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PROSPECTUS |
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WESTERN
ASSET BOND ETF
Franklin
Templeton ETF Trust
[
], 2023
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SUBJECT
TO COMPLETION, PRELIMINARY PROSPECTUS
THE
INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT
SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE U.S.
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES, AND IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES
IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
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Ticker: |
Exchange: |
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[
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The Nasdaq
Stock Market LLC |
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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 |
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Fund
Summary
Information
about the Fund you should know before investing |
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Investment
Goal Fees and Expenses of the Fund Portfolio Turnover Principal
Investment Strategies Principal Risks Performance Investment
Manager
Sub-Advisor
and Sub-subadvisors Portfolio Managers Purchase and Sale of Fund
Shares Taxes Payments to Broker-Dealers and Other Financial
Intermediaries |
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Fund
Details
More
information on investment policies, practices and risks/financial
highlights |
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Investment
Goal Principal Investment Policies and Practices Principal
Risks Management Distributions and Taxes Financial
Highlights |
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Shareholder
Information
Information
about Fund transactions |
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Buying and
Selling Shares Book Entry Share Prices Calculating
NAV Creations and Redemptions Premium/Discount
Information Delivery of Shareholder Documents -
Householding Distribution |
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For
More Information
Where
to learn more about the Fund |
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Back
Cover |
Fund
Summary
Investment
Goal
To maximize total return consistent
with prudent investment management and liquidity needs.
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 |
[
]% |
Distribution
and service (12b-1) fees |
None |
Other
expenses1 |
None |
Total
annual Fund operating expenses |
[
]% |
1. Other
expenses are based on estimated amounts for the current fiscal year.
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 |
$[___] |
$[___] |
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.
Principal
Investment Strategies
The Fund invests in a portfolio
comprised of debt instruments and fixed income securities of various maturities.
Under normal market conditions, the Fund will seek its investment objective by
investing at least 80% of its net assets, including the amount of borrowing for
investment purposes, if any, in debt and fixed income securities (Principal
Investments). As part of its 80% policy, the Fund intends to invest in
derivatives that (i) provide exposure to the Principal Investments, (ii) are
used to risk manage the Fund’s holdings, and/or (iii) are used to enhance
returns. The risk management uses of derivatives will include managing (i)
investment-related risks, (ii) risks due to fluctuations in securities prices or
interest rates, (iii) risks due to the credit-worthiness of an issuer, and (iv)
the effective duration of the Fund’s portfolio.
The types of derivatives in which
the Fund will invest include swaps and security-based swaps, futures and options
on futures, swaptions and security options. The Fund may also hold U.S. Treasury
securities, cash and cash equivalents. Although the Fund may invest in debt and
fixed income securities of any maturity, under normal market conditions, the
target dollar-weighted average effective duration for the Fund is expected to
range within 20% of the average duration of the domestic bond market as a whole
as estimated by the sub-advisor. Effective duration seeks to measure the
expected sensitivity of market price to changes in interest rates, taking into
account the anticipated effects of structural complexities (for example, some
bonds can be prepaid by the issuer).
The types of fixed income securities
in which the Fund may invest include corporate debt securities, U.S. and
non-U.S. government securities, asset-backed securities (“ABS”), mortgage-backed
securities (“MBS”) (including commercial MBS (“CMBS”), residential MBS (“RMBS”)
and non-agency collateralized mortgage obligations (“CMOs”)), collateralized
debt obligations (“CDOs”) and mortgage dollar rolls. The fixed income securities
and debt instruments in which the Fund may invest may pay fixed, variable or
floating rates of interest. The Fund will not invest more than 10% of the Fund’s
total assets in CDOs. The Fund will also not invest more than 20% of its total
assets in bank loans including junior loans (e.g., debt instruments that are
unsecured and subordinated).
The Fund may invest up to 20% of its
assets in below investment grade fixed income securities or debt instruments.
For these purposes, “investment grade” is defined as investments with a rating
at the time of purchase in one of the four highest categories of at least one
nationally recognized statistical rating organization (“NRSRO”) (e.g., BBB- or
higher or Baa3 or higher) or, if unrated, securities of comparable quality at
the time of purchase (as determined by the sub-advisor). Securities rated below
investment grade (e.g., BB+ to D or Baa1 to C) or, if unrated, securities of
comparable quality at the time of purchase (as determined by the sub-advisor)
are commonly known as “junk bonds” or “high yield securities.”
The Fund may invest in securities
issued by both U.S. and non-U.S. issuers (including issuers in emerging markets)
but the Fund will not invest more than 25% of its total assets in the securities
or debt instruments of non-U.S. issuers. The Fund presently intends to limit its
investments to U.S. dollar denominated securities.
The Fund may engage in active and
frequent trading as part of its investment strategies.
The Fund may also hold equity
securities of any type acquired in reorganizations of issuers of fixed income
securities or debt instruments (“work out securities”), non-convertible
preferred securities, warrants and exchange-traded funds (“ETFs”) that provide
exposure to these investments.
The Fund is an actively managed
exchange-traded fund (ETF) that does not seek to replicate the performance of a
specified index.
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.
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.
The global outbreak of the novel
strain of coronavirus, COVID-19, has resulted in market closures and
dislocations, extreme volatility, liquidity constraints and increased trading
costs. Efforts to contain the spread of COVID-19 have resulted in global travel
restrictions and disruptions of healthcare systems, business operations and
supply chains, layoffs, volatility in consumer demand for certain products,
defaults and credit ratings downgrades, and other significant economic impacts.
The effects of COVID-19 have impacted global economic activity across many
industries and may heighten other pre-existing political, social and economic
risks, locally or globally. The full impact of the COVID-19 pandemic is
unpredictable and may adversely affect the Fund’s performance.
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.
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. Mortgage-backed
securities that are not issued by U.S. government agencies may have a greater
risk of default because neither the U.S. government nor an agency or
instrumentality have guaranteed or provided credit support to them. The credit
quality of most asset-backed securities depends primarily on the credit quality
of the underlying assets and the amount of credit support (if any) provided to
the securities. 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. Also,
guarantees of principal and interest payments do not apply to market prices,
yields or the Fund’s share price. While the U.S. government has, in the past,
provided financial support to Fannie Mae and Freddie Mac, the U.S. government is
not obligated by law to do so and no assurance can be given that the U.S.
government will do so in the future.
Mortgage Securities and Asset-Backed 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 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.
Issuers of asset-backed securities
may have limited ability to enforce the security interest in the underlying
assets, and credit enhancements provided to support the securities, if any, may
be inadequate to protect investors in the event of default. Like mortgage
securities, asset-backed securities are subject to prepayment and extension
risks.
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.
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.
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.
Extension Some debt 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.
Foreign Securities (non-U.S.) Investing
in foreign securities typically involves more risks than investing in U.S.
securities, and includes risks associated with: (i) internal and external
political and economic developments – e.g., the political, economic and social
policies and structures of some foreign countries may be less stable and more
volatile than those in the U.S. or some foreign countries may be subject to
trading restrictions or economic sanctions; (ii) trading practices – e.g.,
government supervision and regulation of foreign securities and currency
markets, trading systems and brokers may be less than in the U.S.; (iii)
availability of information – e.g., foreign issuers may not be subject to the
same disclosure, accounting and financial reporting standards and practices as
U.S. issuers; (iv) limited markets – e.g., the securities of certain foreign
issuers may be less liquid (harder to sell) and more volatile; and (v) currency
exchange rate fluctuations and policies – e.g., fluctuations may negatively
affect investments denominated in foreign currencies and any income received or
expenses paid by the Fund in that foreign currency. The risks of foreign
investments may be greater in developing or emerging market countries.
Emerging Market Countries The Fund’s
investments in emerging market issuers are subject to all of the risks of
foreign investing generally, and have additional heightened risks due to a lack
of established legal, political, business and social frameworks to support
securities markets, including: delays in settling portfolio securities
transactions; currency and capital
controls; greater sensitivity to
interest rate changes; pervasiveness of corruption and crime; currency exchange
rate volatility; and inflation, deflation or currency devaluation.
Floating Rate Corporate Investments
Floating rate corporate loans and corporate debt securities generally have
credit ratings below investment grade and may be subject to resale restrictions.
They are often issued in connection with highly leveraged transactions, and may
be subject to greater credit risks than other investments including the
possibility of default or bankruptcy. In addition, a secondary market in
corporate loans may be subject to irregular trading activity, wide bid/ask
spreads and extended trade settlement periods, which may impair the ability to
accurately value existing and prospective investments and to realize in a timely
fashion the full value upon the sale of a corporate loan. A significant portion
of floating rate investments may be “covenant lite” loans that may contain fewer
or less restrictive constraints on the borrower or other borrower-friendly
characteristics.
Impairment of Collateral The value of
collateral securing a loan or other corporate debt security may decline after
the Fund invests and there is a risk that the value of the collateral may not be
sufficient to cover the amount owed to the Fund, or the collateral securing a
loan may be found invalid, may be used to pay other outstanding obligations of
the borrower under applicable law or may be difficult to sell.
High-Yield Debt Securities Issuers of
lower-rated or “high-yield” debt securities (also known as “junk bonds”) are not
as strong financially as those issuing higher credit quality debt securities.
High-yield debt securities are generally considered predominantly speculative by
the applicable rating agencies as their issuers are more likely to encounter
financial difficulties because they may be more highly leveraged, or because of
other considerations. In addition, high yield debt securities generally are more
vulnerable to changes in the relevant economy, such as a recession or a
sustained period of rising interest rates, that could affect their ability to
make interest and principal payments when due. The prices of high-yield debt
securities generally fluctuate more than those of higher credit quality.
High-yield debt securities are generally more illiquid (harder to sell) and
harder to value.
When-Issued and Delayed Delivery
Transactions Mortgage-backed securities may be issued on a
when-issued or delayed delivery basis, where payment and delivery take place at
a future date. Because the market price of the security may fluctuate during the
time before payment and delivery, the Fund assumes the risk that the value of
the security at delivery may be more or less than the purchase price.
Credit-Linked Securities
Credit-linked securities, which may be considered to be a type of structured
debt investment, represent an interest in a pool of, or are otherwise
collateralized by, one or more reference securities such as corporate debt
obligations or credit default swaps thereon or bank loan obligations. The Fund
may lose money investing in credit-linked securities if a credit event (for
example, a bankruptcy or failure to pay interest or principal or a
restructuring) occurs with respect to a reference security, if the underlying
securities otherwise perform poorly, or if certain counterparties fail to
satisfy their obligations. The market for credit-linked securities may suddenly
become illiquid, making it difficult for the Fund to sell such securities
promptly at an acceptable price.
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.
Cash/Cash Equivalents To the extent
the Fund holds cash or cash equivalents rather than securities in which it
primarily invests or uses to manage risk, the Fund may not achieve its
investment objectives and may underperform.
Management The Fund is subject to management
risk because it is an actively managed ETF. The Fund's sub-advisor 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.
Portfolio Turnover The sub-advisor will sell a
security when it believes it is appropriate to do so, regardless of how long the
Fund has held the security. The Fund's portfolio turnover rate may exceed 100%
per year because of the anticipated use of certain investment strategies. The
rate of portfolio turnover will not be a limiting factor for the sub-advisor in
making decisions on when to buy or sell securities. High turnover will increase
the Fund's transaction costs and may increase your tax liability if the
transactions result in capital gains.
LIBOR Transition The Fund invests in financial
instruments that may have floating or variable rate calculations for payment
obligations or financing terms based on the London Interbank Offered Rate
(LIBOR), which is the benchmark interest rate at which major global banks lend
to one another in the international interbank market for short-term loans. In
2017, the U.K.
Financial Conduct Authority
announced its intention to cease compelling banks to provide the quotations
needed to sustain LIBOR after 2021. Although many LIBOR rates were phased out at
the end of 2021 as originally intended, a selection of widely used USD LIBOR
rates will continue to be published until June 2023 in order to assist with the
transition to an alternative rate. Actions by regulators have resulted in the
establishment of alternative reference rates to LIBOR in most major currencies.
The ultimate impact of the discontinuation of LIBOR and the transition to an
alternative rate on the Fund's portfolio and markets generally remains
uncertain. There can be no guarantee that financial instruments that transition
to an alternative reference rate will retain the same value or liquidity as they
would otherwise have had.
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, the
sub-advisor, 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 and the sub-advisor have 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, the investment manager or the
sub-advisor. 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, the subadvisor 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 sub-advisor cannot predict
whether shares will trade above (premium), below (discount) or at NAV.
Authorized Participant Concentration Only an
authorized participant (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 (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.
Large Shareholder Certain 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
Because the Fund is new, it has no
performance history. Once the Fund has commenced operations, you can
obtain updated performance information at franklintempleton.com or by calling
(800) DIAL BEN/342-5236. The Fund's past performance (before and after taxes) is
not necessarily an indication of how the Fund will perform in the future.
Investment
Manager
Franklin Advisers, Inc.
(Advisers)
Sub-Advisor
Western Asset Management Company,
LLC (Western Asset)
Sub-Subadvisor
Western Asset Management Company
Limited in London (Western Asset London), Western Asset Management Company Pte.
Ltd. in Singapore (Western Asset Singapore) and Western Asset Management Company
Ltd in Japan (Western Asset Japan). For purposes of the Fund’s investment
strategies, techniques and risks, references to the sub-advisor include the
sub-subadvisors, as applicable.
Portfolio
Managers
S. Kenneth Leech Chief Investment Officer of Western
Asset and portfolio manager of the Fund since inception ([2023]).
John Bellows Portfolio Manager and Research
Analyst of Western Asset and portfolio manager of the Fund since inception
([2023]).
Mark S. Lindbloom Portfolio Manager of Western Asset
and portfolio manager of the Fund since inception ([2023]).
Frederick R. Marki Portfolio Manager of Western Asset
and portfolio manager of the Fund since inception ([2023]).
Julien A. Scholnick Portfolio Manager of Western Asset
and portfolio manager of the Fund since inception ([2023]).
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 50,000 shares or
multiples thereof (Creation Units) to Authorized Participants who have entered
into agreements with the Fund’s distributor, Franklin Distributors, LLC. The
Fund will generally issue or redeem Creation Units in exchange for a basket of
securities (which may include cash in lieu of certain securities) and/or an
amount of cash 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 will be available on the Fund’s website at
https://www.franklintempleton.com/investor/investments-and-solutions/investment-options/etfs/.
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 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.
Fund
Details
Investment
Goal
The Fund’s investment goal is
to maximize
total return consistent with prudent investment management and liquidity needs.
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
The Fund invests in a portfolio
comprised of debt instruments and fixed income securities of various maturities.
Under normal market conditions, the Fund will seek its investment objective by
investing at least 80% of its net assets, including the amount of borrowing for
investment purposes, if any, in debt and fixed income securities (Principal
Investments). As part of its 80% policy, the Fund intends to invest in
derivatives that (i) provide exposure to the Principal Investments, (ii) are
used to risk manage the Fund’s holdings, and/or (iii) are used to enhance
returns. The risk management uses of derivatives will include managing (i)
investment-related risks, (ii) risks due to fluctuations in securities prices or
interest rates, (iii) risks due to the credit-worthiness of an issuer, and (iv)
the effective duration of the Fund’s portfolio. Shareholders will be given at
least 60 days' advance notice of any change to the Fund's 80% policy.
The types of derivatives in which
the Fund will invest include swaps and security-based swaps, futures and options
on futures, swaptions and security options. The Fund may also hold U.S. Treasury
securities, cash and cash equivalents. Although the Fund may invest in debt and
fixed income securities of any maturity, under normal market conditions, the
target dollar-weighted average effective duration for the Fund is expected to
range within 20% of the average duration of the domestic bond market as a whole
as estimated by the sub-advisor. Effective duration seeks to measure the
expected sensitivity of market price to changes in interest rates, taking into
account the anticipated effects of structural complexities (for example, some
bonds can be prepaid by the issuer).
A futures contract is a standard
binding agreement to buy or sell a specified quantity of an underlying
instrument or asset at a specified price at a specified later date that trades
on an exchange. A “sale” of a futures contract means the acquisition of a
contractual obligation to deliver the underlying instrument specified in the
contract at a specified price on a specified date. A “purchase” of a futures
contract means the acquisition of a contractual obligation to purchase the
underlying instrument specified in 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 many 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, some require the actual delivery or acquisition of the
underlying instrument.
Swap agreements, such as interest
rate and credit default swaps, are contracts between the Fund and another party
(the swap counterparty) involving the exchange of payments on specified terms
over periods ranging from a few days to multiple years. A swap agreement may be
negotiated bilaterally and traded over-the-counter (OTC) between two parties
(for an uncleared swap) or, in some instances, must be transacted through a
futures commission merchant (FCM) and cleared through a clearinghouse that
serves as a central counterparty (for a cleared swap). In a basic swap
transaction, the Fund agrees with the swap counterparty to exchange the returns
(or differentials in rates of return) and/or cash flows earned or realized on a
particular “notional amount” of underlying reference assets. The notional amount
is the set amount selected by the parties as the basis on which to calculate the
obligations that they have agreed to exchange. The parties typically do not
actually exchange the notional amount. Instead, they agree to exchange the
returns that would be earned or realized if the notional amount were invested in
given instruments or at given interest rates.
An interest rate swap is an
agreement between two parties to exchange interest rate payment obligations.
Typically, one rate is based on an interest rate fixed to maturity while the
other is based on an interest rate that changes in accordance with changes in a
designated benchmark (for example, LIBOR, prime, commercial paper, or other
benchmarks).
For credit default swaps, the
“buyer” of the credit default swap agreement is obligated to pay the “seller” a
periodic stream of payments over the term of the agreement in return for a
payment by the seller that is contingent upon the occurrence of a credit event
with respect to an underlying reference debt obligation. The buyer of the credit
default swap is purchasing the obligation of its counterparty to offset losses
the buyer could experience if there was such a credit event. Generally, a credit
event means bankruptcy, failure to timely pay interest or principal, obligation
acceleration or default, or repudiation or restructuring of the reference debt
obligation. The contingent payment by the seller generally is either the face
amount of the reference debt obligation in exchange for the physical delivery of
the reference debt obligation or a cash payment equal to the decrease in market
value of the reference debt obligation following the occurrence of the credit
event.
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 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.
The sub-advisor considers various
factors, such as availability and cost, in deciding whether to use a particular
derivative instrument or strategy. Moreover, investors should bear in mind that
the Fund is not obligated to actively engage in any derivative
transactions.
The types of fixed income securities
in which the Fund may invest include corporate debt securities, U.S. and
non-U.S. government securities, asset-backed securities (“ABS”), mortgage-backed
securities (“MBS”) (including commercial MBS (“CMBS”), residential MBS (“RMBS”)
and non-agency collateralized mortgage obligations (“CMOs”)), collateralized
debt obligations (“CDOs”) and mortgage dollar rolls. The fixed income securities
and debt instruments in which the Fund may invest may pay fixed, variable or
floating rates of interest. The Fund will not invest more than 10% of the Fund’s
total assets in CDOs. The Fund will also not invest more than 20% of its total
assets in bank loans including junior loans (e.g., debt instruments that are
unsecured and subordinated).
The Fund may invest up to 20% of its
assets in below investment grade fixed income securities or debt instruments.
For these purposes, “investment grade” is defined as investments with a rating
at the time of purchase in one of the four highest categories of at least one
nationally recognized statistical rating organization (“NRSRO”) (e.g., BBB- or
higher or Baa3 or higher) or, if unrated, securities of comparable quality at
the time of purchase (as determined by the sub-advisor). Securities rated below
investment grade (e.g., BB+ to D or Baa1 to C) or, if unrated, securities of
comparable quality at the time of purchase (as determined by the sub-advisor)
are commonly known as “junk bonds” or “high yield securities.” However, ratings
by the independent rating agencies are relative and subjective, are not absolute
standards of quality, and do not evaluate the market risk of securities.
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 the security immediately. Many debt
securities of non-U.S. issuers, and especially developing or emerging market
issuers, are rated below investment grade or are unrated so that their selection
depends on the sub-advisor’s internal analysis. The Fund may invest in
asset-backed securities, mortgage-backed securities and mortgage dollar rolls.
An asset-backed security is a security backed by loans, leases, and other
receivables. A mortgage-backed security is an interest in a pool of mortgage
loans made by and packaged or “pooled” together by banks, mortgage lenders,
various governmental agencies and other financial institutions for sale to
investors to finance purchases of homes, commercial buildings and other real
estate. In a mortgage dollar roll, the Fund sells mortgage-backed securities for
delivery in the current month and simultaneously contracts to repurchase
substantially similar (same type, coupon, and maturity) securities on a
specified future date. During the period between the sale and repurchase, the
Fund forgoes principal and interest paid on the mortgage-backed securities. The
Fund earns money on a mortgage dollar roll from any difference between the sale
price and the future purchase price, as well as the interest earned on the cash
proceeds of the initial sale.
Collateralized mortgage obligations
(“CMOs”) are debt obligations collateralized by mortgage loans or mortgage
pass-through securities. CMOs are a type of mortgage-backed security. Typically,
CMOs are collateralized by Ginnie Mae, Fannie Mae or Freddie Mac Certificates,
but may also be collateralized by whole loans or private pass-throughs (referred
to as “Mortgage Assets”). Payments of principal and of interest on the Mortgage
Assets, and any reinvestment income thereon, provide the issuer with income to
pay debt service on the CMOs. In a CMO, a series of bonds or certificates is
issued in multiple classes. Each class of CMOs, often referred to as a
“tranche,” is issued at a specified fixed or floating coupon rate and has a
stated maturity or final distribution date. Principal prepayments on the
Mortgage Assets may cause the CMOs to be retired substantially earlier than
their stated maturities or final distribution dates. Interest is paid or accrues
on all classes of the CMOs on a monthly, quarterly or semi-annual basis. The
principal of and interest on the Mortgage Assets may be allocated among the
several classes of a series of a CMO in innumerable ways. As market conditions
change, and particularly during periods of rapid or unanticipated changes in
market interest rates, the attractiveness of the CMO classes and the ability of
the structure to provide the anticipated investment characteristics may be
significantly reduced. Such changes can result in volatility in the market
value, and in some instances reduced liquidity, of the CMO class.
Collateralized debt obligations
(“CDOs”) are a type of asset-backed security. CDOs include collateralized bond
obligations (“CBOs”), collateralized loan obligations (“CLOs”) and other
similarly structured securities. A CBO is a trust or other special purpose
entity which is typically backed by a diversified pool of fixed income
securities (which may include high risk, below investment grade securities). A
CLO is a trust or other special purpose entity that is typically collateralized
by a pool of loans, which may also include, among others, domestic and non-U.S.
senior secured loans, senior unsecured loans, and subordinated corporate loans,
including loans that may be rated below investment grade or equivalent unrated
loans. Like CMOs, CDOs generally issue separate series or “tranches” which vary
with respect to risk and yield. These tranches can experience substantial losses
due to actual defaults, increased sensitivity to defaults due to collateral
default and disappearance of
subordinate tranches, market
anticipation of defaults, as well as investor aversion to CDO securities as a
class. Interest on certain tranches of a CDO may be paid in kind (paid in the
form of obligations of the same type rather than cash), which involves continued
exposure to default risk with respect to such payments.
The Fund may invest in securities
issued by both U.S. and non-U.S. issuers (including issuers in emerging markets)
but the Fund will not invest more than 25% of its total assets in the securities
or debt instruments of non-U.S. issuers. The Fund presently intends to limit its
investments to U.S. dollar denominated securities.
The Fund may engage in active and
frequent trading as part of its investment strategies.
The Fund may also hold equity
securities of any type acquired in reorganizations of issuers of fixed income
securities or debt instruments (“work out securities”), non-convertible
preferred securities, warrants and exchange-traded funds (“ETFs”) that provide
exposure to these investments.
Western Asset’s investment process
combines top-down and bottom-up analyses. Western Asset’s US Broad Strategy
Committee, which is chaired by the Chief Investment Officer, leads the
investment process by considering macro-economic and securities-specific
insights and ideas covering all major bond market segments from all of its
macro-economic and credit research teams around the globe, and formulates the
broad top-down investment outlook, including a set of strategies around
duration, yield curve, country, currency and sector. The US Broad
Market portfolios team is ultimately responsible for the Fund’s portfolio
construction, making sure that allocations are consistent with Western Asset’s
overall investment themes while adhering to strategy risk/return profiles and
specific guidelines. This includes duration, curve, country, currency and sector
positioning. The portfolio managers of the Fund are S. Kenneth Leech, Mark S.
Lindbloom, Julien A. Scholnick, Frederick R. Marki and John L. Bellows. These
investment professionals, all of whom are employed by Western Asset, work
together with a broader investment management team (collectively, the
“Investment Professionals”).
The Investment Professionals conduct
bottom-up fundamental research and provide input into the top-down perspectives.
“A top-down view” incorporates macro-economic views on growth, inflation, and
fiscal and monetary policy, as well as views on sectors (such as corporates
which trade at spreads over U.S. Treasuries) and current general market
conditions and valuation levels. This top-down view translates into a set of
strategies regarding duration, yield curve, country, currency and sector. The
Investment Professionals provide fundamental analysis at sector and subsector
levels. Incorporating the macro-economic views of the US Broad Strategy
Committee and the risk profile of the Fund’s portfolio, the Investment
Professionals balance these inputs with their industry/issuer insights in
setting sector overweights and underweights. “Bottom up fundamental research”
involves detailed analysis of individual securities, issuers, sectors and
sub-sectors. The Investment Professionals use a security-specific process in
order to assess whether securities are mispriced or undervalued in their opinion
and select securities for the Fund’s portfolio. The Investment Professionals
conduct an ongoing assessment of changing credit characteristics and of
securities with characteristics such as assets perceived to be overlooked or
under-appreciated, floating or fixed interest rates, credit quality and
securities issued in mergers, as well as newly-issued securities. Using sector
and issue analyses, the Investment Professionals select issues opportunistically
in order to exploit perceived mispricings versus long-term fundamental value
that exist in the market. The sub-advisor monitors a broad set of factors
that may prompt it to consider selling or reducing a position focused on the
risk/reward characteristics of a credit. Factors include the following: whether
total return and/or valuation targets have been realized, whether there have
been significant changes in macro/micro economic analyses indicating that sector
emphasis should be changed, whether industry conditions have deteriorated,
whether the issuer has changed its business strategy, whether credit
fundamentals have deteriorated and whether the sub-advisor finds better relative
value elsewhere in the bond market.
The Fund is an actively managed ETF
and, thus, does not seek to replicate the performance of a specified index.
Accordingly, the investment manager has discretion on a daily basis to manage
the Fund’s portfolio in accordance with the Fund’s investment goal.
Principal
Risks
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. 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
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, has resulted in market closures and
dislocations, extreme volatility, liquidity constraints and increased trading
costs. Efforts to contain the spread of COVID-19 have resulted in global travel
restrictions and disruptions of healthcare systems, business operations and
supply chains, layoffs, volatility in consumer demand for certain products,
defaults and credit ratings downgrades, and other significant economic impacts.
The effects of the COVID-19 pandemic have impacted global economic activity
across many industries and may heighten other pre-existing political, social and
economic risks, locally or globally. The full impact of the COVID-19 pandemic,
and other epidemics and pandemics that may arise in the future, on national and
global economies, individual companies and the financial markets is
unpredictable, may result in a high degree of uncertainty for potentially
extended periods of time and may adversely affect the Fund’s performance.
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. During low interest rate environments, the risk that interest rates
will rise is increased. Such increases may expose fixed income markets to
heightened volatility and reduced liquidity for certain fixed income
investments, particularly those with longer maturities. In addition, low
interest rate environments may prevent a debt fund from paying expenses out of
its assets if its earned income is insufficient to cover expenses.
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 sub-advisor or the rating
agencies than such securities actually do.
Mortgage securities that are not
issued by U.S. government agencies may have a greater risk of default because
neither the U.S. government nor an agency or instrumentality has guaranteed or
provided credit support for them. The credit quality of most asset-backed
securities depends primarily on the credit quality of the underlying assets and
the amount of credit support (if any) provided to the securities. 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. Also, guarantees of principal and
interest payments do not apply to market prices, yields or the Fund’s share
price. Although the U.S. government has recently provided financial support to
Fannie Mae and Freddie Mac, the U.S. government is not obligated by law to do so
and no assurance can be given that the U.S. government will do so in the future.
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.
Mortgage
Securities and Asset-Backed 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 share 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.
Although the
mortgage-backed 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.
Issuers of
asset-backed securities may have limited ability to enforce the security
interest in the underlying assets, and credit enhancements provided to support
the securities, if any, may be inadequate to protect investors in the event of
default. Like mortgage securities, asset-backed securities are subject to
prepayment and extension risks.
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.
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
usually depend on the sub-advisor’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 sub-advisor is not successful in using such derivative
instruments, the Fund’s performance may be worse than if the sub-advisor 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 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, such as certain swap agreements, 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. 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
sub-advisor elects not to do so due to availability, cost or other
factors.
Many swaps currently
are, and others eventually are expected to be, required to be cleared through a
central counterparty. Central clearing is designed to reduce counterparty credit
risk and increase liquidity compared to OTC swaps, but it does not eliminate
those risks completely. With cleared swaps, there is also a risk of loss by the
Fund of its initial and variation margin
deposits in the
event of bankruptcy of the futures commission merchant (FCM) with which the Fund
has an open position, or the central counterparty in a swap contract. With
cleared swaps, the Fund may not be able to obtain as favorable terms as it would
be able to negotiate for a bilateral, uncleared swap. In addition, an FCM may
unilaterally amend the terms of its agreement with the Fund, which may include
the imposition of position limits or additional margin requirements with respect
to the Fund’s investment in certain types of swaps. 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, Commodity Futures Trading Commission (CFTC) and the exchanges
are authorized to take extraordinary actions in the event of a market emergency.
It is not possible to predict fully the effects of current or future
regulation.
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 sub-advisor to use derivatives when it wishes to do so.
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 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.
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.
Extension
The market value of some debt
securities will be adversely affected when bond calls or prepayments on
underlying 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.
Foreign
Securities (non-U.S.)
Investing in foreign securities,
including sovereign debt securities, typically involves more risks than
investing in U.S. securities. Certain of these risks also may apply to
securities of U.S. companies with significant foreign operations.
Currency exchange rates. Foreign
securities may be issued and traded in foreign currencies. As a result, their
market values in U.S. dollars may be affected by changes in exchange rates
between such foreign currencies and the U.S. dollar, as well as between
currencies of countries other than the U.S. For example, if the value of the
U.S. dollar goes up compared to a foreign currency, an investment traded in that
foreign currency will go down in value because it will be worth fewer U.S.
dollars. The Fund accrues additional expenses when engaging in currency exchange
transactions, and valuation of the Fund's foreign securities may be subject to
greater risk because both the currency (relative to the U.S. dollar) and the
security must be considered.
Political and economic developments. The
political, economic and social policies or structures of some foreign countries
may be less stable and more volatile than those in the United States.
Investments in these countries may be subject to greater risks of internal and
external conflicts, expropriation, nationalization of assets, foreign exchange
controls (such as suspension of the ability to transfer currency from a given
country), restrictions on removal of assets, political or social instability,
military action or unrest, diplomatic developments, currency devaluations,
foreign ownership limitations, and substantial, punitive or confiscatory tax
increases. It is possible that a government may take over the assets or
operations of a company or impose restrictions on the exchange or export of
currency or other assets. Some countries also may have different legal systems
that may make it difficult or expensive for the Fund to vote proxies, exercise
shareholder rights, and pursue legal remedies with respect to its foreign
investments. Diplomatic and political developments could affect the economies,
industries, and securities and currency markets of the countries in which the
Fund is invested. These developments include rapid and adverse political
changes; social instability;
regional conflicts; sanctions imposed by the United States, other nations or
other governmental entities, including supranational entities; terrorism; and
war. In addition, such developments could contribute to the devaluation of a
country’s currency, a downgrade in the credit ratings of issuers in such
country, or a decline in the value and liquidity of securities of issuers in
that country. An imposition of sanctions upon, or other government actions
impacting, certain issuers in a country could result in (i) an immediate freeze
of that issuer’s securities, impairing the ability of the Fund to buy, sell,
receive or deliver those securities or (ii) other limitations on the Fund’s
ability to invest or hold such securities. These factors would affect the value
of the Fund’s investments and are extremely difficult, if not impossible, to
predict and take into account with respect to the Fund's investments.
Sovereign debt securities.
Sovereign debt securities are subject to various risks in addition to those
relating to debt securities and foreign securities generally, including, but not
limited to, the risk that a governmental entity may be unwilling or unable to
pay interest and repay principal on its sovereign debt, or otherwise meet its
obligations when due because of cash flow problems, insufficient foreign
reserves, the relative size of the debt service burden to the economy as a
whole, the government’s policy towards principal international lenders such as
the International Monetary Fund, or the political considerations to which the
government may be subject. Sovereign debtors also may be dependent on expected
disbursements from other foreign governments or multinational agencies and the
country’s access to, or balance of, trade. If a sovereign debtor defaults (or
threatens to default) on its sovereign debt obligations, the indebtedness may be
restructured. Restructuring may include obtaining additional credit to finance
outstanding obligations, reduction and rescheduling of payments of interest and
principal, or negotiation of new or amended credit and security agreements.
Unlike most corporate debt restructurings, the fees and expenses of financial
and legal advisers to the creditors in connection with a restructuring may be
borne by the holders of the sovereign debt securities instead of the sovereign
entity itself. Some sovereign debtors have in the past been able to restructure
their debt payments without the approval of some or all debt holders or to
declare moratoria on payments, and similar occurrences may happen in the
future.
In the event of a default on
sovereign debt, the Fund may have limited legal recourse against the defaulting
government entity. As a sovereign entity, the issuing government may be immune
from lawsuits in the event of its failure or refusal to pay the obligations when
due, and any rights the Fund may have may be restricted pursuant to the terms of
applicable treaties with such sovereign entity. If a sovereign entity defaults,
it may request additional time in which to pay or for further loans. There may
be no legal process for collecting principal or interest payments on sovereign
debt that a government does not pay or such legal process may be relatively more
expensive, nor are there bankruptcy proceedings by which the Fund may collect in
whole or in part on debt issued by a sovereign entity. In certain cases,
remedies must be pursued in the courts located in the country of the defaulting
sovereign entity itself, which may further limit the Fund’s ability to obtain
recourse.
Trading practices. Brokerage commissions,
withholding taxes, custodial fees, and other fees generally are higher in
foreign markets. The policies and procedures followed by foreign stock
exchanges, currency markets, trading systems and brokers may differ from those
applicable in the United States, with possibly negative consequences to the
Fund. The procedures and rules governing foreign trading, settlement and custody
(holding of the Fund's assets) also may result in losses or delays in payment,
delivery or recovery of money or other property. Foreign government supervision
and regulation of foreign securities and currency markets and trading systems
may be less than or different from government supervision in the United States,
and may increase the Fund's regulatory and compliance burden and/or decrease the
Fund's investor rights and protections.
Availability of information. Foreign
issuers may not be subject to the same disclosure, accounting, auditing and
financial reporting standards and practices as U.S. issuers. Thus, there may be
less information publicly available about foreign issuers than about most U.S.
issuers. In addition, information provided by foreign issuers may be less timely
or less reliable than information provided by U.S. issuers.
Limited markets. Certain foreign
securities may be less liquid (harder to sell) and their prices may be more
volatile than many U.S. securities. Illiquidity tends to be greater, and
valuation of the Fund's foreign securities may be more difficult, due to the
infrequent trading and/or delayed reporting of quotes and sales. If the Fund’s
underlying portfolio holdings are illiquid, the Fund’s shares may become less
liquid in response to deteriorating liquidity in the market for the underlying
portfolio holdings, and the Fund’s market price could deviate from the Fund’s
NAV.
Regional. Adverse conditions in a certain
region or country can adversely affect securities of issuers in other countries
whose economies appear to be unrelated. To the extent that the Fund invests a
significant portion of its assets in a specific geographic region or a
particular country, the Fund will generally have more exposure to the specific
regional or country economic risks. In the event of economic or political
turmoil or a deterioration of diplomatic relations in a region or country where
a substantial portion of the Fund’s assets are invested, the Fund may experience
substantial illiquidity or reduction in the value of the Fund’s
investments.
The risk of investments in Europe
may be heightened due to the January 31, 2020 departure of the United Kingdom
from the European Union (EU) and resulting uncertainty concerning the economic
consequences of the departure as well as Russia's military invasion of Ukraine
in February 2022, each of which may cause increased market volatility.
Emerging
Market Countries
The Fund's investments
in emerging market issuers are subject to all of the risks of foreign
investing generally, and have additional heightened risks due to a lack of
established legal, political, business and social frameworks to support
securities markets. Some of the additional significant risks include:
|
• |
less social, political and
economic stability; |
|
• |
a higher possibility of the
devaluation of a country’s currency, a downgrade in the credit ratings of
issuers in such country, or a decline in the value and liquidity of
securities of issuers in that country if the United States, other nations
or other governmental entities (including supranational entities) impose
sanctions on issuers that limit or restrict foreign investment, the
movement of assets or other economic activity in the country due to
political, military or regional conflicts or due to terrorism or
war; |
|
• |
smaller securities markets
with low or non-existent trading volume and greater illiquidity and price
volatility; |
|
• |
more restrictive national
policies on foreign investment, including restrictions on investment in
issuers or industries deemed sensitive to national
interests; |
|
• |
less transparent and
established taxation policies; |
|
• |
less developed regulatory or
legal structures governing private and foreign investment or allowing for
judicial redress for injury to private property, such as
bankruptcy; |
|
• |
less familiarity with a
capital market structure or market-oriented economy and more widespread
corruption and fraud; |
|
• |
less financial sophistication,
creditworthiness and/or resources possessed by, and less government
regulation of, the financial institutions and issuers with which the Fund
transacts; |
|
• |
less government supervision
and regulation of business and industry practices, stock exchanges,
brokers and listed companies than in the U.S.; |
|
• |
greater concentration in a few
industries resulting in greater vulnerability to regional and global trade
conditions; |
|
• |
higher rates of inflation and
more rapid and extreme fluctuations in inflation
rates; |
|
• |
greater sensitivity to
interest rate changes; |
|
• |
increased volatility in
currency exchange rates and potential for currency devaluations and/or
currency controls; |
|
• |
greater debt burdens relative
to the size of the economy; |
|
• |
more delays in settling
portfolio transactions and heightened risk of loss from share registration
and custody practices; and |
|
• |
less assurance that when
favorable economic developments occur, they will not be slowed or reversed
by unanticipated economic, political or social events in such
countries. |
Because of the above factors, the
Fund's investments in emerging market issuers may be subject to greater
price volatility and illiquidity than investments in developed markets.
Floating Rate Corporate
Investments
Certain corporate
loans may not be considered “securities,” and investors, such as the Fund,
therefore may not be entitled to rely on the antifraud protections of the
federal securities laws and may have limited legal remedies.
The senior secured corporate loans
and corporate debt securities in which the Fund invests are often issued in
connection with highly leveraged transactions. Such transactions include
leveraged buyout loans, leveraged recapitalization loans, and other types of
acquisition financing. Loan investments issued in such transactions are subject
to greater credit risks than other investments including a greater possibility
that the borrower may default or enter bankruptcy. Such floating rate
investments may be rated below investment grade (i.e., also known as "junk
bonds"). Although loan investments are generally subject to certain restrictive
covenants in favor of the investors, many of these loans may from time to time
be reissued or offered as “covenant lite” loans, which may entail potentially
increased risk, because they may have fewer or no financial maintenance
covenants or restrictions that would normally allow for early intervention and
proactive mitigation of credit risk.
In the event of a breach of a
covenant in non-covenant lite loans or debt securities, lenders may have the
ability to intervene and either prevent or restrict actions that may potentially
compromise the company's ability to pay or lenders may be in a position to
obtain concessions from the borrowers in exchange for a waiver or amendment of
the specific covenant(s). In contrast, covenant lite loans do not always or
necessarily offer the same ability to intervene or obtain additional concessions
from borrowers. This risk is offset to varying degrees by the fact that the same
financial and performance information may be available with or without covenants
to lenders and the public alike and can be used to detect such early warning
signs as deterioration of a borrower’s financial condition or results. With such
information, the portfolio managers are normally able to take appropriate
actions without the help of covenants in the loans or debt securities. Covenant
lite corporate loans and debt securities, however, may foster a capital
structure designed to avoid defaults by giving borrowers or issuers increased
financial flexibility when they need it the most.
Impairment
of Collateral
The terms of the senior secured
corporate loans and corporate debt securities in which the Fund typically
invests require that collateral and/or cash flow generating capacity be
maintained to support payment of the obligation. Generally, the collateral for a
secured corporate loan or corporate debt security has a fair market value at
least equal to 100% of the amount of such corporate loan or corporate debt
security when initially syndicated. However, the value of the collateral and/or
the cash flow generating capacity may decline after the Fund invests and there
is a risk that the value of the collateral may not be sufficient to cover the
amount owed to the Fund. In addition, collateral securing a loan may be found
invalid, may be used to pay other outstanding obligations of the borrower under
applicable law or more senior claims under applicable credit agreements, or may
be difficult to sell.
In the event that a borrower
defaults, the Fund's access to the collateral may be limited by bankruptcy and
other insolvency laws. There is also the risk that the collateral may be
difficult to liquidate, or that a majority of the collateral may be illiquid. As
a result, the Fund might not receive timely payments or may not ultimately
receive payments to which it is entitled.
High-Yield
Debt Securities
High-yield debt securities
(including loans) and unrated securities of similar credit quality (high-yield
debt instruments or junk bonds) involve greater risk of a complete loss of the
Fund's investment, or delays of interest and principal payments, than
higher-quality debt securities or loans. Issuers of high-yield debt instruments
are not as strong financially as those issuing securities of higher credit
quality. High-yield debt instruments are generally considered predominantly
speculative by the applicable rating agencies as these issuers are more likely
to encounter financial difficulties because they may be more highly leveraged,
or because of other considerations. In addition, high yield debt securities
generally are more vulnerable to changes in the relevant economy, such as a
recession or a sustained period of rising interest rates, that could affect
their ability to make interest and principal payments when due. If an issuer
stops making interest and/or principal payments, payments on the securities may
never resume. These instruments may be worthless and the Fund could lose its
entire investment.
The prices of high-yield debt
instruments generally fluctuate more than higher-quality securities. Prices are
especially sensitive to developments affecting the issuer's business or
operations and to changes in the ratings assigned by rating agencies. In
addition, the entire high-yield debt market can experience sudden and sharp
price swings due to changes in economic conditions, stock market activity, large
sustained sales by major investors, a high-profile default, or other factors.
Prices of corporate high-yield debt instruments often are closely linked with
the company's stock prices and typically rise and fall in response to factors
that affect stock prices.
High-yield debt instruments are
generally less liquid than higher-quality securities. Many of these securities
are not registered for sale under the federal securities laws and/or do not
trade frequently. When they do trade, their prices may be significantly higher
or lower than expected. At times, it may be difficult to sell these securities
promptly at an acceptable price, which may
limit the Fund's ability to sell
securities in response to specific economic events or to meet redemption
requests. As a result, certain high-yield debt instruments generally pose
greater illiquidity and valuation risks.
Substantial declines in the prices
of high-yield debt instruments can dramatically increase the yield of such
instruments. The decline in market prices generally reflects an expectation that
the issuer(s) may be at greater risk of defaulting on the obligation to pay
interest and principal when due. Therefore, substantial increases in yield may
reflect a greater risk by the Fund of losing some or part of its investment
rather than reflecting any increase in income from the higher yield that the
debt instrument may pay to the Fund on its investment.
Debt
Securities Ratings
The use of credit ratings in
evaluating debt securities can involve certain risks, including the risk that
the credit rating may not reflect the issuer's current financial condition or
events since the security was last rated by a rating agency. Credit ratings may
be influenced by conflicts of interest or based on historical data that no
longer apply or that are no longer accurate.
When-Issued
and Delayed Delivery Transactions
Mortgage-backed securities may be
issued on a when-issued or delayed delivery basis, where payment and delivery
take place at a future date. Because the market price of the security may
fluctuate during the time before payment and delivery, the Fund assumes the risk
that the value of the security at delivery may be more or less than the purchase
price.
Credit-Linked
Securities
The Fund bears the risk of loss of
its principal investment and the periodic interest payments expected to be
received in the event that one or more of the underlying debt obligations or
debt obligations underlying the credit default swaps go into default or
otherwise become non-performing. Credit-linked securities are typically
structured as limited recourse obligations and the Fund bears the risk that the
issuer will default or become bankrupt. An investment in credit-linked
securities also involves reliance on the counterparty to the swap entered into
with the issuer to make periodic payments to the issuer under the terms of the
credit default swap. The market for credit-linked securities may be, or suddenly
can become, illiquid. Changes in liquidity may result in significant, rapid and
unpredictable changes in the prices for credit-linked securities. The value of a
credit-linked security will typically increase or decrease with any change in
value of the underlying debt obligations, if any, held by the issuer and the
credit default swap. Further, in cases where the credit-linked security is
structured such that the payments to the Fund are based on amounts received in
respect of, or the value of performance of, any underlying debt obligations
specified in the terms of the relevant credit default swap, fluctuations in the
value of such obligation may affect the value of the credit-linked security. The
collateral of a credit-linked security may be one or more credit default swaps,
which are subject to additional risks.
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.
Focus
The greater the Fund's exposure to
any single type of investment – including investment in a given industry,
sector, region, country, issuer, or type of security – the greater the losses
the Fund may experience upon any single economic, market, business, political,
regulatory, or other occurrence. As a result, there may be more fluctuation in
the price of the Fund's shares.
Cash/Cash
Equivalents
To the extent the Fund holds cash or
cash equivalents rather than securities in which it primarily invests or uses to
manage risk, the Fund may not achieve its investment objectives and may
underperform.
Management
The Fund is actively
managed and could experience losses if the sub-advisor’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. There can be no guarantee that these techniques or the sub-advisor's
investment decisions will produce the desired results. Additionally,
legislative, regulatory, or tax developments may affect the investment
techniques available to the sub-advisor in connection with managing the Fund and
may also adversely affect the ability of the Fund to achieve its investment
goal.
Portfolio
Turnover
The sub-advisor will
sell a security or enter or close out of a derivative position when it believes
it is appropriate to do so, regardless of how long the Fund has held the
security. The Fund's turnover rate may exceed 100% per year because of the
anticipated use of certain investment strategies. The rate of portfolio turnover
will not be a limiting factor for the sub-advisor in making decisions on when to
buy or sell securities. High turnover will increase the Fund's transaction costs
and may increase your tax liability if the transactions result in capital
gains.
LIBOR
Transition
The Fund invests in financial
instruments that may have floating or variable rate calculations for payment
obligations or financing terms based on the London Interbank Offered Rate
(LIBOR), which is the benchmark interest rate at which major global banks lend
to one another in the international interbank market for short-term loans. In
2017, the U.K. Financial Conduct Authority announced its intention to cease
compelling banks to provide the quotations needed to sustain LIBOR after 2021.
Although many LIBOR rates were phased out at the end of 2021 as originally
intended, a selection of widely used USD LIBOR rates will continue to be
published until June 2023 in order to assist with the transition to an
alternative rate. In March 2022, the U.S. federal government enacted legislation
to establish a process for replacing LIBOR in certain existing contracts that do
not already provide for the use of a clearly defined or practicable replacement
benchmark rate as described in the legislation. Generally speaking, for
contracts that do not contain a fallback provision as described in the
legislation, a benchmark replacement recommended by the Federal Reserve Board
will effectively automatically replace the USD LIBOR benchmark in the contract
after June 30, 2023. The recommended benchmark replacement will be based on the
Secured Overnight Financing Rate (SOFR) published by the Federal Reserve Bank of
New York, including certain spread adjustments and benchmark replacement
conforming changes. The ultimate impact of the discontinuation of LIBOR and the
transition to an alternative rate on the Fund's portfolio and markets generally
remains uncertain. There can be no guarantee that financial instruments that
transition to an alternative reference rate will retain the same value or
liquidity as they would otherwise have had. Since the usefulness of LIBOR as a
benchmark could also deteriorate during the transition period, effects could
occur at any time.
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, the
sub-advisor, 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 and sub-advisor have 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, the investment manager or the
sub-advisor. 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, the sub-advisor 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. To
the extent that the underlying securities held by the Fund trade on an exchange
that is closed when the securities exchange on which the Fund shares list and
trade is open, there may be market uncertainty about the stale security pricing
(i.e., the last quote from its closed foreign market) resulting in premiums or
discounts to NAV that may be greater than those experienced by other ETFs.
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 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 sub-advisor 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 sub-advisor 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 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.
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. This risk may be more pronounced in volatile markets,
potentially where there are significant redemptions in ETFs generally.
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.
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, sub-advisor or an affiliate of the investment manager or sub-advisor,
may from time to time own a substantial amount of the Fund’s shares. In
addition, a third party investor, the investment manager, sub-advisor or an
affiliate of the investment manager or sub-advisor, 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.
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(s), 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 sub-advisor believes market
or economic conditions are unfavorable for investors, the sub-advisor 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
sub-advisor 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/investor/investments-and-solutions/investment-options/etfs/.
Management
Franklin Advisers, Inc. (Advisers),
One Franklin Parkway, San Mateo, CA 94403-1906, is the Fund’s investment
manager. Advisers provides administrative and certain oversight services to the
Fund. Advisers is a wholly owned subsidiary of Franklin Resources, Inc.
(Resources). Together, Advisers and its affiliates manage, as of _________,
2023, over $[____] trillion in assets, and have been in the investment
management business since 1947.
Under a separate agreement with
Advisers, Western Asset Management Company, LLC (“Western Asset” or the
“sub-advisor”) provides the day-to-day portfolio management of the Fund. Western
Asset Management Company Limited (“Western Asset London”), Western Asset
Management Company Pte. Ltd. (“Western Asset Singapore”) and Western Asset
Management Company Ltd (“Western Asset Japan” and, collectively with Western
Asset London and Western Asset Singapore, the “sub-subadvisors”) serve as
sub-subadvisors to the Fund. References to “the sub-advisor” include the
sub-advisor and each applicable sub-subadvisor. Western Asset, established in
1971, has offices at 385 East Colorado Boulevard, Pasadena, California 91101 and
620 Eighth Avenue, New York, New York 10018. Western Asset London was founded in
1984 and has offices at 10 Exchange Square, Primrose Street, London EC2A 2EN.
Western Asset Japan was founded in 1991 and has offices at 36F Shin-Marunouchi
Building, 5-1 Marunouchi 1-Chome Chiyoda-Ku, Tokyo 100-6536, Japan. Western
Asset Singapore was established in 2000 and has offices at 1 George Street
#23-01, Singapore 049145. Western Asset acts as investment adviser to
institutional accounts, such as corporate pension plans, mutual funds and
endowment funds. As of ____, 2023, over $[___], total assets under management of
Western Asset and its supervised affiliates were approximately $[___] billion.
Western Asset and Western Asset London are indirect, wholly-owned subsidiaries
of Resources.
The Fund is managed by a team of
dedicated professionals. The portfolio managers of the Fund are as
follows:
S. Kenneth
Leech
Mr. Leech is the Chief Investment
Officer of Western Asset and has been employed by Western Asset as an investment
professional for at least the past five years.
John
Bellows
Mr. Bellows is a Portfolio
Manager/Research Analyst for Western Asset and has been employed by Western
Asset as an investment professional for at least the past five years.
Mark S.
Lindbloom
Mr. Lindbloom is a Portfolio Manager
for Western Asset and has been employed by Western Asset as an investment
professional for at least the past five years.
Frederick R.
Marki
Mr. Marki is a Portfolio Manager for
Western Asset and has been employed by Western Asset as an investment
professional for at least the past five years.
Julien A.
Scholnick
Mr. Scholnick is a Portfolio Manager
for Western Asset and has been employed by Western Asset as an investment
professional for at least the past five years.
The Fund’s SAI provides additional
information about portfolio manager compensation, other accounts that they
manage and their ownership of Fund shares.
A discussion regarding the basis for
the board of trustees approving the investment management contract and
sub-advisory agreement will be available in the Fund's initial shareholder
report.
The Fund pays Advisers a unified
management fee. Advisers pays Western Asset for its services. Pursuant to the
investment management agreement with Franklin Templeton ETF Trust (Trust) on
behalf of the Fund, 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 [ ]% of the
average daily net assets of the Fund.
Manager
of Managers Structure
The board of trustees has authorized
the Fund to operate in a “manager of managers” structure whereby the investment
manager can appoint and replace both affiliated 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 Manager of Managers Structure 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
subadvisory agreements.
The use of the Manager of
Managers Structure with respect to the Fund is subject to certain conditions
that are set forth in SEC exemptive relief and no-action letter guidance issued
by the SEC staff. 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 oversight 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 and oversight 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
The Fund intends to qualify as a
regulated investment company under the Internal Revenue Code. 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 at
least monthly from its net investment income. Capital gains, if any, may be paid
by the Fund 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. 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 franklintempleton.com.
Avoid buying a dividend. At the time you
purchase your Fund shares, the Fund’s net asset value 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. 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. 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 $44,625 in 2023 ($89,250
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 $492,300 or $553,850, respectively, the
long-term capital gains tax rate is 15%. The rate is 20% for single individuals
with taxable income in excess of $492,300 and married individuals filing jointly
with taxable income in excess of $553,850. 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 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, local and foreign
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. If the Fund qualifies, it may elect to pass through to you as a foreign
tax credit or deduction any foreign taxes that it pays on its investments.
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 Fund, 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. The Fund may be required to report certain
shareholder account information to the IRS, non-U.S. taxing authorities or other
parties 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 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
There is no financial information
for the Fund because it is a new fund.
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. The Franklin Templeton 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: [____].
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 Fund’s primary listing exchange
is The Nasdaq Stock Market LLC which 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.
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 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 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 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 – Corporate Debt Securities
Corporate debt securities 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 to assist in determining a current market value for
each security. The Fund’s pricing services may utilize independent quotations
from bond dealers and bond market activity to determine current value.
Security
Valuation – Senior Secured Corporate Loans
Senior secured corporate loans with
floating or variable interest rates 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 loan dealers and other financial
institutions, information with respect to bond and note transactions and may
rely on independent pricing services to assist in determining a current market
value for each security. These pricing services use independent market
quotations from loan dealers or financial institutions and may incorporate
valuation methodologies that incorporate multiple bond characteristics. These
characteristics may include dealer quotes, issuer type, coupon, maturity,
weighted average maturity, interest rate spreads and yield curves, cash flow and
credit risk/quality analysis.
Security Valuation – Foreign
Securities – Potential Impact of Time Zones and Market Holidays
Trading in securities on foreign
securities stock exchanges and over-the-counter markets, such as those in Europe
and Asia, may be completed well before 1 p.m. Pacific time. Occasionally, events
occur between the time at which trading in a foreign security is completed and 1
p.m. Pacific time that might call into question the availability (including the
reliability) of the value of a foreign portfolio security held by the Fund. In
accordance with procedures established and approved by the Fund’s board of
trustees, the investment manager monitors for significant events following the
close of trading in foreign stock markets.
In the event the investment manager
identifies a significant event, the investment manager will measure price
movements using a series of country specific market proxies (such as baskets of
American Depositary Receipts, futures contracts and ETFs) against established
trigger thresholds for each specific market proxy to assist in determining if
the significant event calls into question the availability (including the
reliability) of the values of foreign securities between the times at which they
are determined on their primary trading market and 1 p.m. Pacific time. If such
trigger thresholds are exceeded, the foreign securities may be valued using fair
value procedures established and approved by the board of trustees. In certain
circumstances these procedures include the use of independent pricing services.
The intended effect of applying fair value pricing is to compute an NAV that
accurately reflects the value of the Fund’s portfolio at the time that the NAV
is calculated.
In addition, trading in foreign
portfolio securities generally, or in securities markets in a particular country
or countries, may not take place on every NYSE business day. Furthermore,
trading takes place in various foreign markets on days that are not business
days for the NYSE, and on which the Fund’s NAV is not calculated (in which case,
the NAV of the Fund’s shares may change on days when shareholders will not be
able to purchase or sell Fund shares). Thus, the calculation of the Fund’s NAV
does not take place contemporaneously with the determination of the prices of
many of the foreign portfolio securities used in the calculation. If significant
events affecting the last determined values of these foreign securities occur
(determined through the monitoring process described above), the securities may
be valued at fair value determined in good faith in accordance with the Fund’s
fair value procedures established and approved by the board of trustees.
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 50,000 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 the investment manager and
sub-advisor.
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.
Similarly, shares can be redeemed
only in Creation Units, generally for a designated portfolio of securities,
assets or other positions and/or cash (which may include cash in lieu of certain
securities, assets or other positions).
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 Nasdaq Stock Market LLC 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, when available, can be found at
https://www.franklintempleton.com/investor/investments-and-solutions/investment-options/etfs/.
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.
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/investor/investments-and-solutions/investment-options/etfs/.
You can learn more about the Fund in
the following documents:
Annual/Semiannual
Report to Shareholders
Includes a discussion of recent
market conditions and Fund strategies that significantly affected Fund
performance during its last fiscal year, financial statements, detailed
performance information, portfolio holdings and, in the annual report only, the
independent registered public accounting firm’s report.
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, when available, or the SAI, please contact your
investment representative or call us at the number below. You also can view the
current annual/semiannual report, when available, and the SAI online through
franklintempleton.com.
Reports and other information about
the Fund are available on the EDGAR Database on the SEC’s Internet site 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:
[email protected].
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.
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Investment
Company Act file #811-23124 |
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