Organization,
Voting Rights, Principal Holders and Additional Information Concerning the Trust The Fund is a diversified series of the Franklin ETF Trust (the "Trust"), an open-end
management investment company. The Trust was organized as a Delaware statutory trust on June 1, 2012,
and is registered with the SEC.
The Trust has noncumulative voting rights.
For board member elections, this gives holders of more than 50% of the shares voting the ability to elect
all of the members of the board. If this happens, holders of the remaining shares voting will not be
able to elect anyone to the board.
The Trust does not intend to hold annual
shareholder meetings. The Fund may hold special meetings, however, for matters requiring shareholder
approval.
Although the Trust does not have information concerning the
beneficial ownership of shares held in the names of the Depository Trust Company (DTC) participants,
as of July 1, 2024, the name, address and percentage ownership of each DTC participant that owned of
record 5% or more of the outstanding shares of the Fund were as follows:
| |
Name and Address | Percentage (%) |
Charles Schwab & Co. 211
Main Street San Francisco, CA 94105-1905 | 22.57 |
SEI
Private Trust Company One Freedom Valley Drive Oaks, PA 19456-9989 | 20.23 |
Edward Jones & Co. 12555
Manchester Road Saint Louis, MO 63131-3710 | 11.22 |
Pershing
LLC 1 Pershing Plaza Jersey City, NJ 07399-0001 | 7.65 |
Merrill Lynch Pierce Fenner & Smith 4800
Deer Lake Drive East Jacksonville, FL 32246-6486 | 6.92 |
Morgan
Stanley Smith Barney LLC 1 New York Plaza FL 12 New York, NY 10004-1901 | 5.55 |
National Financial Services LLC 499
Washington Boulevard Jersey City, NJ 07310-1995 | 5.02 |
To the best knowledge of the Fund, no other DTC participant of record held more
than 5% of the outstanding shares of the Fund.
As of July 1, 2024, the
officers and board members, as a group, owned of record and beneficially less than 1% of the outstanding
shares of the Fund. The board members may own shares in other funds offered by Franklin Templeton.
DTC acts as securities depository for shares of the Fund. Shares of the Fund are
represented by securities registered in the name of DTC or its nominee and deposited with, or on behalf
of, DTC.
DTC was created in 1973 to enable electronic movement of securities between its
participants (DTC Participants), and NSCC was established in 1976 to provide a single settlement system
for securities clearing and to serve as central counterparty for securities trades among DTC Participants.
In 1999, DTC and NSCC were consolidated within the Depository Trust & Clearing Corporation (DTCC)
and became wholly owned subsidiaries of DTCC. The common stock of DTCC is owned by the DTC Participants,
but the New York Stock Exchange and FINRA, through subsidiaries, hold preferred shares in DTCC that provide
them with the right to elect one member each to the DTCC Board of Directors. Access to the DTC system
is available to entities, such as
49
banks, brokers, dealers and trust companies, that clear through or maintain a
custodial relationship with a DTC Participant, either directly or indirectly (Indirect Participants).
Beneficial ownership of shares is limited to DTC Participants, Indirect Participants
and persons holding interests through DTC Participants and Indirect Participants. Ownership of beneficial
interests in shares (owners of such beneficial interests are referred to herein as “Beneficial Owners”)
is shown on, and the transfer of ownership is effected only through, records maintained by DTC (with
respect to DTC Participants) and on the records of DTC Participants (with respect to Indirect Participants
and Beneficial Owners that are not DTC Participants). Beneficial Owners will receive from or through
the DTC Participant a written confirmation relating to their purchase of shares. The laws of some jurisdictions
may require that certain purchasers of securities take physical delivery of such securities in definitive
form. Such laws may impair the ability of certain investors to acquire beneficial interests in shares.
Conveyance of all notices, statements and other communications to Beneficial Owners
is effected as follows. Pursuant to the Depositary Agreement between the Trust and DTC, DTC is required
to make available to the Trust upon request and for a fee to be charged to the Trust a listing of the
shares of the Fund held by each DTC Participant. The Trust shall inquire of each such DTC Participant
as to the number of Beneficial Owners holding shares, directly or indirectly, through such DTC Participant.
The Trust shall provide each such DTC Participant with copies of such notice, statement or other communication,
in such form, number and at such place as such DTC Participant may reasonably request, in order that
such notice, statement or communication may be transmitted by such DTC Participant, directly or indirectly,
to such Beneficial Owners. In addition, the Trust shall pay to each such DTC Participant a fair and reasonable
amount as reimbursement for the expenses attendant to such transmittal, all subject to applicable statutory
and regulatory requirements.
Share distributions shall be made to DTC
or its nominee, Cede & Co., as the registered holder of all shares of the Trust. DTC or its nominee,
upon receipt of any such distributions, shall credit immediately DTC Participants’ accounts with payments
in amounts proportionate to their respective beneficial interests in shares of the Fund as shown on the
records of DTC or its nominee. Payments by DTC Participants to Indirect Participants and Beneficial Owners
of shares held through such DTC Participants will be governed by standing instructions and customary
practices, as is now the case with securities held for the accounts of customers in bearer form or registered
in a “street name,” and will be the responsibility of such DTC Participants.
The
Trust has no responsibility or liability for any aspect of the records relating to or notices to Beneficial
Owners, or payments made on account of beneficial ownership interests in such shares, or for maintaining,
supervising or reviewing any records relating to such beneficial ownership interests, or for any other
aspect of the relationship between DTC and the DTC Participants or the relationship between such DTC
Participants and the Indirect Participants and Beneficial Owners owning through such DTC Participants.
DTC may decide to discontinue providing its service with respect to shares of the Trust at any time by
giving reasonable notice to the Trust and discharging its responsibilities with respect thereto under
applicable law. Under such circumstances, the Trust shall take action to find a replacement for DTC to
perform its functions at a comparable cost.
Creation and Redemption
of Creation Units General. The Trust sells shares of the Fund only
in Creation Units on a continuous basis through Distributors or its agent, without a sales load, at a
price based on the Fund’s NAV next determined after receipt, on any Business Day (as defined below),
of an order received by Distributors or its agent in proper form. On days when the Listing Exchange closes
earlier than normal, the Fund may require orders to be placed earlier in the day. The number of shares
of the Fund that constitutes a Creation Unit is 25,000.
In
its discretion, the investment manager reserves the right to increase or decrease the number of the Fund’s
shares that constitute a Creation Unit. The board reserves the right to declare a split or a consolidation
in the number of shares outstanding of the Fund, and to make a corresponding change in the number of
shares constituting a Creation Unit, in the event that the per share price in the secondary market rises
(or declines) to an amount that falls outside the range deemed desirable by the board.
A
“Business Day” with respect to the Fund is any day the Fund is open for business, including any day
when it satisfies redemption requests as required by Section 22(e) of the 1940 Act. The Fund is open
for business any day on which the Listing Exchange on which the Fund is listed for trading is open for
business. As of the date of this SAI, the Listing Exchange observes the following holidays: New Year’s
Day, Martin Luther King, Jr. Day, Presidents’ Day, Good Friday, Memorial Day, Juneteenth National Independence
Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
To
the extent the Fund engages in in-kind transactions, the Fund intends to comply with the U.S. federal
securities laws in accepting securities for deposit and satisfying redemptions with redemption securities
by, among other means, assuring that any securities accepted for deposit and any securities used to satisfy
redemption requests will be sold in transactions that would be exempt from registration under the 1933
Act. Further, an Authorized Participant that is not a
50
“qualified institutional buyer,” as such term is defined under Rule 144A of
the 1933 Act, will not be able to receive securities that are restricted securities eligible for resale
under Rule 144A.
Fund Deposit. The consideration for purchase of Creation Units of the
Fund may consist of the Deposit Securities (i.e., the in-kind deposit of a designated portfolio of securities,
assets or other positions (including any portion of such securities, assets or other positions for which
cash may be substituted)) and the Cash Component computed as described below. Together, the Deposit Securities
and the Cash Component constitute the “Fund Deposit,” which will be applicable (subject to possible
amendment or correction) to creation requests received in proper form. The Fund Deposit represents the
minimum initial and subsequent investment amount for a Creation Unit of the Fund. Currently, shares of
the Fund are generally offered in Creation Units solely for cash.
The
“Cash Component” is generally an amount equal to the difference between the NAV of the shares (per
Creation Unit) and the “Deposit Amount,” which is an amount equal to the market value of the Deposit
Securities which serves to compensate for any differences between the NAV per Creation Unit and the Deposit
Amount. Payment of any stamp duty or other similar fees and expenses payable upon transfer of beneficial
ownership of the Deposit Securities are the sole responsibility of the Authorized Participant purchasing
the Creation Unit. Please see the Cash purchase method section below and the following discussion summarizing
the in-kind method for further information on purchasing Creation Units of the Fund.
The
Fund's current policy is to accept cash in substitution for the Deposit Securities it might otherwise
accept as in-kind consideration for the purchase of Creation Units. The Fund may, at times, elect to
receive Deposit Securities (i.e., the in-kind deposit of a designated portfolio of securities, assets
or other positions) and a Cash Component as consideration for the purchase of Creation Units. If the
Fund elects to accept Deposit Securities, a purchaser's delivery of the Deposit Securities together with
the Cash Component will constitute the "Fund Deposit," which will represent the consideration for a Creation
Unit of the Fund.
The Fund’s investment manager makes available through the
NSCC on each Business Day prior to the opening of business on the Listing Exchange, the list of names
and the required number of shares of each Deposit Security and the amount of the Cash Component (if any)
to be included in the current Fund Deposit (based on information as of the end of the previous Business
Day for the Fund). Such Fund Deposit is applicable, subject to any adjustments as described below, to
purchases of Creation Units of shares of the Fund until such time as the next-announced Fund Deposit
is made available.
The identity and number of shares of the Deposit Securities
and the amount of the Cash Component changes as a result of changes in the composition of the Fund’s
portfolio and as rebalancing adjustments and corporate action events are reflected from time to time
by the investment manager with a view to the investment goal of the Fund.
The
Trust may require the substitution of an amount of cash (i.e., a “cash-in-lieu” amount) to replace
any Deposit Security of the Fund that is a TBA transaction or an interest in a mortgage pass-through
security. The amount of cash contributed will be equivalent to the price of the TBA transaction or mortgage
pass-through security interest listed as a Deposit Security. A transaction fee may be charged on the
cash amount contributed in lieu of the TBA transaction or mortgage pass-through security.
The Fund reserves the right to accept a nonconforming (i.e., custom) Fund Deposit.
All questions as to the composition of the in-kind creation basket to be included in the Fund Deposit
and the validity, form, eligibility, and acceptance for deposit of any instrument shall be determined
by the Trust, and the Trust’s determination shall be final and binding.
The
Fund reserves the right to permit or require the substitution of a “cash in lieu” amount to be added
to the Cash Component to replace any Deposit Security that may not be available in sufficient quantity
for delivery or that may not be eligible for transfer through the facilities of DTC (DTC Facilities)
or the clearing process through the Continuous Net Settlement System of the NSCC (NSCC Clearing Process),
a clearing agency that is registered with the SEC (as discussed below), or that the Authorized Participant
is not able to trade due to a trading restriction. The Fund also reserves the right to permit or require
a “cash in lieu” amount in other circumstances, including circumstances in which: (i) the delivery
of the Deposit Security by the Authorized Participant would be restricted under applicable securities
or other local laws; (ii) the delivery of the Deposit Security to the Authorized Participant would result
in the disposition of the Deposit Security by the Authorized Participant becoming restricted under applicable
securities or other local laws; or (iii) in certain other situations. As noted above, currently Creation
Units of the Fund are generally available only for cash purchases.
Cash purchase method. When partial
or full cash purchases of Creation Units are available or specified for the Fund (currently, Creation
Units of the Fund are generally offered solely for cash), they will be effected in essentially the same
manner as in-kind purchases thereof. In the case of a partial or full cash purchase, the Authorized Participant
must pay the cash equivalent of the Deposit Securities it would otherwise be required to provide through
an in-kind purchase, plus the same Cash Component required to be paid by an in-kind purchaser.
51
Creation
Units An “Authorized Participant” is a member or participant of a clearing agency
registered with the SEC, which has a written agreement with the Fund or one of its service providers
(Authorized Participant Agreement) that allows such member or participant to place orders for the purchase
and redemption of Creation Units. To be eligible to place orders with Distributors and to create a Creation
Unit of the Fund, an entity must be: (i) a “Participating Party,” i.e., a broker-dealer or other
participant in the NSCC Clearing Process, or (ii) a DTC Participant, and, in either case, must have executed
an Authorized Participant Agreement with Distributors with respect to creations and redemptions of Creation
Units. All shares of the Fund, however created, will be entered on the records of DTC in the name of
Cede & Co. for the account of a DTC Participant.
Role of the Authorized Participant.
Creation Units may be purchased only by or through an Authorized Participant that has entered into an
Authorized Participant Agreement with Distributors. Such Authorized Participant will agree, pursuant
to the terms of such Authorized Participant Agreement and on behalf of itself or any investor on whose
behalf it will act, to certain conditions, including that such Authorized Participant will make available
in advance of each purchase of shares an amount of cash sufficient to pay the Cash Component, once the
net asset value of a Creation Unit is next determined after receipt of the purchase order in proper form,
together with the transaction fees described below. An Authorized Participant, acting on behalf of an
investor, may require the investor to enter into an agreement with such Authorized Participant with respect
to certain matters, including payment of the Cash Component. Investors who are not Authorized Participants
must make appropriate arrangements with an Authorized Participant. Investors should be aware that their
particular broker may not be an Authorized Participant or may not have executed an Authorized Participant
Agreement and that orders to purchase Creation Units may have to be placed by the investor’s broker
through an Authorized Participant. As a result, purchase orders placed through an Authorized Participant
may result in additional charges to such investor. The Trust does not expect to enter into an Authorized
Participant Agreement with more than a small number of Authorized Participants.
Placement of creation
orders. An Authorized Participant must submit an irrevocable order to purchase shares
of the Fund, in proper form, generally before 4 p.m., Eastern time on any Business Day in order to receive
that day’s NAV. Orders for Creation Units must be transmitted by an Authorized Participant by telephone
or other transmission method acceptable to Distributors or its agent pursuant to procedures set forth
in the Authorized Participant Agreement and Authorized Participant Handbook (as may be amended or supplemented
from time to time), as described below. Economic or market disruptions or changes, or telephone or other
communication failure, may impede the ability to reach Distributors or its agent or an Authorized Participant.
Orders to create shares of the Fund that are submitted on the Business Day immediately preceding a holiday
or a day (other than a weekend) when the equity markets in the relevant non-U.S. market are closed may
not be accepted. The Fund’s deadline described above for the submission of purchase orders and the
Fund’s deadline for the submission of redemption orders is referred to as the Fund’s “Cutoff Time.”
Please see the Authorized Participant Agreement and Authorized Participant Handbook for information regarding
the Fund’s Cutoff Times. Distributors or its agent, in their discretion, may permit the submission
of such orders and requests by or through an Authorized Participant at any time (including on days on
which the Listing Exchange is not open for business) via communication through the facilities of Distributors’
or its agent’s proprietary website maintained for this purpose.
Investors,
other than Authorized Participants, are responsible for making arrangements for a creation request to
be made through an Authorized Participant. Those placing orders to purchase Creation Units through an
Authorized Participant should allow sufficient time to permit proper submission of the purchase order
to Distributors or its agent by the Cutoff Time on such Business Day.
Upon
receiving an order for a Creation Unit, Distributors or its agent will notify the investment manager
and the custodian of such order. The custodian will then provide such information to any appropriate
sub-custodian.
The Authorized Participant must make available on or before
the prescribed settlement date, by means satisfactory to the Fund, immediately available or same day
funds estimated by the Fund to be sufficient to pay the Cash Component next determined after acceptance
of the purchase order, together with the applicable purchase transaction fees. Any excess funds will
be returned following settlement of the issue of the Creation Unit. Those placing orders should ascertain
the applicable deadline for cash transfers by contacting the operations department of the broker or depositary
institution effectuating the transfer of the Cash Component. This deadline is likely to be significantly
earlier than the Cutoff Time of the Fund. Investors should be aware that an Authorized Participant may
require orders for purchases of shares placed with it to be in the particular form required by the individual
Authorized Participant.
The Authorized Participant is responsible
for all transaction-related fees, expenses and other costs (as described below), as well as any applicable
cash and/or collateral amounts as specified by the Trust, in connection with any purchase order.
Once a purchase order has been accepted, it will be processed based on the NAV
next determined after such acceptance in accordance with the Fund’s Cutoff Times as provided in the
Authorized Participant Agreement and
52
Authorized Participant Handbook (as may be amended or supplemented from time to
time) and disclosed in this SAI.
Acceptance of orders for Creation Units. Subject to the
conditions that (i) an irrevocable purchase order has been submitted by the Authorized Participant (either
on its own or another investor’s behalf) and (ii) arrangements satisfactory to the Fund are in place
for delivery of the Deposit Securities, and the payment of the Cash Component and any other cash amounts
which may be due, an order will be accepted, subject to the Fund’s right (and the right of Distributors
and the investment manager) to reject any order until acceptance, and to revoke or cancel an order not
in proper form as of the prescribed settlement date as set forth below and/or in accordance with the
applicable Authorized Participant Agreement.
Once an order has been
accepted, Distributors or its agent will then transmit a confirmation of acceptance to the Authorized
Participant that placed the order.
The SEC has expressed the view that a suspension
of creations that impairs the arbitrage mechanism applicable to the trading of ETF shares in the secondary
market is inconsistent with Rule 6c-11 under the 1940 Act. The SEC's position does not prohibit the suspension
or rejection of creations in all instances. The Fund reserves the right, to the extent consistent with
the provisions of Rule 6c-11 under the 1940 Act and the SEC's position, to reject or revoke a creation
order transmitted to it by Distributors or its agent, including, for example, if: (i) the order is not
in proper form; (ii) the investor(s), upon obtaining the shares ordered, would own 80% or more of the
currently outstanding shares of the Fund; (iii) the Deposit Securities delivered do not conform to the
identity and number of shares specified, as described above; (iv) acceptance of the Fund Deposit would,
in the opinion of the Fund, be unlawful; or (v) circumstances outside the control of the Fund make it
impossible to process purchase orders for all practical purposes. Distributors or its agent shall notify
a prospective purchaser of a Creation Unit and/or the Authorized Participant acting on behalf of such
purchaser of its rejection of such order. The Fund, the Fund’s custodian, the sub-custodian and Distributors
or its agent are under no duty, however, to give notification of any defects or irregularities in the
delivery of Fund Deposits nor shall any of them incur any liability for failure to give such notification.
Issuance
of a Creation Unit. Except as provided herein, a Creation Unit will generally not be issued until
the transfer of good title to the Fund of the Deposit Securities and the payment of the Cash Component
together with transaction fees and any other cash amounts due have been completed. When the sub-custodian
has confirmed to the custodian that the securities included in the Fund Deposit (or the cash value thereof)
have been delivered to the account of the relevant sub-custodian or sub-custodians, Distributors or its
agent and the investment manager shall be notified of such delivery and the Fund will issue and cause
the delivery of the Creation Unit. Typically, Creation Units are issued on a “T+1 basis” (i.e., the
first Business Day after trade date (except as otherwise agreed by the Fund and an Authorized Participant)).
The Fund reserves the right to settle Creation Unit transactions on a basis other than T+1 if necessary
or appropriate under the circumstances.
To the extent contemplated
by an Authorized Participant Agreement with Distributors, the Fund will issue Creation Units to an Authorized
Participant, notwithstanding the fact that the corresponding Fund Deposits have not been received in
part or in whole, in reliance on the undertaking of the Authorized Participant to deliver the missing
Deposit Securities as soon as possible, which undertaking shall be secured by such Authorized Participant’s
delivery and maintenance of collateral having a value at least equal to 105% and up to 115%, which percentage
the Trust may change at any time, in its sole discretion, of the value of the missing Deposit Securities
in accordance with the Fund’s then-effective procedures. The Trust may use such cash deposit at any
time to buy Deposit Securities for the Fund. The only collateral that is acceptable to the Fund is cash
in U.S. dollars. Such cash collateral must be delivered no later than 1 p.m., Eastern time on the prescribed
settlement date or such other time as designated by the Fund’s custodian. Information concerning the
Fund’s current procedures for collateralization of missing Deposit Securities is available from Distributors
or its agent. The Authorized Participant Agreement will permit the Fund to buy the missing Deposit Securities
at any time and will subject the Authorized Participant to liability for any shortfall between the cost
to the Fund of purchasing such securities and the value of the cash collateral including, without limitation,
liability for related brokerage, borrowings and other charges.
In certain cases, Authorized
Participants may create and redeem Creation Units on the same trade date and in these instances, the
Fund reserves the right to settle these transactions on a net basis or require a representation from
the Authorized Participants that the creation and redemption transactions are for separate beneficial
owners. All questions as to the number of shares of each security in the Deposit Securities and the validity,
form, eligibility and acceptance for deposit of any securities to be delivered shall be determined by
the Fund and the Fund’s determination shall be final and binding.
Costs associated
with creation transactions. A standard creation transaction fee is imposed to offset
the transfer and other transaction costs associated with the issuance of Creation Units. The standard
creation transaction fee is charged to the Authorized Participant on the day such Authorized Participant
creates a Creation Unit, and is the same, regardless of the number of Creation Units purchased by the
Authorized Participant on the applicable Business Day. From time to time, the investment manager, in
its sole
53
discretion, may reimburse the Authorized Participant for all or a portion of the
creation transaction fee. The Authorized Participant may also be required to cover certain brokerage,
tax, foreign exchange, execution, market impact and other costs and expenses related to the execution
of trades resulting from such transaction (up to the maximum amount shown below). Authorized Participants
will also bear the costs of transferring the Deposit Securities to the Fund. Investors who use the services
of a broker or other financial intermediary to acquire Fund shares may be charged a fee for such services.
The following table sets forth the Fund’s standard creation transaction fees
and maximum additional charge (as described above):
| |
Standard Creation Transaction
Fee | Maximum
Additional Charge for Creations1 |
$500 | 3% |
| |
1. | As a percentage of the net asset value per Creation Unit. |
Please see the Authorized Participant Handbook (as may be amended or supplemented
from time to time) for additional information regarding the Fund’s standard creation transaction fees
and any additional fees charged to the Fund.
Redemption of Creation Units. Shares of the
Fund may be redeemed by Authorized Participants only in Creation Units at their NAV next determined after
receipt of a redemption request in proper form by Distributors or its agent and only on a Business Day.
The Fund will not redeem shares in amounts less than Creation Units. There can be no assurance, however,
that there will be sufficient liquidity in the secondary market at any time to permit assembly of a Creation
Unit. Investors should expect to incur brokerage and other costs in connection with assembling a sufficient
number of shares to constitute a Creation Unit that could be redeemed by an Authorized Participant. Beneficial
owners also may sell shares in the secondary market. Currently, the Fund generally redeems Creation Units
solely for cash; however, the Fund reserves the right to distribute securities in-kind as payment for
Creation Units being redeemed. Please see the Cash redemption method section below and the following
discussion summarizing the in-kind method for further information on redeeming Creation Units of the
Fund.
The Fund’s investment manager makes available through the
NSCC, prior to the opening of business on the Listing Exchange on each Business Day, the designated portfolio
of securities, assets or other positions (including any portion of such securities, assets or other positions
for which cash may be substituted) that will be applicable (subject to possible amendment or correction)
to redemption requests received in proper form (as defined below) on that day (Fund Securities), and
an amount of cash as described below (Cash Amount) (if any). Such Fund Securities and the corresponding
Cash Amount (each subject to possible amendment or correction) are applicable in order to effect redemptions
of Creation Units of the Fund until such time as the next announced composition of the Fund Securities
and Cash Amount is made available. Together, the Fund Securities and the Cash Amount constitute the “Fund
Redemption.” Fund Securities received on redemption may not be identical to Deposit Securities that
are applicable to creations of Creation Units.
Unless cash redemptions
are available or specified for the Fund, the redemption proceeds for a Creation Unit generally consist
of Fund Securities, plus the Cash Amount, which is an amount equal to the difference between the net
asset value of the shares being redeemed, as next determined after the receipt of a redemption request
in proper form, and the value of Fund Securities, less a redemption transaction fee (as described below).
The Fund reserves the right to deliver a nonconforming (i.e., custom) Fund Redemption.
All questions as to the composition of the in-kind redemption basket to be included in the Fund Redemption
shall be determined by the Trust, in accordance with applicable law, and the Trust’s determination
shall be final and binding.
The Fund may, in its sole discretion, substitute
a “cash in lieu” amount to replace any Fund Security that may not be eligible for transfer through
DTC Facilities or the NSCC Clearing Process or that the Authorized Participant is not able to trade due
to a trading restriction. The Fund also reserves the right to permit or require a “cash in lieu”
amount in other circumstances, including circumstances in which: (i) the delivery of a Fund Security
to the Authorized Participant would be restricted under applicable securities or other local laws; (ii)
the delivery of a Fund Security to the Authorized Participant would result in the disposition of the
Fund Security by the Authorized Participant becoming restricted under applicable securities or other
local laws; or (iii) in certain other situations. The amount of cash paid out in such cases will be equivalent
to the value of the substituted security listed as a Fund Security. In the event that the Fund Securities
have a value greater than the NAV of the shares, a compensating cash payment equal to the difference
is required to be made by or through an Authorized Participant by the redeeming shareholder. Currently,
the Fund generally redeems Creation Units solely for cash; however, the Fund reserves the right to distribute
securities in-kind as payment for Creation Units being redeemed.
Cash redemption method. When partial
or full cash redemptions of Creation Units are available or specified for the Fund (currently, Creation
Units of the Fund are generally redeemed solely for cash), they will be effected in essentially the same
manner as in-kind redemptions thereof. In the case of partial or full cash redemptions, the Authorized
Participant receives the cash equivalent of the Fund Securities it would otherwise receive through an
in-kind redemption, plus the same Cash Amount to be paid to an in-kind redeemer.
54
Costs
associated with redemption transactions. A standard redemption transaction fee
is imposed to offset transfer and other transaction costs that may be incurred by the Fund. The standard
redemption transaction fee is charged to the Authorized Participant on the day such Authorized Participant
redeems a Creation Unit, and is the same regardless of the number of Creation Units redeemed by an Authorized
Participant on the applicable Business Day. From time to time, the investment manager, in its sole discretion,
may reimburse the Authorized Participant for all or a portion of the redemption transaction fee. The
Authorized Participant may also be required to cover certain brokerage, tax, foreign exchange, execution,
market impact and other costs and expenses related to the execution of trades resulting from such transaction
(up to the maximum amount shown below). Authorized Participants will also bear the costs of transferring
the Fund Securities from the Fund to their account on their order. Investors who use the services of
a broker or other financial intermediary to dispose of Fund shares may be charged a fee for such services.
The following table sets forth the Fund’s standard redemption transaction fees
and maximum additional charge (as described above):
| |
Standard Redemption Transaction
Fee | Maximum
Additional Charge for Redemptions1 |
$500 | 2% |
| |
1. | As a percentage of the net asset value per Creation Unit, inclusive of the standard
redemption transaction fee. |
Please see the Authorized
Participant Handbook (as may be amended or supplemented from time to time) for additional information
regarding the Fund’s standard redemption transaction fees and any additional fees charged to the Fund.
Placement
of redemption orders. Redemption requests for Creation Units of the Fund must
be submitted to Distributors or its agent by or through an Authorized Participant. An Authorized Participant
must submit an irrevocable request to redeem shares of the Fund, in proper form, generally before 4 p.m.,
Eastern time on any Business Day, in order to receive that day’s NAV. On days when the Listing Exchange
closes earlier than normal, the Fund may require orders to redeem Creation Units to be placed earlier
that day. Investors, other than Authorized Participants, are responsible for making arrangements for
a redemption request to be made through an Authorized Participant. Please see the Authorized Participant
Agreement and Authorized Participant Handbook for information regarding the Fund’s Cutoff Times.
The Authorized Participant must transmit the request for redemption in the form
required by the Fund to Distributors or its agent in accordance with procedures set forth in the Authorized
Participant Agreement and Authorized Participant Handbook (as may be amended or supplemented from time
to time). Investors should be aware that their particular broker may not have executed an Authorized
Participant Agreement and that, therefore, requests to redeem Creation Units may have to be placed by
the investor’s broker through an Authorized Participant who has executed an Authorized Participant
Agreement. At any time, only a limited number of broker-dealers will have an Authorized Participant Agreement
in effect. Investors making a redemption request should be aware that such request must be in the form
specified by such Authorized Participant. Investors making a request to redeem Creation Units should
allow sufficient time to permit proper submission of the request by an Authorized Participant and transfer
of the shares to the Fund’s transfer agent; such investors should allow for the additional time that
may be required to effect redemptions through their banks, brokers or other financial intermediaries
if such intermediaries are not Authorized Participants.
A redemption request is
considered to be in “proper form” if: (i) an Authorized Participant has transferred or caused to
be transferred to the Fund’s transfer agent the Creation Unit redeemed through the book-entry system
of DTC so as to be effective by the Listing Exchange closing time on any Business Day; (ii) a request
in form satisfactory to the Fund is received by Distributors or its agent from the Authorized Participant
on behalf of itself or another redeeming investor within the time periods specified above; and (iii)
all other procedures set forth in the Authorized Participant Agreement and Authorized Participant Handbook
(as may be amended or supplemented from time to time) are properly followed. If the transfer agent does
not receive the investor’s shares through DTC Facilities by 10 a.m., Eastern time on the prescribed
settlement date, the redemption request may be deemed rejected. Investors should be aware that the deadline
for such transfers of shares through the DTC Facilities may be significantly earlier than the close of
business on the Listing Exchange. Those making redemption requests should ascertain the deadline applicable
to transfers of shares through the DTC Facilities by contacting the operations department of the broker
or depositary institution effecting the transfer of the shares.
Upon receiving a redemption
request, Distributors or its agent shall notify the Fund and the Fund’s transfer agent of such redemption
request. The tender of an investor’s shares for redemption and the distribution of the securities and/or
cash included in the redemption payment made in respect of Creation Units redeemed will be made through
DTC and the relevant Authorized Participant to the Beneficial Owner thereof as recorded on the book-entry
system of DTC or the DTC Participant through which such investor holds, as the case may be, or by such
other means specified by the Authorized Participant submitting the redemption request. Once a redemption
request has been accepted, it will be processed based on the NAV next determined after such acceptance
in accordance with the Fund's Cutoff Times as
55
provided in the Authorized Participant Agreement and Authorized Participant Handbook
(as may be amended or supplemented from time to time) and disclosed in this SAI.
A
redeeming Beneficial Owner or Authorized Participant acting on behalf of such Beneficial Owner must maintain
appropriate security arrangements with a qualified broker-dealer, bank or other custody providers in
each jurisdiction in which any of the portfolio securities are customarily traded, to which account such
portfolio securities will be delivered.
Deliveries of redemption
proceeds by the Fund generally will be made as of the first Business Day following the trade date (i.e.,
"T+1"), except as otherwise agreed by the Fund and an Authorized Participant. The Fund reserves the right
to settle redemption transactions later than T+1 if necessary or appropriate under the circumstances
and compliant with applicable law. Delayed settlement may occur due to a number of different reasons,
including, without limitation, settlement cycles for the underlying securities, unscheduled market closings,
an effort to link distribution to dividend record dates and ex-dates and newly announced holidays. For
example, the redemption settlement process may be extended beyond T+1 because of the occurrence of a
holiday in a non-U.S. market or in the U.S. bond market that is not a holiday observed in the U.S. equity
market.
If the Fund includes a foreign investment in its basket, and
if a local market holiday, or series of consecutive holidays, or the extended delivery cycles for transferring
foreign investments to redeeming Authorized Participants prevents timely delivery of the foreign investment
in response to a redemption request, the Fund may delay delivery of the foreign investment more than
seven days if the Fund delivers the foreign investment as soon as practicable, but in no event later
than 15 days.
If neither the redeeming Beneficial Owner nor the Authorized
Participant acting on behalf of such redeeming Beneficial Owner has appropriate arrangements to take
delivery of Fund Securities in the applicable non-U.S. jurisdiction and it is not possible to make other
such arrangements, or if it is not possible to effect deliveries of Fund Securities in such jurisdiction,
the Fund may in its discretion exercise its option to redeem such shares in cash, and the redeeming Beneficial
Owner will be required to receive its redemption proceeds in cash. In such case, the investor will receive
a cash payment equal to the net asset value of its shares based on the NAV of the Fund next determined
after the redemption request is received in proper form (minus a redemption transaction fee and additional
charges specified above, to offset the Fund’s brokerage and other transaction costs associated with
the disposition of Fund Securities). Redemptions of shares for Fund Securities will be subject to compliance
with applicable U.S. federal and state securities laws and the Fund (whether or not it otherwise permits
cash redemptions) reserves the right to redeem Creation Units for cash to the extent that the Fund cannot
lawfully deliver specific Fund Securities upon redemptions or cannot do so without first registering
the Fund Securities under such laws.
In the event that cash redemptions are permitted
or required by the Trust (currently, Creation Units of the Fund are generally redeemed solely for cash),
proceeds will be paid to the Authorized Participant redeeming shares as soon as practicable after the
date of redemption (within seven calendar days thereafter).
To the extent contemplated
by an Authorized Participant Agreement with Distributors, in the event an Authorized Participant has
submitted a redemption request in proper form but is unable to transfer all or part of the Creation Unit
to be redeemed to the Fund, at or prior to 10 a.m., Eastern time on the prescribed settlement date, Distributors
or its agent will accept the redemption request in reliance on the undertaking by the Authorized Participant
to deliver the missing shares as soon as possible. Such undertaking shall be secured by the Authorized
Participant’s delivery and maintenance of collateral consisting of cash, in U.S. dollars in immediately
available funds, having a value at least equal to 105% and up to 115%, which percentage the Trust may
change at any time, in its sole discretion, of the value of the missing shares. Such cash collateral
must be delivered no later than 10 a.m., Eastern time on the prescribed settlement date and shall be
held by the Fund’s custodian and marked-to-market daily. The fees of the Fund’s custodian and any
sub-custodians in respect of the delivery, maintenance and redelivery of the cash collateral shall be
payable by the Authorized Participant. The Authorized Participant Agreement will permit the Fund to purchase
missing Fund shares or acquire the Deposit Securities and the Cash Amount underlying such shares, and
will subject the Authorized Participant to liability for any shortfall between the cost of the Fund acquiring
such shares, the Deposit Securities or Cash Amount and the value of the cash collateral including, without
limitation, liability for related brokerage and other charges.
Because the portfolio
securities of the Fund may trade on exchange(s) on days that the Listing Exchange is closed or are otherwise
not Business Days for the Fund, shareholders may not be able to redeem their shares of the Fund, or purchase
or sell shares of the Fund on the Listing Exchange on days when the NAV of the Fund could be significantly
affected by events in the relevant non-U.S. markets.
The right of redemption
may be suspended or the date of payment postponed with respect to the Fund: (i) for any period during
which the Listing Exchange is closed (other than customary weekend and holiday closings); (ii) for any
period during which trading on the Listing Exchange is restricted; (iii) for any period during which
an emergency exists as a result of which disposal of the shares of the Fund’s portfolio securities
or determination of its net asset value is
56
not reasonably practicable; or (iv) in such other circumstances as is permitted
by the SEC.
Custom baskets. The Fund may utilize custom creation or redemption baskets
consistent with Rule 6c-11 under the 1940 Act. A custom order may be placed when, for example, an Authorized
Participant cannot transact in an instrument in the in-kind creation or in-kind redemption basket and
therefore has additional cash included in lieu of such instrument. The Trust has adopted policies and
procedures that govern the construction and acceptance of baskets, including heightened requirements
for certain types of custom baskets. These policies and procedures provide detailed parameters for the
construction and acceptance of custom baskets that are in the best interests of the Fund and its shareholders,
including the process for any revisions to, or deviations from, those parameters, and specify the titles
or roles of the employees of the investment manager who are required to review each custom basket for
compliance with the parameters.
Franklin
Distributors, LLC (Distributors) acts as the principal underwriter in the continuous public offering
of the Fund's shares. Distributors is located at One Franklin Parkway, San Mateo, CA 94403-1906.
Shares are continuously offered for sale by the Fund through Distributors or its
agent only in Creation Units, as described in the prospectus and above in the “Creation and Redemption
of Creation Units” section of this SAI. Fund shares in amounts less than Creation Units are generally
not distributed by Distributors or its agent. Distributors or its agent will arrange for the delivery
of the prospectus and, upon request, this SAI to persons purchasing Creation Units and will maintain
records of both orders placed with it or its agents and confirmations of acceptance furnished by it or
its agents.
Distributors may enter into agreements with securities dealers
(Soliciting Dealers) who will solicit purchases of Creation Units of Fund shares. Such Soliciting Dealers
may also be Authorized Participants, DTC participants and/or investor services organizations.
Distributors
may be entitled to payments from the Fund under the Rule 12b-1 plan, as discussed below. Except as noted,
Distributors received no other compensation from the Fund for acting as underwriter.
Distribution and
service (12b-1) fees The board has adopted a plan pursuant to Rule 12b-1 for
the Fund. However, no Rule 12b-1 plan fee is currently charged to the Fund, and there are no plans in
place to impose a Rule 12b-1 plan fee. The plan is designed to benefit the Fund and its shareholders.
The plan is expected to, among other things, increase advertising of the Fund, encourage purchases of
Fund shares and service to its shareholders, and increase or maintain assets of the Fund so that certain
fixed expenses may be spread over a broader asset base, with a positive impact on per share expense ratios.
In addition, a positive cash flow into the Fund is useful in managing the Fund because the investment
manager has more flexibility in taking advantage of new investment opportunities and handling shareholder
redemptions.
The plan is a compensation type plan. Under the plan, the
Fund pays Distributors or others for the expenses of activities that are primarily intended to sell shares
of the Fund. These expenses also may include service fees paid to securities dealers or others who have
executed a servicing agreement with the Fund, Distributors or its affiliates and who provide service
or account maintenance to shareholders (service fees); and the expenses of printing prospectuses and
reports used for sales purposes, of marketing support and of preparing and distributing sales literature
and advertisements. Together, these expenses, including the service fees, are "eligible expenses." The
12b-1 fees charged to the Fund are based only on the fees attributable to that particular Fund and are
calculated, as a percentage of such Fund's net assets, over the 12-month period of February 1 through
January 31. Because this 12-month period may not match the Fund’s fiscal year, the amount, as a percentage
of the Fund's net assets, for the Fund’s fiscal year may vary from the amount stated under the plan,
but will never exceed that amount during the 12-month period of February 1 through January 31. In addition
to the payments that Distributors or others are entitled to under the plan, the plan also provides that
to the extent the Fund, the investment manager or Distributors or other parties on behalf of the Fund,
the investment manager or Distributors make payments that are deemed to be for the financing of any activity
primarily intended to result in the sale of Fund shares within the context of Rule 12b-1 under the 1940
Act, then such payments shall be deemed to have been made pursuant to the plan.
To
the extent fees are for distribution or marketing functions, as distinguished from administrative servicing
or agency transactions, certain banks may not participate in the plan because of applicable federal law
prohibiting certain banks from engaging in the distribution of fund shares. These banks, however, are
allowed to receive fees under the plan for administrative servicing or for agency transactions.
Distributors must provide written reports to the board at least quarterly on the
amounts and purpose of any payment made under the plan and any related agreements, and furnish the board
with such other information as the board may reasonably request to enable it to make an informed determination
of whether the plan should be continued.
The plan has been approved according to the
provisions of Rule 12b-1. The terms and provisions of the plan also are consistent with Rule 12b-1.
57
The
ratings of Moody’s Investors Service, Inc., S&P Global Ratings and Fitch Ratings represent their
opinions as to the quality of various debt obligations. It should be emphasized, however, that ratings
are not absolute standards of quality. Consequently, debt obligations with the same maturity,
coupon and rating may have different yields while debt obligations of the same maturity and coupon with
different ratings may have the same yield. As described by the rating agencies, ratings are generally
given to securities at the time of issuances. While the rating agencies may from time to time revise
such ratings, they undertake no obligation to do so.
Moody’s Investors
Service, Inc. Global Rating Scales
Ratings assigned on Moody’s global long-term and short-
term rating scales are forward-looking opinions of the relative credit risks of financial obligations
issued by non-financial corporates, financial institutions, structured finance vehicles, project finance
vehicles, and public sector entities. Moody’s defines credit risk as the risk that an entity may not
meet its contractual financial obligations as they come due and any estimated financial loss in the event
of default or impairment. The contractual financial obligations1
addressed by Moody’s ratings are those that call for, without regard to enforceability, the payment
of an ascertainable amount, which may vary based upon standard sources of variation (e.g., floating interest
rates), by an ascertainable date. Moody’s rating addresses the issuer’s ability to obtain cash sufficient
to service the obligation, and its willingness to pay.2 Moody’s ratings
do not address non-standard sources of variation in the amount of the principal obligation (e.g., equity
indexed), absent an express statement to the contrary in a press release accompanying an initial rating.3
Long-term ratings are assigned to issuers or obligations with an original maturity of eleven months or
more and reflect both on the likelihood of a default or impairment on contractual financial obligations
and the expected financial loss suffered in the event of default or impairment. Short-term ratings are
assigned to obligations with an original maturity of thirteen months or less and reflect both on the
likelihood of a default or impairment on contractual financial obligations and the expected financial
loss suffered in the event of default or impairment.4, 5 Moody’s issues
ratings at the issuer level and instrument level on both the long- term scale and the short-term scale.
Typically, ratings are made publicly available although private and unpublished ratings may also be assigned.6
Moody’s
differentiates structured finance ratings from fundamental ratings (i.e., ratings on nonfinancial corporate,
financial institution, and public sector entities) on the global long-term scale by adding (sf) to all
structured finance ratings.7 The addition of (sf) to structured finance
ratings should eliminate any presumption that such ratings and fundamental ratings at the same letter
grade level will behave the same.
1. In
the case of impairments, there can be a financial loss even when contractual obligations are met.
2. In some cases, the relevant credit risk relates to a third
party, in addition to, or instead of the issuer. Examples include credit-linked notes and guaranteed
obligations.
3. Because the number
of possible features or structures is limited only by the creativity of issuers, Moody’s cannot comprehensively
catalogue all the types of non-standard variation affecting financial obligations, but examples include
equity indexed principal values and cash flows, prepayment penalties, and an obligation to pay an amount
that is not ascertainable at the inception of the transaction.
4. For
certain preferred stock and hybrid securities in which payment default events are either not defined
or do not match investors’ expectations for timely payment, long-term and short-term ratings reflect
the likelihood of impairment and financial loss in the event of impairment.
5. Debts held on the balance sheets of official sector institutions
– which include supranational institutions, central banks and certain government-owned or controlled
banks – may not always be treated the same as debts held by private investors and lenders. When it
is known that an obligation is held by official sector institutions as well as other investors, a rating
(short-term or long-term) assigned to that obligation reflects only the credit risks faced by non-official
sector investors.
6. For information
on how to obtain a Moody’s credit rating, including private and unpublished credit ratings, please
see Moody’s Investors Service Products. Please note that Moody’s always reserves the right to choose
not to assign or maintain a credit rating for its own business reasons.
7. Like other global scale ratings, (sf) ratings reflect both
the likelihood of a default and the expected loss suffered in the event of default. Ratings are assigned
based on a rating committee’s assessment of a security’s expected loss rate (default probability
multiplied by expected loss severity), and may be subject to the constraint that the final expected loss
rating assigned would not be more than a certain number of notches, typically three to five notches,
above the rating that would be assigned based on an assessment of default probability alone. The magnitude
of this constraint may vary with the level of the rating, the seasoning of the transaction, and the uncertainty
around the assessments of expected loss and probability of default.
The
(sf) indicator for structured finance security ratings indicates that otherwise similarly rated structured
finance and fundamental securities may have different risk characteristics. Through its current methodologies,
however, Moody’s aspires to achieve broad expected equivalence in structured finance and fundamental
rating performance when measured over a long period of time.
Description of Moody’s
Investors Service, Inc.’s Global Long-Term Ratings:
Aaa—Obligations
rated Aaa are judged to be of the highest quality, subject to the lowest level of credit risk.
Aa—Obligations
rated Aa are judged to be of high quality and are subject to very low credit risk.
A—Obligations
rated A are judged to be upper-medium grade and are subject to low credit risk.
Baa—Obligations
rated Baa are judged to be medium-grade and subject to moderate credit risk and as such may possess certain
speculative characteristics.
Ba—Obligations rated Ba are judged to be
speculative and are subject to substantial credit risk.
58
B—Obligations
rated B are considered speculative and are subject to high credit risk.
Caa—Obligations
rated Caa are judged to be speculative of poor standing and are subject to very high credit risk.
Ca—Obligations
rated Ca are highly speculative and are likely in, or very near, default, with some prospect of recovery
of principal and interest.
C—Obligations rated C are the lowest rated
and are typically in default, with little prospect for recovery of principal or interest.
Note:
Moody’s appends numerical modifiers 1, 2, and 3 to each generic rating classification from Aa through
Caa. The modifier 1 indicates that the obligation ranks in the higher end of its generic rating category;
the modifier 2 indicates a mid-range ranking; and the modifier 3 indicates a ranking in the lower end
of that generic rating category. Additionally, a “(hyb)” indicator is appended to all ratings of
hybrid securities issued by banks, insurers, finance companies, and securities firms.*
*
By their terms, hybrid securities allow for the omission of scheduled dividends, interest, or principal
payments, which can potentially result in impairment if such an omission occurs. Hybrid securities may
also be subject to contractually allowable write-downs of principal that could result in impairment.
Together with the hybrid indicator, the long-term obligation rating assigned to a hybrid security is
an expression of the relative credit risk associated with that security.
Description
of Moody’s Investors Service, Inc.’s Global Short-Term Ratings:
P-1—Ratings of Prime-1
reflect a superior ability to repay short-term obligations.
P-2—Ratings of Prime-2
reflect a strong ability to repay short-term obligations.
P-3—Ratings of Prime-3
reflect an acceptable ability to repay short-term obligations.
NP—Issuers (or
supporting institutions) rated Not Prime do not fall within any of the Prime rating categories.
Description of Moody’s Investors Service, Inc.’s US Municipal Ratings:
U.S. Municipal Short-Term Debt and Demand Obligation Ratings:
Moody’s
uses the global short-term Prime rating scale for commercial paper issued by US municipalities and nonprofits.
These commercial paper programs may be backed by external letters of credit or liquidity facilities,
or by an issuer’s self-liquidity.
For other short-term municipal obligations,
Moody’s uses one of two other short-term rating scales, the Municipal Investment Grade (MIG) and Variable
Municipal Investment Grade (VMIG) scales discussed below.
MIG Ratings:
Moody’s
uses the MIG scale for US municipal cash flow notes, bond anticipation notes and certain other short-term
obligations, which typically mature in three years or less. Under certain circumstances, Moody’s uses
the MIG scale for bond anticipation notes with maturities of up to five years.
MIG 1—This
designation denotes superior credit quality. Excellent protection is afforded by established cash flows,
highly reliable liquidity support, or demonstrated broad-based access to the market for refinancing.
MIG
2—This designation denotes strong credit quality. Margins of protection are ample,
although not as large as in the preceding group.
MIG 3—This designation
denotes acceptable credit quality. Liquidity and cash-flow protection may be narrow, and market access
for refinancing is likely to be less well-established.
SG—This designation denotes speculative-grade
credit quality. Debt instruments in this category may lack sufficient margins of protection.
VMIG Ratings:
For variable rate demand obligations (VRDOs),
Moody’s assigns both a long-term rating and a short-term payment obligation rating. The long-term rating
addresses the issuer’s ability to meet scheduled principal and interest payments. The short-term payment
obligation rating addresses the ability of the issuer or the liquidity provider to meet any purchase
price payment obligations resulting from optional tenders (“on demand”) and/or mandatory tenders
of the VRDO. The short-term payment obligation rating uses the VMIG scale. Transitions of VMIG ratings
with conditional liquidity support differ from transitions of Prime ratings reflecting the risk that
external liquidity support will terminate if the issuer’s long-term rating drops below investment grade.
For VRDOs, Moody’s typically assigns a VMIG rating if the frequency of the payment
obligation is less than every three years. If the frequency of the payment obligation is less than three
years, but the obligation is payable only with remarketing proceeds, the VMIG short-term rating is not
assigned and it is denoted as “NR”. Industrial development bonds in the US where the obligor is a
corporate may carry a VMIG rating that reflects Moody’s view of the relative likelihood of default
and loss. In these cases, liquidity assessment is based on the liquidity of the corporate obligor.
VMIG
1—This designation denotes superior credit quality. Excellent protection is afforded
by the superior short-term
59
credit strength of the liquidity provider and structural and legal protections.
VMIG
2—This designation denotes strong credit quality. Good protection is afforded
by the strong short- term credit strength of the liquidity provider and structural and legal protections.
VMIG
3—This designation denotes acceptable credit quality. Adequate protection is
afforded by the satisfactory short-term credit strength of the liquidity provider and structural and
legal protections.
SG—This designation denotes speculative-grade credit quality.
Demand features rated in this category may be supported by a liquidity provider that does not have a
sufficiently strong short-term rating or may lack the structural or legal protections.
Description
of Moody’s Investors Service, Inc.’s National Scale Long-Term Ratings:
Moody’s
long-term National Scale Ratings (NSRs) are opinions of the relative creditworthiness of issuers and
financial obligations within a particular country. NSRs are not designed to be compared among countries;
rather, they address relative credit risk within a given country. Moody’s assigns national scale ratings
in certain local capital markets in which investors have found the global rating scale provides inadequate
differentiation among credits or is inconsistent with a rating scale already in common use in the country.
In each specific country, the last two characters of the rating indicate the country
in which the issuer is located or the financial obligation was issued (e.g., Aaa.ke for Kenya).
Long-Term NSR Scale
Aaa.n Issuers
or issues rated Aaa.n demonstrate the strongest creditworthiness relative to other domestic issuers and
issuances.
Aa.n Issuers or issues
rated Aa.n demonstrate very strong creditworthiness relative to other domestic issuers and issuances.
A.n
Issuers or issues rated A.n present above-average
creditworthiness relative to other domestic issuers and issuances.
Baa.n Issuers or issues rated Baa.n represent average creditworthiness
relative to other domestic issuers and issuances.
Ba.n Issuers or issues rated Ba.n demonstrate below-average creditworthiness
relative to other domestic issuers and issuances.
B.n Issuers or issues rated B.n demonstrate weak creditworthiness
relative to other domestic issuers and issuances.
Caa.n Issuers or issues rated Caa.n demonstrate very weak creditworthiness
relative to other domestic issuers and issuances.
Ca.n Issuers or issues rated Ca.n demonstrate extremely weak creditworthiness
relative to other domestic issuers and issuances.
C.n Issuers or issues rated C.n demonstrate the weakest creditworthiness
relative to other domestic issuers and issuances.
Note: Moody’s appends
numerical modifiers 1, 2, and 3 to each generic rating classification from Aa through Caa. The modifier
1 indicates that the obligation ranks in the higher end of its generic rating category; the modifier
2 indicates a mid-range ranking; and the modifier 3 indicates a ranking in the lower end of that generic
rating category.
Description of S&P Global Ratings’ Long-Term Issue Credit
Ratings:
Issue credit ratings are based, in varying degrees, on S&P Global Ratings’
analysis of the following considerations:
• The likelihood of payment—the capacity and willingness of
the obligor to meet its financial commitments on an obligation in accordance with the terms of the obligation;
• The
nature and provisions of the financial obligation, and the promise S&P Global Ratings imputes; and
• The
protection afforded by, and relative position of, the financial obligation in the event of a bankruptcy,
reorganization, or other arrangement under the laws of bankruptcy and other laws affecting creditors’
rights.
An issue rating is an assessment of default risk but may incorporate
an assessment of relative seniority or ultimate recovery in the event of default. Junior obligations
are typically rated lower than senior obligations, to reflect lower priority in bankruptcy, as noted
above. (Such differentiation may apply when an entity has both senior and subordinated obligations, secured
and unsecured obligations, or operating company and holding company obligations.)
AAA—An obligation
rated “AAA” has the highest rating assigned by S&P Global Ratings. The obligor’s capacity to
meet its financial commitments on the obligation is extremely strong.
AA—An obligation
rated “AA” differs from the highest-rated obligations only to a small degree. The obligor’s capacity
to meet its financial commitments on the obligation is very strong.
A—An obligation
rated “A” is somewhat more susceptible to the adverse effects of changes in circumstances and economic
conditions than obligations in higher-rated categories. However, the obligor’s capacity to meet its
financial commitments on the obligation is still strong.
BBB—An obligation
rated “BBB” exhibits adequate protection parameters. However, adverse economic conditions or
60
changing circumstances are more likely to weaken the obligor’s capacity to meet
its financial commitments on the obligation.
BB, B, CCC, CC, and C—Obligations rated “BB”, “B”,
“CCC”, “CC”, and “C” are regarded as having significant speculative characteristics. “BB”
indicates the least degree of speculation and “C” the highest. While such obligations will likely
have some quality and protective characteristics, these may be outweighed by large uncertainties or major
exposure to adverse conditions.
BB—An obligation rated “BB” is less
vulnerable to nonpayment than other speculative issues. However, it faces major ongoing uncertainties
or exposure to adverse business, financial, or economic conditions that could lead to the obligor’s
inadequate capacity to meet its financial commitments on the obligation.
B—An obligation
rated “B” is more vulnerable to nonpayment than obligations rated “BB”, but the obligor currently
has the capacity to meet its financial commitments on the obligation. Adverse business, financial, or
economic conditions will likely impair the obligor’s capacity or willingness to meet its financial
commitments on the obligation.
CCC—An obligation rated “CCC” is currently
vulnerable to nonpayment and is dependent upon favorable business, financial, and economic conditions
for the obligor to meet its financial commitments on the obligation. In the event of adverse business,
financial, or economic conditions, the obligor is not likely to have the capacity to meet its financial
commitments on the obligation.
CC—An obligation rated “CC” is currently
highly vulnerable to nonpayment.
The “CC” rating is used when a default
has not yet occurred but S&P Global Ratings expects default to be a virtual certainty, regardless
of the anticipated time to default.
C—An obligation rated “C” is currently
highly vulnerable to nonpayment, and the obligation is expected to have lower relative seniority or lower
ultimate recovery compared with obligations that are rated higher.
D—An obligation
rated “D” is in default or in breach of an imputed promise. For non-hybrid capital instruments, the
“D” rating category is used when payments on an obligation are not made on the date due, unless S&P
Global Ratings believes that such payments will be made within the next five business days in the absence
of a stated grace period or within the earlier of the stated grace period or the next 30 calendar days.
The “D” rating also will be used upon the filing of a bankruptcy petition or the taking of similar
action and where default on an obligation is a virtual certainty, for example due to automatic stay provisions.
A rating on an obligation is lowered to “D” if it is subject to a distressed debt restructuring.
Ratings from “AA” to “CCC” may be modified by the addition of a plus (+)
or minus (-) sign to show relative standing within the rating categories.
Description
of S&P Global Ratings’ Short-Term Issue Credit Ratings:
A-1—A short-term
obligation rated “A-1” is rated in the highest category by S&P Global Ratings. The obligor’s
capacity to meet its financial commitments on the obligation is strong. Within this category, certain
obligations are designated with a plus sign (+). This indicates that the obligor’s capacity to meet
its financial commitments on these obligations is extremely strong.
A-2—A short-term
obligation rated “A-2” is somewhat more susceptible to the adverse effects of changes in circumstances
and economic conditions than obligations in higher rating categories. However, the obligor’s capacity
to meet its financial commitments on the obligation is satisfactory.
A-3—A short-term
obligation rated “A-3” exhibits adequate protection parameters. However, adverse economic conditions
or changing circumstances are more likely to weaken an obligor’s capacity to meet its financial commitments
on the obligation.
B—A short-term obligation rated “B” is regarded as vulnerable
and has significant speculative characteristics. The obligor currently has the capacity to meet its financial
commitments; however, it faces major ongoing uncertainties that could lead to the obligor’s inadequate
capacity to meet its financial commitments.
C—A short-term obligation rated “C”
is currently vulnerable to nonpayment and is dependent upon favorable business, financial, and economic
conditions for the obligor to meet its financial commitments on the obligation.
D—A short-term
obligation rated “D” is in default or in breach of an imputed promise. For non-hybrid capital instruments,
the “D” rating category is used when payments on an obligation are not made on the date due, unless
S&P Global Ratings believes that such payments will be made within any stated grace period.
However, any stated grace period longer than five business days will be treated
as five business days. The “D” rating also will be used upon the filing of a bankruptcy petition
or the taking of a similar action and where default on an obligation is a virtual certainty, for example
due to automatic stay provisions. A rating on an obligation is lowered to “D” if it is subject to
a distressed debt restructuring.
61
Description of S&P Global Ratings’ Municipal Short-Term Note Ratings:
An S&P Global Ratings U.S. municipal note rating reflects S&P Global Ratings’
opinion about the liquidity factors and market access risks unique to the notes. Notes due in three years
or less will likely receive a note rating. Notes with an original maturity of more than three years will
most likely receive a long-term debt rating. In determining which type of rating, if any, to assign,
S&P Global Ratings’ analysis will review the following considerations:
• Amortization schedule—the
larger the final maturity relative to other maturities, the more likely it will be treated as a note;
and
• Source
of payment—the more dependent the issue is on the market for its refinancing, the more likely it will
be treated as a note.
SP-1—Strong capacity to pay principal and
interest. An issue determined to possess a very strong capacity to pay debt service is given a plus (+)
designation.
SP-2—Satisfactory capacity to pay principal and interest, with
some vulnerability to adverse financial and economic changes over the term of the notes.
SP-3—Speculative
capacity to pay principal and interest.
D—“D” is assigned upon failure to
pay the note when due, completion of a distressed debt restructuring, or the filing of a bankruptcy petition
or the taking of similar action and where default on an obligation is a virtual certainty, for example
due to automatic stay provisions.
Long-Term Issuer Credit Ratings
AAA An obligor rated
“AAA” has extremely strong capacity to meet its financial commitments. “AAA” is the highest issuer
credit rating assigned by S&P Global Ratings.
AA An obligor rated
“AA” has very strong capacity to meet its financial commitments. It differs from the highest-rated
obligors only to a small degree.
A An obligor rated “A” has strong capacity
to meet its financial commitments but is somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions than obligors in higher-rated categories.
BBB An obligor rated
“BBB” has adequate capacity to meet its financial commitments. However, adverse economic conditions
or changing circumstances are more likely to weaken the obligor’s capacity to meet its financial commitments.
BB,
B, CCC, and CC Obligors rated “BB”, “B”, “CCC”, and “CC” are regarded as having
significant speculative characteristics. “BB” indicates the least degree of speculation and “CC”
the highest. While such obligors will likely have some quality and protective characteristics, these
may be outweighed by large uncertainties or major exposure to adverse conditions.
BB An obligor rated
“BB” is less vulnerable in the near term than other lower-rated obligors. However, it faces major
ongoing uncertainties and exposure to adverse business, financial, or economic conditions that could
lead to the obligor’s inadequate capacity to meet its financial commitments financial commitments.
Adverse business, financial, or economic conditions will likely impair the obligor’s capacity or willingness
to meet its financial commitments.
CCC An obligor rated “CCC” is currently
vulnerable and is dependent upon favorable business, financial, and economic conditions to meet its financial
commitments.
CC An obligor rated “CC” is currently highly vulnerable.
The “CC” rating is used when a default has not yet occurred but S&P Global Ratings expects default
to be a virtual certainty, regardless of the anticipated time to default.
SD and D
An obligor is rated “SD” (selective default) or “D” if S&P Global Ratings considers there
to be a default on one or more of its financial obligations, whether long- or short-term, including rated
and unrated obligations but excluding hybrid instruments classified as regulatory capital or in nonpayment
according to terms. A “D” rating is assigned when S&P Global Ratings believes that the default
will be a general default and that the obligor will fail to pay all or substantially all of its obligations
as they come due. An “SD” rating is assigned when S&P Global Ratings believes that the obligor
has selectively defaulted on a specific issue or class of obligations but it will continue to meet its
payment obligations on other issues or classes of obligations in a timely manner. A rating on an obligor
is lowered to “D” or “SD” if it is conducting a distressed debt restructuring.
Ratings
from “AA” to “CCC” may be modified by the addition of a plus (+) or minus (-) sign to show relative
standing within the rating categories.
Short-Term Issuer Credit Ratings
A-1 An obligor rated
“A-1” has strong capacity to meet its financial commitments. It is rated in the highest category
by S&P Global Ratings. Within this category, certain obligors are designated with a plus sign (+).
This indicates that the obligor’s capacity to meet its financial commitments is extremely strong.
A-2
An obligor rated “A-2” has satisfactory capacity to meet its financial commitments.
However, it is somewhat more susceptible to the adverse effects of changes in circumstances and economic
conditions than obligors in the highest rating category.
62
A-3
An obligor rated “A-3” has adequate capacity to meet its financial obligations.
However, adverse economic conditions or changing circumstances are more likely to weaken the obligor’s
capacity to meet its financial commitments.
B An obligor rated
“B” is regarded as vulnerable and has significant speculative characteristics. The obligor currently
has the capacity to meet its financial commitments; however, it faces major ongoing uncertainties that
could lead to the obligor’s inadequate capacity to meet its financial commitments.
C An obligor rated
“C” is currently vulnerable to nonpayment that would result in an “SD” or “D” issuer rating
and is dependent upon favorable business, financial, and economic conditions to meet its financial commitments.
SD
and D An obligor is rated “SD” (selective default) or “D” if S&P Global
Ratings considers there to be a default on one or more of its financial obligations, whether long- or
short-term, including rated and unrated obligations but excluding hybrid instruments classified as regulatory
capital or in nonpayment according to terms. A “D” rating is assigned when S&P Global Ratings
believes that the default will be a general default and that the obligor will fail to pay all or substantially
all of its obligations as they come due. An “SD” rating is assigned when S&P Global Ratings believes
that the obligor has selectively defaulted on a specific issue or class of obligations but it will continue
to meet its payment obligations on other issues or classes of obligations in a timely manner. A rating
on an obligor is lowered to “D” or “SD” if it is conducting a distressed debt restructuring.
Description of S&P Global Ratings’ Dual Ratings:
Dual
ratings may be assigned to debt issues that have a put option or demand feature. The first component
of the rating addresses the likelihood of repayment of principal and interest as due, and the second
component of the rating addresses only the demand feature. The first component of the rating can relate
to either a short-term or long-term transaction and accordingly use either short-term or long-term rating
symbols. The second component of the rating relates to the put option and is assigned a short-term rating
symbol (for example, “AAA/A-1+” or “A-1+/A-1”). With U.S. municipal short-term demand debt, the
U.S. municipal short-term note rating symbols are used for the first component of the rating (for example,
“SP-1+/A-1+”).
Description of S&P Global Ratings’ Active Qualifiers:
S&P Global Ratings uses the following qualifiers that limit the scope of a
rating. The structure of the transaction can require the use of a qualifier such as a “p” qualifier,
which indicates the rating addresses the principal portion of the obligation only. A qualifier appears
as a suffix and is part of the rating.
Federal deposit insurance limit: “L” qualifier.
Ratings qualified with “L” apply only to amounts invested up to federal deposit insurance limits.
Principal:
“p” qualifier. This suffix is used for issues in which the credit factors, the terms, or both that
determine the likelihood of receipt of payment of principal are different from the credit factors, terms,
or both that determine the likelihood of receipt of interest on the obligation. The “p” suffix indicates
that the rating addresses the principal portion of the obligation only and that the interest is not rated.
Preliminary
ratings: “prelim” qualifier. Preliminary ratings, with the “prelim” suffix, may
be assigned to obligors or obligations, including financial programs, in the circumstances described
below. Assignment of a final rating is conditional on the receipt by S&P Global Ratings of appropriate
documentation. S&P Global Ratings reserves the right not to issue a final rating. Moreover, if a
final rating is issued, it may differ from the preliminary rating.
• Preliminary ratings
may be assigned to obligations, most commonly structured and project finance issues, pending receipt
of final documentation and legal opinions.
• Preliminary ratings may be assigned to obligations that will
likely be issued upon the obligor’s emergence from bankruptcy or similar reorganization, based on late-stage
reorganization plans, documentation, and discussions with the obligor. Preliminary ratings may also be
assigned to the obligors. These ratings consider the anticipated general credit quality of the reorganized
or post-bankruptcy issuer as well as attributes of the anticipated obligation(s).
• Preliminary ratings
may be assigned to entities that are being formed or that are in the process of being independently established
when, in S&P Global Ratings’ opinion, documentation is close to final. Preliminary ratings may
also be assigned to the obligations of these entities.
• Preliminary ratings may be assigned when a previously unrated
entity is undergoing a well-formulated restructuring, recapitalization, significant financing, or other
transformative event, generally at the point that investor or lender commitments are invited. The preliminary
rating may be assigned to the entity and to its proposed obligation(s). These preliminary ratings consider
the anticipated general credit quality of the obligor, as well as attributes of the anticipated obligation(s),
assuming successful completion of the transformative event. Should the transformative event not occur,
S&P Global Ratings would likely withdraw these preliminary ratings.
• A preliminary recovery
rating may be assigned to an obligation that has a preliminary issue credit rating.
Termination structures:
“t” qualifier. This symbol indicates termination structures that are designed to honor their
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contracts to full maturity or, should certain events occur, to terminate and cash
settle all their contracts before their final maturity date.
Counterparty instrument rating:
“cir” qualifier. This symbol indicates a counterparty instrument rating (CIR), which is a forward-looking
opinion about the creditworthiness of an issuer in a securitization structure with respect to a specific
financial obligation to a counterparty (including interest rate swaps, currency swaps, and liquidity
facilities). The CIR is determined on an ultimate payment basis; these opinions do not take into account
timeliness of payment.
Description of Fitch Ratings’ Corporate Finance
Obligations:
Ratings of individual securities or financial obligations
of a corporate issuer address relative vulnerability to default on an ordinal scale. In addition, for
financial obligations in corporate finance, a measure of recovery given default on that liability is
also included in the rating assessment. This notably applies to covered bonds ratings, which incorporate
both an indication of the probability of default and of the recovery given a default of this debt instrument.
On the contrary, ratings of debtor-in-possession (DIP) obligations incorporate the expectation of full
repayment.
The relationship between the issuer scale and obligation scale
assumes a generic historical average recovery. Individual obligations can be assigned ratings higher,
lower, or the same as that entity’s issuer rating or Issuer Default Rating (IDR), based on their relative
ranking, relative vulnerability to default or based on explicit Recovery Ratings.
As
a result, individual obligations of entities, such as corporations, are assigned ratings higher, lower,
or the same as that entity’s issuer rating or IDR, except DIP obligation ratings that are not based
off an IDR. At the lower end of the ratings scale, Fitch publishes explicit Recovery Ratings in many
cases to complement issuer and obligation ratings.
AAA: Highest Credit
Quality. “AAA” ratings denote the lowest expectation of credit risk. They are assigned only in cases
of exceptionally strong capacity for payment of financial commitments. This capacity is highly unlikely
to be adversely affected by foreseeable events.
AA: Very High Credit
Quality. “AA” ratings denote expectations of very low credit risk. They indicate very strong capacity
for payment of financial commitments. This capacity is not significantly vulnerable to foreseeable events.
A:
High Credit Quality. “A” ratings denote expectations of low credit risk. The capacity for payment
of financial commitments is considered strong. This capacity may, nevertheless, be more vulnerable to
adverse business or economic conditions than is the case for higher ratings.
BBB:
Good Credit Quality. “BBB” ratings indicate that expectations of credit risk are currently low. The
capacity for payment of financial commitments is considered adequate, but adverse business or economic
conditions are more likely to impair this capacity.
BB: Speculative. “BB”
ratings indicate an elevated vulnerability to credit risk, particularly in the event of adverse changes
in business or economic conditions over time; however, business or financial alternatives may be available
to allow financial commitments to be met.
B: Highly Speculative. “B” ratings indicate
that material credit risk is present.
CCC: Substantial Credit Risk. “CCC” ratings
indicate that substantial credit risk is present.
CC: Very High Levels
of Credit Risk. “CC” ratings indicate very high levels of credit risk.
C: Exceptionally
High Levels of Credit Risk. “C” indicates exceptionally high levels of credit risk.
The ratings of corporate finance obligations are linked to Issuer Default Ratings
(IDRs) (or sometimes Viability Ratings for banks and non-bank financial institutions) by i) recovery
expectations, including as often indicated by Recovery Ratings assigned in the case of low speculative
grade issuers and ii) for banks and non-bank financial institutions an assessment of non-performance
risk relative to the risk captured in the IDR or Viability Rating (e.g. in respect of certain hybrid
securities).
For performing obligations, the obligation rating represents
the risk of default and includes the effect of expected recoveries on the credit risk should a default
occur.
If the obligation rating is higher than the rating of the issuer, this indicates
above average recovery expectations in the event of default. If the obligations rating is lower than
the rating of the issuer, this indicates low expected recoveries should default occur.
Ratings
in the categories of “CCC”, “CC” and “C” can also relate to obligations or issuers that are
in default. In this case, the rating does not opine on default risk but reflects the recovery expectation
only.
Description of Fitch Ratings’ Issuer Default Ratings:
Rated
entities in a number of sectors, including financial and non-financial corporations, sovereigns, insurance
companies and certain sectors within public finance, are generally assigned IDRs. IDRs are also assigned
to certain entities or enterprises in global infrastructure, project finance and public finance. IDRs
opine on an entity’s relative vulnerability to default (including by way of a distressed debt exchange)
on financial obligations. The threshold default risk addressed by
64
the IDR is generally that of the financial obligations whose non-payment would
best reflect the uncured failure of that entity. As such, IDRs also address relative vulnerability to
bankruptcy, administrative receivership or similar concepts.
In aggregate, IDRs provide
an ordinal ranking of issuers based on the agency’s view of their relative vulnerability to default,
rather than a prediction of a specific percentage likelihood of default.
AAA:
Highest Credit Quality. “AAA” ratings denote the lowest expectation of default risk. They are assigned
only in cases of exceptionally strong capacity for payment of financial commitments. This capacity is
highly unlikely to be adversely affected by foreseeable events.
AA: Very High Credit
Quality. “AA” ratings denote expectations of very low default risk. They indicate very strong capacity
for payment of financial commitments. This capacity is not significantly vulnerable to foreseeable events.
A:
High Credit Quality. “A” ratings denote expectations of low default risk. The capacity for payment
of financial commitments is considered strong. This capacity may, nevertheless, be more vulnerable to
adverse business or economic conditions than is the case for higher ratings.
BBB:
Good Credit Quality. “BBB” ratings indicate that expectations of default risk are currently low.
The capacity for payment of financial commitments is considered adequate, but adverse business or economic
conditions are more likely to impair this capacity.
BB: Speculative. “BB”
ratings indicate an elevated vulnerability to default risk, particularly in the event of adverse changes
in business or economic conditions over time; however, business or financial flexibility exists that
supports the servicing of financial commitments.
B: Highly Speculative. “B” ratings indicate
that material default risk is present, but a limited margin of safety remains. Financial commitments
are currently being met; however, capacity for continued payment is vulnerable to deterioration in the
business and economic environment.
CCC: Substantial Credit Risk. Very low margin
for safety. Default is a real possibility.
CC: Very high levels
of credit risk. Default of some kind appears probable.
C: Near default. A default or default-like
process has begun, or the issuer is in standstill, or for a closed funding vehicle, payment capacity
is irrevocably impaired. Conditions that are indicative of a “C” category rating for an issuer include:
• The
issuer has entered into a grace or cure period following non-payment of a material financial obligation;
• The
issuer has entered into a temporary negotiated waiver or standstill agreement following a payment default
on a material financial obligation;
• The formal announcement by the issuer or their agent of a
distressed debt exchange;
• A closed financing vehicle where payment capacity is irrevocably
impaired such that it is not expected to pay interest and/or principal in full during the life of the
transaction, but where no payment default is imminent.
RD: Restricted Default.
“RD” ratings indicate an issuer that in Fitch’s opinion has experienced:
• An uncured payment
default or distressed debt exchange on a bond, loan or other material financial obligation, but
• Has
not entered into bankruptcy filings, administration, receivership, liquidation, or other formal winding-up
procedure, and has not otherwise ceased operating. This would include:
• The selective payment
default on a specific class or currency of debt;
• The uncured expiry of any applicable grace period, cure period
or default forbearance period following a payment default on a bank loan, capital markets security or
other material financial obligation;
• The extension of multiple waivers or forbearance periods upon
a payment default on one or more material financial obligations, either in series or in parallel; ordinary
execution of a distressed debt exchange on one or more material financial obligations.
D: Default. “D”
ratings indicate an issuer that in Fitch’s opinion has entered into bankruptcy filings, administration,
receivership, liquidation or other formal winding-up procedure or that has otherwise ceased business.
Default ratings are not assigned prospectively to entities or their obligations;
within this context, non-payment on an instrument that contains a deferral feature or grace period will
generally not be considered a default until after the expiration of the deferral or grace period, unless
a default is otherwise driven by bankruptcy or other similar circumstance, or by a distressed debt exchange.
In all cases, the assignment of a default rating reflects the agency’s opinion
as to the most appropriate rating category consistent with the rest of its universe of ratings and may
differ from the definition of default under the terms of an issuer’s financial obligations or local
commercial practice.
Description of Fitch Ratings’ Structured Finance Long-Term
Obligation Ratings:
65
Ratings of structured finance obligations on the long-term scale consider the
obligations’ relative vulnerability to default. These ratings are typically assigned to an individual
security or tranche in a transaction and not to an issuer.
AAA: Highest Credit Quality.
“AAA” ratings denote the lowest expectation of default risk. They are assigned
only in cases of exceptionally strong capacity for payment of financial commitments. This capacity is
highly unlikely to be adversely affected by foreseeable events.
AA: Very High Credit Quality.
“AA” ratings denote expectations of very low default risk. They indicate very
strong capacity for payment of financial commitments. This capacity is not significantly vulnerable to
foreseeable events.
A: High Credit Quality.
“A” ratings denote
expectations of low default risk. The capacity for payment of financial commitments is considered strong.
This capacity may, nevertheless, be more vulnerable to adverse business or economic conditions than is
the case for higher ratings.
BBB: Good Credit Quality.
“BBB”
ratings indicate that expectations of default risk are currently low. The capacity for payment of financial
commitments is considered adequate, but adverse business or economic conditions are more likely to impair
this capacity.
BB: Speculative.
“BB” ratings indicate
an elevated vulnerability to default risk, particularly in the event of adverse changes in business or
economic conditions over time.
B: Highly Speculative.
“B”
ratings indicate that material default risk is present, but a limited margin of safety remains. Financial
commitments are currently being met; however, capacity for continued payment is vulnerable to deterioration
in the business and economic environment.
CCC: Substantial Credit Risk.
Very
low margin for safety. Default is a real possibility.
CC: Very High Levels of
Credit Risk.
Default of some kind appears probable.
C:
Exceptionally High Levels of Credit Risk.
Default appears imminent or inevitable.
D: Default.
Indicates a default. Default generally is
defined as one of the following:
• Failure to make payment of principal and/or interest under
the contractual terms of the rated obligation;
• bankruptcy filings, administration, receivership, liquidation
or other winding-up or cessation of the business of an issuer/obligor; or
• distressed exchange
of an obligation, where creditors were offered securities with diminished structural or economic terms
compared with the existing obligation to avoid a probable payment default.
Description
of Fitch Ratings’ Country Ceilings Ratings:
Country Ceilings are expressed
using the symbols of the long-term issuer primary credit rating scale and relate to sovereign jurisdictions
also rated by Fitch on the IDR scale. They reflect the agency’s judgment regarding the risk of capital
and exchange controls being imposed by the sovereign authorities that would prevent or materially impede
the private sector’s ability to convert local currency into foreign currency and transfer to non-resident
creditors — transfer and convertibility (T&C) risk. They are not ratings but expressions of a cap
for the foreign currency issuer ratings of most, but not all, issuers in a given country. Given the close
correlation between sovereign credit and T&C risks, the Country Ceiling may exhibit a greater degree
of volatility than would normally be expected when it lies above the sovereign Foreign Currency Rating.
Description of Fitch Ratings’ Sovereigns, Public Finance and Global Infrastructure
Obligations:
Ratings of public finance obligations and ratings of infrastructure
and project finance obligations on the long-term scale, including the financial obligations of sovereigns,
consider the obligations’ relative vulnerability to default. These ratings are assigned to an individual
security, instrument or tranche in a transaction. In some cases, considerations of recoveries can have
an influence on obligation ratings in infrastructure and project finance. In limited cases in U.S. public
finance, where Chapter 9 of the Bankruptcy Code provides reliably superior prospects for ultimate recovery
to local government obligations that benefit from a statutory lien on revenues, Fitch reflects this in
a security rating with limited notching above the IDR. Recovery expectations can also be reflected in
a security rating in the U.S. during the pendency of a bankruptcy proceeding under the Code if there
is sufficient visibility on potential recovery prospects.
AAA: Highest Credit
Quality. “AAA” ratings denote the lowest expectation of default risk. They are assigned only in cases
of
66
exceptionally strong capacity for payment of financial commitments. This capacity
is highly unlikely to be adversely affected by foreseeable events.
AA: Very High Credit
Quality. “AA” ratings denote expectations of very low default risk. They indicate very strong capacity
for payment of financial commitments. This capacity is not significantly vulnerable to foreseeable events.
A:
High Credit Quality. “A” ratings denote expectations of low default risk. The capacity for payment
of financial commitments is considered strong. This capacity may, nevertheless, be more vulnerable to
adverse business or economic conditions than is the case for higher ratings.
BBB:
Good Credit Quality. “BBB” ratings indicate that expectations of default risk are currently low.
The capacity for payment of financial commitments is considered adequate, but adverse business or economic
conditions are more likely to impair this capacity.
BB: Speculative. “BB”
ratings indicate an elevated vulnerability to default risk, particularly in the event of adverse changes
in business or economic conditions over time.
B: Highly Speculative. “B” ratings indicate
that material default risk is present, but a limited margin of safety remains. Financial commitments
are currently being met; however, capacity for continued payment is vulnerable to deterioration in the
business and economic environment.
CCC: Substantial Credit Risk. Very low margin
for safety. Default is a real possibility.
CC: Very High Levels
of Credit Risk. Default of some kind appears probable.
C: Exceptionally High Levels of Credit Risk.
Default appears imminent or inevitable.
D: Default. Indicates a default. Default
generally is defined as one of the following:
• Failure to make payment of principal and/or interest under
the contractual terms of the rated obligation;
• bankruptcy filings, administration, receivership, liquidation
or other winding-up or cessation of the business of an issuer/obligor where payment default on an obligation
is a virtual certainty; or
• distressed exchange of an obligation, where creditors were
offered securities with diminished structural or economic terms compared with the existing obligation
to avoid a probable payment default.
Notes: In U.S. public finance, obligations
may be pre-refunded, where funds sufficient to meet the requirements of the respective obligations are
placed in an escrow account. When obligation ratings are maintained based on the escrowed funds and their
structural elements, the ratings carry the suffix “pre” (e.g. “AAApre”, “AA+pre”).
Structured Finance Defaults
Imminent default, categorized
under “C”, typically refers to the occasion where a payment default has been intimated by the issuer
and is all but inevitable. This may, for example, be where an issuer has missed a scheduled payment but
(as is typical) has a grace period during which it may cure the payment default. Another alternative
would be where an issuer has formally announced a distressed debt exchange, but the date of the exchange
still lies several days or weeks in the immediate future.
Additionally, in structured
finance transactions, where analysis indicates that an instrument is irrevocably impaired such that it
is not expected to pay interest and/or principal in full in accordance with the terms of the obligation’s
documentation during the life of the transaction, but where no payment default in accordance with the
terms of the documentation is imminent, the obligation will typically be rated in the “C” category.
Structured Finance Write-downs
Where an instrument has
experienced an involuntary and, in the agency’s opinion, irreversible write-down of principal (i.e.
other than through amortization, and resulting in a loss to the investor), a credit rating of “D”
will be assigned to the instrument. Where the agency believes the write-down may prove to be temporary
(and the loss may be written up again in future if and when performance improves), then a credit rating
of “C” will typically be assigned. Should the write-down then later be reversed, the credit rating
will be raised to an appropriate level for that instrument. Should the write-down later be deemed as
irreversible, the credit rating will be lowered to “D”.
Notes:
In
the case of structured finance, while the ratings do not address the loss severity given default of the
rated liability, loss severity assumptions on the underlying assets are nonetheless typically included
as part of the analysis. Loss severity assumptions are used to derive pool cash flows available to service
the rated liability.
The suffix “sf” denotes an issue that is a structured
finance transaction.
Enhanced Equipment Trust Certificates (EETCs) are corporate-structured
hybrid debt securities that airlines typically use to finance aircraft equipment. Due to the hybrid characteristics
of these bonds, Fitch’s rating approach incorporates elements of both the structured finance and corporate
rating methodologies. Although rated as asset-backed securities, unlike other structured finance ratings,
67
EETC ratings involve a measure of recovery given default akin to ratings of financial
obligations in corporate finance, as described above.
Description of Fitch Ratings’
Short-Term Ratings Assigned to Issuers and Obligations:
A short-term issuer or
obligation rating is based in all cases on the short-term vulnerability to default of the rated entity
and relates to the capacity to meet financial obligations in accordance with the documentation governing
the relevant obligation. Short-term deposit ratings may be adjusted for loss severity. Short-Term Ratings
are assigned to obligations whose initial maturity is viewed as “short term” based on market convention
(a long-term rating can also be used to rate an issue with short maturity). Typically, this means up
to 13 months for corporate, sovereign, and structured obligations, and up to 36 months for obligations
in U.S. public finance markets.
F1: Highest Short-Term Credit Quality. Indicates
the strongest intrinsic capacity for timely payment of financial commitments; may have an added “+”
to denote any exceptionally strong credit feature.
F2: Good Short-Term
Credit Quality. Good intrinsic capacity for timely payment of financial commitments.
F3: Fair Short-Term
Credit Quality. The intrinsic capacity for timely payment of financial commitments is adequate.
B:
Speculative Short-Term Credit Quality. Minimal capacity for timely payment of financial commitments,
plus heightened vulnerability to near term adverse changes in financial and economic conditions.
C:
High Short-Term Default Risk. Default is a real possibility.
RD: Restricted Default.
Indicates an entity that has defaulted on one or more of its financial commitments, although it continues
to meet other financial obligations. Typically applicable to entity ratings only.
D: Default. Indicates
a broad-based default event for an entity, or the default of a short-term obligation.
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| FRANKLIN TEMPLETON INVESTMENT SOLUTIONS Proxy
Voting Policies & Procedures An SEC Compliance Rule Policy and Procedures* | March 2024 |
Appendix
A
RESPONSIBILITY
OF THE INVESTMENT MANAGERS TO VOTE PROXIES
Franklin Templeton Investment
Solutions, a separate investment group within Franklin Templeton, comprised of investment personnel from
the SEC-registered investment advisers listed on Appendix A (hereinafter individually an “Investment
Manager” and collectively the "Investment Managers") have delegated the administrative duties with
respect to voting proxies for securities to the Franklin Templeton Proxy Group. Proxy duties consist
of disseminating proxy materials and analyses of issuers whose stock is owned by any client (including
both investment companies and any separate accounts managed by the Investment Managers) that has either
delegated proxy voting administrative responsibility to the Investment Managers or has asked for information
and/or recommendations on the issues to be voted. The Investment Managers will inform advisory clients
that have not delegated the voting responsibility but that have requested voting advice about the Investment
Managers’ views on such proxy votes. The Proxy Group also provides these services to other advisory
affiliates of the Investment Managers.
The Proxy Group will process proxy votes
on behalf of, and the Investment Managers vote proxies solely in the best interests of, separate account
clients, the Investment Managers’-managed investment company shareholders, or shareholders of funds
that have appointed Franklin Templeton International Services S.à.r.l. (“FTIS S.à.r.l.”) as the
Management Company, provided such funds or clients have properly delegated such responsibility in writing,
or, where employee benefit plan assets subject to the Employee Retirement Income Security Act of 1974,
as amended, are involved (“ERISA accounts”), in the best interests of the plan participants and beneficiaries
(collectively, "Advisory Clients"), unless (i) the power to vote has been specifically retained by the
named fiduciary in the documents in which the named fiduciary appointed the Investment Managers or (ii)
the documents otherwise expressly prohibit the Investment Managers from voting proxies. The Investment
Managers recognize that the exercise of voting rights on securities held by ERISA plans for which the
Investment Managers have voting responsibility is a fiduciary duty that must be exercised with care,
skill, prudence and diligence.
In certain circumstances, Advisory Clients
are permitted to direct their votes in a solicitation pursuant to the Investment Management Agreement.
An Advisory Client that wishes to direct its vote shall give reasonable prior written notice to the Investment
Managers indicating such intention and provide written instructions directing the Investment Managers
or the Proxy Group to vote regarding the solicitation. Where such prior written notice is received, the
Proxy Group will vote proxies in accordance with such written notification received from the Advisory
Client.
The Investment Managers have adopted and implemented Proxy Voting Policies and
Procedures (“Proxy Policies”) that they believe are reasonably designed to ensure that proxies are
voted in the best interest of Advisory Clients in accordance with their fiduciary duties and rule 206(4)-6
under the Investment Advisers Act of 1940. To the extent that the Investment Managers have a subadvisory
agreement with an affiliated investment manager (the “Affiliated Subadviser”) with respect to a particular
Advisory Client, the Investment Managers may delegate proxy voting responsibility to the Affiliated Subadviser.
The Investment Managers may also delegate proxy voting responsibility to a subadviser that is not an
Affiliated Subadviser in certain limited situations as disclosed to fund shareholders (e.g., where an
Investment Manager to a pooled investment vehicle has engaged a subadviser that is not an Affiliated
Subadviser to manage all or a portion of the assets).
HOW THE INVESTMENT MANAGERS
VOTE PROXIES
Proxy Services
All proxies received by
the Proxy Group will be voted based upon the Investment Managers’ instructions and/or policies. To
assist it in analyzing proxies of equity securities, the Investment Managers subscribe to Institutional
Shareholder Services Inc. ("ISS"), an unaffiliated third-party corporate governance research service
that provides in-depth analyses of shareholder meeting agendas and vote recommendations. In addition,
the Investment Managers subscribe to ISS’s Proxy Voting Service and Vote Disclosure Service. These
services include receipt of proxy ballots, custodian bank relations, account maintenance, vote execution,
ballot reconciliation, vote record maintenance, comprehensive reporting capabilities, and vote disclosure
services. Also, the Investment Managers subscribe to Glass, Lewis & Co., LLC ("Glass Lewis"), an
unaffiliated third-party analytical research firm, to receive analyses and vote recommendations on the
shareholder meetings of publicly held U.S. companies, as well as a limited subscription to its international
research.
A-1
* Rule 38a-1 under the Investment Company Act of 1940 (“1940 Act”) and Rule
206(4)-7 under the Investment Advisers Act of 1940 (“Advisers Act”) (together the Compliance Rule”)
require registered investment companies and registered investment advisers to, among other things, adopt
and implement written policies and procedures reasonably designed to prevent violations of the federal
securities laws (“Compliance Rule Policies and Procedures”).
Although analyses provided
by ISS, Glass Lewis, and/or another independent third-party proxy service provider (each a “Proxy Service”)
are thoroughly reviewed and considered in making a final voting decision, the Investment Managers do
not consider recommendations from a Proxy Service or any third-party to be determinative of the Investment
Managers’ ultimate decision. Rather, the Investment Managers exercise their independent judgment in
making voting decisions. As a matter of policy, the officers, directors and employees of the Investment
Managers and the Proxy Group will not be influenced by outside sources whose interests conflict with
the interests of Advisory Clients.
For ease of reference, the Proxy Policies
often refer to all Advisory Clients. However, our processes and practices seek to ensure that proxy voting
decisions are suitable for individual Advisory Clients. In some cases, the Investment Managers’ evaluation
may result in an individual Advisory Client or Investment Manager voting differently, depending upon
the nature and objective of the fund or account, the composition of its portfolio, whether the Investment
Manager has adopted a specialty or custom voting policy, and other factors.
Conflicts
of Interest
All conflicts of interest will be resolved in the best interests of the Advisory
Clients. The Investment Managers are affiliates of a large, diverse financial services firm with many
affiliates and makes its best efforts to mitigate conflicts of interest. However, as a general matter,
the Investment Managers take the position that relationships between certain affiliates that do not use
the “Franklin Templeton” name (“Independent Affiliates”) and an issuer (e.g., an investment management
relationship between an issuer and an Independent Affiliate) do not present a conflict of interest for
an Investment Manager in voting proxies with respect to such issuer because: (i) the Investment Managers
operate as an independent business unit from the Independent Affiliate business units, and (ii) informational
barriers exist between the Investment Managers and the Independent Affiliate business units.
Material
conflicts of interest could arise in a variety of situations, including as a result of the Investment
Managers’ or an affiliate’s (other than an Independent Affiliate as described above): (i) material
business relationship with an issuer or proponent, (ii) direct or indirect pecuniary interest in an issuer
or proponent; or (iii) significant personal or family relationship with an issuer or proponent. Material
conflicts of interest are identified by the Proxy Group based upon analyses of client, distributor, broker
dealer, and vendor lists, information periodically gathered from directors and officers, and information
derived from other sources, including public filings. The Proxy Group gathers and analyzes this information
on a best-efforts basis, as much of this information is provided directly by individuals and groups other
than the Proxy Group, and the Proxy Group relies on the accuracy of the information it receives from
such parties.
Nonetheless, even though a potential conflict of interest between the Investment
Managers or an affiliate (other than an Independent Affiliate as described above) and an issuer may
exist: (1) the Investment Managers may vote in opposition to the recommendations of an issuer’s management
even if contrary to the recommendations of a third-party proxy voting research provider; (2) if management
has made no recommendations, the Proxy Group may defer to the voting instructions of the Investment Managers;
and (3) with respect to shares held by Franklin Resources, Inc. or its affiliates for their own corporate
accounts, such shares may be voted without regard to these conflict procedures.
Otherwise, in situations
where a material conflict of interest is identified between the Investment Managers or one of its affiliates
(other than Independent Affiliates) and an issuer, the Proxy Group may vote
consistent with the voting recommendation of a Proxy Service or send the proxy directly to the relevant
Advisory Clients with the Investment Managers’ recommendation regarding the vote for approval. To address
certain affiliate conflict situations, the Investment Managers will employ pass-through voting or mirror
voting when required pursuant to a fund’s governing documents or applicable law.
Where the Proxy
Group refers a matter to an Advisory Client, it may rely upon the instructions of a representative of
the Advisory Client, such as the board of directors or trustees, a committee of the board, or an appointed
delegate in the case of a U.S. registered investment company, a conducting officer in the case of a fund
that has appointed FTIS S.à.r.l as its Management Company, the Independent Review Committee for Canadian
investment funds, or a plan administrator in the case of an employee benefit plan. A quorum of the board
of directors or trustees or of a committee of the board can be reached by a majority of members, or a
majority of non-recused members. The Proxy Group may determine to vote all shares held by Advisory Clients
of the Investment Managers and affiliated Investment Managers (other than Independent Affiliates) in
accordance with the instructions of one or more of the Advisory Clients.
A-2
The Investment Managers may also decide whether to vote proxies for securities
deemed to present conflicts of interest that are sold following a record date, but before a shareholder
meeting date. The Investment Managers may consider various factors in deciding whether to vote such proxies,
including the Investment Managers’ long-term view of the issuer’s securities for investment, or it
may defer the decision to vote to the applicable Advisory Client. The Investment Managers also may be
unable to vote, or choose not to vote, a proxy for securities deemed to present a conflict of interest
for any of the reasons outlined in the first paragraph of the section of these policies entitled “Proxy
Procedures.”
Weight Given Management Recommendations
One
of the primary factors the Investment Managers consider when determining the desirability of investing
in a particular company is the quality and depth of that company's management. Accordingly, the recommendation
of management on any issue is a factor that the Investment Managers consider in determining how proxies
should be voted. However, the Investment Managers do not consider recommendations from management to
be determinative of the Investment Managers’ ultimate decision. Each issue is considered on its own
merits, and the Investment Managers will not support the position of a company's management in any situation
where it determines that the ratification of management's position would adversely affect the investment
merits of owning that company's shares.
Engagement with Issuers
The
Investment Managers believe that engagement with issuers is important to good corporate governance and
to assist in making proxy voting decisions. The Investment Managers may engage with issuers to discuss
specific ballot items to be voted on in advance of an annual or special meeting to obtain further information
or clarification on the proposals. The Investment Managers may also engage with management on a range
of environmental, social or corporate governance issues throughout the year.
THE
PROXY GROUP
The Proxy Group is part of Franklin Templeton’s Stewardship
Team. Full-time staff members and support staff are devoted to proxy voting administration and oversight
and providing support and assistance where needed. On a daily basis, the Proxy Group will review each
proxy upon receipt as well as any agendas, materials and recommendations that they receive from a Proxy
Service or other sources. The Proxy Group maintains a record of all shareholder meetings that are scheduled
for companies whose securities are held by the Investment Managers’ managed funds and accounts. For
each shareholder meeting, a member of the Proxy Group will consult with the research analyst that follows
the security and provide the analyst with the agenda, analyses of one or more Proxy Services, recommendations
and any other information provided to the Proxy Group. Except in situations identified as presenting
material conflicts of interest, the Investment Managers’ research analyst and relevant portfolio manager(s)
are responsible for making the final voting decision based on their review of the agenda, analyses of
one or more Proxy Services, proxy statements, their knowledge of the company and any other information
publicly available.
In situations where the Investment Managers
have not responded with vote recommendations to the Proxy Group by the deadline date, the Proxy Group
may vote consistent with the vote recommendations of a Proxy Service. Except in cases where the Proxy
Group is voting consistent with the voting recommendation of a Proxy Service, the Proxy Group must obtain
voting instructions from the Investment Managers’ research analysts, relevant portfolio manager(s),
legal counsel and/or the Advisory Client prior to submitting the vote. In the event that an account holds
a security that an Investment Manager did not purchase on its behalf, and the Investment Manager does
not normally consider the security as a potential investment for other accounts, the Proxy Group may
vote consistent with the voting recommendations of a Proxy Service or take no action on the meeting.
PROXY ADMINISTRATION PROCEDURES
Situations Where Proxies
Are Not Voted
The Proxy Group is fully cognizant of its responsibility to
process proxies and maintain proxy records as may be required by relevant rules and regulations. In addition,
the Investment Managers understand their fiduciary duty to vote proxies and that proxy voting decisions
may affect the value of shareholdings. Therefore, the Investment Managers will generally attempt to process
every proxy they receive for all domestic and foreign securities.
However, there may be
situations in which the Investment Managers may be unable to successfully vote a proxy, or may choose
not to vote a proxy, such as where: (i) a proxy ballot was not received from the custodian bank; (ii)
a meeting notice was received too late; (iii) there are fees imposed upon the exercise of a vote and
it is determined that such fees outweigh the benefit of voting; (iv) there are legal encumbrances to
voting, including blocking restrictions in certain markets that preclude the ability to dispose of a
security if an Investment Manager votes a proxy or where the Investment Manager is prohibited from voting
by applicable law,
A-3
economic or other sanctions, or other regulatory or market requirements, including
but not limited to, effective Powers of Attorney; (v) additional documentation or the disclosure of beneficial
owner details is required; (vi) the Investment Managers held shares on the record date but has sold them
prior to the meeting date; (vii) the Advisory Client held shares on the record date, but the Advisory
Client closed the account prior to the meeting date; (viii) a proxy voting service is not offered by
the custodian in the market; (ix) due to either system error or human error, the Investment Managers’
intended vote is not correctly submitted; (x) the Investment Managers believe it is not in the best interest
of the Advisory Client to vote the proxy for any other reason not enumerated herein; or (xi) a security
is subject to a securities lending or similar program that has transferred legal title to the security
to another person.
Rejected Votes
Even if the Investment
Managers use reasonable efforts to vote a proxy on behalf of their Advisory Clients, such vote or proxy
may be rejected because of (a) operational or procedural issues experienced by one or more third parties
involved in voting proxies in such jurisdictions; (b) changes in the process or agenda for the meeting
by the issuer for which the Investment Managers do not have sufficient notice; or (c) the exercise by
the issuer of its discretion to reject the vote of the Investment Managers. In addition, despite the
best efforts of the Proxy Group and its agents, there may be situations where the Investment Managers’
votes are not received, or properly tabulated, by an issuer or the issuer’s agent.
Securities
on Loan
The Investment Managers or their affiliates may, on behalf of one or more of the
proprietary registered investment companies advised by the Investment Managers or their affiliates, make
efforts to recall any security on loan where the Investment Manager or its affiliates (a) learn of a
vote on an event that may materially affect a security on loan and (b) determine that it is in the best
interests of such proprietary registered investment companies to recall the security for voting purposes.
The ability to timely recall shares is not entirely within the control of the Investment Managers. Under
certain circumstances, the recall of shares in time for such shares to be voted may not be possible due
to applicable proxy voting record dates or other administrative considerations.
Split
Voting
There may be instances in certain non-U.S. markets where split voting is not allowed.
Split voting occurs when a position held within an account is voted in accordance with two differing
instructions. Some markets and/or issuers only allow voting on an entire position and do not accept split
voting. In certain cases, when more than one Franklin Templeton investment manager has accounts holding
shares of an issuer that are held in an omnibus structure, the Proxy Group will seek direction from an
appropriate representative of the Advisory Client with multiple Investment Managers (such as a conducting
officer of the Management Company in the case of a SICAV), or the Proxy Group will submit the vote based
on the voting instructions provided by the Investment Manager with accounts holding the greatest number
of shares of the security within the omnibus structure.
Bundled Items
If
several issues are bundled together in a single voting item, the Investment Managers will assess the
total benefit to shareholders and the extent that such issues should be subject to separate voting proposals.
PROCEDURES FOR MEETINGS INVOLVING FIXED INCOME SECURITIES & PRIVATELY HELD
ISSUERS
From time to time, certain custodians may process events for fixed income securities
through their proxy voting channels rather than corporate action channels for administrative convenience.
In such cases, the Proxy Group will receive ballots for such events on the ISS voting platform. The Proxy
Group will solicit voting instructions from the Investment Managers for each account or fund involved.
If the Proxy Group does not receive voting instructions from the Investment Managers, the Proxy Group
will take no action on the event. The Investment Managers may be unable to vote a proxy for a fixed income
security, or may choose not to vote a proxy, for the reasons described under the section entitled “Proxy
Procedures.”
In the rare instance where there is a vote for a privately
held issuer, the decision will generally be made by the relevant portfolio managers or research analysts.
The Proxy Group will monitor such meetings involving fixed income securities or
privately held issuers for conflicts of interest in accordance with these procedures. If a fixed income
or privately held issuer is flagged as a potential conflict of interest, the Investment Managers may
nonetheless vote as it deems in the best interests of its Advisory Clients. The Investment Managers will
report such decisions on an annual basis to Advisory Clients as may be required.
A-4
Appendix
A
These Proxy Policies apply to accounts managed by personnel within Franklin
Templeton Investment Solutions, which includes the following Investment Managers:
Franklin
Advisers, Inc. (FAV)
Franklin Advisory Services, LLC (FASL)
Franklin
Mutual Advisers LLC (FMA)
Franklin Templeton Investments Corp. (FTIC)
Franklin
Templeton Investment Management Limited (FTIML)
Templeton Asset Management
Ltd. (TAML)
The following Proxy Policies apply to FAV, FMA, FTIC, FTIML,
and TAML only:
HOW THE INVESTMENT MANAGERS VOTE PROXIES
Proxy
Services
Certain of the Investment Managers’ separate accounts or funds (or a portion
thereof) are included under Franklin Templeton Investment Solutions (“FTIS”), a separate investment
group within Franklin Templeton, and employ a quantitative strategy.
For such accounts, FTIS’s
proprietary methodologies rely on a combination of quantitative, qualitative, and behavioral analysis
rather than fundamental security research and analyst coverage that an actively managed portfolio would
ordinarily employ. Accordingly, absent client direction, in light of the high number of positions held
by such accounts and the considerable time and effort that would be required to review proxy statements
and ISS or Glass Lewis recommendations, the Investment Manager may review ISS’s non-US Benchmark guidelines,
ISS’s specialty guidelines (in particular, ISS’s Sustainability guidelines), or Glass Lewis’s US
guidelines (the “the ISS and Glass Lewis Proxy Voting Guidelines”) and determine, consistent with
the best interest of its clients, to provide standing instructions to the Proxy Group to vote proxies
according to the recommendations of ISS or Glass Lewis.
In addition, the Investment
Managers receive in-house voting research from Franklin Templeton’s Stewardship Team (FT Stewardship).
FT Stewardship provides customized research on specific corporate governance issues that is tailored
to the investment manager and corporate engagement undertaken. This research may include opinions on
voting decisions, however there is no obligation or inference for the investment manager to formally
vote in line with these opinions. This research supports the independent vote decision making process,
and may reduce reliance on third-party advice for certain votes.
The Investment
Manager, however, retains the ability to vote a proxy differently than ISS or Glass Lewis recommends
if the Investment Manager determines that it would be in the best interests of Advisory Clients.
The
following Proxy Policies apply to FASL only:
HOW THE INVESTMENT MANAGERS
VOTE PROXIES
Proxy
Services
Passively managed exchange traded funds (collectively, “ETFs”),
seek to track a particular securities index. As a result, each ETF may hold the securities of hundreds
of issuers. Because the primary criteria for determining whether a security should be included (or continued
to be included) in an ETF’s investment portfolio is whether such security is a representative component
of the securities index that the ETF is seeking to track, the ETFs do not require the fundamental security
research and analyst coverage that an actively managed portfolio would require. Accordingly, in light
of the high number of positions held by an ETF and the considerable time and effort that would be required
to review proxy statements and ISS or Glass Lewis recommendations, the Investment Manager may review
ISS’s non-US Benchmark guidelines, ISS’s specialty guidelines (in particular, ISS’s Sustainability
guidelines), or Glass Lewis’s US guidelines (the “ISS and Glass Lewis Proxy Voting Guidelines”)
and determine, consistent with the best interest of its clients, to provide standing instructions to
the Proxy Group to vote proxies according to the recommendations of ISS or Glass Lewis rather than analyze
each individual proxy vote. Permitting the Investment Manager of the ETFs to defer its judgment for voting
on a proxy to the recommendations of ISS or Glass Lewis may result in a proxy related to the securities
of a particular issuer held by an ETF being voted differently from the same proxy that is voted on by
other funds managed by the Investment Managers.
A-5
In addition, the investment managers receive in-house voting research from Franklin
Templeton’s Stewardship Team (FT Stewardship). FT Stewardship provides customized research on specific
corporate governance issues that is tailored to the investment manager and corporate engagement undertaken.
This research may include opinions on voting decisions, however there is no obligation or inference for
the investment manager to formally vote in line with these opinions. This research supports the independent
vote decision making process, and may reduce reliance on third-party advice for certain votes.
The following Proxy Policies apply to FTIC, FTIML, and TAML only:
HOW
THE INVESTMENT MANAGERS VOTE PROXIES
Proxy Services
For
accounts managed by the Templeton Global Equity Group (“TGEG”), in making voting decisions, the Investment
Manager may consider Glass Lewis’s Proxy Voting Guidelines, ISS’s Benchmark Policies, ISS’s Sustainability
Policy, and TGEG’s custom sustainability guidelines, which reflect what TGEG believes to be good environmental,
social, and governance practices.
The following Proxy Policies apply to FTIC only:
RESPONSIBILITY OF THE INVESTMENT MANAGERS TO VOTE PROXIES
To the extent that
the Investment Manager has a subadvisory agreement with an affiliated investment manager (the “Affiliated
Subadviser”) with respect to a particular Advisory Client or the Investment Manager chooses securities
for an Advisory Client’s portfolios that are recommended by an Affiliated Subadviser, the Investment
Manager may delegate proxy voting responsibility to the Affiliated Subadviser or vote proxies in accordance
with the Affiliated Subadviser’s recommendations.
A-6
| | |
FRANKLIN ETF TRUST |
File Nos. 811-22801 & 333-186504 |
|
PART C |
Other
Information |
|
|
Item 28. Exhibits. |
|
The
following exhibits are incorporated by reference to the previously filed document indicated below, except
as noted: |
|
(a) Agreement
and Declaration of Trust |
|
(i) | | Amended and Restated Agreement and Declaration of Trust of Franklin ETF Trust
dated October 19, 2018 Filing: Post-Effective Amendment No. 14 to Registration Statement
on Form N-1A File No. 333-186504 Filing Date: July 26,
2019 |
|
(b) By-laws |
|
(i) | | Amended and Restated By-Laws of Franklin ETF Trust dated October 19, 2018 Filing:
Post-Effective Amendment No. 14 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: July 26, 2019 |
|
(c) Instruments Defining
Rights of Security Holders |
|
(i) | | Agreement and Declaration of Trust |
|
(a) Article
III, Shares |
(b) Article V, Shareholders’ Voting Powers and Meetings |
(c) Article VI, Net Asset Value; Distributions; Redemptions; |
Transfers |
(d) Article VIII, Certain Transactions: Section 4 |
(e) Article X, Miscellaneous: Section 4 |
|
(ii) | | By-Laws |
|
(a) Article II, Meetings of Shareholders |
(b) Article VI, Records and Reports: Section 1, 2 and 3 |
(c) Article VII, General Matters: Section 3, 4, 6 and 7 |
(d) Article VIII, Amendment: Section 1 |
|
(iii) | | Part B, Statement of Additional Information – Item 22 |
|
(d) Investment Advisory
Contracts |
|
(i) | | Amended and Restated Investment Management Agreement between Registrant, on behalf
of Franklin Liberty Short Duration U.S. Government ETF dated October 1, 2021. Filing:
Pre-Effective Amendment No. 22 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: August 26, 2022 |
|
(e) Underwriting Contracts |
|
| | |
| | |
| | |
(i) | | Distribution
Agreement between Registrant and Franklin Distributors, LLC. dated July 7, 2021 Filing:
Pre-Effective Amendment No. 21 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: August 26, 2021 |
| | |
(ii) | | Form of Authorized
Participant Agreement Filing: Pre-Effective Amendment No. 2 to
Registration Statement on Form N-1A File No. 333-186504 Filing
Date: October 17, 2013 |
| | |
|
(f) Bonus or Profit Sharing Contracts |
|
Not Applicable |
|
(g) Custodian Agreements |
|
|
(i) | | Master
Custody Agreement between Registrant and The Bank of New York Mellon dated February 16, 1996 Filing: Pre-Effective Amendment No. 1 Registration Statement on Form N-1A File No. 333-186504 Filing Date: August 1, 2013 |
|
(ii) | | Amendment dated
April 7, 2022 and to Exhibit A of the Master Custody Agreement between Registrant and The Bank of New
York Mellon dated February 16, 1996 Filing: Pre-Effective
Amendment No. 22 to Registration Statement on Form N-1A File No. 333-186504 Filing Date: August 26, 2022 |
|
(iii) | | Terminal
Link Agreement between Registrant and The Bank of New York Mellon dated February 16, 1996 Filing:
Pre-Effective Amendment No. 1 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: August 1, 2013 |
|
(iv) | | Amendment dated April 7, 2022, to Exhibit A of the Terminal Link Agreement between
Registrant and The Bank of New York Mellon dated February 16, 1996 Filing:
Pre-Effective Amendment No. 22 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: August 26, 2022 |
|
(v) | | Amendment
dated June 1, 2013 to the Master Custody Agreement between Registrant and The Bank of New York Mellon
dated February 16, 1996 Filing: Post-Effective Amendment No. 2 to
Registration Statement on Form N-1A File No. 333-186504 Filing
Date: September 26, 2014 |
| | |
(h) Other
Material Contracts |
|
(i) | | Sub-Contract
for Fund Administration Services between Franklin Advisers, Inc. and Franklin Templeton Services, LLC
dated February 1, 2019 Filing: Post-Effective Amendment No. 14 to
Registration Statement on Form N-1A File No. 333-186504 Filing
Date: July 26, 2019 |
| | |
|
(ii) | | Sub-Contract
for Fund Administrative and Accounting Services between Franklin Templeton Services, LLC and BNY Mellon
Investment Servicing (US) Inc. dated October 18, 2013 Filing: Post-Effective
Amendment No. 10 to Registration Statement on Form N-1A File No. 333-186504 Filing Date: July 27, 2018 |
| | |
(iii) | | Transfer
Agent and Services Agreement between the Registrant on behalf Franklin Liberty Short Duration U.S. Government
ETF (formerly, Franklin Short Duration U.S. Government ETF) and BNY Mellon Investment Servicing (US)
Inc. dated October 18, 2013 Filing: Post-Effective Amendment No. 10
to Registration Statement on Form N-1A File No. 333-186504 Filing
Date: July 27, 2018 |
| | |
(iv) | | Form of Rule 12d1-4 Fund of Funds Investment Agreement Filing: Pre-Effective
Amendment No. 22 to Registration Statement on Form N-1A File No. 333-186504 Filing Date: August 26, 2022 |
(v) | | Fee Waiver and/or Expense Reimbursement Agreement dated June
1, 2020 |
| | |
(vi) | | Fee
Waiver and/or Expense Reimbursement revised August 2023 for Schedule A and B |
| | |
|
(i) Legal Opinion |
|
(i) | | Opinion and consent
of counsel with respect to Franklin Liberty Short Duration U.S. Government ETF dated October 16, 2013 Filing: Pre-Effective Amendment No. 2 to Registration Statement on Form N-1A File No. 333-186504 Filing Date: October 17, 2013 |
| | |
|
(j) Other Opinions |
|
(i) | | Consent of Independent Registered Public Accounting Firm |
|
(k) Omitted Financial
Statements |
|
Not Applicable |
|
(l) Initial Capital
Agreements |
|
| | Not Applicable |
|
(m) Rule 12b-1 Plan |
|
(i) | | Amended and Restated Distribution Plan, pursuant to Rule 12b-1 between the Registrant
on behalf of Franklin Liberty Short Duration U.S. Government ETF and Franklin Distributors, LLC. dated
July 17, 2013, as revised January 1, 2020, May 13, 2020 and July 7, 2021 Filing: Pre-Effective Amendment No. 21 to Registration Statement on Form N-1A File
No. 333-186504 Filing Date: August 26, 2021 |
|
(n) Rule 18f-3 Plan |
|
| | Not Application |
|
Item 29. Persons Controlled by or Under Common Control with the Registrant None |
Item
30. Indemnification |
|
The Agreement and Declaration of Trust (the “Declaration”)
provides that any person who is or was a Trustee, officer, employee or other agent, including the underwriter,
of such Trust shall be liable to the Trust and its shareholders only for (1) any act or omission that
constitutes a bad faith violation of the implied contractual covenant of good faith and fair dealing,
or (2) the person’s own willful misfeasance, bad faith, gross negligence or reckless disregard of the
duties involved in the conduct of such person (such conduct referred to herein as Disqualifying Conduct)
and for nothing else. Except in these instances and to the fullest extent that limitations of liability
of agents are permitted by the Delaware Statutory Trust Act (the “Delaware Act”), these Agents (as
defined in the Declaration) shall not be responsible or liable for any act or omission of any other Agent
of the Trust or any investment adviser or principal underwriter. Moreover, except and to the extent provided
in these instances, none of these Agents, when acting in their respective capacity as such, shall be
personally liable to any other person, other than such Trust or its shareholders, for any act, omission
or obligation of the Trust or any trustee thereof. |
|
The Trust shall indemnify, out of its property, to the fullest
extent permitted under applicable law, any of the persons who was or is a party, or is threatened to
be made a party to any Proceeding (as defined in the Declaration) because the person is or was an Agent
of such Trust. These persons shall be indemnified against any Expenses (as defined in the Declaration),
judgments, fines, settlements and other amounts actually and reasonably incurred in connection with the
Proceeding if the person acted in good faith or, in the case of a criminal proceeding, had no reasonable
cause to believe that the conduct was unlawful. The termination of any Proceeding by judgment, order,
settlement, conviction or plea of nolo contendere or its equivalent shall not in itself create a presumption
that the person did not act in good faith or that the person had reasonable cause to believe that the
person’s conduct was unlawful. There shall nonetheless be no indemnification for a person’s own Disqualifying
Conduct. |
|
Insofar as indemnification for liabilities arising under the Securities Act of
1933, as amended, may be permitted to Trustees, officers and controlling persons of the Trust pursuant
to the foregoing provisions, or otherwise, the Trust has been advised that in the opinion of the Securities
and Exchange Commission such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other
than the payment by the Trust of expenses incurred or paid by a Trustee, officer or controlling person
of the Trust in the successful defense of any action, suit or proceeding) is asserted by such Trustee,
officer or controlling person in connection with securities being registered, the Trust may be required,
unless in the opinion of its counsel the matter has been settled by controlling precedent, to submit
to a court or appropriate jurisdiction the question whether such indemnification is against public policy
as expressed in the Act and will be governed by the final adjudication of such issue. |
|
Item
31. Business and Other Connections of the Investment Adviser |
|
The officers and directors
of Franklin Advisers, Inc. (Advisers), Registrant's investment manager also serves as officers and/or
directors/trustees for (1) Advisers' corporate parent, Franklin Resources, Inc., and/or (2) other investment
companies in Franklin Templeton Investments. For additional information please see Part B and Schedules
A and D of Form ADV of Advisers (SEC File 801-26292), incorporated herein by reference, which set forth
the officers and directors of Advisers and information as to any business, profession, vocation or employment
of a substantial nature engages in by those officers and directors during the past two years. |
|
Item
32. Principal Underwriters |
|
Franklin Distributors, LLC. (Distributors) also act as principal
underwriter of shares of: |
|
Franklin Alternative Strategies Funds |
Franklin California Tax-Free Income Fund |
Franklin California Tax-Free Trust |
Franklin Custodian Funds |
Franklin
Federal Tax-Free Income Fund Franklin Fund Allocator Series Franklin
Global Trust Franklin Gold and Precious Metals Fund Franklin
High Income Trust Franklin Investors Securities Trust Franklin
Managed Trust |
|
Franklin Municipal Securities Trust Franklin Mutual Series
Funds Franklin New York Tax-Free Income Fund Franklin New York Tax-Free
Trust Franklin Real Estate Securities Trust Franklin Strategic Mortgage
Portfolio Franklin Strategic Series Franklin Tax-Free Trust Franklin Templeton ETF Trust Franklin Templeton Trust Franklin Templeton Variable Insurance Products Trust Franklin
U.S. Government Money Fund Franklin Value Investors Trust Institutional
Fiduciary Trust Templeton China World Fund Templeton
Developing Markets Trust Templeton Funds Templeton Global Investment
Trust Templeton Global Smaller Companies Fund Templeton Growth Fund,
Inc. Templeton Income Trust Templeton Institutional
Funds Legg Mason ETF Investment Trust Legg Mason ETF Investment
Trust II Legg Mason Global Asset Management Trust Legg Mason Partners Income
Trust Legg Mason Partners Institutional Trust Legg Mason Partners Investment
Trust Legg Mason Partners Variable
Equity Trust Legg Mason Partners Variable Income Trust Legg
Mason Partners Institutional Trust Legg Mason Partners Money Market Trust Western Asset Funds, Inc. |
| | | |
|
SIGNATURE |
|
Pursuant to the requirements of the Securities Act of 1933, and the Investment
Company Act of 1940, the Registrant certifies that it meets all of the requirements for effectiveness
of this Registration Statement pursuant to Rule 485(b) under the Securities Act of 1933, and has duly
caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized
in the City of Stamford and the State of Connecticut, on the 25th day of July, 2024. |
|
FRANKLIN ETF TRUST |
(Registrant) |
|
|
| By: | /s/HARRIS GOLDBLAT | |
Harris Goldblat |
Vice President and Secretary |
|
Pursuant to the requirements of the Securities Act of 1933, as amended, this Registration
Statement has been signed below by the following persons in the capacities and on the dates indicated: |
|
| | | | |
Signature | | Title | | Date |
| | | | |
PATRICK O'CONNOR* | | | | |
Patrick
O'Connor | | President and Chief Executive Officer – Investment Management | | July 25, 2024 |
| | | | |
CHRISTOPHER KINGS* | | | | |
Christopher Kings | | Chief
Executive Officer – Finance and Administration | | July 25, 2024 |
| | | | |
VIVEK PAI* | | | | |
Vivek Pai | | Chief
Financial Officer, Chief Accounting Officer and Treasurer | | July 25, 2024 |
| | | | |
ROHIT BHAGAT* | | | | |
Rohit Bhagat | | Trustee | | July
25, 2024 |
| | | | |
JENNIFER
M. JOHNSON* | | | | |
Jennifer M. Johnson | | Trustee | | July 25, 2024 |
| | | | |
ANANTHA K. PRADEEP* | | | | |
Anantha
K. Pradeep | | Trustee | | July 25, 2024 |
| | | | |
DEBORAH D. MCWHINNEY* | | | | July 25, 2024 |
Deborah D. McWhinney | | Trustee | | |
*
By: /s/ HARRIS GOLDBLAT
Harris
Goldblat Attorney-in-Fact
(Pursuant to Power of Attorney filed herewith)
FRANKLIN ETF TRUST
REGISTRATION STATEMENT
EXHIBITS
INDEX
| |
EXHIBIT NO. | DESCRIPTION |
| The following exhibits are attached: |
| |
EX. 99 (h)(v) | Fee Waiver and/or Expense Reimbursement Agreement dated June 1, 2020 |
EX. 99 (h)(vi) | Fee Waiver and/or Expense Reimbursement revised August 2023 for Schedule A and
B |
EX. 99 (j)(i) | Consent of Independent Registered Public Accounting Firm |
EX.99 (p) (i) | Code
of Ethics dated August 16, 2021 |
EX.99
(q) (i) | Power of Attorney dated January 2, 2024 |
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FEE
WAIVER AND/OR EXPENSE REIMBURSEMENT AGREEMENT
THIS Fee Waiver and/or
Expense Reimbursement Agreement (“Agreement”), dated as of June 1, 2020, is made between each investment
company listed on Schedules A and B hereto (each, a “Trust”), for itself and, as applicable, for
each of its series listed on Schedules A and B hereto (each, a “Fund”), and each of the Franklin
Templeton entities that serve as investment manager for a Fund (“Management”), as identified on the
signature page hereto, effective with respect to each Fund as of the date indicated on Schedules A and
B hereto.
WHEREAS, Management currently provides investment management services to the Funds;
and
WHEREAS, Management has determined to waive certain fees and/or reimburse certain
expenses of each Fund;
NOW THEREFORE, in consideration of the terms and conditions hereinafter
set forth, it is mutually agreed as follows:
1. With respect
to each Fund listed on Schedule A, Management agrees to waive its fees for services rendered pursuant
to the Investment Management Agreement with the Fund and, to the extent necessary, assume responsibility
for paying certain expenses otherwise payable by the Fund, so that the total expenses of the Fund (including
acquired fund fees and expenses (“AFFE”), interest, taxes and certain non-routine expenses or costs,
such as those relating to litigation and indemnification, reorganizations and liquidations, or fees related
to selling securities short) do not exceed, on an annual basis, the cap on operating expenses and AFFE
indicated on Schedule A.
2. With respect to each Fund
and Class listed on Schedule B, Management agrees to waive its fees for services rendered pursuant to
the Investment Management Agreement, Administration Agreement and/or Transfer Agent and Shareholder Services
Agreement with the Fund and, to the extent necessary, assume responsibility for paying certain expenses
otherwise payable by the Fund or Class, so that the total expenses of the Fund or Class (including AFFE,
but excluding Rule 12b-1 fees, interest, taxes and certain non-routine expenses or costs, such as those
relating to litigation and indemnification, reorganizations and liquidations, or fees related to selling
securities short) do not exceed, on an annual basis, the cap on operating expenses indicated on Schedule
B.
3. Nothing
in this Agreement is intended to modify the fee waivers and/or expense reimbursements required by the
Funds’ policies and procedures, including, without limitation, the fee waivers related to cash sweep
activities.
4. Management may allocate fee
waivers or expense reimbursements among a Fund’s investment manager or its affiliates, as appropriate.
5. Expenses
are accrued, and any applicable expense caps are applied, daily.
6. The
waivers and/or reimbursements described in this Agreement are not subject to recapture by Management.
7. Schedules
A and B hereto may be amended from time to time, by an officer of the applicable Trust, to add series,
to lower the cap on operating expenses and to reflect the extension of termination dates, subject to
subsequent notification of such amendments to the applicable Board of Trustees. Any other amendment
to Schedules A or B or this Agreement shall require the approval of the applicable Board of Trustees,
including a majority of the Independent Trustees.
8. This Agreement shall
be binding upon and shall inure to the benefit of the parties hereto and their respective successors
and assigns.
9. This
Agreement shall become effective with respect to each Fund on the effective date specified on Schedules
A and B hereto and will remain in effect as to a Fund until the initial termination date specified on
Schedules A and B. Thereafter, unless otherwise noted in Schedules A and B, this Agreement will automatically
renew with respect to each Fund for a one-year term unless Management provides written notice of the
termination of the contractual expense cap for a given Fund prior to the end of the then-current term
for that Fund. Notwithstanding any amendments to Schedules A and B permitted pursuant to paragraph 6,
the terms of any new or renewed waivers and/or reimbursements that become effective on or after the date
of this Agreement may be amended or terminated upon the agreement of Management and the Board of Trustees
of the applicable Trust, including a majority of the Independent Trustees. In addition, this Agreement
may otherwise be terminated at any time with respect to any new or renewed waivers and/or reimbursements
for a Fund that become effective on or after the date of this Agreement by the Board of Trustees of the
applicable Trust, including a majority of the Independent Trustees. This Agreement will terminate with
respect to a Fund upon the termination of the Investment Management Agreement with the Trust, on behalf
of the Fund.
10. This Agreement shall be governed
by and construed in accordance with the laws of the State of California.
11. Each
party acknowledges and agrees that all obligations of a Trust and/or Fund under this Agreement are binding
only with respect to the assets of that Trust or Fund; that any liability of a Trust under this Agreement
with respect to the Trust, or in connection with the matters contemplated herein with respect to a Fund,
shall be discharged only out of the assets of that Fund; and the Manager shall not seek satisfaction
of any such obligation or liability from the shareholders of a Trust or Fund, the trustees, officers,
employees or agents of that Trust, or from any other series of that Trust.
[Signature page follows.]
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed
by their duly authorized officers.
Franklin Advisers, Inc.
By: /s/ Patrick O’Connor
Name:
Patrick O’Connor
Title:
Senior Vice President
Franklin Templeton Investment Management Limited
By: /s/ Caroline E. Carroll
Name:
Caroline E. Carroll
Title: Director
Each Trust and, as applicable, each Fund listed on Schedules A
and B hereto
By: /s/ Navid J. Tofigh
Name: Navid J. Tofigh
Title: Vice President and Secretary
Schedule A
Amended as of May 26, 2021
Funds with Expense Cap on Operating
Expenses and Acquired Fund Fees and Expenses (“AFFE”)
| | | |
Funds | Cap on Operating Expenses1 1 Operating expenses
are a combination of investment management fees, transfer agent fees, custody fees and other expenses.
Operating expenses include AFFE. | Effective Date | Waiver End Date |
Active Funds | | | |
Franklin
Liberty Short Duration U.S. Government ETF (FTSD) | 0.25% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty Federal Intermediate Tax-Free Bond Opportunities ETF (FLMI) | 0.30% | 8/01/2020 | 7/31/2022 |
Franklin Liberty Investment Grade Corporate ETF (FLCO) | 0.35% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty Federal Tax-Free Bond ETF (FLMB) | 0.30% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty U.S. Core Bond ETF (FLCB) | 0.15% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty U.S. Low Volatility ETF (FLLV) | 0.29% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty High Yield Corporate ETF (FLHY) | 0.40% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty International Aggregate Bond ETF (FLIA) | 0.25% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty Senior Loan ETF (FLBL) | 0.45% | 8/01/2020 | 7/31/2022 |
Franklin
Liberty Systematic Style Premia ETF (FLSP) | 0.65% | 8/01/2020 | 7/31/2022 |
Franklin
Disruptive Commerce ETF (BUYZ) | 0.50% | 8/01/2020 | 7/31/2022 |
Franklin
Genomic Advancements ETF (HELX) | 0.50% | 8/01/2020 | 7/31/2022 |
Franklin Intelligent Machines ETF (IQM) | 0.50% | 8/01/2020 | 7/31/2022 |
Franklin
Exponential Data ETF (XDAT) | 0.50% | 1/12/2021 | 7/31/2022 |
Franklin
Liberty U.S Treasury Bond ETF (FLGV) | 0.09% | 6/09/2020 | 7/31/2022 |
Franklin
Liberty Ultra Short Bond ETF (FLUD) | 0.15% | 7/14/2020 | 7/31/2022 |
| | | |
Mutual Funds | | | |
Franklin Equity Portfolio Fund (FEPFX) | 0.50% | 7/10/2020 | 7/31/2022 |
Franklin Fixed Income Portfolio Fund (FFIQX) | 0.40% | 7/10/2020 | 7/31/2022 |
Franklin OnChain U.S. Government Money Fund (FOCGX) | 0.20% | 4/06/2021 | 7/31/2022 |
Schedule B
Amended as of November 20, 2020
Funds with Expense Cap on Operating Expenses and Acquired Fund
Fees and Expenses (“AFFE”)
| | | |
Trust and Fund | Cap
on Operating Expenses & AFFE1 1
Operating expenses are a combination of investment management
fees, fund administration fees, transfer agent fees and other expenses. Operating expenses do not include
Rule 12b-1 fees or acquired fund fees and expenses (“AFFE”). These waivers and expense reimbursements
apply to expenses paid directly by the Fund and to AFFE. | Effective Date | Initial Termination Date |
Franklin ETF Trust | | | |
Franklin Equity Portfolio Fund | 0.50% | 7/10/2020 | 7/31/2021 |
Franklin
Fixed Income Portfolio Fund | 0.40% | 7/10/2020 | 7/31/2021 |
Revised
Schedule A
As
of August 2023
| | | | |
Trust and Fund | Classes | Expense
Cap Level | TA
Cap | Termination
Date |
Revised
Schedule B
As
of August 2023
Funds with Expense Cap on Operating Expenses and Acquired Fund Fees and Expenses
(“AFFE”)
| | | | |
Trust and Fund | Classes | Cap
on Operating Expenses & AFFE | TA
Cap | Termination
Date |
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We hereby consent
to the incorporation by reference in this Registration Statement on Form N-1A of Franklin ETF Trust of
our report dated May 22, 2024, relating to the financial statements and financial highlights, which appears
in Franklin Short Duration U.S. Government ETF’s Annual Report on Form N-CSR for the year ended March
31, 2024. We also consent to the references to us under the headings “Financial Highlights” and “Independent
Registered Public Accounting Firm” in such Registration Statement.
/s/PricewaterhouseCoopers
LLP
San
Francisco, California
July 24, 2024
Personal Investments and
Insider
Trading Policy (“the policy”)
(This Policy serves as a code of ethics adopted pursuant to
Rule 17j-1 under the Investment Company Act of 1940 and Rule 204A-1 under the Investment Advisers
Act of 1940)
Revised March 4, 2024
No table of contents entries
found.
This document is the proprietary product of Franklin Templeton. Any unauthorized
use, reproduction or transfer of this document is strictly prohibited. Franklin Templeton © 2024. All
Rights Reserved.
SECTION 1. PURPOSE OF THE POLICY
1.1 Scope
and Purpose of the Policy
The Franklin Templeton Personal Investments
and Insider Trading Policy (the “Policy”) applies to the personal investment activities of all Covered
Employees (as defined in section 2.2 of the Policy) of Franklin Resources, Inc. (“FRI”) and all of
its subsidiaries (collectively, “Franklin Templeton”).
Franklin Templeton provides
services to the funds that are advised or sub-advised by a Franklin Templeton investment adviser (the
“FT Funds”) and other client accounts (“Client Accounts”). Thus, for purposes of this Policy,
“FT Fund” includes all open-end and closed-end funds within the Franklin Templeton Group of Funds,
as well as any other fund that is advised or sub-advised by a Franklin Templeton investment adviser,
such as the Putnam Funds.
The purpose of the Policy is to summarize the values, principles
and business practices that guide Franklin Templeton’s business conduct and to establish a set of principles
to guide Covered Employees regarding the conduct expected of them when managing their personal investments.
1.2 Statement of Principles
All
Covered Employees are required to conduct themselves in a lawful, honest and ethical manner in their
business practices and to maintain an environment that fosters fairness, respect and integrity.
Franklin Templeton’s policy is that the interests of the FT Funds and Client
Accounts are paramount and come before the interests of any employee. Information concerning the securities,
which include derivatives, such as futures, options and swaps, holdings and financial circumstances of
the FT Funds and Client Accounts, as well as the identity of certain Client Accounts, is confidential
and Covered Employees are required to safeguard this information.
The personal investment
activities of Covered Employees must be conducted in a manner to avoid actual or potential conflicts
of interest with the FT Funds and Client Accounts. In particular, to the extent that a Covered Employee
learns of an investment opportunity because of his or her position with Franklin Templeton (e.g., internal
or third party research, Franklin Templeton or company sponsored conferences, or communications with
company officers), the Covered Employee must give preference to the FT Funds or Client Accounts.
Personal transactions in a security may not be executed, regardless of quantity,
if the Covered Employee has access to information regarding, or knowledge or even a presumed knowledge
of, FT Fund or Client Account activity in such security, including proposed activity and recommendations.
1.3 Prohibited Activities
Covered
Employees generally are prohibited from engaging or participating in any activity that has the potential
to cause harm to an FT Fund or Client Account. Examples of prohibited activities include, but are not
limited to:
• Making
investment decisions, changes in research ratings and trading decisions other than exclusively for the
benefit of, and in the best interest of, the FT Funds or Client Accounts;
• Taking, delaying
or omitting to take any action with respect to any research recommendation, report or rating or any investment
or trading decision for an FT Fund or Client Account in order to avoid economic injury to themselves
or anyone other than the FT Funds or Client Accounts;
• Purchasing or selling a security on the basis of knowledge
of a possible trade by or for an FT Fund or Client Account with the intent of personally profiting from,
or avoiding a loss with respect to, personal holdings in the same or related securities;
• Revealing
to any other person (except in the normal course of the Covered Employee’s duties on behalf of an
FT
Fund or Client Account) any information regarding securities transactions by any FT Fund or Client Account
or the consideration by any FT Fund or Client Account of any such securities transactions; or
• Engaging
in any act, practice or course of business that operates or would operate as a fraud or deceit on an
FT Fund or Client Account or engaging in any manipulative practice with respect to any FT Fund or Client
Account.
1.4 Monitoring of the
Policy and Additional Information
Questions
regarding the Policy and related requirements should be directed to the Code of Ethics Department located
in San Mateo, CA. The Code of Ethics Department can be reached by e-mail at lpreclear@franklintempleton.com.
The Code of Ethics Department uses PTA, http://coeprod/pta/index.jsp, an automated transaction pre-clearance
system, to manage the oversight of personal investments. Administration of the Policy is the responsibility
of the Code of Ethics Committee.
SECTION 2. PERSONAL INVESTMENTS
2.1 Statement on Covered Employee Investments
Franklin
Templeton recognizes the importance to Covered Employees of managing their own financial resources.
However, because of the potential conflicts of interest inherent in its business, Franklin Templeton
has implemented this Policy with regard to personal investments of Covered Employees. This Policy is
designed to minimize these conflicts and help ensure that Franklin Templeton focuses on meeting its duties
as a fiduciary to the FT Funds or Client Accounts.
Covered Employees should
be aware that their ability to invest in certain securities and to liquidate those positions may be severely
restricted under this Policy due to trading by the FT Funds or Client Accounts, including during times
of market volatility. Therefore, as a general matter, Franklin Templeton encourages Covered Employees
to exercise caution when investing in individual securities, particularly in situations where a Covered
Employee wishes to invest in securities held or likely to be held by the FT Funds or Client Accounts.
Franklin Templeton also discourages Covered Employees from engaging in a pattern
of securities transactions that is so excessively frequent as to potentially impact the Covered Employee’s
ability to carry out their assigned responsibilities, increases the possibility of potential conflicts
or violates the Policy or the FT Funds’ prospectuses.
2.2 Categories
of Persons Subject to the Policy
All persons subject to the Policy are assigned
to the following categories based on their access to information regarding, or involvement in, investment
activities. In limited circumstances, certain affiliates of FRI may adopt separate policies or codes
of ethics governing personal trading to address the specific features of their investment activities
and operations. Persons subject to other personal trading policies or codes of ethics adopted by Franklin
Templeton or its affiliates generally are exempt from this Policy. Please consult the Code of Ethics
Department if you have any questions about how this Policy applies to you.
Covered Employees:
Covered Employees are: (1) partners, officers, directors (or persons occupying a similar status or having
similar functions) and employees (including certain designated temporary employees or consultants) of
any Franklin Templeton investment adviser, as well as any other persons who provide advice on behalf
of any Franklin Templeton investment adviser and are subject to the supervision and control of that investment
adviser; (2) Access Persons, as defined below; and (3) Independent directors of FT Funds within the Franklin
Templeton Group of Funds and independent directors of Franklin Templeton investment advisers (collectively,
“Independent Directors”).
Access Persons: Access Persons are those who have access
to non-public information regarding FT Funds’ or Client Accounts’ securities transactions; or have
access to recommendations that are non-public; or have access to non-public information regarding the
portfolio holdings of the FT Funds or Client Accounts.
Portfolio Persons: Portfolio Persons,
a subset of Access Persons, are those who, in connection with their regular functions or duties, make
or participate in the decision to purchase or sell a security by an FT Fund or Client Account or if his
or her functions relate to the making of any recommendations about those purchases or sales.
Please see the Appendix to this Policy for a table indicating how the provisions
of the Policy apply to each category of persons. In addition, please see section 2.8 of the Policy for
a description of the requirements for Independent Directors.
2.3 Accounts
and Transactions Covered by the Policy
The Policy covers two
types of securities accounts and transactions: (1) those in which Covered Employees have or share investment
control, and (2) those in which Covered Employees have direct or indirect beneficial ownership. Generally,
a person has a beneficial ownership in a security if he or she, directly or indirectly, through any contract,
arrangement, understanding, relationship or otherwise, has or shares a direct or indirect pecuniary interest
in the security. “Pecuniary interest” has the same meaning as in Rule 16a-1(a)(2) under the Securities
Exchange Act of 1934. Generally, a pecuniary interest in a security means the opportunity, directly
or indirectly, to profit or share in any profit derived from a transaction in the security. Covered
Employees are presumed to have a pecuniary interest in securities held by members of their immediate
family or domestic partners sharing the same household.
Certain types of securities and investments are exempt from the Policy. These
include, but are not limited to, direct obligations of the U.S. government, money market instruments,
and registered open-end funds other than the FT Funds. Cryptocurrencies and digital assets must be precleared
and are reportable only, (1) by members of those investment teams investing in cryptocurrencies, or any
FT employee involved in trading or the creation and redemption process for any FT digital currency Fund
or account, and (2) for the cryptocurrencies in which they are investing on behalf of clients or funds,
and (3) those involved in the creation and redemption process for any FT digital currency ETF must also
preclear their investments in FT digital Funds. Please consult the Code of Ethics Department for further
information about specific types of securities that are exempt from the Policy.
2.4 Prohibited Transactions
Trading
that Conflicts with FT Funds or Client Accounts
Covered Employees are
prohibited from any trading activity that conflicts with the FT Funds’ or Client Accounts’ trading
activity. Examples of prohibited trading activity include, but are not limited to:
• “front running”
or trading ahead of an FT Fund or Client Account; and
• trading parallel to or against an FT Fund or Client Account.
Short Sales of Securities Issued by Franklin Resources and FT Sponsored Closed-end
Funds and Exchange Traded Funds (ETFs)
Covered Employees are prohibited from effecting
short sales, including “short sales against the box,” of securities issued by FRI, or any FT sponsored
closed-end funds or FT exchange traded funds (ETFs). This prohibition includes economically equivalent
transactions such as call or put options, swap transactions or other derivatives that would result in
having a net short exposure to FRI or any closed-end fund or ETF sponsored or advised by Franklin Templeton.
Pledged Securities
Directors and Executive Officers are also
prohibited from pledging, hypothecating or otherwise encumbering securities issued by Franklin Resources
as described in greater detail in the FRI Code of Ethics and Business Conduct.
Trading
in Shares of the FT Funds
A Covered Employee is prohibited from buying or selling shares
of an FT Fund while in possession of material non-public information about the FT Fund. Specifically,
Covered Employees are prohibited from taking personal advantage of their non-public knowledge of recent
or impending investment activities of FT Funds or the FT Funds’ investment advisers or any other non-public
information that a reasonable investor would likely consider important in making his or her investment
decisions, including information that may have a material effect on an FT Fund’s share price or net
asset value.
In addition, Covered Employees must keep confidential at all
times non-public information they may obtain about an FT Fund, including but not limited to information
such as portfolio holdings, pricing or valuation of an FT Fund’s portfolio holdings, recent or impending
securities transactions by an FT Fund, changes related to an FT Fund’s investment adviser, offerings
of new FT Funds, changes to investment minimums, FT Fund closures or liquidations, changes to investment
personnel, FT Fund flow activity, and information on current or prospective FT Fund shareholders.
Please consult your local Legal or Compliance department if you have any questions
about materiality, confidentiality, or any other concerns before trading on or sharing non-public information
relating to FT Funds.
Special Provision Relating to Ownership of Putnam Funds
Employees of Putnam Investment Management, LLC, The Putnam Advisory Company LLC,
Putnam Investments Limited and of the principal underwriter of the Putnam open-end U.S. mutual funds
(currently Putnam Retail Management Limited Partnership) (collectively, the “Putman Entities”) must
hold shares of Putnam open-end U.S. mutual funds through the Putnam transfer agent (Putnam Investor Services,
Inc.) and all transactions must be executed through Putnam Retail Management as dealer of record. Holding
Putnam mutual fund shares in discretionary accounts is prohibited. This requirement does not apply to
shares of Putnam mutual funds owned in retirement accounts or other accounts required to be held through
third-party administrators.
Short-Term Trading in Open-end FT Funds
Franklin Templeton discourages short-term or excessive trading, often referred
to as “market timing,” in shares of the open-end FT Funds. Covered Employees must be familiar with
the “Frequent Trading Policy” or its equivalent described in the prospectus of each open-end FT Fund
in which they invest and must not engage in trading activity that might violate the purpose or intent
of such policy. Accordingly, all Covered Employees must comply with the purpose and intent of each open-end
FT Fund’s Frequent Trading Policy or its equivalent and must not engage in any short-term trading (if
the relevant FT Fund has adopted a policy regarding short-term trading) or excessive trading in open-end
FT Funds.
For open-end FT Funds within the Franklin Templeton Group
of Funds, including FT Funds purchased through a 401(k) plan, trading activity by Covered Employees is
monitored and any trading patterns or behaviors that may constitute short-term or excessive trading is
reported to the Code of Ethics Department. These reports will include descriptions of any actions taken
and any sanctions or penalties imposed in response to such trading activity. This policy does not apply
to purchases and sales of money market funds.
2.5 Additional
Prohibitions and Requirements for Access Persons and Portfolio Persons
Initial
Public Offerings
Access Persons are prohibited from investing in securities sold in an initial
public offering or a secondary offering
(including Initial Coin Offerings (“ICOs”))
by an issuer except for offerings of securities made by closed-end FT Funds advised or sub-advised by
Franklin Templeton. However, IPOs may be permissible in certain circumstances or jurisdictions. Please
contact the Code of Ethics department or your local Compliance Officer in advance of executing any IPO.
Short Sales of Securities
Portfolio Persons are
prohibited from selling short any security held by the FT Funds, including “short sales against the
box.” This prohibition also applies to effecting economically equivalent transactions, including, but
not limited to, sales of uncovered call options, sales of put options while not owning the underlying
security, and short sales of bonds that are convertible into equity positions, swaps or other derivatives
where the security is held by FT Funds.
Short Swing Rule
Portfolio
Persons are subject to a short swing rule whereby they cannot sell shares of a security at a price higher
than any price paid within the prior 60 calendar days or buy a security at a price below any price which
they sold it within the past 60 calendar days, including transactions in derivatives and transactions
that may occur in margin and option accounts. Any profits made must be disgorged. Please consult the
Code of Ethics Department for any exemptions and how profits are calculated.
Disclosure
of Interest in Securities or Private Investments
Portfolio Persons are
required to disclose any interest they have in the securities of an issuer or direct investment in any
company if they are involved in either analysis or investment decisions related to the issuer or company.
Portfolio Persons must re-disclose any such interest if they participate in later recommendations or
investment decisions related to the issuer or company.
Portfolio Persons must
also disclose any personal transactions they are contemplating in the securities referenced above, any
position they hold with the issuer and any proposed business relationship between the issuer and the
Portfolio Person or any party in which the Portfolio Person has an interest.
The disclosures
above must be made to their Chief Investment Officer and /or Director of Research.
2.6 Reporting Requirements
All Accounts
All Covered Employees
must complete an Initial Code of Ethics Certification no later than 10 calendar days after the date the
person is notified by a member of the Human Resources Department of the requirement to do so. Additionally,
by February 15th of each subsequent year they must complete
an annual certification that they have complied with and will comply with the Policy.
Access Persons
must also file an Initial Broker Accounts Certification and Initial Holdings Certification no later than
10 calendar days after the date the person is notified by a member of the Human Resources Department
of the requirement to do so. Additionally, by February 15th
of each subsequent year, Access Persons must file a then current annual
report of all personal securities accounts and securities holdings and must certify that they have complied
with and will comply with the Policy.
Non-Discretionary Accounts
On a quarterly
basis, and no later than 30 calendar days after the end of each calendar quarter, every Access Person
must report all transactions in securities covered by this Policy, except for those executed through
an Automatic Investment Plan or that would duplicate information already provided in broker confirmations
or statements sent to the Code of Ethics Department directly from the broker.
No
later than 30 calendar days after the calendar quarter, Access Persons must report any account established
in which any securities were held during that calendar quarter.
Discretionary Accounts
Reporting of transactions is not required for discretionary accounts. A discretionary
account is managed by a non-affiliated third party (registered broker-dealer, a registered investment
adviser, or other investment manager acting in a similar fiduciary capacity) who exercises sole investment
discretion.
The Access Person must certify initially and annually thereafter
that they do not have investment control of the discretionary account other than the right to terminate.
If the Access Person makes or participates in an investment decision for an account that has been reported
as a discretionary account, any transactions related to that investment decision must be pre-cleared.
If there is any uncertainty about whether a particular account would be deemed discretionary for purposes
of the Policy, please consult the Code of Ethics Department.
2.7 Pre-Clearance
Requirements
Securities Transactions
Access Persons must obtain
pre-clearance from the Code of Ethics Department before buying or selling any security (other than those
not requiring pre-clearance, a full list of which is available from the Code of Ethics Department) and
are always prohibited from executing transactions in a security if aware that the FT Funds or Client
Accounts are active or contemplate being active in the security (even if the transactions have been pre-cleared).
Pre-clearance requests should be submitted via PTA.
Private Investments and
Limited Offerings
Access Persons must obtain pre-clearance from the Code of
Ethics Department before investing in a private placement or purchasing other securities in a limited
offering. For example, investments in private or unregistered funds (i.e., hedge funds) are required
to be pre-cleared under the Policy.
Discretionary Accounts
Transactions
in discretionary accounts do not need to be pre-cleared if satisfactory evidence has been provided to
the Code of Ethics Department that sole investment discretion has been granted to an investment manager.
If the Access Person makes or participates in an investment decision for an account that has been reported
as a discretionary account, any transactions related to that investment decision must be pre-cleared.
Exemptions from Pre-Clearance
Certain types of securities
and transactions are exempt from pre-clearance requirements. Examples of these types of securities and
transactions include, but are not limited to, shares issued by FRI; shares of open-end Funds and ETFs
(including FT open-ended Funds and ETFs) and closed-end funds (not including FT sponsored closed-end
Funds which must be precleared); certain government obligations and transactions effected pursuant to
dividend reinvestment plans. In addition, transactions in small quantities of securities (e.g., in the
case of equity securities, 500 shares within a 30 calendar day period) are not required to be pre-cleared.
Please consult the Code of Ethics Department for further information about the types of securities and
transactions that are exempt from the pre-clearance requirements of the Policy.
“Intent” Is Important
While pre-clearance of Access Persons’ transactions is a cornerstone of Franklin
Templeton’s compliance efforts, it cannot detect inappropriate or illegal transactions where the intent
conflicts with the principles of the Policy. Thus, the fact that a proposed transaction received pre-clearance
is not a defense against a charge of violating the Policy or the securities laws. For example, even
if an Access Person received pre-clearance for a transaction, that transaction might constitute front-running
if it occurred
shortly before a transaction by an FT Fund or Client Account that the Access Person
was aware of. In cases like this, the intent may not be evident when a particular transaction request
is analyzed for pre-clearance.
2.8 Requirements
for Independent Directors
Pre-clearance and Reporting Requirements
Unless
covered by a separate policy, an Independent Director is subject to the pre-clearance and transaction
reporting requirements of the Policy only if such Independent Director, at the time of his or her transaction,
knew or should have known that, during the 15 calendar day period before or after the date of the Independent
Director’s transaction, the security was purchased or sold or considered for purchase or sale by an
FT Fund or Client Account. The pre-clearance and reporting requirements of the Policy do not apply to
securities transactions conducted in an account where an Independent Director has granted full investment
discretion to a brokerage firm, bank or investment adviser or conducted in a trust account in which the
trustee has full investment discretion. Independent Directors are not required to disclose any securities
holdings or brokerage accounts, including brokerage accounts where he/she has granted discretionary authority
to a brokerage firm, bank or investment adviser.
Initial and Annual Acknowledgment
Reports
An
Independent Director must complete and return an executed Acknowledgment Form to the Code of Ethics Department
no later than 10 calendar days after the date the person becomes an Independent Director. Independent
Directors will be asked to certify by February 15th of each year that
they have complied with and will comply with the Policy by filing the Acknowledgment Form with the Code
of Ethics Department.
SECTION 3. INSIDER TRADING
3.1 Policy
on Insider Trading
Insider trading, or trading on material non-public information,
is against the law and penalties are severe, both for individuals involved in such unlawful conduct and
their employers. No Covered Employee may (1) trade, either personally or on behalf of the FT Funds or
Client Accounts, while in possession of material non-public information, or (2) communicate material
non-public information to others.
Material non-public information may be obtained
by many means, both in connection with a Covered Employee’s job functions (e.g., from meetings with
company executives or consultations with expert networks) or independent of the Covered Employee’s
employment or relationship with Franklin Templeton (e.g., from friends or relatives).
Before
trading for themselves or others (including FT Funds and Client Accounts) in the securities of a company
about which a Covered Employee potentially may have material non-public information, the Covered Employee
should consider the following questions:
• First, is the information material? Information is considered
material if there is a substantial likelihood that a reasonable investor would consider the information
to be important in making his or her investment decision, or if it is reasonably certain to have a substantial
effect on the price of the company’s securities.
• Second, is the information non-public? Information is non-public
until it has been effectively communicated to the marketplace. For example, information in a report
filed with the U.S. Securities and Exchange Commission, or that appears in a publication of general circulation
(e.g., The Wall Street Journal or Reuters) would be considered public. If the information has been obtained
from someone who is betraying an obligation not to share the information (e.g., a company insider), that
information is very likely to be non-public.
If, after consideration
of these questions, the Covered Employee believes that the information that they have about a company
may be material and non-public, or if the Covered Employee has questions as to whether the information
is material or non-public, he or she must report the matter immediately to Trading Desk Compliance/IC,
the designated Compliance Officer or Legal Department. In addition, the Covered Employee must not purchase
or sell any securities issued by such company on behalf of themselves or others (including on behalf
of any FT Fund or Client Account), or communicate the information inside or outside Franklin Templeton.
Trading Desk Compliance/IC or the Compliance Officer will promptly contact the
Legal Department for advice. After review of the facts, the Legal Department, Trading Desk Compliance/IC
or the Compliance Officer will provide instructions to the Covered Employee. If the information in the
Covered Employee’s possession is determined to be material and non-public, the Covered
Employee is required to keep the information confidential and secure. Those securities
for which the Covered Employee has material non-public information will be placed on restricted trading
lists for a timeframe determined by the Compliance Officer.
SECTION 4. RELATED POLICIES AND REQUIREMENTS
4.1 Statement on Other
Policies and Requirements
In addition to the Policy, Covered Employees are required
to observe the applicable policies and procedures prescribed in the Code of Ethics
and Business Conduct, the policies contained in the U.S. and non-U.S. employee
handbooks (as applicable), and various other policies adopted by Franklin Templeton.
SECTION 5.
ADMINISTRATION OF THE POLICY, WAIVERS & REPORTING VIOLATIONS
5.1 Code
of Ethics Committee; Reporting to FT Fund Boards
The Code of Ethics Committee
is responsible for the administration of the Policy and provides oversight of compliance with the personal
trading requirements of the Policy. Among other things, the Committee has the authority and responsibility
to review the Policy periodically, review sanction guidelines for violations of the Policy and review
trading violations and waivers granted.
At least annually, the FT Fund Boards who have adopted this
policy will be provided with a report describing any issues arising under the Policy if requested.
FT Fund Boards may require more frequent reporting, including detailing all violations of the Policy.
5.2 Violations of the Policy
A Covered Employee
that violates this Policy will be sanctioned in a manner commensurate with the violation. Prescribed
sanctions range from warning memos for a first time failure to pre-clear a transaction to the immediate
sale of positions, disgorgement of profits, personal trading suspensions and other sanctions, up to and
including termination and reporting to regulatory authorities for more serious violations.
5.3 Waivers of the Policy
The
Chief Compliance Officer of the relevant investment adviser, or primary regional officer, may, in his
or her discretion, waive compliance by any Covered Employee with the provisions of the Policy, if he
or she finds that such a waiver:
(1) is
necessary to alleviate undue hardship or in view of unforeseen circumstances or is otherwise appropriate
under all the relevant facts and circumstances;
(2) will not be inconsistent with the purposes and objectives
of the Policy;
(3) will
not adversely affect the interests of the FT Funds or Client Accounts or the interests of Franklin Templeton;
and
(4) will
not result in a transaction or conduct that would violate provisions of applicable laws or regulations.
Any waiver will be in writing, will contain a statement of the basis for it, and
any waivers granted by the Chief Compliance Officer of the relevant investment adviser, or primary regional
officer, will be reported to the SVP of Regulatory Compliance.
5.4 Reporting
Violations
Covered Employees are required to report violations of the
Policy or the related Procedures, whether by themselves or by others.
Franklin
Templeton is dedicated to providing Covered Employees with the means and opportunity to report violations
of the Policy or the related Procedures, or other instances of wrongdoing, or any concerns they may have
regarding ethical violations or accounting, internal control or auditing matters, including fraud. Several
means are provided by which reports to the Compliance and Ethics Hotline can be made including:
Online at: https://franklintempleton.ethicspoint.com
U.S.,
U.S. Territories or Canada can call toll-free 1-800-648-7932
All other countries can
call collect at 704-540-0139
Franklin Templeton will not allow retaliation against any Covered Employee who
has submitted a report of a violation of the Policy or the related Procedures in good faith.
Appendix
| | | | |
| Covered Employees | Access Persons | Portfolio Persons | Independent Directors |
Prohibited Activities (Section 1.3) | X | X | X | X |
Prohibited Transactions and Other Requirements (Sections 2.4 and 2.5) |
Prohibition on Trading Activity that Conflicts with FT Funds or Client Accounts | X | X | X | X |
Prohibition on Short Sales of FRI and Closed-end FT Funds | X | X | X | X |
Trading in Shares of the FT Funds When in Possession of Material Non-Public Information | X | X | X | X |
Short-Term Trading in Open-end FT Funds | X | X | X | X |
Prohibition on Investments in Initial Public Offerings | | X | X | |
Prohibition on Short Sales
of All Securities | | | X | |
Short Swing Rule | | | X | |
Disclosure of Interest in Securities | | | X | |
Reporting Requirements (Section 2.6) |
Initial Certification/Acknowledgment | X | X | X | X |
Initial Disclosure of Accounts and Holdings | | X | X | |
Annual Disclosure of Accounts
and Holdings | | X | X | |
Annual Certification of Compliance | X | X | X | X |
Quarterly Disclosure of Transactions | | X | X | X* |
Quarterly Disclosure of New Accounts | | X | X | |
Pre-Clearance Requirements
(Section 2.7) | | X | X | X* |
Insider Trading (Section 3) | X | X | X | X |
Requirement to Report Violations (Section 5.4) | X | X | X | X |
*Only applicable if the Independent Director, at the time
of his or her transaction, knew or should have known that, during the 15 calendar day period before or
after the date of the Independent Director’s transaction, the security was purchased or sold or considered
for purchase or sale by an FT Fund or Client Account.
POWER OF ATTORNEY
The undersigned officers and trustees of
each trust or corporation listed in Schedule A hereto (each a “Registrant”) hereby
appoint MARGUERITE C. BATEMAN, BRUCE G. LETO, KRISTIN H. IVES, J. STEPHEN FEINOUR, AMY C. FITZSIMMONS,
NAVID J. TOFIGH, ALISON E. BAUR, and HARRIS GOLDBLAT
(with full power to each of them to act alone) his/her attorney-in-fact and agent, in all capacities,
to execute, deliver and file in the names of the undersigned, any and all instruments that said attorneys
and agents may deem necessary or advisable to enable the Registrant to comply with or register any security
issued by the Registrant under the Securities Act of 1933, as amended, and/or the Investment Company
Act of 1940, as amended, and the rules, regulations and interpretations thereunder, including but not
limited to, any registration statement, including any and all pre- and post-effective amendments thereto,
any other document to be filed with the U.S. Securities and Exchange Commission and any and all documents
required to be filed with respect thereto with any other regulatory authority. Each of the undersigned
grants to each of said attorneys, full authority to do every act necessary to be done in order to effectuate
the same as fully, to all intents and purposes, as he/she could do if personally present, thereby ratifying
all that said attorneys-in-fact and agents may lawfully do or cause to be done by virtue hereof.
This Power of Attorney may be executed in one or more counterparts, each of which
shall be deemed to be an original and all of which shall be deemed to be a single document.
The
undersigned officers and trustees hereby execute this Power of Attorney as of the 2nd day of January,
2024.
| | |
/s/ Patrick O’Connor | | /s/ Rohit Bhagat |
Patrick O’Connor, President
and Chief Executive Officer-Investment Management | | Rohit Bhagat, Trustee |
/s/
Deborah D. McWhinney | | /s/
Jennifer M. Johnson |
Deborah
D. McWhinney, Trustee | | Jennifer
M. Johnson, Trustee |
/s/
Anantha K. Pradeep | | /s/
Vivek Pai |
Anantha
K. Pradeep, Trustee | | Vivek
Pai, Chief Financial Officer and Chief Accounting Officer |
/s/ Christopher Kings | | |
Christopher
Kings, Chief Executive Officer-Finance and Administration | | |
Schedule A
To
Power of Attorney
Name
of Trust Securities Act File No.
FRANKLIN
ETF TRUST 333-186504
FRANKLIN TEMPLETON ETF
TRUST 333-208873
FRANKLIN
TEMPLETON TRUST 333-233596
LEGG
MASON ETF INVESTMENT TRUST 333-206784
LEGG MASON ETF INVESTMENT
TRUST II 333-234497
v3.24.2
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v3.24.2
Total |
Franklin Short Duration U.S. Government ETF
|
FRANKLIN SHORT DURATION U.S. GOVERNMENT ETF
|
Investment Goal
|
A high level of current income as is consistent with prudent
investing, while seeking preservation of capital.
|
Fees and Expenses of the Fund
|
The following table
describes the fees and expenses that you will incur if you buy, hold and sell shares of the Fund. You
may also incur other fees, such as usual and customary brokerage commissions and other fees to financial
intermediaries, which are not reflected in the table and the Example that follows.
|
Annual Fund
Operating Expenses (expenses that you pay each year as a percentage of the value of your investment)
|
|
Example
|
This
Example is intended to help you compare the cost of investing in the Fund with the cost of investing
in other funds. The Example assumes that you invest $10,000 in the Fund for the time periods indicated
and then sell all of your shares at the end of the period. The Example also assumes that your investment
has a 5% return each year and that the Fund's operating expenses remain the same. Although your actual
costs may be higher or lower, based on these assumptions your costs would be:
|
Expense Example
|
Franklin Short Duration U.S. Government ETF
Franklin Short Duration U.S. Government ETF
USD ($)
|
1 Year |
$ 26
|
3 Years |
81
|
5 Years |
141
|
10 Years |
$ 318
|
|
Portfolio Turnover
|
The Fund pays transaction costs, such as
commissions, when it buys and sells securities (or "turns over" its portfolio). A higher portfolio turnover
rate may indicate higher transaction costs and may result in higher taxes when Fund shares are held in
a taxable account. These costs, which are not reflected in annual Fund operating expenses or in the Example,
affect the Fund's performance. During the most recent
fiscal
year, the Fund's portfolio turnover rate was 105.52% of the average value of its portfolio.
|
Principal Investment Strategies
|
Under
normal market conditions, the Fund invests at least 80% of its net assets in securities issued or guaranteed
by the U.S. government, its agencies, or instrumentalities. The Fund currently targets an estimated portfolio
duration of three (3) years or less. The Fund generally invests 50-80% of its assets in mortgage securities
issued or guaranteed by the U.S. government, its agencies, or instrumentalities, including adjustable
rate mortgage securities (ARMs) and collateralized mortgage obligations (CMOs), but the Fund also invests
in direct obligations of the U.S. government (such as Treasury bonds, bills and notes) and in securities
issued or guaranteed by the U.S. government, its agencies or instrumentalities, including government
sponsored entities. All of the Fund’s principal investments are debt securities, including bonds, notes
and debentures. In comparison to maturity (which is the date on which a debt instrument ceases
and the issuer is obligated to repay the principal amount), duration is a measure of the expected price
volatility of a debt instrument as a result of changes in market rates of interest, based on the weighted
average timing of the instrument’s expected principal and interest payments and other factors. For
purposes of calculating the Fund’s portfolio duration, the Fund includes the effect of interest rate/bond
futures contracts and options on interest rate/bond futures contracts held by the Fund. Mortgage securities represent
an interest in a pool of mortgage loans made by banks and other financial institutions to finance purchases
of homes, commercial buildings and other real estate. As the underlying mortgage loans are paid off,
investors receive periodic principal and interest payments as well as any unscheduled principal prepayments
on the underlying mortgage loans. The mortgage securities purchased by the Fund include, but are not
limited to, bonds and notes issued or guaranteed by the Government National Mortgage Association (Ginnie
Mae) and U.S. government-sponsored entities, such as the Federal National Mortgage Association (Fannie
Mae), and the Federal Home Loan Mortgage Corporation (Freddie Mac). Government agency or instrumentality issues
have different levels of credit support. Ginnie Mae pass-through mortgage certificates are backed by
the full faith and credit of the U.S. government. U.S. government-sponsored entities, such as Fannie
Mae and Freddie Mac, may be chartered by Acts of Congress, but their securities are neither issued nor
guaranteed by the U.S. government. Although the U.S. government has provided financial support to Fannie
Mae and Freddie Mac, no assurance can be given that the U.S. government will continue to do so. The Fund
may invest in obligations of other U.S. government-sponsored entities, which may be
supported only by the credit of the issuing agency or instrumentality, such as securities issued by members
of the Farm Credit System. The Fund may invest in mortgage dollar rolls. In a mortgage dollar roll, the Fund
sells (or buys) mortgage securities for delivery on a specified date and simultaneously contracts to
repurchase (or sell) substantially similar (same type, coupon, and maturity) securities on a future date.
The Fund may also purchase or sell mortgage securities on a delayed delivery or forward commitment basis
through the "to-be-announced" (TBA) market. With TBA transactions, the particular securities to be delivered
must meet specified terms and standards. The Fund will invest only in covered mortgage dollar rolls or
TBA transactions, meaning that the Fund designates liquid securities in its portfolio equal in value
to the securities it will repurchase. The Fund invests in investment grade securities and investments
or in unrated securities and investments that the Fund’s investment manager determines are of comparable
quality. The Fund may invest in U.S. inflation-indexed securities issued by the U.S. government. To
pursue its investment goal, the Fund may invest in certain interest rate-related derivative transactions,
principally U.S. Treasury futures contracts and options on interest rate/bond futures. The use of these
derivative transactions may allow the Fund to obtain net long or short exposures to selected interest
rates or durations. These derivatives may be used to hedge risks associated with the Fund’s other portfolio
investments and to manage the duration of the Fund’s portfolio.
|
Principal Risks
|
Risk Table - Franklin Short Duration U.S. Government ETF
|
Risk [Text Block] |
Risk Lose Money [Member] |
You could lose money by investing in the Fund.
|
Interest Rate |
Interest Rate:
When interest rates rise, debt security prices generally fall. The opposite is also generally true:
debt security prices rise when interest rates fall. Interest rate changes are influenced by a number
of factors, including government policy, monetary policy, inflation expectations, perceptions of risk,
and supply of and demand for bonds. In general, securities with longer maturities or durations are more
sensitive to interest rate changes.
|
Mortgage Securities |
Mortgage Securities: Mortgage securities
differ from conventional debt securities because principal is paid back periodically over the life of
the security rather than at maturity. The Fund may receive unscheduled payments of principal due to
voluntary
prepayments, refinancings or foreclosures on the underlying mortgage loans. Because of prepayments, mortgage
securities may be less effective than some other types of debt securities as a means of "locking in"
long-term interest rates and may have less potential for capital appreciation during periods of falling
interest rates. A reduction in the anticipated rate of principal prepayments, especially during periods
of rising interest rates, may increase or extend the effective maturity and duration of mortgage securities,
making them more sensitive to interest rate changes, subject to greater price volatility, and more susceptible
than some other debt securities to a decline in market value when interest rates rise. Mortgage
securities purchased on a delayed delivery or forward commitment basis through the to-be-announced market
(TBA) are subject to the risk that the actual securities received by the Fund may be less favorable than
anticipated, or that a counterparty will fail to deliver the security. Entering into a when-issued, delayed
delivery or TBA transaction may be viewed as a form of leverage and will result in associated risks for
the Fund. Sales of debt securities on a when-issued or delayed delivery basis are also subject to the
risk that the Fund is unable to purchase securities for delivery at the settlement date with the characteristics
agreed upon at the time of the transaction, which may subject the Fund to market losses or other penalties.
|
Prepayment |
Prepayment:
Prepayment risk occurs when a debt security can be repaid in whole or in part prior to the security's
maturity and the Fund must reinvest the proceeds it receives, during periods of declining interest rates,
in securities that pay a lower rate of interest. Also, if a security has been purchased at a premium,
the value of the premium would be lost in the event of prepayment. Prepayments generally increase when
interest rates fall.
|
Variable Rate Securities |
Variable Rate Securities: Because changes in
interest rates on variable rate securities (including floating rate securities) may lag behind changes
in market rates, the value of such securities may decline during periods of rising interest rates until
their interest rates reset to market rates. During periods of declining interest rates, because the interest
rates on variable rate securities generally reset downward, their market value is unlikely to rise to
the same extent as the value of comparable fixed rate securities.
|
Income |
Income:
The Fund's distributions to shareholders may decline when prevailing interest rates fall, when the Fund
experiences defaults on debt securities it holds or when the Fund realizes a loss upon the sale of a
debt security.
|
Extension |
Extension: Some debt securities, particularly mortgage-backed
securities, are subject to the risk that the debt security’s effective maturity is extended because
calls or prepayments are less or slower than anticipated, particularly when interest
rates
rise. The market value of such security may then decline and become more interest rate sensitive.
|
Inflation-Indexed Securities |
Inflation-Indexed
Securities: Inflation-indexed securities have a tendency to react to changes
in real interest rates. Real interest rates represent nominal (stated) interest rates lowered by the
anticipated effect of inflation. In general, the price of an inflation-indexed security decreases when
real interest rates increase, and increases when real interest rates decrease. Interest payments on inflation-indexed
securities will fluctuate as the principal and/or interest is adjusted for inflation and can be unpredictable.
Any increase in the principal amount of an inflation-protected debt security will be considered taxable
ordinary income, even though investors, such as the Fund, do not receive their principal until maturity.
|
Market |
Market:
The
market values of securities or other investments owned by the Fund will go up or down, sometimes rapidly
or unpredictably. The market value of a security or other investment may be reduced by market activity
or other results of supply and demand unrelated to the issuer. This is a basic risk associated with all
investments. When there are more sellers than buyers, prices tend to fall. Likewise, when there are more
buyers than sellers, prices tend to rise.
|
Mortgage Dollar Rolls |
Mortgage Dollar Rolls: In a mortgage dollar
roll, the Fund takes the risk that: the market price of the mortgage-backed securities will drop below
their future repurchase price; the securities that it repurchases at a later date will have less favorable
market characteristics; the other party to the agreement will not be able to perform; the roll adds leverage
to the Fund's portfolio; and, it increases the Fund's sensitivity to interest rate changes. In addition,
investment in mortgage dollar rolls may increase the portfolio turnover rate for the Fund.
|
Portfolio Turnover |
Portfolio
Turnover: Active and frequent trading may increase a shareholder’s tax liability and the
Fund’s transaction costs, which could detract from Fund performance.
|
Derivative Instruments |
Derivative
Instruments: The performance of derivative instruments depends largely on the performance
of an underlying instrument, such as a security, interest rate or index, and such instruments often have
risks similar to their underlying instrument, in addition to other risks. Derivative instruments involve
costs and can create economic leverage in the Fund's portfolio which may result in significant volatility
and cause the Fund to participate in losses (as well as gains) in an amount that exceeds the Fund's initial
investment. Other risks include illiquidity, mispricing or improper valuation of the derivative instrument,
and imperfect correlation between the value of the derivative and the underlying instrument so that the
Fund may not realize the intended benefits. When a derivative is used for hedging, the change in value
of the derivative may also not correlate specifically with the security, interest rate, index or other
risk being hedged. With over-the-counter
derivatives,
there is the risk that the other party to the transaction will fail to perform.
|
Credit |
Credit:
An issuer of debt securities may fail to make interest payments or repay principal when due, in whole
or in part. Changes in an issuer's financial strength or in a security's or government's credit rating
may affect a security's value. While securities issued by Ginnie Mae are backed by the full faith and
credit of the U.S. government, not all securities of the various U.S. government agencies are, including
those of Fannie Mae and Freddie Mac. Accordingly, securities issued by Fannie Mae and Freddie Mac may
involve a risk of non-payment of principal and interest. U.S. government guarantees of timely repayment
of principal and interest on government securities do not apply to the market prices and yields of the
securities or to the NAV, trading price or performance of the Fund. Irrespective of such U.S. government
guarantees, the market prices and yields of the securities and, consequently, the NAV, trading price
and performance of the Fund, will vary with changes in interest rates and other market conditions. Any
downgrade of the credit rating of the securities issued by the U.S. Government may result in a downgrade
of securities issued by its agencies or instrumentalities, including government-sponsored entities. The
Fund may incur losses on debt securities that are inaccurately perceived to present a different amount
of credit risk by the market, the investment manager or the rating agencies than such securities actually
do.
|
Management |
Management:
The Fund is subject to management risk because it is an actively managed ETF. The Fund's investment
manager applies investment techniques and risk analyses in making investment decisions for the Fund,
but there can be no guarantee that these decisions will produce the desired results.
|
Cybersecurity |
Cybersecurity:
Cybersecurity incidents, both intentional and unintentional, may allow an unauthorized party to gain
access to Fund assets, Fund or customer data (including private shareholder information), or proprietary
information, cause the Fund, the investment manager, authorized participants, or index providers (as
applicable) and listing exchanges, and/or their service providers (including, but not limited to, Fund
accountants, custodians, sub-custodians, transfer agents and financial intermediaries) to suffer data
breaches, data corruption or loss of operational functionality or prevent Fund investors from purchasing,
redeeming shares or receiving distributions. The investment manager has limited ability to prevent or
mitigate cybersecurity incidents affecting third party service providers, and such third party service
providers may have limited indemnification obligations to the Fund or the investment manager. Cybersecurity
incidents may result in financial losses to the Fund and its shareholders, and substantial costs may
be incurred in an effort to prevent or mitigate future cybersecurity incidents. Issuers of securities
in which the Fund invests are also subject to cybersecurity risks, and the
value
of these securities could decline if the issuers experience cybersecurity incidents. Because technology is
frequently changing, new ways to carry out cyber attacks are always developing. Therefore, there is a
chance that some risks have not been identified or prepared for, or that an attack may not be detected,
which puts limitations on the Fund's ability to plan for or respond to a cyber attack. Like other funds
and business enterprises, the Fund, the investment manager, and their service providers are subject to
the risk of cyber incidents occurring from time to time.
|
Market Trading |
Market Trading:
The Fund faces numerous market trading risks, including the potential lack of an active market for Fund
shares, losses from trading in secondary markets, periods of high volatility and disruption in the creation/redemption
process of the Fund. Any of these factors, among others, may lead to the Fund’s shares trading at a
premium or discount to NAV. Thus, you may pay more (or less) than NAV when you buy shares of the Fund
in the secondary market, and you may receive less (or more) than NAV when you sell those shares in the
secondary market. The investment manager cannot predict whether shares will trade above (premium), below
(discount) or at NAV.
|
Authorized Participant Concentration |
Authorized Participant Concentration: Only an Authorized
Participant may engage in creation or redemption transactions directly with the Fund. "Authorized Participants"
are broker-dealers that are permitted to create and redeem shares directly with the Fund and who have
entered into agreements with the Fund’s distributor. The Fund has a limited number of institutions
that act as Authorized Participants. To the extent that these institutions exit the business or are unable
to proceed with creation and/or redemption orders with respect to the Fund and no other Authorized Participant
is able to step forward to create or redeem Creation Units (as defined below), Fund shares may trade
at a discount to NAV and possibly face trading halts and/or delisting. This risk may be more pronounced
in volatile markets, potentially where there are significant redemptions in ETFs generally.
|
Cash Transactions |
Cash
Transactions: Unlike certain ETFs, the Fund expects to generally effect its creations and
redemptions entirely for cash, rather than for in-kind securities. Therefore, it may be required to sell
portfolio securities and subsequently recognize gains on such sales that the Fund might not have recognized
if it were to distribute portfolio securities in-kind. As such, investments in Fund shares may be less
tax-efficient than an investment in an ETF that distributes portfolio securities entirely in-kind.
|
Small Fund |
Small
Fund:
When the Fund's size is small, the Fund may experience low trading volume and wide bid-ask spreads.
In addition, the Fund may face the risk of being delisted if the Fund does not meet certain conditions
of the listing exchange.
|
Large Shareholder |
Large
Shareholder: Certain large shareholders, including other funds or accounts advised by the
investment manager or an affiliate of the investment manager, may from time to time own a substantial
amount of the Fund’s shares. In addition, a third-party investor, the investment manager or an affiliate
of the investment manager, an authorized participant, a lead market maker, or another entity may invest
in the Fund and hold its investment for a limited period of time solely to facilitate commencement of
the Fund or to facilitate the Fund’s achieving a specified size or scale. There can be no assurance
that any large shareholder would not redeem its investment, that the size of the Fund would be maintained
at such levels or that the Fund would continue to meet applicable listing requirements. Redemptions by
large shareholders could have a significant negative impact on the Fund. In addition, transactions by
large shareholders may account for a large percentage of the trading volume on the listing exchange and
may, therefore, have a material upward or downward effect on the market price of the shares.
|
|
Performance
|
The
following bar chart and table provide some indication of the risks of investing in the Fund. The bar
chart shows changes in the Fund's performance from year to year. The table shows how the Fund's average
annual returns for 1 year, 5 years, 10 years or since inception, as applicable, compared with those of
a broad measure of market performance and an additional index with characteristics relevant to the Fund.
The
Fund's past performance (before and after taxes) is not necessarily an indication of how the Fund will
perform in the future. You can obtain updated performance information at www.franklintempleton.com or
by calling (800) DIAL BEN/342-5236.
|
Annual Total Returns
|
|
| | | Best Quarter: | 2023, Q4 | 2.37% | Worst Quarter: | 2022, Q1 | -1.80% |
| As of June 30, 2024, the
Fund’s year-to-date return was 2.08%. |
|
Average Annual Total Returns For periods ended December
31, 2023
|
|
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- DefinitionRisk/Return Summary Fee Table Includes the following information, in plain English under rule 421(d) under the Securities Act, after Item 2 Fees and expenses of the Fund This table describes the fees and expenses that you may pay if you buy and hold shared of the Fund. You may qualify for sales charge discounts if you and your family invest, or agree to invest in the future, at least $[_____] in [name of fund family] funds. Shareholder Fees (fees paid directly from your investment) Example This Example is intended to help you compare the cost of investing in the Fund with the cost of investing in other mutual funds. The Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower, based on these assumptions your costs would be You would pay the following expenses if you did not redeem your shares The Example does not reflect sales charges (loads) on reinvested dividends [and other distributions]. If these sales charges (loads) were included, your costs would be higher. Portfolio Turnover The Fund pays transaction costs, such as commissions, when it buys and sells securities (or "turns over" its portfolio). A higher portfolio turnover may indicate higher transaction costs. These costs, which are not reflected in annual fund operating expenses or in the example, affect the Fund's performance. During the most recent fiscal year, the Fund's portfolio turnover rate was __% of the average value of its whole portfolio. Instructions. A.3.instructions.6 New Funds. For purposes of this Item, a "New Fund" is a Fund that does not include in Form N-1A financial statements reporting operating results or that includes financial statements for the Fund's initial fiscal year reporting operating results for a period of 6 months or less. The following Instructions apply to New Funds.
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- DefinitionThis table describes the fees and expenses that you may pay if you buy, hold, and sell shares of the Fund. You may pay other fees, such as brokerage commissions and other fees to financial intermediaries, which are not reflected in the tables and examples below. You may qualify for sales charge discounts if you and your family invest, or agree to invest in the future, at least $[ ] in [name of fund family] funds. More information about these and other discounts is available from your financial intermediary and in [identify section heading and page number] of the Fund's prospectus and [identify section heading and page number] of the Fund's statement of additional information
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- DefinitionTotal Annual Fund Operating Expenses. If the Fund is a Feeder Fund, reflect the aggregate expenses of the Feeder Fund and the Master Fund in a single fee table using the captions provided. In a footnote to the fee table, state that the table and Example reflect the expenses of both the Feeder and Master Funds. If the prospectus offers more than one Class of a Multiple Class Fund or more than one Feeder Fund that invests in the same Master Fund, provide a separate response for each Class or Feeder Fund. Base the percentages of "Annual Fund Operating Expenses" on amounts incurred during the Fund's most recent fiscal year, but include in expenses amounts that would have been incurred absent expense reimbursement or fee waiver arrangements. If the Fund has changed its fiscal year and, as a result, the most recent fiscal year is less than three months, use the fiscal year prior to the most recent fiscal year as the basis for determining "Annual Fund Operating Expenses."
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- DefinitionManagement Fees include investment advisory fees (including any fees based on the Fund's performance), any other management fees payable to the investment adviser or its affiliates, and administrative fees payable to the investment adviser or its affiliates that are not included as "Other Expenses."
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- DefinitionInvestment Objectives/Goals. Disclose the Fund's investment objectives or goals. A Fund also may identify its type or category (e.g., that it is a Money Market Fund or a balanced fund).
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- DefinitionInvestment Objectives/Goals. Disclose the Fund's investment objectives or goals. A Fund also may identify its type or category (e.g., that it is a Money Market Fund or a balanced fund).
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- DefinitionAnnual Fund Operating Expenses (ongoing expenses that you pay each year as a percentage of the value of your investment)
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- Definition"Other Expenses" include all expenses not otherwise disclosed in the table that are deducted from the Fund's assets or charged to all shareholder accounts. The amount of expenses deducted from the Fund's assets are the amounts shown as expenses in the Fund's statement of operations (including increases resulting from complying with paragraph 2(g) of rule 6-07 of Regulation S-X [17 CFR 210.6-07]). "Other Expenses" do not include extraordinary expenses as determined under generally accepted accounting principles (see Accounting Principles Board Opinion No. 30). If extraordinary expenses were incurred that materially affected the Fund's "Other Expenses," disclose in a footnote to the table what "Other Expenses" would have been had the extraordinary expenses been included.
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- DefinitionRisk/Return Bar Chart and Table.
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- DefinitionDisclose the portfolio turnover rate provided in response to Item 14(a) for the most recent fiscal year (or for such shorter period as the Fund has been in operation). Disclose the period for which the information is provided if less than a full fiscal year. A Fund that is a Money Market Fund may omit the portfolio turnover information required by this Item.
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- DefinitionRisk/Return Summary Investment Objectives/Goals Include the following information, in plain English under rule 421(d) under the Securities Act, in the order and subject matter indicated
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- DefinitionPrincipal investment strategies of the Fund. Summarize how the Fund intends to achieve its investment objectives by identifying the Fund's principal investment strategies (including the type or types of securities in which the Fund invests or will invest principally) and any policy to concentrate in securities of issuers in a particular industry or group of industries.
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v3.24.2
Label |
Element |
Value |
Franklin Short Duration U.S. Government ETF |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk/Return [Heading] |
rr_RiskReturnHeading |
FRANKLIN SHORT DURATION U.S. GOVERNMENT ETF
|
Objective [Heading] |
rr_ObjectiveHeading |
Investment Goal
|
Objective, Primary [Text Block] |
rr_ObjectivePrimaryTextBlock |
A high level of current income as is consistent with prudent
investing, while seeking preservation of capital.
|
Expense [Heading] |
rr_ExpenseHeading |
Fees and Expenses of the Fund
|
Expense Narrative [Text Block] |
rr_ExpenseNarrativeTextBlock |
The following table
describes the fees and expenses that you will incur if you buy, hold and sell shares of the Fund. You
may also incur other fees, such as usual and customary brokerage commissions and other fees to financial
intermediaries, which are not reflected in the table and the Example that follows.
|
Operating Expenses Caption [Text] |
rr_OperatingExpensesCaption |
Annual Fund
Operating Expenses (expenses that you pay each year as a percentage of the value of your investment)
|
Portfolio Turnover [Heading] |
rr_PortfolioTurnoverHeading |
Portfolio Turnover
|
Portfolio Turnover [Text Block] |
rr_PortfolioTurnoverTextBlock |
The Fund pays transaction costs, such as
commissions, when it buys and sells securities (or "turns over" its portfolio). A higher portfolio turnover
rate may indicate higher transaction costs and may result in higher taxes when Fund shares are held in
a taxable account. These costs, which are not reflected in annual Fund operating expenses or in the Example,
affect the Fund's performance. During the most recent
fiscal
year, the Fund's portfolio turnover rate was 105.52% of the average value of its portfolio.
|
Portfolio Turnover, Rate |
rr_PortfolioTurnoverRate |
105.52%
|
Expense Example [Heading] |
rr_ExpenseExampleHeading |
Example
|
Expense Example Narrative [Text Block] |
rr_ExpenseExampleNarrativeTextBlock |
This
Example is intended to help you compare the cost of investing in the Fund with the cost of investing
in other funds. The Example assumes that you invest $10,000 in the Fund for the time periods indicated
and then sell all of your shares at the end of the period. The Example also assumes that your investment
has a 5% return each year and that the Fund's operating expenses remain the same. Although your actual
costs may be higher or lower, based on these assumptions your costs would be:
|
Strategy [Heading] |
rr_StrategyHeading |
Principal Investment Strategies
|
Strategy Narrative [Text Block] |
rr_StrategyNarrativeTextBlock |
Under
normal market conditions, the Fund invests at least 80% of its net assets in securities issued or guaranteed
by the U.S. government, its agencies, or instrumentalities. The Fund currently targets an estimated portfolio
duration of three (3) years or less. The Fund generally invests 50-80% of its assets in mortgage securities
issued or guaranteed by the U.S. government, its agencies, or instrumentalities, including adjustable
rate mortgage securities (ARMs) and collateralized mortgage obligations (CMOs), but the Fund also invests
in direct obligations of the U.S. government (such as Treasury bonds, bills and notes) and in securities
issued or guaranteed by the U.S. government, its agencies or instrumentalities, including government
sponsored entities. All of the Fund’s principal investments are debt securities, including bonds, notes
and debentures. In comparison to maturity (which is the date on which a debt instrument ceases
and the issuer is obligated to repay the principal amount), duration is a measure of the expected price
volatility of a debt instrument as a result of changes in market rates of interest, based on the weighted
average timing of the instrument’s expected principal and interest payments and other factors. For
purposes of calculating the Fund’s portfolio duration, the Fund includes the effect of interest rate/bond
futures contracts and options on interest rate/bond futures contracts held by the Fund. Mortgage securities represent
an interest in a pool of mortgage loans made by banks and other financial institutions to finance purchases
of homes, commercial buildings and other real estate. As the underlying mortgage loans are paid off,
investors receive periodic principal and interest payments as well as any unscheduled principal prepayments
on the underlying mortgage loans. The mortgage securities purchased by the Fund include, but are not
limited to, bonds and notes issued or guaranteed by the Government National Mortgage Association (Ginnie
Mae) and U.S. government-sponsored entities, such as the Federal National Mortgage Association (Fannie
Mae), and the Federal Home Loan Mortgage Corporation (Freddie Mac). Government agency or instrumentality issues
have different levels of credit support. Ginnie Mae pass-through mortgage certificates are backed by
the full faith and credit of the U.S. government. U.S. government-sponsored entities, such as Fannie
Mae and Freddie Mac, may be chartered by Acts of Congress, but their securities are neither issued nor
guaranteed by the U.S. government. Although the U.S. government has provided financial support to Fannie
Mae and Freddie Mac, no assurance can be given that the U.S. government will continue to do so. The Fund
may invest in obligations of other U.S. government-sponsored entities, which may be
supported only by the credit of the issuing agency or instrumentality, such as securities issued by members
of the Farm Credit System. The Fund may invest in mortgage dollar rolls. In a mortgage dollar roll, the Fund
sells (or buys) mortgage securities for delivery on a specified date and simultaneously contracts to
repurchase (or sell) substantially similar (same type, coupon, and maturity) securities on a future date.
The Fund may also purchase or sell mortgage securities on a delayed delivery or forward commitment basis
through the "to-be-announced" (TBA) market. With TBA transactions, the particular securities to be delivered
must meet specified terms and standards. The Fund will invest only in covered mortgage dollar rolls or
TBA transactions, meaning that the Fund designates liquid securities in its portfolio equal in value
to the securities it will repurchase. The Fund invests in investment grade securities and investments
or in unrated securities and investments that the Fund’s investment manager determines are of comparable
quality. The Fund may invest in U.S. inflation-indexed securities issued by the U.S. government. To
pursue its investment goal, the Fund may invest in certain interest rate-related derivative transactions,
principally U.S. Treasury futures contracts and options on interest rate/bond futures. The use of these
derivative transactions may allow the Fund to obtain net long or short exposures to selected interest
rates or durations. These derivatives may be used to hedge risks associated with the Fund’s other portfolio
investments and to manage the duration of the Fund’s portfolio.
|
Strategy Portfolio Concentration [Text] |
rr_StrategyPortfolioConcentration |
Under
normal market conditions, the Fund invests at least 80% of its net assets in securities issued or guaranteed
by the U.
|
Risk [Heading] |
rr_RiskHeading |
Principal Risks
|
Bar Chart and Performance Table [Heading] |
rr_BarChartAndPerformanceTableHeading |
Performance
|
Performance Narrative [Text Block] |
rr_PerformanceNarrativeTextBlock |
The
following bar chart and table provide some indication of the risks of investing in the Fund. The bar
chart shows changes in the Fund's performance from year to year. The table shows how the Fund's average
annual returns for 1 year, 5 years, 10 years or since inception, as applicable, compared with those of
a broad measure of market performance and an additional index with characteristics relevant to the Fund.
The
Fund's past performance (before and after taxes) is not necessarily an indication of how the Fund will
perform in the future. You can obtain updated performance information at www.franklintempleton.com or
by calling (800) DIAL BEN/342-5236.
|
Performance Availability Phone [Text] |
rr_PerformanceAvailabilityPhone |
(800) DIAL BEN/342-5236
|
Performance Availability Website Address [Text] |
rr_PerformanceAvailabilityWebSiteAddress |
franklintempleton.com
|
Performance Past Does Not Indicate Future [Text] |
rr_PerformancePastDoesNotIndicateFuture |
The
Fund's past performance (before and after taxes) is not necessarily an indication of how the Fund will
perform in the future.
|
Bar Chart [Heading] |
rr_BarChartHeading |
Annual Total Returns
|
Bar Chart Closing [Text Block] |
rr_BarChartClosingTextBlock |
| | | Best Quarter: | 2023, Q4 | 2.37% | Worst Quarter: | 2022, Q1 | -1.80% |
| As of June 30, 2024, the
Fund’s year-to-date return was 2.08%. |
|
Performance Table Heading |
rr_PerformanceTableHeading |
Average Annual Total Returns For periods ended December
31, 2023
|
Franklin Short Duration U.S. Government ETF | Risk Lose Money [Member] |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
You could lose money by investing in the Fund.
|
Franklin Short Duration U.S. Government ETF | Interest Rate |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Interest Rate:
When interest rates rise, debt security prices generally fall. The opposite is also generally true:
debt security prices rise when interest rates fall. Interest rate changes are influenced by a number
of factors, including government policy, monetary policy, inflation expectations, perceptions of risk,
and supply of and demand for bonds. In general, securities with longer maturities or durations are more
sensitive to interest rate changes.
|
Franklin Short Duration U.S. Government ETF | Mortgage Securities |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Mortgage Securities: Mortgage securities
differ from conventional debt securities because principal is paid back periodically over the life of
the security rather than at maturity. The Fund may receive unscheduled payments of principal due to
voluntary
prepayments, refinancings or foreclosures on the underlying mortgage loans. Because of prepayments, mortgage
securities may be less effective than some other types of debt securities as a means of "locking in"
long-term interest rates and may have less potential for capital appreciation during periods of falling
interest rates. A reduction in the anticipated rate of principal prepayments, especially during periods
of rising interest rates, may increase or extend the effective maturity and duration of mortgage securities,
making them more sensitive to interest rate changes, subject to greater price volatility, and more susceptible
than some other debt securities to a decline in market value when interest rates rise. Mortgage
securities purchased on a delayed delivery or forward commitment basis through the to-be-announced market
(TBA) are subject to the risk that the actual securities received by the Fund may be less favorable than
anticipated, or that a counterparty will fail to deliver the security. Entering into a when-issued, delayed
delivery or TBA transaction may be viewed as a form of leverage and will result in associated risks for
the Fund. Sales of debt securities on a when-issued or delayed delivery basis are also subject to the
risk that the Fund is unable to purchase securities for delivery at the settlement date with the characteristics
agreed upon at the time of the transaction, which may subject the Fund to market losses or other penalties.
|
Franklin Short Duration U.S. Government ETF | Prepayment |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Prepayment:
Prepayment risk occurs when a debt security can be repaid in whole or in part prior to the security's
maturity and the Fund must reinvest the proceeds it receives, during periods of declining interest rates,
in securities that pay a lower rate of interest. Also, if a security has been purchased at a premium,
the value of the premium would be lost in the event of prepayment. Prepayments generally increase when
interest rates fall.
|
Franklin Short Duration U.S. Government ETF | Variable Rate Securities |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Variable Rate Securities: Because changes in
interest rates on variable rate securities (including floating rate securities) may lag behind changes
in market rates, the value of such securities may decline during periods of rising interest rates until
their interest rates reset to market rates. During periods of declining interest rates, because the interest
rates on variable rate securities generally reset downward, their market value is unlikely to rise to
the same extent as the value of comparable fixed rate securities.
|
Franklin Short Duration U.S. Government ETF | Income |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Income:
The Fund's distributions to shareholders may decline when prevailing interest rates fall, when the Fund
experiences defaults on debt securities it holds or when the Fund realizes a loss upon the sale of a
debt security.
|
Franklin Short Duration U.S. Government ETF | Extension |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Extension: Some debt securities, particularly mortgage-backed
securities, are subject to the risk that the debt security’s effective maturity is extended because
calls or prepayments are less or slower than anticipated, particularly when interest
rates
rise. The market value of such security may then decline and become more interest rate sensitive.
|
Franklin Short Duration U.S. Government ETF | Inflation-Indexed Securities |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Inflation-Indexed
Securities: Inflation-indexed securities have a tendency to react to changes
in real interest rates. Real interest rates represent nominal (stated) interest rates lowered by the
anticipated effect of inflation. In general, the price of an inflation-indexed security decreases when
real interest rates increase, and increases when real interest rates decrease. Interest payments on inflation-indexed
securities will fluctuate as the principal and/or interest is adjusted for inflation and can be unpredictable.
Any increase in the principal amount of an inflation-protected debt security will be considered taxable
ordinary income, even though investors, such as the Fund, do not receive their principal until maturity.
|
Franklin Short Duration U.S. Government ETF | Market |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Market:
The
market values of securities or other investments owned by the Fund will go up or down, sometimes rapidly
or unpredictably. The market value of a security or other investment may be reduced by market activity
or other results of supply and demand unrelated to the issuer. This is a basic risk associated with all
investments. When there are more sellers than buyers, prices tend to fall. Likewise, when there are more
buyers than sellers, prices tend to rise.
|
Franklin Short Duration U.S. Government ETF | Mortgage Dollar Rolls |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Mortgage Dollar Rolls: In a mortgage dollar
roll, the Fund takes the risk that: the market price of the mortgage-backed securities will drop below
their future repurchase price; the securities that it repurchases at a later date will have less favorable
market characteristics; the other party to the agreement will not be able to perform; the roll adds leverage
to the Fund's portfolio; and, it increases the Fund's sensitivity to interest rate changes. In addition,
investment in mortgage dollar rolls may increase the portfolio turnover rate for the Fund.
|
Franklin Short Duration U.S. Government ETF | Portfolio Turnover |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Portfolio
Turnover: Active and frequent trading may increase a shareholder’s tax liability and the
Fund’s transaction costs, which could detract from Fund performance.
|
Franklin Short Duration U.S. Government ETF | Derivative Instruments |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Derivative
Instruments: The performance of derivative instruments depends largely on the performance
of an underlying instrument, such as a security, interest rate or index, and such instruments often have
risks similar to their underlying instrument, in addition to other risks. Derivative instruments involve
costs and can create economic leverage in the Fund's portfolio which may result in significant volatility
and cause the Fund to participate in losses (as well as gains) in an amount that exceeds the Fund's initial
investment. Other risks include illiquidity, mispricing or improper valuation of the derivative instrument,
and imperfect correlation between the value of the derivative and the underlying instrument so that the
Fund may not realize the intended benefits. When a derivative is used for hedging, the change in value
of the derivative may also not correlate specifically with the security, interest rate, index or other
risk being hedged. With over-the-counter
derivatives,
there is the risk that the other party to the transaction will fail to perform.
|
Franklin Short Duration U.S. Government ETF | Credit |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Credit:
An issuer of debt securities may fail to make interest payments or repay principal when due, in whole
or in part. Changes in an issuer's financial strength or in a security's or government's credit rating
may affect a security's value. While securities issued by Ginnie Mae are backed by the full faith and
credit of the U.S. government, not all securities of the various U.S. government agencies are, including
those of Fannie Mae and Freddie Mac. Accordingly, securities issued by Fannie Mae and Freddie Mac may
involve a risk of non-payment of principal and interest. U.S. government guarantees of timely repayment
of principal and interest on government securities do not apply to the market prices and yields of the
securities or to the NAV, trading price or performance of the Fund. Irrespective of such U.S. government
guarantees, the market prices and yields of the securities and, consequently, the NAV, trading price
and performance of the Fund, will vary with changes in interest rates and other market conditions. Any
downgrade of the credit rating of the securities issued by the U.S. Government may result in a downgrade
of securities issued by its agencies or instrumentalities, including government-sponsored entities. The
Fund may incur losses on debt securities that are inaccurately perceived to present a different amount
of credit risk by the market, the investment manager or the rating agencies than such securities actually
do.
|
Franklin Short Duration U.S. Government ETF | Management |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Management:
The Fund is subject to management risk because it is an actively managed ETF. The Fund's investment
manager applies investment techniques and risk analyses in making investment decisions for the Fund,
but there can be no guarantee that these decisions will produce the desired results.
|
Franklin Short Duration U.S. Government ETF | Cybersecurity |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Cybersecurity:
Cybersecurity incidents, both intentional and unintentional, may allow an unauthorized party to gain
access to Fund assets, Fund or customer data (including private shareholder information), or proprietary
information, cause the Fund, the investment manager, authorized participants, or index providers (as
applicable) and listing exchanges, and/or their service providers (including, but not limited to, Fund
accountants, custodians, sub-custodians, transfer agents and financial intermediaries) to suffer data
breaches, data corruption or loss of operational functionality or prevent Fund investors from purchasing,
redeeming shares or receiving distributions. The investment manager has limited ability to prevent or
mitigate cybersecurity incidents affecting third party service providers, and such third party service
providers may have limited indemnification obligations to the Fund or the investment manager. Cybersecurity
incidents may result in financial losses to the Fund and its shareholders, and substantial costs may
be incurred in an effort to prevent or mitigate future cybersecurity incidents. Issuers of securities
in which the Fund invests are also subject to cybersecurity risks, and the
value
of these securities could decline if the issuers experience cybersecurity incidents. Because technology is
frequently changing, new ways to carry out cyber attacks are always developing. Therefore, there is a
chance that some risks have not been identified or prepared for, or that an attack may not be detected,
which puts limitations on the Fund's ability to plan for or respond to a cyber attack. Like other funds
and business enterprises, the Fund, the investment manager, and their service providers are subject to
the risk of cyber incidents occurring from time to time.
|
Franklin Short Duration U.S. Government ETF | Market Trading |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Market Trading:
The Fund faces numerous market trading risks, including the potential lack of an active market for Fund
shares, losses from trading in secondary markets, periods of high volatility and disruption in the creation/redemption
process of the Fund. Any of these factors, among others, may lead to the Fund’s shares trading at a
premium or discount to NAV. Thus, you may pay more (or less) than NAV when you buy shares of the Fund
in the secondary market, and you may receive less (or more) than NAV when you sell those shares in the
secondary market. The investment manager cannot predict whether shares will trade above (premium), below
(discount) or at NAV.
|
Franklin Short Duration U.S. Government ETF | Authorized Participant Concentration |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Authorized Participant Concentration: Only an Authorized
Participant may engage in creation or redemption transactions directly with the Fund. "Authorized Participants"
are broker-dealers that are permitted to create and redeem shares directly with the Fund and who have
entered into agreements with the Fund’s distributor. The Fund has a limited number of institutions
that act as Authorized Participants. To the extent that these institutions exit the business or are unable
to proceed with creation and/or redemption orders with respect to the Fund and no other Authorized Participant
is able to step forward to create or redeem Creation Units (as defined below), Fund shares may trade
at a discount to NAV and possibly face trading halts and/or delisting. This risk may be more pronounced
in volatile markets, potentially where there are significant redemptions in ETFs generally.
|
Franklin Short Duration U.S. Government ETF | Cash Transactions |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Cash
Transactions: Unlike certain ETFs, the Fund expects to generally effect its creations and
redemptions entirely for cash, rather than for in-kind securities. Therefore, it may be required to sell
portfolio securities and subsequently recognize gains on such sales that the Fund might not have recognized
if it were to distribute portfolio securities in-kind. As such, investments in Fund shares may be less
tax-efficient than an investment in an ETF that distributes portfolio securities entirely in-kind.
|
Franklin Short Duration U.S. Government ETF | Small Fund |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Small
Fund:
When the Fund's size is small, the Fund may experience low trading volume and wide bid-ask spreads.
In addition, the Fund may face the risk of being delisted if the Fund does not meet certain conditions
of the listing exchange.
|
Franklin Short Duration U.S. Government ETF | Large Shareholder |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Risk [Text Block] |
rr_RiskTextBlock |
Large
Shareholder: Certain large shareholders, including other funds or accounts advised by the
investment manager or an affiliate of the investment manager, may from time to time own a substantial
amount of the Fund’s shares. In addition, a third-party investor, the investment manager or an affiliate
of the investment manager, an authorized participant, a lead market maker, or another entity may invest
in the Fund and hold its investment for a limited period of time solely to facilitate commencement of
the Fund or to facilitate the Fund’s achieving a specified size or scale. There can be no assurance
that any large shareholder would not redeem its investment, that the size of the Fund would be maintained
at such levels or that the Fund would continue to meet applicable listing requirements. Redemptions by
large shareholders could have a significant negative impact on the Fund. In addition, transactions by
large shareholders may account for a large percentage of the trading volume on the listing exchange and
may, therefore, have a material upward or downward effect on the market price of the shares.
|
Franklin Short Duration U.S. Government ETF | Bloomberg US Aggregate Index |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Index No Deduction for Fees, Expenses, Taxes [Text] |
rr_IndexNoDeductionForFeesExpensesTaxes |
(index reflects no deduction for fees, expenses or taxes)
|
Label |
rr_AverageAnnualReturnLabel |
Bloomberg US Aggregate
Index
|
1 Year |
rr_AverageAnnualReturnYear01 |
5.53%
|
5 Years |
rr_AverageAnnualReturnYear05 |
1.10%
|
10 Years |
rr_AverageAnnualReturnYear10 |
1.81%
|
Franklin Short Duration U.S. Government ETF | Bloomberg US Government Index: 1-3 Year Component |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Index No Deduction for Fees, Expenses, Taxes [Text] |
rr_IndexNoDeductionForFeesExpensesTaxes |
(index reflects no deduction for fees, expenses or taxes)
|
Label |
rr_AverageAnnualReturnLabel |
Bloomberg US Government
Index: 1-3 Year Component
|
1 Year |
rr_AverageAnnualReturnYear01 |
4.32%
|
5 Years |
rr_AverageAnnualReturnYear05 |
1.28%
|
10 Years |
rr_AverageAnnualReturnYear10 |
1.05%
|
Franklin Short Duration U.S. Government ETF | Franklin Short Duration U.S. Government ETF |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Management fees |
rr_ManagementFeesOverAssets |
0.25%
|
Distribution and service (12b-1) fees |
rr_DistributionAndService12b1FeesOverAssets |
none
|
Other expenses |
rr_OtherExpensesOverAssets |
none
|
Total annual Fund operating expenses |
rr_ExpensesOverAssets |
0.25%
|
1 Year |
rr_ExpenseExampleYear01 |
$ 26
|
3 Years |
rr_ExpenseExampleYear03 |
81
|
5 Years |
rr_ExpenseExampleYear05 |
141
|
10 Years |
rr_ExpenseExampleYear10 |
$ 318
|
Annual Return 2014 |
rr_AnnualReturn2014 |
0.59%
|
Annual Return 2015 |
rr_AnnualReturn2015 |
0.35%
|
Annual Return 2016 |
rr_AnnualReturn2016 |
1.01%
|
Annual Return 2017 |
rr_AnnualReturn2017 |
0.79%
|
Annual Return 2018 |
rr_AnnualReturn2018 |
1.20%
|
Annual Return 2019 |
rr_AnnualReturn2019 |
2.97%
|
Annual Return 2020 |
rr_AnnualReturn2020 |
2.98%
|
Annual Return 2021 |
rr_AnnualReturn2021 |
(0.84%)
|
Annual Return 2022 |
rr_AnnualReturn2022 |
(3.13%)
|
Annual Return 2023 |
rr_AnnualReturn2023 |
4.85%
|
Year to Date Return, Label |
rr_YearToDateReturnLabel |
As of June 30, 2024, the
Fund’s year-to-date return was 2.08%.
|
Bar Chart, Year to Date Return, Date |
rr_BarChartYearToDateReturnDate |
Jun. 30, 2024
|
Bar Chart, Year to Date Return |
rr_BarChartYearToDateReturn |
2.08%
|
Label |
rr_HighestQuarterlyReturnLabel |
Best Quarter
|
Highest Quarterly Return, Date |
rr_BarChartHighestQuarterlyReturnDate |
Dec. 31, 2023
|
Highest Quarterly Return |
rr_BarChartHighestQuarterlyReturn |
2.37%
|
Label |
rr_LowestQuarterlyReturnLabel |
Worst Quarter
|
Lowest Quarterly Return, Date |
rr_BarChartLowestQuarterlyReturnDate |
Mar. 31, 2022
|
Lowest Quarterly Return |
rr_BarChartLowestQuarterlyReturn |
(1.80%)
|
Label |
rr_AverageAnnualReturnLabel |
Return before taxes
|
1 Year |
rr_AverageAnnualReturnYear01 |
4.85%
|
5 Years |
rr_AverageAnnualReturnYear05 |
1.32%
|
10 Years |
rr_AverageAnnualReturnYear10 |
1.05%
|
Franklin Short Duration U.S. Government ETF | Franklin Short Duration U.S. Government ETF | After Taxes on Distributions |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Label |
rr_AverageAnnualReturnLabel |
Return
after taxes on distributions
|
1 Year |
rr_AverageAnnualReturnYear01 |
3.09%
|
5 Years |
rr_AverageAnnualReturnYear05 |
0.40%
|
10 Years |
rr_AverageAnnualReturnYear10 |
0.15%
|
Franklin Short Duration U.S. Government ETF | Franklin Short Duration U.S. Government ETF | After Taxes on Distributions and Sales |
|
|
Risk/Return: |
rr_RiskReturnAbstract |
|
Label |
rr_AverageAnnualReturnLabel |
Return after taxes on distributions and sale of Fund shares
|
1 Year |
rr_AverageAnnualReturnYear01 |
2.85%
|
5 Years |
rr_AverageAnnualReturnYear05 |
0.62%
|
10 Years |
rr_AverageAnnualReturnYear10 |
0.41%
|
X |
- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart. When a Multiple Class Fund offers more than one Class in the prospectus, provide annual total returns in the bar chart for only one of those Classes. The Fund can select which Class to include (e.g., the oldest Class, the Class with the greatest net assets).
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart. When a Multiple Class Fund offers more than one Class in the prospectus, provide annual total returns in the bar chart for only one of those Classes. The Fund can select which Class to include (e.g., the oldest Class, the Class with the greatest net assets).
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- DefinitionThis item represents Average Annual Total Returns. If a Multiple Class Fund offers a Class in the prospectus that converts into another Class after a stated period, compute average annual total returns in the table by using the returns of the other Class for the period after conversion.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionDistribution [and/or Service] (12b-1) Fees" include all distribution or other expenses incurred during the most recent fiscal year under a plan adopted pursuant to rule 12b-1 [17 CFR 270.12b-1]. Under an appropriate caption or a subcaption of "Other Expenses," disclose the amount of any distribution or similar expenses deducted from the Fund's assets other than pursuant to a rule 12b-1 plan.
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- DefinitionHeading for Expense Example.
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- DefinitionThe Example is intended to help you compare the cost of investing in the Fund with the cost of investing in other mutual funds.
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- DefinitionThe Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower.
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- DefinitionThe Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower.
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- DefinitionThe Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower.
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- DefinitionThe Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower.
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- DefinitionRisk/Return Summary Fee Table Includes the following information, in plain English under rule 421(d) under the Securities Act, after Item 2 Fees and expenses of the Fund This table describes the fees and expenses that you may pay if you buy and hold shared of the Fund. You may qualify for sales charge discounts if you and your family invest, or agree to invest in the future, at least $[_____] in [name of fund family] funds. Shareholder Fees (fees paid directly from your investment) Example This Example is intended to help you compare the cost of investing in the Fund with the cost of investing in other mutual funds. The Example assumes that you invest $10,000 in the Fund for the time periods indicated and then you redeem all of your shares at the end of those periods. The Example also assumes that your investment has a 5% return per year and that the Fund's operating expenses remained the same. Although your actual costs may be higher or lower, based on these assumptions your costs would be You would pay the following expenses if you did not redeem your shares The Example does not reflect sales charges (loads) on reinvested dividends [and other distributions]. If these sales charges (loads) were included, your costs would be higher. Portfolio Turnover The Fund pays transaction costs, such as commissions, when it buys and sells securities (or "turns over" its portfolio). A higher portfolio turnover may indicate higher transaction costs. These costs, which are not reflected in annual fund operating expenses or in the example, affect the Fund's performance. During the most recent fiscal year, the Fund's portfolio turnover rate was __% of the average value of its whole portfolio. Instructions. A.3.instructions.6 New Funds. For purposes of this Item, a "New Fund" is a Fund that does not include in Form N-1A financial statements reporting operating results or that includes financial statements for the Fund's initial fiscal year reporting operating results for a period of 6 months or less. The following Instructions apply to New Funds.
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- DefinitionThis table describes the fees and expenses that you may pay if you buy, hold, and sell shares of the Fund. You may pay other fees, such as brokerage commissions and other fees to financial intermediaries, which are not reflected in the tables and examples below. You may qualify for sales charge discounts if you and your family invest, or agree to invest in the future, at least $[ ] in [name of fund family] funds. More information about these and other discounts is available from your financial intermediary and in [identify section heading and page number] of the Fund's prospectus and [identify section heading and page number] of the Fund's statement of additional information
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- DefinitionTotal Annual Fund Operating Expenses. If the Fund is a Feeder Fund, reflect the aggregate expenses of the Feeder Fund and the Master Fund in a single fee table using the captions provided. In a footnote to the fee table, state that the table and Example reflect the expenses of both the Feeder and Master Funds. If the prospectus offers more than one Class of a Multiple Class Fund or more than one Feeder Fund that invests in the same Master Fund, provide a separate response for each Class or Feeder Fund. Base the percentages of "Annual Fund Operating Expenses" on amounts incurred during the Fund's most recent fiscal year, but include in expenses amounts that would have been incurred absent expense reimbursement or fee waiver arrangements. If the Fund has changed its fiscal year and, as a result, the most recent fiscal year is less than three months, use the fiscal year prior to the most recent fiscal year as the basis for determining "Annual Fund Operating Expenses."
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionThe Performance Table includes a parenthetical, indicating that the Index "(reflects no deduction for fees, expenses or taxes)". This tag is used when this is reflected in a footnote.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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- DefinitionManagement Fees include investment advisory fees (including any fees based on the Fund's performance), any other management fees payable to the investment adviser or its affiliates, and administrative fees payable to the investment adviser or its affiliates that are not included as "Other Expenses."
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- DefinitionInvestment Objectives/Goals. Disclose the Fund's investment objectives or goals. A Fund also may identify its type or category (e.g., that it is a Money Market Fund or a balanced fund).
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- DefinitionInvestment Objectives/Goals. Disclose the Fund's investment objectives or goals. A Fund also may identify its type or category (e.g., that it is a Money Market Fund or a balanced fund).
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- DefinitionAnnual Fund Operating Expenses (ongoing expenses that you pay each year as a percentage of the value of your investment)
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- Definition"Other Expenses" include all expenses not otherwise disclosed in the table that are deducted from the Fund's assets or charged to all shareholder accounts. The amount of expenses deducted from the Fund's assets are the amounts shown as expenses in the Fund's statement of operations (including increases resulting from complying with paragraph 2(g) of rule 6-07 of Regulation S-X [17 CFR 210.6-07]). "Other Expenses" do not include extraordinary expenses as determined under generally accepted accounting principles (see Accounting Principles Board Opinion No. 30). If extraordinary expenses were incurred that materially affected the Fund's "Other Expenses," disclose in a footnote to the table what "Other Expenses" would have been had the extraordinary expenses been included.
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- DefinitionRisk/Return Bar Chart and Table.
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- DefinitionDisclose the portfolio turnover rate provided in response to Item 14(a) for the most recent fiscal year (or for such shorter period as the Fund has been in operation). Disclose the period for which the information is provided if less than a full fiscal year. A Fund that is a Money Market Fund may omit the portfolio turnover information required by this Item.
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- DefinitionThis element represents the rate of portfolio turnover presented as a percentage (SEC Form N-1A 2006-09-14 A.3.example.3 Portfolio Turnover A.3.instructions.5 Portfolio Turnover).
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- DefinitionDisclose the portfolio turnover rate provided in response to Item 14(a) for the most recent fiscal year (or for such shorter period as the Fund has been in operation). Disclose the period for which the information is provided if less than a full fiscal year. A Fund that is a Money Market Fund may omit the portfolio turnover information required by this Item.
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- DefinitionNarrative Risk Disclosure.
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- DefinitionRisk/Return Summary Investment Objectives/Goals Include the following information, in plain English under rule 421(d) under the Securities Act, in the order and subject matter indicated
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- DefinitionPrincipal investment strategies of the Fund. Summarize how the Fund intends to achieve its investment objectives by identifying the Fund's principal investment strategies (including the type or types of securities in which the Fund invests or will invest principally) and any policy to concentrate in securities of issuers in a particular industry or group of industries.
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- DefinitionPrincipal investment strategies of the Fund. Summarize how the Fund intends to achieve its investment objectives by identifying the Fund's principal investment strategies (including the type or types of securities in which the Fund invests or will invest principally) and any policy to concentrate in securities of issuers in a particular industry or group of industries.
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- DefinitionPrincipal investment strategies of the Fund. Summarize how the Fund intends to achieve its investment objectives by identifying the Fund's principal investment strategies (including the type or types of securities in which the Fund invests or will invest principally) and any policy to concentrate in securities of issuers in a particular industry or group of industries.
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- DefinitionIf the Fund has annual returns for at least one calendar year, provide a bar chart showing the Fund's annual total returns for each of the last 10 calendar years (or for the life of the Fund if less than 10 years), but only for periods subsequent to the effective date of the Fund's registration statement. Present the corresponding numerical return adjacent to each bar. If the Fund's fiscal year is other than a calendar year, include the year-to-date return information as of the end of the most recent quarter in a footnote to the bar chart. Following the bar chart, disclose the Fund's highest and lowest return for a quarter during the 10 years or other period of the bar chart.
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