Going Viral: Emerging markets as the End of the Pandemic Hopefully Nears

Bar chart

“Going viral” has taken on several new meanings over the years. In a world where we are confronted with an actual virus and businesses that thrive from the phenomenon of going viral over digital platforms, we have faced both serious societal challenges and investment opportunity all at once. Have both phenomena run their course? While we lack a crystal ball, in our opinion, the future is bright. In many ways, this is particularly true for emerging markets.

Now and then

From 30,000 ft. to important long-term characteristics, current fundamentals and common objections, we believe emerging markets is an area investors should see as a capital appreciation solution now and for the future.

Underlying Fundamentals

Valuation: In the current environment, where earnings have been severely depressed and volatile, we believe a fair valuation metric to review for relative comparisons is the Cyclically Adjusted P/E ratio (CAPE), also known as the long-term P/E ratio.

CYCLICALLY ADJUSTED P/E RATIO (CAPE)
Chart Showing BOND EQUITY EARNINGS YIELD RATIO

Generally, global equities are currently above their long-term average CAPE ratio. But non-U.S. equities are relatively less expensive in both an absolute and historical context. While valuation is important, on a stand alone basis, it isn’t necessarily predictive, which brings us to growth.

Growth: With COVID-19, the scarcity of growth has generally led to a greater premium in areas where it is strongest and most sustainable. Much like we have seen on an individual stock basis in recent years where growth has commanded a significant premium, regions of the world have experienced the same through the pandemic. A growth advantage may continue to favor emerging market equities.

GDP AND EPS GROWTH
  2020
 GDP Growth (%) Earnings Growth (%)

U.S.

-3.4

-8.4

China

2.3

5.0

Europe

-7.2

-28.7

Emerging Markets

-2.4

-4.9


  2021E
 GDP Growth (%) Earnings Growth (%)

U.S.

5.1

22.7

China

8.1

16.9

Europe

4.2

35.4

Emerging Markets

6.3

36.9


  2022E
 GDP Growth (%) Earnings Growth (%)

U.S.

2.5

14.3

China

5.6

17.3

Europe

3.6

15.2

Emerging Markets

5.0

15.2

Source: GDP Growth: International Monetary Fund, 2/28/2021 Earnings Growth (MSCI indices): Thomson Reuters I/B/E/S. Past performance is no guarantee of future results.

On the world stage, emerging market equities have a long runway. They still represent a mere 13.7% of global equity market cap, yet have far greater significance to world output and future growth.

Chart Showing EMERGING MARKET CHARACTERISTICS SHOULD LEAD TO
LARGER GLOBAL EQUITY SHARE

Valuation and growth can be powerful predictive characteristics. This, along with greater prevalence within the global economy, bodes well for emerging markets. It is a good recipe for long-term capital appreciation. However, the world is rapidly changing. Investing in businesses on the right side of that change is important. So naturally one should ask: When investing in emerging markets, what am I investing in?

Like the U.S., in emerging markets innovative technologies, consumer platforms, and business models have been the focal point for investors. Those companies that can create and implement innovation have generated superior economic value. With COVID-19, many of these innovative trends have accelerated and will likely succeed in a sustainable manner for many years.

Innovation: Creation and adoption

In the developing world, technology and innovation leaders have emerged, an ambitious population and increased social mobility drives entrepreneurship, and a large consumer base has adopted technology quicker than developed world consumers.

Chart Showing BOND EQUITY EARNINGS YIELD RATIO
Innovation vs. Market Capitalization — Unicorns, a term that refers to private companies with market values greater than $1 billion, are considered the “nursery” for future innovation leaders and soon-to-be public companies (IPOs). This bodes well for the future growth and expanding investment universe in emerging markets.

If the future of corporate growth is largely grounded in the creation and adoption of technology, then we believe emerging markets is a prime area of the world to invest in such growth. It is home to many of the world’s most innovative up-and-coming companies.

As a long-term investor, it is important to understand the characteristics that can drive trends sustainably into the future. For example, if the U.S. implements more stringent IP protection against China, will that lead to a decline in their ability to innovate? Several statistics point to the ongoing ability for China to create and continue their path of entrepreneurial success across several industries.

Patent Applications by Country (2018)
Chart Showing Patent Applications by Country (2018

Source: WIPO — World Intellectual Property Indicators 2019.

Countries with the most STEM graduates (2016)
Chart Showing Countries with the most STEM graduates (2016)

Source: World Economic Forum.

China accounts for nearly half the patent applications in the world. It is also home to the most graduates from science, technology, engineering and mathematics (STEM) programs. This will enable them to continue to develop globally competitive technology and medicine. Areas where we are likely to see them thrive for many years ahead.

Growing wealth of the middle class, millennials and adoption of technology: Emerging markets is home to the largest consumer base in the world. One that continues to grow in size and wealth. It is also a population that has adopted technology. Companies with a competitive edge, particularly those with the ability to reach their consumers through smartphones, seem to be well positioned.

Smartphone trends favorable in emerging markets
Chart Showing BOND EQUITY EARNINGS YIELD RATIO

Source: World Economic Forum.

The virus may have long-term fiscal effects

How will it impact emerging markets? When the world came to a screeching halt in March 2020, governments and central banks stepped in to support major economies. Essentially, bridging the economy from one side of the abyss to the other. Countries in each area of the world took different approaches toward handling of the virus and, as a result, their approach to government support as well. These decisions could have lasting effects.

To distance or lockdown?
In select Asian countries, extreme lockdown measures at the early stages of the virus resulted in containing the spread. This allowed these economies to get back to a more “normalized” state when compared to societies that encouraged behavior and set certain restrictions, but was moderate in enforcement.

14 Day COVID-19 cases - per 100k
Chart Showing 14 Day COVID-19 cases - per 100k

Source: European Center of Disease Control; as of 12/31/20

Long-term impacts?
Many of the long-term effects from the pandemic will emerge over the coming years, but certain symptoms are already evident. Excessive spending in developed countries is manageable, but may prove to be a long-term constraint.

Chart Showing COVID-19 Fiscal Stimulus Packages as of % GDP

Emerging Markets: Objections to investing in the region

Emerging markets is a cyclical, commodity driven market that benefited from China’s growth and infrastructure boom, but China’s growth is slowing: China is decelerating, but it is still the second largest economy in the world. Growth of just 4% creates a meaningful amount of economic activity, adding roughly the equivalent of Sweden’s annual GDP. Also, emerging markets has a different investment case than it did 20 years ago, with the innovation boom and also supported by the evolving investment landscape.

The evolving investment landscape — 2000 to 2020
Chart Showing BOND EQUITY EARNINGS YIELD RATIO

Source: World Bank, Bloomberg, FactSet 12/31/2019.

Emerging markets debt: Debt in emerging markets remains a risk as they continue to borrow, particularly if the global economy takes longer than expected to recover. However, for the most part, debt burdened countries do not consist of a large part of the equity universe. Countries that have had the greatest issues in recent years, like Turkey and Argentina, are relatively insignificant in the equity world. Also, the world used to be less integrated and, thus, less concerned about emerging-market crises. Whereas now, rescue packages and organized debt restructurings are more prevalent and likely. Contagion is less of a risk.

China’s equity rally has been driven by an unsustainable retail surge: Yes, China has experienced inflows from retail investors, much like the Robinhood phenomenon the U.S. has seen during the pandemic. For China, many are comparing it to 2014 when a retail boom cycle led to a bust in the market. While this is always a risk, there are differences this time that may mitigate the risk. There are more foreign institutional investors, more local institutional investors (active mutual fund issuances are 4 times what they were a year ago), and the government is more aware of the risk. As such, we believe there are more active participants to temper the risk.

Emerging markets has been a bad place to invest compared to the U.S.: On a relative basis, emerging markets has not performed well over the last decade and investors have been waiting for the tide to turn. Historically, regional leadership has worked in cycles. In the early part of the century, emerging markets prevailed, though, since the financial crisis, the U.S. has outperformed emerging markets. Despite this relative underperformance over the last 10 years, emerging markets has still created value for investors. While volatility is generally higher, investors have seen return for that additional risk.

Chart Showing EMERGING MARKETS HAS OUTPERFORMED WITH
COMPARABLE RISK

The opinions expressed in this article are those of Ivy Investment Management Company and are not meant to predict or project the future performance of any investment product. The opinions are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

Risk factors: Investment return and principal value will fluctuate and it is possible to lose money by investing. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Investments in countries with emerging economies or securities markets may carry greater risk than investments in more developed countries. Political and economic structures in many such countries may be undergoing significant evolution and rapid development, and such countries may lack the social, political and economic stability characteristic of more developed countries.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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In a world faced with a viral threat, it has become challenging to make investment decisions with little visibility into the future. Take a look at what we believe investors should consider when thinking: Why emerging markets?

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Global equities are currently above their long-term average CAPE ratio. But non-U.S. equities are relatively less expensive in both an absolute and historical context.
Those companies that can create and implement innovation have generated superior economic value. With COVID-19, many of these innovative trends have accelerated and will likely prevail in a sustainable manner for many years.
Growing wealth of the middle class, millennials and adoption of technology: Emerging markets is home to the largest consumer base in the world.

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Ivy Securian Core Bond Fund

Market Sector Update

  • The big story in the first quarter was a continued shift to strategies that are poised to capitalize on better expected growth this year. This prospect propelled strong returns for previous laggards like small caps, cyclical stocks and value strategies. The same was true in credit markets where the best performing corporate sectors included airlines and energy, and the bid returned to less liquid asset classes. While credit outperformed U.S. Treasury securities as demand drove spreads tighter, the total returns of high-quality fixed income strategies were negative as interest rates rose.
  • The economy built on fourth quarter momentum and accelerated early this year. New relief measures and a clearer path to lifting restrictions laid the foundation for the fastest expected growth in decades. With former Federal Reserve (Fed) chair, Janet Yellen, now Secretary of the Treasury, fiscal and monetary policy are both focused on driving an inclusive recovery. Their policies are underpinned by a common belief that past estimates of inflation-free potential growth may have been too low.
  • The Biden administration hit the ground running. It coordinated an effective rollout of several vaccines. Congress passed the $1.9 trillion American Rescue Plan. This is the third COVID-19 relief effort in the last year, bringing total pandemic support to more than $5 trillion. It targeted the nearly 10 million Americans who are still unemployed and added a new child tax credit. In the coming months, Congress will consider the Biden administration’s American Jobs Plan, a $2.25 trillion infrastructure proposal funded by higher corporate taxes. A final package focused on human capital is likely later this year.
  • Interest rates rose along with the economic outlook, but so far the moves aren’t alarming. The 10-year U.S. Treasury yield ended the quarter at 1.74%, up 0.83%. To put this in perspective, the 10-year U.S. Treasury yield was 1.84% on 12/31/19. On the other hand, short rates remained anchored near zero, in line with Fed guidance. Long-term inflation expectations remain in check, just north of the Fed’s 2% target. The recent increase in rates isn’t enough to slow the economy and reflects expectations for a return to normal growth and inflation in years to come.

Portfolio Strategy

  • The Fund outperformed its benchmark for the quarter. Positive security selection results drove most of the Fund’s relative outperformance. The Fund benefitted from strong performance of its positions in the energy, airline, telecommunications and health care sectors relative to those represented in the benchmark. The Fund also benefitted from strong performance of its recently purchased private student loan securitizations, as well as from further strength in its positions in residential-related securitizations. The Fund benefitted from more spread tightening relative to the index in its positions in non-bank financial sector. The decisions to overweight the spread sectors, particularly industrials and utilities, contributed the balance of the Fund’s performance during the quarter.
  • We were active during the first quarter, ultimately reducing the Fund’s exposure to corporate bonds by roughly 3.0%. The team added to positions in the telecommunications space. The team also participated in the newly issued airline bond offerings. We reduced positions in financials and consumer non-cyclicals taking profits in positions we added in 2020.
  • The Fund’s exposure to corporate bonds finished the quarter at about 51%, compared to the index weighting of 27%. The largest overweight positions in the corporate bond sector are transportation, electric utilities, energy, banks and insurance. The largest underweights from a market weight perspective in the corporate space are in capital goods, technology, REITS, consumer non-cyclicals, and finance companies.
  • The Fund’s overweight position in corporate credit is prudent as we believe a robust economic recovery, falling rates of corporate defaults and strong investor demand for yield. This strong technical backdrop is supported by a Fed that has pledged to remain accommodative for the foreseeable future.
  • The team was more active in the securitized sector relative to recent quarters. We added to positions in the nonagency residential sector, which continues to benefit from a robust housing sector. We also added to the Fund’s commercial mortgage backed securities (CMBS) exposure, buying new-issue, senior-level, offerings in the healthcare and industrial property sectors. The team also purchased positions backed by private student loan securitizations.
  • The Fund remains overweight asset backed securities (ABS), CMBS and non-agency mortgage backed securities (MBS), and underweight Agency MBS. The team remains comfortable with its overweight positions in the consumerfacing sectors of ABS and non-agency MBS and we continue to look to add exposure in the space.
  • The Fund’s overall duration was little changed during the quarter, and its interest rate positioning contributed very little to fourth quarter performance relative to the benchmark.

Outlook

  • Expectations for growth in the U.S. continue to increase, on an absolute basis and relative to much of the rest of the world. The Fed and the Biden administration are doubling down on policy support to make sure the economy takes off. With the vaccine rollout exceeding expectations, consumers and businesses are ready to get back to normal.
  • Despite the forecast for eye-popping growth, the Fed is steadfast in its commitment to keep a lid on rates until there is clear evidence of full employment and realized inflation. Members of the Federal Open Market Committee (FOMC) predict this process will take at least two years. Policymakers expect easy money to spur investment and better productivity, increasing sustainable growth. This risks an overshoot, but Fed officials are confident in their ability to slow the economy with available monetary tools if needed.
  • Recent fiscal and monetary policies are unprecedented. The levels of fiscal support and easy money already in place are each considerable. Together, these policies – and proposed programs - are taking us into the unknown. The economy is poised for takeoff with plenty of liquidity as an accelerant. We’re likely to exceed pre-pandemic trend growth by the end of this year, and new businesses are forming at a rapid pace. For now, the potential benefits to the economy, and more importantly, to people, seem to outweigh the risks. But it would be imprudent to think that there isn’t a potential downside as well.
  • Projects that don’t make sense in a normal environment can be funded when interest rates are held below inflation. Episodes like the GameStop short squeeze and the recent implosion of a highly levered investment fund are warning signs that discipline may be waning. Many of the policies proposed by the current administration make sense, but less productive spending has begun to creep into emergency measures. While inflation remains muted, more of the necessary conditions are in place for rising prices, a potential threat to a key foundation of current valuations and risk taking.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

All information is based on Class I shares.

The Bloomberg Barclays U.S. Aggregate Bond Index is market capitalization weighted index, representing most U.S. traded investment grade bonds. It is not possible to invest directly in an index.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Fixed income securities are subject to interest rate risk and, as such, the net asset value of the fund may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. These and other risks are more fully described in the Fund's prospectus. Not all funds or fund classes may be offered at all broker/ dealers.

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Ivy International Small Cap Fund

Market Sector Update

  • International small-cap equities experienced a positive return over the first quarter. This was aided by significant fiscal support and monetary accommodation as well as significant progress in rolling out vaccines in many countries, led by Israel and the U.K.

Portfolio Strategy

  • The Fund produced positive performance and outperformed its benchmark for the period. At the country level, stock selection in Japan, Germany and Ireland were the top contributors to relative performance, while stock selection in France, Singapore and Italy were the top detractors to relative performance. At the sector level, stock selection in health care, information technology and Industrials were the top contributors to relative performance, while stock selection in energy, communication services and financials were the detractors to relative performance.
  • Top relative individual contributors to performance for the period included Vivoryon Therapeutics AG, a German-based health care company; Gamesys Group plc, a U.K.-based online gaming company; and ASM International N.V., a Dutch-based semi-conductor equipment company.
  • Top relative individual detractors to performance for the period included Games Workshop Group plc, a U.K.- manufacturer and retailer of tabletop war- games systems and associated miniatures; Stillfront Group AB, a Swedish mobile games company; and Mynaric AG, a German manufacturer of laser and communications systems for the space industry.
  • Portfolio changes within the Asia-Pacific region over the quarter included the addition of OZ Minerals Ltd., an Australian copper mining company with a perceived strong production growth outlook for its asset base. We expect copper to be a medium-term beneficiary of infrastructure investment and higher penetration of electric vehicles, which consume many times the amount of copper of a traditional internal combustion engine car. The Fund also added Shinnihonseiyaju Co. Ltd., a cosmetics company which sells versatile and competitively priced all-in-one skincare products to Japanese consumers. Mabuchi Motor Co. Ltd., a maker of small and mid-sized electric motors for automobiles was also added as we believe the company will gain market share and benefit from growth investments it has made over the last several years. These additions were funded by sales of City Developments Ltd. and Sato Holdings Corp. as we saw limited upside from current valuations.
  • European additions to the portfolio over the quarter included IBU-tec Advanced Materials AG. The holding is a German-based specialty chemicals company which specializes in electric battery technology.
  • Over the quarter, we also initiated a position in Rexel S.A., a French distributor of electrical supplier of wires, cables, ducts, and ventilation equipment globally. On the other hand, we eliminated our position in Teleperformance SE, a French-based operator of call centers, which also offers customer services and technical support services as well as collecting debts and offering market research services. This decision was based on the stock’s market capitalization, which had grown too big for the Fund following several years of very strong share price performance.

Outlook

  • The portfolio management team continues to believe the pace of the recovery from the unprecedented shock on the global economy of COVID-19 will be the main factor affecting equity prices for the next several quarters. The rapid spread of COVID-19 during the northern hemisphere winter months across the U.S., Europe and parts of Asia Pacific, particularly Japan, will have a negative impact on upcoming earnings. This is against a backdrop of global vaccine approvals and distribution. We expect the market to look through short-term earnings weakness toward a recovery of economic activity in the second half of the year.
  • Many large economies in Asia Pacific have been more successful than their Western counterparts in COVID-19 containment, and case counts continue to remain generally low. However, it is becoming apparent that vaccination rollout in the region is lagging most Western countries and this may have implications for international travel and the ability of some economies to fully normalize.
  • China's 14th five-year plan was released in March and includes ambitious environmental targets to reduce greenhouse gas emissions, with important regional implications within the energy and materials sectors, and particularly for electric vehicle adoption. In the short-term, Chinese policymakers appear more concerned about the formation of speculative bubbles in asset markets than their peers globally, and the degree to which a policy of deleveraging is pursued could have meaningful implications later in the year.
  • In the U.S., Democratic Party control of both houses of Congress under President Biden ushered in a $1.9 trillion round of fiscal stimulus in March, with a larger infrastructure package likely to gain passage over the summer. With vaccine rollout in the U.S. proceeding rapidly, this is raising expectations for growth and driving cyclical sectors to outperform while pushing bond yields higher. It has also driven a countertrend rally in the U.S. dollar, after a sharp decline last year, which could fade as growth in the rest of world picks up later in 2021. The Fund has added exposure to cyclical sectors, including energy, materials and financials, which we see benefitting from this macroeconomic backdrop.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

Effective Feb. 21, 2019, Ivy IG International Small Cap Fund was renamed Ivy International Small Cap Fund. Additionally, the name of the sub-adviser changed from I.G. International Management Limited to Mackenzie Investments Europe Limited. Mackenzie Investments Europe Limited delegates to its subsidiary, Mackenzie Investments Asia Limited, for additional portfolio management responsibilities. References to Mackenzie Investments Europe Limited include both entities.

Top 10 equity holdings as a percent of net assets as of 12/31/2020: Uniphar plc 3.8%, Games Workshop Group plc 2.8%, Steadfast Group Ltd. 2.3%, ASM International N.V. 2.2%, SCSK Corp. 2.2%, Outotec Oyj 2.0%, TechnoPro Holdings, Inc. 2.0%, Future plc 2.0%, The Bank of Kyoto Ltd. 1.9% and Ryohin Keikaku Co. Ltd. 1.8%.

All information is based on Class I shares.

Risk factors: The value of the Fund’s shares will change, and you could lose money on your investment. International investing involves additional risks including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Investing in small-cap stocks may carry more risk than investing in stocks of larger more well-established companies. The value of a security believed by the Fund’s manager to be undervalued may never reach what the manager believes to be its full value, or such security’s value may decrease. These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.

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Ivy Global Equity Income Fund

Market Sector Update

  • Around most of the world, the quarter was a continued sea of optimism that 2021 will be a lot better than 2020, with COVID-19 fading and loads of government stimuli as well as cheap money to help businesses and consumers rebound. During the quarter, good news of an economic boom was priced into the bond market as the U.S. 10-year rose from 0.9% to 1.7 %. Discussions of inflation and when will the U.S. Federal Reserve (Fed) taper and raise rates increased. Also a reality is that COVID-19 is not going away as quickly as it entered, with countries having to again lockdown as the new variants take a grip on unvaccinated citizens, resulting in some unease in growth forecasts. The U.S. released stimulus for pandemic relief and infrastructure and is looking to pass a $2 to $3 trillion infrastructure and human infrastructure multi-year plan by fall. Investors are focused on the benefits of spending, but not focused on future bills in the form of higher corporate taxes and the resultant negative impact on earnings outlooks. Investors are starting to realize that U.S.-Chinese relations under the Biden Administration will not improve. In fact, so far it has deteriorated. The Biden Administration is coordinating and leading our U.S. allies to put pressure on China to change its ways on trade, technology theft, cyber warfare, human rights, and relations with its Asian neighbors. China has lashed out towards Europe, Australia, and others. This is an issue that will not go away and is a risk to the markets given the interlinkage of the global economy.
  • The “V” shape global economic rebound is still resulting in a “V” shape market. Short-term rates remained low and are being promised to be kept low by central banks (long term). The U.S. made sound progress on vaccinations and re-opening, conversely Europe struggled with vaccine deployment which led to new rounds of lockdowns in France, Italy and Germany. As expected, global economic indicators still point to a strong economic global snap back as economies are reopened and, in some cases, inventories are rebuilt. Global purchasing managers’ (factory) and (services) indices and consumer confidence are expected to continue to stay strong, but moderate with more mix readings expected in the future.
  • The Fund’s benchmark index was up approximately 8.6% during the quarter, while the broad global market rose 4.9%. The U.S market led the way, with cyclicals outperforming. The Asian region was also higher but lagged. While all sectors posted gains this quarter, the best performing sectors were the most economically sensitive sectors. The market continued the rotation to offensive sectors, with energy, materials, financials, consumer discretionary, and industrials performing well. They outperformed the more defensive consumer staples, health care, communication services, utilities and real estate sectors.

Portfolio Strategy

  • The Fund posted positive absolute performance but underperformed its benchmark. Sector allocation was the main driver of relative underperformance, while slightly positive stock selection offset some of the sector allocation drag. While the Fund’s region and country allocations are typically a residual of the Fund’s stock selection approach, country allocation aided relative performance during the period. Currency effects detracted from performance for the period as the Fund was underweight the U.S. dollar which strengthened 3.6% versus other global currencies.
  • From a sector allocation perspective, the Fund’s overweight positions in utilities and health care as well as underweight position in energy hurt relative performance. This was somewhat offset by our underweight to consumer staples, which underperformed. Stock selection was most positive in energy and consumer discretionary, while selection in information technology and financials was a drag on relative performance. Geographically, stock selection was positive in Europe while negative in the U.S. and Asia. Additionally, our overweight in Europe and underweight in the U.S. was a drag on relative performance.
  • We are currently overweight utilities and industrials, while underweight materials, communication services, consumer staples and real estate. During the quarter, we also added to energy and financials. We found a few names, relative to fundamentals, we believe were well positioned for growing free-cash-flow and higher dividends given the strong global policy responses to aid the economy. We funded this by going further underweight in communication services as the competition outlook was getting worse. We also trimmed exposure to health care. Our information technology exposure was also trimmed due to strong returns, reducing the risk/reward profile. Our overweight in utilities and industrials are tied to the long-term trend of electrification of the world’s economy to counter global warming via energy efficiency and renewables. We believe the industrials we own will benefit from the strong global economy for the next few years due to strong government spending and investing as well as sustained accommodative central bank policy. By region, we added to Europe and funded this via Asia and U.S. exposures. Many of the names we own in Europe are very global in their exposures.
  • Our investment approach remains steadfastly focused on investing in what we believe are quality businesses with favorable near and intermediate fundamentals, generally rising dividends and attractive valuations. This approach is consistent across sectors and geographies. The core of our approach is based on stock selection as the key driver of portfolio inclusion and construction. As such, we do not significantly adjust portfolio positioning based on our shortterm economic (six months) outlook or other factors that could impact a company’s earnings outlook over the short run. However, a core part of our focus is on finding quality businesses that we believe are mispriced due to these shorterterm market dislocations or other factors that the market has underappreciated.

Outlook

  • We remain fairly optimistic regarding our outlook for economic growth and growth in corporate earnings. We see a lot of dry powder and fuel for economic growth in a few key forms. From a consumer point of view, the combination of a variety of government support schemes, stimulus payments, recovering employment and (to a degree) inability to spend have driven savings rates to quite high levels relative to history. We think the savings rate is a coiled spring that will propel consumption as vaccination occurs and COVID-19 restrictions are lifted. While employment in many sectors of the economy has been slow to recover, we think this gap should also close as consumer spending increases – driving a recovery that can feed on itself for some time. Progress on COVID-19 vaccine deployment, as well as the ultimate durability of efficacy, are key to future potential growth. As demonstrated during periods of relaxation of COVID-19 restrictions during the past year, a desire and ability to return to normality – if not make up for lost time – should drive a strong rebound in activity. The pace at which vaccines are being deployed varies dramatically around the world, and we expect economic growth to be similarly uneven with a somewhat start-stop characteristics for much of the year.
  • Adding further potential growth impulses are the variety of government infrastructure and development spending programs in the U.S. and numerous countries internationally. Scope and timing here are uncertain as many of these programs are more long-tailed in nature, as opposed to nearer-term in orientation. However, this spending may provide a tailwind to growth over the near to intermediate term as well. Our optimism on growth is tempered in many areas by valuation, with many markets around the world at all-time highs, valuation multiples in many areas at elevated levels, and the outlook for returns is more muted. Additionally, many of the most obvious beneficiaries of recovering growth have been bid up to levels that simply do not appear justifiable. There are still pockets of opportunity in various areas, but we expect this to be a headwind to returns relative to growth. We remain optimistic that our longer-term horizon and disciplined approach to business quality, valuation and intermediate-term outlook will allow us to find attractive opportunities.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. All information is based on Class I shares. Past performance is not a guarantee of future results.

Risk factors: The value of the Fund’s shares will change, and you could lose money on your investment. International investing involves additional risks including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Fixed income securities are subject to interest rate risk and, as such, the net asset value of the Fund may fall as interest rates rise. Investing in high-income securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Dividend-paying investments may not experience the same price appreciation as non-dividend paying instruments. Dividend-paying companies may choose to not pay a dividend or the dividend may be less than expected.These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.

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Ivy Apollo Multi-Asset Income Fund

Market Sector Update

  • The global credit market ended the first quarter of 2021 tighter than calendar year-end 2020. Rallying credit markets to start and end the quarter were enough to offset weakness in late February and early March. Credit spreads generally tightened throughout the credit complex with high yield and leverage loans outperforming.
  • The International Monetary Fund (IMF) recently published its April 2021 World Economic Outlook (WEO). Its researchers again upgraded global gross domestic product (GDP) growth estimates and expectations. Looking back at last year, it estimates that the global economy contracted by -3.3% in 2020 which is 1.1 percentage points (pp) less contraction than it expected at the time of its last WEO in October 2020. At the same time, it projects global GDP growth of 6.0% in 2021 and 4.4% in 2022, which is higher by 0.5 pp and 0.2 pp, respectively, compared to October 2020 expectations. Unfortunately, low-income developing countries stand out with GDP growth expectations revised downward compared to last October’s WEO. Meanwhile, among major economies, the U.S. stands out with expectations to surpass pre-COVID-19 GDP levels this year, while China returned to pre-COVID-19 GDP in 2020.
  • Fixed-income investment returns were generally negative for the quarter, as tighter credit spreads could not overcome a dramatic steepening of the U.S. Treasury yield curve. The 10-year U.S. Treasury yield ended the quarter at 1.74% after entering at 0.93% as the Federal Reserve (Fed) maintained loose policy in the face of increasing fiscal stimulus. Short-duration U.S. Treasuries (less than two years) did not rise with the market’s expectation of the Fed being on hold for the foreseeable future.
  • Broadly, consumer consumption and activity data improved into the end of the quarter as the late-2020 COVID-19 surge receded and consumers began to spend the latest round of stimulus checks. The U.S. COVID-19 vaccination rate continues to be ahead of most of the world, further bolstering sentiment.
  • Global real estate was positive across most property types, with the strongest returns from the economically sensitive or virus exposed sectors. Regional malls, shopping centers and lodging sectors have been top performers as investors favored more cyclical sectors.

Portfolio Strategy

  • The Fund outperformed its benchmark and Morningstar peer group during the quarter. The outperformance was primarily attributable to two factors. First, the Fund’s shorter duration benefited it as interest rates rose significantly during the quarter. Second, the Fund’s exposure to credit supported returns as spreads continued to tighten through the quarter. Additionally, the lack of foreign currencies benefited as the U.S. dollar outperformed most major currencies.
  • Roughly 50% of the Fund was allocated to equity at the end of the quarter. From a sector allocation perspective, overweight positions in utilities and health care as well as underweight position in energy hurt relative performance. Stock selection was most positive in energy and consumer discretionary, while selection in information technology and financials was a drag on relative performance.
  • We continue to seek opportunities to reduce volatility in the Fund. We are maintaining a low-duration strategy, although we are more open than in the recent past to marginally increasing duration to levels that would still remain low compared to peer funds. With credit spreads back to levels tighter than the historical average, we started move towards a more defensive position by moving up in higher quality credits/companies at the expense of high-yield credits.

Outlook

  • We believe short-term interest rates will stay near zero for the foreseeable future. Base effects and fiscal stimulus are likely to result in increased inflation in the near term, but this increase should be both limited and transitory due to growth constraints as we exit the pandemic. The U.S.’s sizable fiscal packages provided much needed income support for sidelined workers and financial support for businesses facing interrupted product demand and cash flows. However, stimulus packages passed thus far are not fiscal stimulus that will generate sustained stronger growth. Democrats were able to push through another large economic stimulus bill in the first quarter of 2020. The Biden administration recently proposed a large infrastructure bill, although significant hurdles remain for that to become law.
  • Demand for corporate credit remains intact. Across the globe, fixed-income yields are staggeringly low, leaving investors few alternatives. The Fed has indicated it will continue to support markets beyond the point at which the COVID-19 virus is contained, which we believe is likely to support current spread levels.
  • China has contained COVID-19 more effectively than most countries and is now the closest of the major countries to operating at “business-as-usual.” This has been a major support to global resource demand. While China’s credit cycle has likely peaked, which could weigh on global resource demand later in 2021, vaccine rollouts in the U.S., the U.K., and the EU, are likely to provide a counterweight. We believe new factors stemming from COVID-19 and heightened geopolitical tension between the U.S. and China will fuel the move away from globalization.
  • The economies of many emerging market countries have been supported by surprisingly aggressive fiscal stimulus. With ballooning fiscal deficits, however, governments will likely have less room to respond in 2021. Furthermore, major emerging market countries including Brazil and India are now the epicenter of the COVID-19 pandemic.
  • West Texas Intermediate (WTI) crude began to rise in mid-November as COVID-19 vaccine trials showed positive results. The WTI crude benchmark increased from $48 per barrel at the start of the year to peak at $66 before retreating slightly to end the quarter at $59 per barrel.
  • Despite the recent gains, global real estate securities have not fully participated in the equity market recovery. Attractive valuations, an improving fundamental backdrop and supportive financial conditions should position the sector to deliver attractive investment returns as the economy continues to strengthen.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

The Bloomberg Barclays U.S. Universal Index represents the union of the U.S. Aggregate Index, the U.S. High-Yield Corporate Index, the 144A Index, the Eurodollar Index, the Emerging Markets Index, and the non- ERISA portion of the CMBS Index. Municipal debt, private placements, and non-dollar-denominated issues are excluded from the Universal Index. The only constituent of the index that includes floating-rate debt is the Emerging Markets Index. Source: Bloomberg Barclays. It is not possible to invest directly in an index.

The Fund is managed by Ivy Investment Management Company. The total return strategy is sub-advised by Apollo Credit Management, LLC and the global real estate strategy is sub-advised by LaSalle Investment Management Securities, LLC.

All information is based on Class I shares.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. Although asset allocation among different sleeves and asset categories generally tends to limit risk and exposure to any one sleeve, the risk remains that the allocation of assets may skew toward a sleeve that performs poorly relative to the Fund's other sleeves, or to the market as a whole, which would result in the Fund performing poorly. While Ivy Investment Management Company (IICO) monitors the investments of Apollo Credit Management (Apollo) in addition to the overall management of the Fund, including rebalancing the Fund's target allocations, IICO and Apollo make investment decisions for their investment sleeves independently from one another. It is possible that the investment styles used by IICO or Apollo will not always complement each other, which could adversely affect the performance of the Fund. As a result, the Fund's aggregate exposure to a particular industry or group of industries, or to a single issuer, could unintentionally be larger or smaller than intended. Investment risks associated with investing in real estate securities, in addition to other risks, include rental income fluctuation, depreciation, property tax value changes and differences in real estate market values. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Fixed-income securities are subject to interest rate risk and, as such, the net asset value of the Fund may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Loans (including loan assignments, loan participations and other loan instruments) carry other risks, including the risk of insolvency of the lending bank or other intermediary. Loans may be unsecured or not fully collateralized may be subject to restrictions on resale and sometimes trade infrequently on the secondary market. These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.

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Ivy Crossover Credit Fund

Market Sector Update

  • The first quarter saw a continued recovery in risk assets as anticipation of a growth inflection due to reopening and further stimulus measures resulted in domestic equities rallying more than 6%.
  • The positive news and sentiment drove U.S. Treasury yields dramatically higher in the period. The yield on the 10- year U.S. Treasury rose 83 basis points (bps) to 1.74%, while the yield on the 2-year U.S. Treasury rose 4 bps to 0.16%. During the quarter, the yield curve steepened significantly as the difference between the 10-year U.S. Treasury and the 2-year U.S. Treasury rose 79 bps to 158 bps.
  • The positive risk sentiment in the quarter led to the spread on the Fund’s benchmark, the Bloomberg Barclays U.S. Corporate Index, to fall slightly from 96 bps to 91 bps. High yield gained 0.85% as the spread on the Bloomberg Barclays U.S. Corporate High Yield Index fell from 360 bps to 310 bps, while leveraged loans gained 2% as their low duration helped support the asset class relative to investment grade and high yield.
  • Investment-grade gross issuance fell 3% from the first quarter of 2020, to $524 billion as heavy issuance throughout 2020 bolstered balance sheets and allowed for ample refinancing of existing debt. Issuance net of maturities fell 18% to $217 billion this quarter versus $264 billion of net issuance in first quarter 2020. In the quarter, gross high-yield issuance was $150 billion, more than two times first quarter 2020 and up over 50% from fourth quarter 2020.
  • Ratings actions improved in the first quarter with Standard & Poor’s upgrade-to-downgrade ratio in investment grade at 0.57 versus 0.33 in the fourth quarter of 2020 and 1.23 for 2019. In high yield, the ratio increased markedly from 0.8 in fourth quarter of 2020 to 1.52 in the first quarter of 2021. Fallen angel activity decreased markedly to $1.2 billion in the quarter from roughly $23 billion in the fourth quarter of 2020.

Portfolio Strategy

  • The Fund had a negative return, however outperformed its benchmark. The Fund’s duration fell slightly during the period and remains moderately under the benchmark’s duration of 8.48 years. Higher duration means higher price volatility for a given change in spreads as well as interest rates.
  • The Fund increased its allocation to BB and BBB rated securities, while decreasing its exposure to A and B rated securities. The largest changes in sector positioning were increases in the financial and consumer cyclical sectors and decreases in the consumer non-cyclical and communications sectors.

Outlook

  • As we entered 2021 it became clear that this year will be one of extremely robust growth as the reopening of the economy coincides with massive fiscal and monetary stimulus. Additionally, markets have priced in the presumption that excess savings accumulated during the pandemic will be spent. This has resulted in a significant rise in yields as growth and inflation expectations have risen.
  • Going forward the principal question is: of the recent increase in growth and inflation expectations, how much will be durable versus transitory? We believe that much of the growth expected this year will be transitory. While we think inflation will certainly remain higher than it was this past year, the secular trends keeping inflation low are likely to persist and prevent a meaningful rise in longer term inflation.
  • We believe uncertainty will remain high. This year we’ve already seen significant issues with supply chains and uncertainty over the reopening, regulatory, fiscal and monetary policy, which is likely to persist for the remainder of the year.
  • While credit spreads have modestly tightened this year, the tightening hasn’t been linear and we’ve experienced some volatility in spreads. Between mid-February and mid-March, credit spreads on the benchmark widened 12 bps on supply, volatility and rising U.S. Treasury yields. The breakeven spread, meaning the level of spread widening that wipes out a full year of spread carry is approximately 11 bps, a level we’ve already exceeded within the first quarter. For the remainder of the year we see the potential for such volatility to persist due to weak credit fundamentals, an uncertain outlook as well as the potential for higher issuance and re-leveraging events.
  • Credit fundamentals are likely to improve and result in deleveraging on balance for corporate credit, but fundamentals will continue to be weak, with leverage remaining near record highs and investment grade duration near a record high. Despite this, credit spreads sit at 91 bps for investment grade, well below their 20-year average of 156 bps. Similarly, high yield spreads of 310 bps versus their long-term average of 538 bps do not seem congruent with a default rate of 5.4%. Default trends have improved from the 6.8% rate we saw at the end of 2020, however they remain well above their long-term average of 3.4%. Layer on the fact that recovery rates after default sit at near-record lows and that upside is constrained by most of the high-yield market trading above its call price.
  • We continue to believe there is significant excess risk taking in the market. It is during these times of euphoria that credit markets become impacted by increases in financial engineering and mergers and acquisitions (M&A). Lagging equities likely feel obliged either under their own volition or under pressure of activists to borrow at low rates to repurchase stock, pay dividends or embark on M&A. Such activity impacts specific credits and has macro implications by creating an increased risk premium for re-leveraging conditions, as well worsening the supply and demand technicals.
  • The technical backdrop continued to be supportive and is likely in our view, to persist for some time. Fund flows have weakened recently but still surpass what many would have predicted given the negative asset class returns year to date. Supply remains manageable and demand from insurance, pensions and foreign investors is being driven by rising hedged yields.
  • Going forward, we expect frequent periods of volatility and spreads not to rally materially in the coming year. Our conservative positioning is designed to allow us to opportunistically take incremental risk to capitalize on the volatility as it presents itself. In environments like these the cost of being defensive is very low.
  • We continue to expect many mispriced credit situations as various industries, geographies and companies will respond differently to the reopening, as well as the evolving monetary and fiscal policy going forward.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

The Bloomberg Barclays U.S. Corporate Bond Index measures the investment grade, fixed-rate, taxable corporate bond market and includes USD-denominated securities publicly issued by U.S. and non-U.S. industrial, utility and financial issuers. It is not possible to invest directly in an index.

All information is based on Class I shares.

Bloomberg Barclays U.S. Corporate High-Yield Index measures the USD-denominated, high-yield, fixed-rate corporate bond market. It is not possible to invest directly in an index.

Risk factors: The value of the Fund's shares will change and you could lose money on your investment. Fixed income securities in which the Fund may invest are subject to credit risk, such that an issuer may not make payments when due or default or that the risk that an issuer could suffer adverse changes in its financial condition that could lower the credit quality of a security that could affect the Fund’s performance. A rise in interest rates may cause a decline in the value of the Fund’s securities, especially securities with longer maturities. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Investing in foreign securities involves a number of economic, financial, legal, and political considerations that are not associated with the U.S. markets and that could affect the Fund’s performance unfavorably, depending upon the prevailing conditions at any given time. Mortgage-backed and asset-backed securities in which the Fund may invest are subject to prepayment risk and extension risk. The Fund typically holds a limited number of fixed income securities (generally 40 to 70). As a result, the appreciation or depreciation of any one security held by the Fund may have a greater impact on the Fund’s NAV than it would if the Fund invested in a larger number of securities. Fund performance is primarily dependent on the management company’s skill in evaluating and managing the Fund’s portfolio. There can be no guarantee that its decisions will produce the desired results. These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.

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Ivy Apollo Strategic Income Fund

Market Sector Update

  • The global credit market ended the first quarter of 2021 tighter than calendar year-end 2020. Rallying credit markets to start and end the quarter were enough to offset weakness in late February and early March. Credit spreads generally tightened throughout the credit complex with high yield and leverage loans outperforming.
  • The International Monetary Fund (IMF) recently published its April 2021 World Economic Outlook (WEO). Its researchers again upgraded global gross domestic product (GDP) growth estimates and expectations. Looking back at last year, it estimates that the global economy contracted by -3.3% in 2020 which is 1.1 percentage points (pp) less contraction than it expected at the time of its last WEO in October 2020. At the same time, it projects global GDP growth of 6.0% in 2021 and 4.4% in 2022, which is higher by 0.5 pp and 0.2 pp, respectively, compared to October 2020 expectations. Unfortunately, low-income developing countries stand out with GDP growth expectations revised downward compared to last October’s WEO. Meanwhile, among major economies, the U.S. stands out with expectations to surpass pre-COVID-19 GDP levels this year, while China returned to pre-COVID-19 GDP in 2020.
  • Fixed-income investment returns were generally negative for the quarter, as tighter credit spreads could not overcome a dramatic steepening of the U.S. Treasury yield curve. The 10-year U.S. Treasury yield ended the quarter at 1.74% after entering at 0.93% as the Federal Reserve (Fed) maintained loose policy in the face of increasing fiscal stimulus. Short-duration U.S. Treasuries (less than two years) did not rise with the market’s expectation of the Fed being on hold for the foreseeable future.
  • Broadly, consumer consumption and activity data improved into the end of the quarter as the late-2020 COVID-19 surge receded and consumers began to spend the latest round of stimulus checks. The U.S. COVID-19 vaccination rate continues to be ahead of most of the world, further bolstering sentiment.

Portfolio Strategy

  • The Fund outperformed its benchmark during the quarter. The outperformance was primarily attributable to two factors. First, the Fund’s shorter duration benefited it as interest rates rose significantly during the quarter. Second, the Fund’s exposure to credit supported returns as spreads continued to tighten through the quarter.
  • The Fund also outperformed its Morningstar peer group. The outperformance stemmed from the Fund’s higher credit exposure, lower duration, and lack of foreign currencies, as the U.S. dollar outperformed most major currencies, both in developed and emerging markets.
  • We continue to seek opportunities to reduce volatility in the Fund. We are maintaining a low-duration strategy, although we are more open than in the recent past to marginally increasing duration to levels that would still remain low compared to peer funds. With credit spreads back to levels tighter than the historical average, we started move towards a more defensive position by moving up in higher quality credits/companies at the expense of high-yield credits.

Outlook

  • We believe short-term interest rates will stay near zero for the foreseeable future. Base effects and fiscal stimulus are likely to result in increased inflation in the near term, but this increase should be both limited and transitory due to growth constraints as we exit the pandemic. The U.S.’s sizable fiscal packages provided much needed income support for sidelined workers and financial support for businesses facing interrupted product demand and cash flows. However, stimulus packages passed thus far are not fiscal stimulus that will generate sustained stronger growth.
  • As expected, Democrats were able to push through another large economic stimulus bill in the first quarter of 2020. The Biden administration recently proposed a large infrastructure bill, although significant hurdles remain for that to become law.
  • Demand for corporate credit remains intact. Across the globe, fixed-income yields are staggeringly low, leaving investors few alternatives. The Fed has indicated it will continue to support markets beyond the point at which the COVID-19 virus is contained, which we believe is likely to support current spread levels.
  • China has contained COVID-19 more effectively than most countries and is now the closest of the major countries to operating at “business-as-usual.” This has been a major support to global resource demand. While China’s credit cycle has likely peaked, which could weigh on global resource demand later in 2021, vaccine rollouts in the U.S. and the U.K., and later in the year in the European Union, are likely to provide a counterweight.
  • The economies of many emerging market countries have been supported by surprisingly aggressive fiscal stimulus. With ballooning fiscal deficits, however, governments will likely have less room to respond in 2021. Furthermore, major emerging market countries including Brazil and India are now the epicenter of the COVID-19 pandemic.
  • West Texas Intermediate (WTI) crude began to rise in mid-November as COVID-19 vaccine trials showed positive results. The rise continued through most of the first quarter, driven by Saudi Arabian supply cuts, lower recent investment, and increasing demand. The WTI crude benchmark increased from $48 per barrel at the start of the year to peak at $66 before retreating slightly to end the quarter at $59 per barrel.
  • Finally, the tilt away from globalization that has been underway for about half of the decade is likely to be reinforced. We believe new factors stemming from COVID-19 and heightened geopolitical tension between the U.S. and China will fuel the move further away from globalization, which will change complex international supply chains, and lead to higher tariffs and potentially increased barriers to immigration.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

The Bloomberg Barclays U.S. Credit Index measures the investment grade, U.S. dollar-denominated, fixed-rate, taxable corporate and government-related bond markets, including a non-corporate component of non U.S. agencies, sovereigns, supranationals and local authorities. It is not possible to invest directly in an index.

The Fund is managed by Ivy Investment Management Company. The total return strategy is sub-advised by Apollo Credit Management, LLC.

All information is based on Class I shares.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. Although asset allocation among different sleeves and asset categories generally tends to limit risk and exposure to any one sleeve, the risk remains that the allocation of assets may skew toward a sleeve that performs poorly relative to the Fund's other sleeves, or to the market as a whole, which would result in the Fund performing poorly. While Ivy Investment Management Company (IICO) monitors the investments of Apollo Credit Management (Apollo) in addition to the overall management of the Fund, including rebalancing the Fund's target allocations, IICO and Apollo make investment decisions for their investment sleeves independently from one another. It is possible that the investment styles used by IICO or Apollo will not always complement each other, which could adversely affect the performance of the Fund. As a result, the Fund's aggregate exposure to a particular industry or group of industries, or to a single issuer, could unintentionally be larger or smaller than intended. Investment risks associated with investing in real estate securities, in addition to other risks, include rental income fluctuation, depreciation, property tax value changes and differences in real estate market values. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Fixed-income securities are subject to interest rate risk and, as such, the net asset value of the Fund may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Loans (including loan assignments, loan participations and other loan instruments) carry other risks, including the risk of insolvency of the lending bank or other intermediary. Loans may be unsecured or not fully collateralized may be subject to restrictions on resale and sometimes trade infrequently on the secondary market. These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.

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Ivy VIP Securian Real Estate Securities

Market Sector Update

  • The big story in the first quarter was a continued shift to strategies that are poised to capitalize on better growth this year. This propelled strong returns for previous laggards like small caps, cyclical stocks and value strategies. Real estate stocks were no different, with an elongation of the rotation that started in December 2020 as a result of the Pfizer vaccine announcement. Simply put, last year’s losers continue to be the winners so far this year. Hotels and retail, last year’s laggards, widely outstripped real estate investment trust (REIT) returns.
  • The economy built on fourth quarter momentum and accelerated early this year. The Federal Reserve (Fed) and President Joe Biden’s administration are doubling down on policy support to make sure the economy takes off. New relief measures and a clearer path to lifting restrictions laid the foundation for the fastest expected growth in decades.
  • Despite the forecast for eye-popping growth, the Fed is steadfast in its commitment to keep a lid on rates until there is clear evidence of full employment and realized inflation. Members of the Federal Open Market Committee (FOMC) predict this process will take at least two years. Policymakers expect easy money to spur investment and better productivity, increasing sustainable growth. This risks an overshoot, but Fed officials are confident in their ability to slow the economy with available monetary tools if needed.
  • While longer interest rates have risen on faster growth, the current movement isn’t alarming. Long-term rates rose while short rates remained anchored near zero, in line with Fed guidance. Long-term expectations remain in check, near the Fed’s 2% target. The recent increase in rates isn’t enough to slow the economy and reflects expectations for a return to normal growth and inflation in years to come.

Portfolio Strategy

  • Despite a quarter characterized by deep-value, smaller-cap stocks being in favor, the Portfolio outperformed the FTSE NAREIT Equity REIT Index. We found quality names trading at significant discounts, which offset the drag from the Portfolio’s otherwise larger cap, growth-biased profile. Favorable decisions were a move to overweight senior housing, retail and hotel owners. The most significant drags on performance came from not owning last year’s laggards, such as New York City office owners and Net Lease companies. Five companies out of the index that fall into this esoteric group caused a 0.5% drag on performance.
  • Office stocks were the biggest detractors to performance in the quarter. Many office stocks returned 15%-25%. Investors flocked to beaten up office names and have come to embrace the notion that office usage isn’t dead. We agree that offices are not obsolete but believe that work-from-home will alter office demand and operating costs in significant ways.
  • With vaccinations beginning, investors could finally estimate a trough in senior housing occupancies and look forward to resumed earnings growth. With occupancies hovering in the high-70% to low-80%, these companies have an attractive runway for future earnings growth.
  • Retail REITs were a top performer with the mall and shopping center subsectors leading. While tenant health took a step back in 2020, valuation in the space was very compelling entering the quarter and increasing optimism led to outperformance in the quarter. The portfolio had a substantial overweight to the retail space entering the period, but valuations became less compelling as the quarter progressed and we are underweight malls and shopping centers. Additionally, hotel REITs were one of the largest beneficiaries of vaccine rollouts and economic reopening. A combination of an overweight to the sector and favorable stock selection aided relative performance in the quarter. We remain overweight the space.
  • Datacenter and tower REITs, which were some of the top performers in 2020, lagged the broader REIT sector. Neither sector contributed significantly to relative performance, but as valuations became more compelling in the period, the Portfolio shifted to an overweight by the end of the quarter. We continue to see strong growth prospects for this space.

Outlook

  • We must consider whether the beneficiaries of the reopening have run too far, too fast. We believe some have and we made several portfolio changes to reflect our conviction that high quality, larger cap growth stocks will again be favored as we move through the balance of the year. Recent fiscal and monetary policies are unprecedented. The levels of fiscal support and easy money already in place are each considerable. Together, these policies – and proposed programs - are taking us into the unknown. The economy is poised for takeoff with plenty of liquidity as an accelerant. We’re likely to exceed pre-pandemic trend growth by the end of this year, and new businesses are forming at a rapid pace. For now, the potential benefits to the economy, and more importantly, to people, seem to outweigh the risks. But it would be imprudent to think that there isn’t a potential downside as well.
  • While it appears a real estate recovery has begun alongside the economic recovery, we doubt all property types will return to pre-pandemic cash flow levels in lockstep. Those with short duration lease profiles such as apartments, single family rentals, and self-storage should fare well in a rising inflation environment. Others, such as retail and hotels may take years before they reach 2019 earnings.
  • The pandemic accelerated trends that were already in place and put a spotlight on those with strong and bleak futures. Work-from-home is here to stay, and demand for office space and business travel will likely face a long recovery; as will bricks and mortar retail. Meanwhile, we believe strongly in “new economy” sectors such as data centers and cell towers. Although we selectively exploited several obvious public market pricing anomalies, we have largely avoided companies that we believe are more exposed to these post-pandemic trends. We have continued to focus the portfolio’s positioning to take advantage of those we believe will recover and thrive in a post-COVID-19 world.
  • REIT stocks remain attractively valued, particularly against the backdrop of Fed actions, improving economic growth, and forever low interest rates. The environment could be attractive in which the 10-year U.S. Treasury rate remains range-bound, coupled with steadily improving economic growth. New vaccine-resistant strains, and higher 10-year U.S. Treasury rates represent two primary risks that could cause the group to deliver uninspiring returns in 2021.

The opinions expressed are those of the Portfolio's managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

The FTSE NAREIT Equity REITs Index is designed to present investors with a comprehensive family of REIT performance indexes that spans the commercial real estate space across the U.S. economy. The FTSE NAREIT Equity REITs index contains all Equity REITs not designated as Timber REITs or Infrastructure REITs. It is not possible to invest directly in an index.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Investment risks associated with investing in real estate securities, in addition to other risks, include rental income fluctuation, depreciation, property tax value changes and differences in real estate market values. Because the Fund invests more than 25% of its total assets in the real estate industry, the Fund may be more susceptible to a single economic, regulatory, or technical occurrence than a fund that does not concentrate its investments in this industry. These and other risks are more fully described in the fund's prospectus. Not all funds or fund classes may be offered at all broker/ dealers.

Annuities are long-term financial products designed for retirement purposes. Annuity and life insurance guarantees are based on the financial strength and claims-paying ability of the issuing insurance company. The guarantees have no bearing on the performance of a variable investment option. Variable investment options are subject to market risk, including loss of principal. There are charges and expenses associated with annuities and variable life insurance products, including mortality and expense risk charges, management fees, administrative fees, expenses for optional riders and deferred sales charges for early withdrawals. Withdrawals before age 59 1/2 may be subject to a 10% IRS tax penalty and surrender charges may apply.

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Ivy Natural Resources Fund

Market Sector Update

  • Global equity markets posted positive returns on the broad indexes. The energy and materials sectors also posted a positive return in the quarter, with both outperforming the broader equity market. Energy outperformed the materials sector by a wide margin.
  • Crude oil prices were up strongly in the quarter, approximately 22%. Energy was the best performing sector in the market and the largest beneficiary of the announcement of COVID-19 vaccines for the second straight quarter.
  • Other commodity prices also moved higher in the quarter as economic activity continued to recover. Iron ore prices were up by about 10% and copper prices were up by about 13%. The price of gold was down almost 10% in the quarter as real interest rates continued to trend higher.

Portfolio Strategy

  • While the Fund posted a positive return in the quarter, it underperformed the return of its benchmark, the S&P North American Natural Resources Sector Index. Underperformance was driven by an underweight position in the energy sector and overweight positions in various sectors within the materials space.
  • The five greatest equity contributors to the Fund’s performance relative to its benchmark index were underweight positions in Barrick Gold Corp., Newmont Corp. and Amcor PLC and overweight positions in Diamondback Energy, Inc. and Steel Dynamics Inc.
  • The five greatest detractors to relative performance were overweight positions in Petrobras, Reliance Industries Ltd., FMC Corp., Enphase Energy, Inc. and an underweight position in Exxon Mobil Corp.
  • The Fund’s exposure to the energy sector increased from the prior quarter, ending at about 39% of equity assets. The remaining sector exposure was composed of materials, solar, industrials, utilities and chemicals. The Fund’s gold mining position continued decreasing in the quarter to around 7% from 10% in the previous quarter.
  • In general, we seek to own companies in the Fund with low-cost positions, strong balance sheets and the ability to grow profitably with high returns on capital. We also seek to own companies exposed to favorable trends in their respective commodities and subsectors.

Outlook

  • The path forward continues to signal further recovery in the U.S. economy and further increase in demand for oil and other commodities. Thus far, supply restraint from energy companies/OPEC has continued into 2021 and will likely continue into the summer months. Demand recovery numbers should be significantly positive on a year-over-year basis, until comparisons get tougher later in 2021.
  • On the supply side, U.S. producers continue to signal restraint despite rising prices. This should result in rising cash flow profiles for those companies as the year progresses. Pressure from shareholders to show increased focus on returns instead of growth is expected to be an ongoing theme. In addition, social pressure to shift energy sources away from carbon-based fuels is likely to increase the cost of capital for energy companies, causing a limitation in capital investment.
  • From a macro level, we think the outlook for the natural resources space remains positive. Reflation remains the prevailing economic backdrop, which should positively impact demand for commodities. With the mass rollout of vaccines for COVID-19, consumers around the world are likely to resume normal activities, resulting in a positive tailwind for travel and oil demand. The Fund is focusing on equities across the natural resources landscape that we believe can deliver above-market returns on capital, with disciplined capital allocation and strong balance sheets.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

Top 10 equity holdings as a percent of net assets (%) as of 03/31/2021: Phillips 66 4.0, EOG Resources, Inc. 3.5, Rio Tinto plc 3.2, BHP Group Plc 3.0, Canadian Pacific Railway Ltd. 2.8, Valero Energy Corp. 2.8, ConocoPhillips 2.7, Pioneer Natural Resources Co. 2.6, Union Pacific Corp. 2.6 and Diamondback Energy, Inc. 2.6.

The S&P North American Natural Resources Sector Index represents U.S.-traded securities in the energy and materials sectors, excluding the chemicals industry, and steel sub-industry. It is not possible to invest directly in an index.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

All information is based on Class I shares.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Investing in companies involved in one specified sector may be more risky and volatile than an investment with greater diversification. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Investing in natural resources can be riskier than other types of investment activities because of a range of factors, including price fluctuation caused by real and perceived inflationary trends and political developments; and the cost assumed by natural resource companies in complying with environmental and safety regulations. Investing in physical commodities, such as gold, exposes the Fund to other risk considerations such as potentially severe price fluctuations over short periods of time. The Fund may use a range of derivative instruments in seeking to hedge market risk on equity securities, increase exposure to specific sectors or companies, and manage exposure to various foreign currencies and precious metals. Such hedging involves additional risks, as the fluctuations in the values of the derivatives may not correlate perfectly with the overall securities markets or with the underlying asset from which the derivative’s value is derived. These and other risks are more fully described in the prospectus. Not all funds or fund classes may be offered at all broker/ dealers.

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David P. Ginther, CPA
Michael T. Wolverton, CFA

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