Ivy Pictet Targeted Return Bond Fund

Market Sector Update

  • The first quarter of 2021 marked the one-year anniversary of the COVID-19 pandemic, with success on the vaccine rollout in some countries contradicted by a third COVID-wave and rising death tolls in other countries. After a tumultuous start, the U.S. government transitioned to a new administration which has prioritized vaccinations and expansive fiscal stimulus programs to spur economic growth. In Europe, caution on vaccine approval and procurement and another wave of variant outbreaks led to verbal vaccine wars with the U.K., internal strife among member states on allocations, and renewed lockdowns. Global supply chains were interrupted when a massive container ship became wedged in the Suez Canal, totally blocking one of the world’s busiest trading waterways for almost a week. Inflation expectations rose, leading to a poor first quarter for bond markets, similar in scope to the taper tantrum of 2013 but without the accompanying volatility.
  • The U.S. Treasury market had one of the worst quarterly performances in decades as the yield curve sharply bear steepened (long-dated maturities rising more than short-dated maturities). The benchmark 10-year yield ended the quarter at 1.74%, close to pre-pandemic levels, having started 2021 at below 1%. The accelerating pace of the vaccine rollout in the U.S. implied a quicker economic recovery and potential inflation, prompting selling from so-called bond vigilantes.
  • The European Central Bank (ECB) reaffirmed its accommodative stance by keeping monetary policy unchanged, but yields in the eurozone sold off in line with U.S. rates, but without the justification of pending economic recovery. The ECB accelerated the weekly pace of its bond buying program. Short-dated yields were anchored but longer-dated German bund and peripheral yields nevertheless rose, with longer-dated bund yields pulling out of negative territory.
  • Developed market (DM) sovereigns, particularly peripheral Europe, sold off in line with general inflation concerns, despite the lack of any signs of sustained economic recovery. In DM corporates, focus also shifted to growth and inflation concerns.
  • Currency movements over the quarter were ultimately driven by the outlook for the U.S. economy. After the Democrats gained control of the U.S. Senate at the beginning of the year, the expectation of more fiscal stimulus and better COVID-19 management led to markets pricing in higher yields and tighter U.S. Federal Reserve (Fed) policy.

Portfolio Strategy

  • The Fund underperformed its cash benchmark over the quarter. Our rates positions were the strongest detractors to performance, primarily due to our long U.S. duration, held in long-dated maturities. Our long German bund duration also detracted, with negative contribution as well from our long duration in Australia, Norway and Canada. Our spread positions were positive.
  • Currency positions were positive contributors to performance with positive contribution from our euro versus U.S. dollar shorts and our emerging market currency shorts in Asia, Latin America and in the Middle East. Our short pound and long yen detracted over the quarter.
  • Over the quarter, we reduced duration in an attempt to stabilize the portfolio, primarily in the U.S., keeping our bias in long-dated U.S. Treasuries and increasing our curve flattener position. We increased duration in the eurozone slightly.

Outlook

  • As the Fed’s positive growth and inflation scenario is pretty much priced in by the market, the global rates market has found some stability. We believe this environment should continue to prevail in the absence of meaningful developments in the virus situation or the geopolitical environment which remains tense in many areas of the world. Not surprisingly, investors have turned to spread again to generate returns and stable rates should support this trend at least for the moment. Most debate in markets centers around inflation overshoot concerns and how soon will the Fed be ready to start tightening policy. We feel this debate might be a bit premature.
  • Given that optimism dominates global markets, we feel that some mild caution over the next few months is warranted as some of that optimism gets re-assessed. Flattening curve positions should do well if growth is too strong that the market brings forward rate-hike expectations or if inflation expectations fail to materialize. Given the U.S. centric nature of this recovery, we believe having an allocation to U.S. dollars versus emerging market currencies makes sense. Emerging markets finds itself in a tricky position as higher rates in the U.S. and a higher U.S. dollar makes financing costs more expensive even in local currency. If the spill-over effects of this U.S. recovery fail to be strong enough to pull emerging market growth, a weaker currency is the only way to alleviate this already difficult situation.

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.

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. 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, 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. The Fund may seek to manage exposure to various foreign currencies, which may involve additional risks. The value of securities, as measured in U.S. dollars, may be unfavorably affected by changes in foreign currency exchange rates or exchange control regulations. Investing in foreign securities involves a number of risks that may not be associated with the U.S. markets and that could affect the Fund's performance unfavorably, such as greater price volatility; comparatively weak supervision and regulation of securities exchanges, fluctuation in foreign currency exchange rates and related conversion costs, adverse foreign tax consequences, or different and/or less stringent financial reporting standards. Mortgage-backed and asset-backed securities in which the Fund may invest are subject to prepayment risk and extension risk. The Fund employs investment management techniques that differ from those often used by traditional bond funds, including a targeted return strategy, and may not always perform in line with the performance of the bond markets. The Fund is also non-diversified and may hold fewer securities than other funds and a decline in the value of these holdings would cause the Fund's overall value to decline to a greater degree than a more diversified fund. The Fund expects to use derivatives in pursuing its investment objective. The use of derivatives presents several risks including the risk that fluctuation 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. Moreover, some derivatives are more sensitive to interest rate changes and market fluctuations than others, and the risk of loss may be greater than if the derivative technique(s) had not been used. These and other risks are more fully described in the Fund's prospectus.

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Ivy ProShares Russell 2000 Dividend Growers Index Fund

Market Sector Update

  • The small-cap stocks of the Russell 2000 Index delivered another strong quarter of performance by returning 12.7%. Small-cap stocks significantly outperformed larger cap for the quarter, continuing the trend that developed in the latter part of 2020.
  • The market was supported by optimism over the accelerated vaccine distribution and economic data trending in a positive direction. Additional stimulus delivery further bolstered markets, but concerns over the potential for higher inflation pushed the 10-year Treasury yield higher by 80 basis points and contributed to volatility during the period.
  • A notable change in style leadership emerged during the quarter as previously lagging value stocks significantly outperformed richly valued technology shares. All 11 sectors in the Russell 2000 Index posted strong gains for the quarter. Best performing were the cyclical energy (41.9%) and consumer discretionary (26.6%) sectors. The weakest performers on a sector basis were health care and utilities which delivered returns of under 4% for the quarter.

Portfolio Strategy

  • The Fund delivered a positive return and outperformed its benchmark for the quarter. Relative outperformance was driven mostly by favorable stock screening impacts, with favorable allocation effects also contributing.
  • The largest relative contributor at the sector level was the health care sector. The Fund is underweight health care stocks (by approximately 16%), which helped relative performance as it was the broader market’s weakest performer. Additionally, the Fund’s names outperformed the broader market health care names.
  • Strong stock performance from the Fund’s financials stocks was another leading contributor to outperformance. Partially offsetting these contributions was an underweight to the consumer discretionary names which outperformed the market, and an overweight to utilities shares, which underperformed.

Outlook

  • The Fund remains focused exclusively on companies within the Russell 2000® Index that have grown their dividends for at least 10 consecutive years. While not necessarily providing the highest dividend yield, a strategy based on highquality companies with a consistent track record of dividend growth provides the potential for attractive long-term outperformance.

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 Russell 2000® Dividend Growth Index measures the performance of members of the Russell 2000® Index that have increased dividend payments each year for at least 10 years. The index contains a minimum of 40 stocks, which are equally weighted. No single sector is allowed to comprise more than 30% of the index's weight. If there are fewer than 40 stocks with at least 10 consecutive years of dividend growth, the index will include companies with shorter dividend growth histories. The index is rebalanced each March, June, September and December, with an annual reconstitution during the June rebalance. It is not possible to invest directly in an index.

The Russell 2000® Index is an index measuring the performance approximately 2,000 small-cap companies in the Russell 3000® Index, which is made up of 3,000 of the biggest U.S. companies. It is not possible to invest directly in an index.

The Fund is a passively managed index fund designed to track the performance of its stated benchmark index. It does not invest in securities based on the managers' view of the investment merit of a particular security or company, nor does it conduct conventional investment research or analysis or forecast market movement or trends, in managing the assets of the Fund. The Fund seeks to remain fully invested at all times in securities that, in combination, provide exposure to its respective benchmark Index without regard to market conditions, trends or direction.

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. While the Fund attempts to track the performance of its stated index, there is no guarantee or assurance that the methodology used to create the index will result in the Fund achieving high, or even positive, returns. The Index may underperform, and the Fund could lose value, while other indices or measures of market performance increase in value. Small- and mid-capitalization companies in which the index and, by extension the Fund, are exposed may carry more risk than investing in stocks of larger, more established companies. The Fund's emphasis on dividend-paying stocks involves the risk that such stocks may fall out of favor with investors and underperform non-dividend paying stocks and the market as a whole over any period of time. In addition, there is no guarantee that the companies in which the Fund invests will declare dividends in the future or that dividends, if declared, will remain at current levels or Increase over time. The amount of any dividend the company may pay may fluctuate significantly. In addition, the value of dividend-paying common stocks can decline when Interest rates rise as fixed-income investments become more attractive to investors. This risk may be greater due to the current period of historically low Interest rates. As of November 30, 2018, the index was concentrated in the utilities industry group; therefore, the Fund is subject to the same risks faced by companies in the utilities industry to the same extent as the index is so concentrated. Such risks include review and limitation of rates by governmental regulatory commissions, and the fact that the value of regulated utility instruments tends to have an inverse relationship to the movement of interest rates. The Fund typically will hold a limited number of stocks (generally around 60). As a result, the appreciation or depreciation of any one security held by the Fund may have a greater impact on the Fund's net asset value than it would if the Fund invested in a larger number of securities. A number of factors may affect the Fund's ability to achieve a high degree of correlation with the Index, and there is no guarantee that the Fund will achieve a high degree of correlation. Failure to achieve a high degree of correlation may prevent the Fund from achieving its investment objective. 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. 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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Investment Update - EME

Investment Update – Ivy Emerging Markets Equity Fund

Commentary as of March 26, 2021

Emerging markets have evolved considerably from the 1990’s. From your experience in the asset class, how has this changed the investment universe?

Jonas: Emerging markets (EM) have come a long way from their boom-and-bust commodity cycle of the 1990’s. Today’s EM are leapfrogging several developed markets in terms of innovative technology and growth opportunities. Companies able to capitalize on this growth are not only profitable with strong balance sheets (as reflected in their low debt to capital ratios) but also have loyal demand from the domestic customers that are moving into the middle class at a fast rate. And, to top it off, we believe these companies are available for investment at much cheaper valuations than their U.S. counterparts. Overall, we believe quality companies are borderless.

Adi: The evolution of EM has led to a plethora of innovative growth companies. This new universe is primarily what we focus on for our Fund. The old EM – the dominant cyclical MIE (materials, industrials, and energy) and financial sectors – have been replaced by a multitude of technology platforms. For example, today’s EM financial sector presents opportunities in leading-edge fin-tech companies, while strong consumer demand has led to many native retail EM brands. We believe today’s EM is a secular growth opportunity that deserves a strategic allocation for the long term.

More than 50% of the highest profitable companies are outside U.S.

Chart Showing Relative Earnings Multiple Reflects High Investor Expectations

Source: Evercore ISI, Ivy Investments. MSCI EAFE index used for non-domestic developed market stocks, S&P500 for domestic market stocks and MSCI Emerging Markets (EM) index for emerging markets stocks. MSCI EM is adjusted for liquidity where the top 50% of the liquid names in each sector have been used in the analysis. Past performance is not a guarantee of future results. The portfolio illustrated in these charts is constructed on a “sector neutral” basis.

The majority of companies with strong balance sheets as reflected by their low debt-to-capital ratio are outside the U.S.

Chart Showing Relative Earnings Multiple Reflects High Investor Expectations

Source: Evercore ISI, Ivy Investments. MSCI EAFE index used for non-domestic developed market stocks, S&P500 for domestic market stocks and MSCI Emerging Markets (EM) index for emerging markets stocks. MSCI EM is adjusted for liquidity where the top 50% of the liquid names in each sector have been used in the analysis. Past performance is not a guarantee of future results. The portfolio illustrated in these charts is constructed on a “sector neutral” basis.

EM is a vast universe of countries and companies. How do you make investment decisions?

Jonas: In EM, we believe we have a broad opportunity set of high-quality companies that span across a universe of countries. But we are generating returns for U.S. dollar-based investors. While we spend a vast majority of our time doing bottom-up research, high conviction in geopolitical and currency stability in the countries we invest in is very important to us. Thus, top-down country research informs an important part of our investment process. It’s where we spend 20-30% of our time.

Adi: We spoke about this earlier, but quality is borderless now a days. Given the unique nature and idiosyncrasies of EM, for us, there is no single definition of quality. For example, if we invest in a native EM brand then the question is: How loyal is the customer base for that brand? What is management doing to enhance the value of the brand? In the technology sector, we are looking for sustainable growth models. Fundamentally, we are interested in companies that deliver value and growth over market cycles.

We are also not “growth at any valuation” investors. We strive to own good business models at reasonable valuations to deliver consistent returns for our investors.

You mentioned high-quality companies being available at cheaper valuations for investing in EM. Could you give us an example of a company with growth prospects like its U.S. counterpart but is trading cheaper?

Jonas: Let us talk about the electric vehicle (EV) industry. Tesla in the U.S. is a very valuable EV sector company. In the Ivy Emerging Markets Equity Fund, we have invested in a few South Korean EV companies that we believe have a long runway for growth from growing demand in China and the push towards EV in Europe. One of these companies is already the third largest EV seller in Europe. Alongside strong demand that provides sustainable growth opportunities into the future, in our view, these companies are available for investing at attractive valuations as compared to their counterparts.

Adi: Another company is Patria Investments Ltd. (0.9% of Fund net assets). In Brazil, approximately 90% of investments are in fixed income. However, historically higher interest rates are no longer reality, and investors are moving away from fixed income towards equity and alternative investments. As the Blackstone (U.S. private equity) of Brazil, Patria fits this puzzle perfectly. Long into the future, we believe Patria will have a consistent flow of monetary resources to continue to buy new companies and create value by scaling its businesses.

We have seen a rotation away from growth investing. In general, what changes have you made and how are you positioning the Fund for the future?

Adi: We have been rotating away from growth for a while in the Fund. We were not predicting an out-of-favor environment for growth, rather we were just sticking to our investment process. As we discussed before, we have a disciplined and valuation sensitive process.

Last year, many technology businesses that benefitted from the work-from-home mandate eventually had expensive valuations. Because of the extended valuations, we trimmed and, in some cases, completely exited our positions even though their business models were still intact. Instead, we built positions in cyclical companies where we recognized a perceived big discrepancy in the growth prospects and the valuations at which they were trading

Jonas: We also invested in companies that were beaten down as the brick-and-mortar economy took a hit during the pandemic. These companies are expected to do well as the economy re-opens with the roll out of COVID-19 vaccines. These companies have strong balance sheets and management teams, with great track records during the pre-pandemic era.


FOR INVESTMENT PROFESSIONAL USE ONLY. NOT FOR USE WITH THE GENERAL PUBLIC.

Past performance is no guarantee of future results.The opinions expressed in this commentary are those of Ivy Investment Management Company 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 26, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. It should not be assumed that investments made by any Ivy Investment product will match the suggested performance or character of the investments discussed in this commentary. Investors may experience materially different results. 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. Any securities discussed herein are presented in a fair and balanced manner and were chosen based on objective, non-performance-based criteria, and securities discussed may or may not be held now, or in the future, by any Ivy Investment product. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

This commentary may contain certain “forward-looking statements,” which may be identified by the use of such words as “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated,” “potential,” “outlook,” “forecast,” “plan” and other similar terms. All such forward-looking statements are conditional and are subject to various factors, including, without limitation, general and local economic conditions, changing levels of competition within certain industries and markets, changes in interest rates and availability of leverage, changes in legislation or regulation, and other economic, competitive, governmental, regulatory and technological factors, any or all of which could cause actual results to differ materially from projected results.

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. 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. These and other risks are more fully described in the Fund's prospectus.

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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Jonas M. Krumplys, CFA
Aditya Kapoor

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Emerging markets have come a long way from their boom-and-bust commodity cycle of the 1990’s. Today’s emerging markets are leapfrogging several developed markets in terms of innovative technology and growth opportunities.

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Investment Update

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Investment Update – Ivy Mid Cap Growth Fund

Commentary as of March 18, 2021

Over the long term, the mid-cap space has produced higher annualized returns versus its large-cap and small-cap counterparts. What do you like most about investing in the mid-cap universe?

Kim Scott: We like to call the mid-cap universe the “sweet spot” for investing in the U.S. economy. We find a lot of opportunity in the space to invest in innovative companies that provide not only consistent and stable capital appreciation but also have long potential runways of growth. We believe it’s a very productive space with numerous opportunities to invest for the portfolio.

Nathan Brown: We really appreciate the dispersion of returns and diversification within the mid-cap universe. For example, as of the end of February 2021, the top 10 names in the large-cap universe constituted nearly 25% of the Russell 1000 Index, while the top 10 names formed less than 5% of the Russell Midcap Index. We tend to invest in companies where we have real conviction, not because they constitute a big portion of the Fund’s benchmark. We think there is a broader opportunity set within the mid-cap space to invest in companies that have the potential for growth and innovation.

Chart Showing Historically mid-cap stocks have higher annualized returns than large and small cap stocks.

Source: Evercore and Ivy Investments. Data: 01/02/1996 to 02/26/2021. Past performance is not a guarantee of future results. This chart illustrates $10,000 invested equally between large-, mid- and small-capitalization companies in the Russell 3000 Index.

The Ivy Mid Cap Growth team considers itself quality investors, investing across the growth spectrum. This spectrum consists of three buckets of growth: Greenfield Growth, Stable Growth and Unrecognized Growth. Tell us about your investment philosophy and approach as well as how and why you invest in companies across the growth spectrum.

Kim: We like to manage the Fund as a “progressive growth Fund that is managed prudently.” We equate quality growth to profitable growth, which introduces the idea of risk management into the beginning of the investment process while we are looking for the best opportunities to deliver return. Both the quality bias as well as the valuation sensitivity that are integral to our investment process are key to delivering higher risk adjusted returns for our investors.

The Fund’s portfolio construction can be considered this way. The Stable Growth bucket is the ballast in the portfolio. It has historically been 40-60% of the Fund’s allocation. We then layer in the more innovative, faster growing Greenfield Growth companies, which we consider to be leading-edge opportunities, not necessarily bleeding-edge opportunities. Finally, we keep an eye out for Unrecognized Growth companies. These are the businesses where investors are disenchanted by some decision the company’s management took or where there is generally a lack of focus on the opportunity the company presents to re-assert growth in the future. We think Unrecognized Growth companies are great compounders when identified early, and we have had great success in the past with investing in these types of companies.

Could you give us insight into your investment process regarding Unrecognized Growth and provide a couple of examples of companies that fit within this bucket?

Kim: For companies in the Unrecognized Growth bucket, we assess the productivity of these business models in terms of earnings and cash flow. There are some factors that are common across these stocks. One change agent we often encounter is “change in management” – a new management comes in and inspires innovation internally and takes advantage of it externally.

Nathan: In February 2014, we purchased video game publisher Electronic Arts (EA) as a distrusted, Unrecognized Growth company. At the time, the company was quite challenged by its business model where it only sold its video games through retailers such as Target, Walmart, and Best Buy.

We did our due diligence and started investing in the company after it brought in a new, more experienced chief financial officer. Following this hire, EA began leveraging newer technologies to grow its business. The company’s new business model allowed gamers to download video games directly through Xbox and PlayStation digital stores. This helped EA improve profitability and connect with consumers directly. This “direct to consumer” model allowed the company to establish another source of revenue. The company then founded the EA Sports FIFA community, which accounts for more than a quarter of its annual revenues. With the new business model, EA’s cash flows have compounded, and it has moved out of the Unrecognized Growth bucket and into the Stable Growth bucket of the portfolio.

Kim: In the early years of the Fund, we purchased Apple Inc. stock, positioning it within the Unrecognized Growth bucket of the portfolio. We invested in Apple when it was a mid-cap company with a single-digit stock price. While we didn’t fully understand the future for iPhones and iPads at the time, we appreciated the changing computing paradigm from utility to media-driven capabilities. While Apple was distrusted in general by the market, we purchased the stock because we believed it was well suited to leverage changing and developing computing needs.

More recently, the Unrecognized Growth companies we hold have performed well and have helped to balance the Fund’s portfolio as markets have been rotating away from growth investing. Overall, we think growth investing at compelling valuations in different types of companies across the growth spectrum is the backbone of our process and is key to delivering consistently high risk-adjusted returns.

Since 2001, we have remained true to the Fund’s investment process. However, between 2013 and 2015, the Fund faced headwinds as the low interest rate environment challenged our pro-quality investment approach and rewarded companies that piled on debt. We are once again in a low interest rate environment, but this time, the Fund has performed well versus its benchmark, the Russell Midcap Growth Index. Why do you think the result is different today?

Kim: Historically, the Fund’s preference for lower leveraged companies has consistently resulted in a significantly lower debt/cap ratio than its benchmark. Between 2013 and 2015, a low interest rate environment caused many companies to increase their debt levels considerably and the market rewarded them relative to our holdings in the Ivy Mid Cap Growth Fund. During this period, the Fund underperformed on a relative basis. This was primarily because we stuck to our quality biased investment process and philosophy of investing in companies with sound capital structures with lower debt. Over time, quality has performed better as shown in the charts below, Russell Midcap Growth Index High vs. Low Gross Margin and Russell Midcap Growth Index Low vs. High Debt/Market Cap Ratio.

Fast forward to today. Interest rates are low again, but we are not facing the same headwinds as we did between 2013 and 2015. In the current stage of the economic cycle, we believe the environment and motivation for companies to add leverage might not be the same as it was in the past. Therefore, we believe our strategy of focusing on better quality companies should continue to perform well into the future.

Nathan: Let’s talk about the past 12 months. During the pandemic, there were several companies that saw their revenues and cash flows evaporate. In this kind of uncertain environment, it is unlikely for investors to reward those companies whose limited cash flow is going toward servicing high levels of debt. And while short-term returns can be very attractive, we focus on longer term investment horizons and thus spend a significant amount of time evaluating the business model and balance sheet risk of the companies in which we invest. Because we seek to remain true to our investment process and philosophy, we are unlikely to invest in higher debt companies as we believe, in the long run, higher quality companies should outperform their counterparts.

Kim: In the end, we believe it is about a company’s soundness of capital use given where equity investors stand in the capital structure.

Ivy Mid Cap Growth Fund’s quality bias: Quality companies with higher gross margins and lower debt-to-cap ratios have outperformed their counterparts over time as shown below.

Chart Showing Russell Mid Cap Growth Index High vs Low Gross MarginChart Showing Russell Mid Cap Growth Index Low vs. High Debt/Cap Ratio

Source: Evercore and Ivy Investments. Data: 01/01/1995 to 02/01/2021. Past performance is not a guarantee of future results. The portfolio illustrated in these charts is constructed on a “sector neutral” basis.

With fixed-income yields rising, we have seen a rotation out of growth and momentum and into value and cyclical companies. Given this situation, what changes have or are you making to the portfolio and how are you positioning the Fund for the future? In addition, what is your view on information technology sector exposure in the portfolio?

Kim: We strive to invest in companies that have strong cash flows across all environments and market cycles. However, in times like these (year-to-date through Feb. 26, 2021, the Russell Midcap Value Index has returned 7.3%, while Russell Midcap Growth Index has returned 1.3%), some investors have been rotating away from growth companies and toward cheaper, laggard companies that stand to catch up on revenues and earnings as the economy re-opens.

The Fund’s portfolio diversifies holdings across the growth spectrum by investing in companies within the three buckets of growth, as previously discussed. The Unrecognized Growth companies in the portfolio act as balancers – you can think of them as not necessarily value but value within our growth universe. So, the companies in the Fund’s Unrecognized Growth bucket can work to balance the portfolio and provide support when growth investing is in an out-of-favor market cycle.

Nathan: We are not “growth at any valuation” investors. We care about valuation in the context of the relative growth opportunity forthcoming for a company. And if a company gets too expensive to be owned across any of the buckets, we will exit that company even when we believe that it has low business risk.

Kim: The world now rides on the rails of technology. In the current expansionary cycle, expensive technology names have been market underperformers. This situation is allowing us to dig into technology names within the mid-cap universe to find entry points into potential long-term investment opportunities. We can now step into positions at better prices due to the prevailing winds of sentiment in the market, not necessarily because of erosion in the fundamentals of the companies that have our interest.

Chart Showing Info Tech Sector Exposure since January 2019

Source: Ivy Investments. Data: 01/19/2019 to 02/19/2021.

Fund’s standardized performance.

Fund’s most current top 10 holdings.


Past performance is no guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information 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: The value of the Fund’s shares will change, and you could lose money on your investment. Investing in mid-cap growth stocks may carry more risk than investing in stocks of larger more well-established companies. 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. Not all funds or fund classes may be offered at all broker/dealers. These and other risks are more fully described in the Fund’s prospectus.

The Russell Midcap Index measures the performance of the mid-cap segment of the U.S. equity universe. The Russell Midcap Growth Index measures the performance of the mid-cap growth segment of the U.S. equity universe. The Russell Midcap Value Index measures the performance of the mid-cap value segment of the U.S. equity universe. The Russell 2000 Index measures the performance of approximately 2,000 small-cap companies in the Russell 3000 Index, which is made up of 3,000 of the biggest U.S. stocks. It is not possible to invest directly in an index. The Russell Top 200 Index is an index of the largest 200 companies in the Russell 3000 Index. It is commonly used as a benchmark index for U.S.-based ultra large-cap (mega-cap) stocks with the average member commanding a market capitalization of upwards of $200 billion. The Russell 3000 Index is a market-capitalization-weighted equity index that provides exposure to the entire U.S. stock market. It tracks the performance of the 3,000 largest U.S.-traded stocks, which represent about 98% of all U.S. incorporated equity securities.

All information is based on Class I shares. Class I shares are only available to certain investors.

Diversification cannot ensure a profit or protect against loss in a declining market.

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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Kimberly A. Scott, CFA
Nathan A. Brown, CFA

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From 2013 to 2015, we faced headwinds as a low interest rate environment challenged our pro-quality investment approach and rewarded companies that piled on debt. Once again, we are experiencing a low interest rate environment; however, this time the Fund has performed well. What’s different this time?

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Investment Update

picture of forest

Investment Update – Ivy Large Cap Growth Fund

Commentary as of February 24, 2021

In 2020, investors had to choose between quality and growth. When we were forced to pick, the Ivy Large Cap Growth Fund team chose quality every time. Over the past 12 months, many quality companies have been cast aside by investors in favor of hyper-growth alternatives. This has created opportunity to invest in durable growers at what we believe are attractive prices. We think high-quality business models, those with real competitive advantages, are best equipped to experience sustainable growth and deliver results for investors over the long term.

How does the Ivy Large Cap Growth team define quality?

Brad: We believe growth is fleeting. Many companies in this growth universe have attractive margins, strong growth profiles and big addressable markets. Those characteristics can invite significant amounts of competition and disruption. Over time, and this is borne out in the data, expectations investors put on growth companies are typically not realized. We refer to this as flameout risk. Investing blindly in growth, or growth at any price, can introduce significant amounts of risk.

As active long-term fundamental investors, we believe this creates an opportunity for us to do something different. In our view, quality is much more persistent than growth. So, we look for something in a business model that creates a moat or barrier to entry, some unique attribute that allows the company to retain those attractive rates of growth. Starting with quality allows us to retain persistent growth and remain focused on longer-term investment horizons.

Here are examples of companies that may help illustrate this line of thinking. Microsoft is a company with an embedded position in operating systems and server software that has allowed it to open additional addressable market opportunities. Coca Cola is a global marketing powerhouse with an incredible brand. In addition to these competitive advantages, the company has a global bottling and distribution network that helps keep competitors at bay. Nike has a world-class brand that resonates on issues like diversity and inclusiveness for all athletes. This brand strength enables Nike to reinvest in research and development to capitalize on the move to a digital economy. These are just a few notable examples that help illustrate the types of competitive advantages we find extremely attractive right now.

Quantitative screens can be helpful tools to help us filter the huge pool of potential investments for those financial characteristics that align with quality. Margins, returns on assets and returns on capital can all be clues regarding business model durability. Trends matter, too. Are these characteristics improving or deteriorating? It’s important to understand how the business has evolved over time, and the dynamics that influenced what we ultimately see in the data.

At the same time, we believe relying too heavily on quantitative screens can be too exclusionary, potentially overlooking good opportunities where the real story isn’t visible in the numbers. Cerner is a good example. This is a company moving electronic records onto a software as a service (SaaS) model, which should be accompanied by wildly different margins. Quantitative screens won’t identify that information, so it’s important for us to complement quantitative methods with our fundamental work.

How did an emphasis on quality companies influence returns in 2020?

Brad: Quality typically trails coming off market bottoms and major selloffs. Investors look for rapid or cyclical growth and those attributes usually are not attached to quality. The types of companies that outperformed most in 2020, particularly after the March lows, were companies with the highest growth, highest risk, highest volatility and lowest profitability. In our minds, this situation won’t persist over the long term. Last year, investors were forced to choose between quality and growth. In normal environments, growth and quality are often tied together, which makes sense to us. Quality businesses should be good growers over time if they’re investing their capital appropriately. At some point, we expect markets will normalize and the Fund is positioned well for when that time comes.

We also mentioned the idea of flameout risk. From starting points where multiples like price-to-earnings (P/E) ratios are high in a historical context, flameout risk grows. Not to sound like an alarmist, but it seems relevant given the current environment.

Trends from 2020 have largely remained during the first two months of this year, with one major wrinkle. Investors are pushing deeper into cyclical companies with greater belief in reflation, rising interest rates, and massive amounts of stimulus. So, we still see two tails – a hyper-growth tail and a more cyclical tail benefitting from faster gross domestic product (GDP) growth – leading in the first part of 2021. The higher quality businesses in which we invest usually fall somewhere between these two tails. We like to own secular growers that don’t depend on sentiment that can change on a day-to-day basis.

Concerns seem to be growing over valuation and potential pockets of froth. Do you think investor expectations too high?

Brad: We look at fundamentals on a company-by-company basis, and we believe this helps us think about these questions. But we are not strategists. Our research is focused on company fundamentals. We think it’s important to keep in mind that over the past two years, a significant portion of market returns have come in the form of multiple expansion, not earnings growth. This means expectations are higher and companies need to deliver higher revenues and earnings in order to justify these prices. Sustainable revenue growth of 25% or 30% is very rare. Companies that can produce this type of growth are considered diamonds in the rough. But in many cases, investors are now expecting 30% growth from some of these businesses. To us, that isn’t a realistic starting point, and judging the quality of a business based on an 11-month period in a very unique market environment seems irresponsible. When we attempt to forecast longer-term returns from some of these starting points, it seems to create a setup for very diminished returns. Some of these hyper-growth companies will ultimately emerge from the pandemic as quality businesses, and we will work to identify those that actually have a real sustainable edge.

On the flip side, we think many of the higher quality companies with sustainable growth are being cast aside by investors, giving us opportunity to invest at attractive prices. One example is Motorola Solutions. This company sells walkie talkies, or land mobile radios, for first responders like firefighters, and their position in this public safety market is dominant. Motorola Solutions is also investing in adjacent, faster growth markets like video security. During the pandemic, we learned many police call centers weren’t well prepared to work from home. Guess who has the tools for that command center solution? Motorola Solutions.

Another example is Verisign, which is a global provider of domain names. This company is a registry for the internet and its goal is to ensure the safety and stability of the internet. Verisign essentially has an exclusive position to keep the register of all .com and .net domain names. The Department of Commerce controls pricing, as does an organization called the Internet Corporation for Assigned Names and Numbers (ICANN). Once these two organizations allowed Verisign to raise pricing on an ongoing basis, we saw clear path to a durable growth business. It may sound boring, but we think it’s difficult to find a better business than that.

A look at P/E multiple expansion and earnings per share since March 2019

The trailing P/E ratio has shown consistent growth for the Russell 1000 Growth Index and S&P 500 Index over the past two years, while earnings have generally declined.

Chart Showing Relative Earnings Multiple Reflects High Investor Expectations

Source: FactSet. Past performance is not a guarantee of future results.

Chart Showing Relative Earnings Multiple Reflects High Investor Expectations

Source: FactSet. Past performance is not a guarantee of future results.


Past performance is no guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through Feb. 24, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information 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.

Top 10 holdings as a % of net assets as of 12/31/2020: Microsoft Corp. 9.7, Apple, Inc. 8.8, Amazon.com, Inc. 7.6, Visa, Inc. 4.4, Alphabet, Inc. 4.3, Facebook, Inc. 3.7, PayPal Holdings, Inc. 3.1, Adobe, Inc. 3.1, Motorola Solutions, Inc. 3.1 and Intuit, Inc. 2.9.

The Russell 1000 Growth Index measures the performance of the large-cap growth segment of the U.S. equity universe. The S&P 500 Index is a float-adjusted market capitalization weighted index that measures the large-capitalization U.S. equity market. It is not possible to invest directly in an index.

All information is based on Class I shares. Class I shares are only available to certain investors.

Risk factors: The value of the Fund’s shares will change, and you could lose money on your investment. Investing in companies involved primarily in a single asset class (large cap) may be more risky and volatile than an investment with greater diversification. The Fund typically holds a limited number of stocks (generally 40 to 60), and the Fund’s portfolio manager also tends to invest a significant portion of the Fund’s total assets in a limited number of stocks. 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 or if the Fund’s portfolio manager invested a greater portion of the Fund’s total assets in a larger number of stocks. 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. Not all funds or fund classes may be offered at all broker/dealers. These and other risks are more fully described in the Fund’s prospectus.

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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Bradley Klapmeyer

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Last year, investors had to choose between quality and growth. When forced to pick, we chose quality every time. Get our views on the current environment.

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CIO Insights – The beginning of a new cycle

CIO Insights – The beginning of a new cycle

10 observations of the current market and possible implications for investors in 2021.

  1. Following the sharp economic downturn in 2020, the stage is set for a broad recovery
  2. With interest rates near 40-year lows, anticipate modest fixed-income returns
  3. Disparate returns in 2020 make the case for active investing
  4. Market timing was particularly costly in 2020
  5. Cycles matter
  6. Secular trends require consideration, but so does price
  7. ESG is more than a buzzword
  8. The COVID-19 pandemic continues to grip the world in 2021
  9. It’s still necessary to expect the unexpected
  10. Markets are at all-time highs, and while there is froth, there is also opportunity

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Dan Hanson, CFA

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10 observations of the current market and possible implications for investors in 2021.

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Investment Update

Investment update – IVY SMALL CAP GROWTH FUND

Commentary as of February 01, 2021

Since early October 2020, small caps, as measured by the Russell 2000 Growth Index (the Fund’s benchmark), had volatile returns. How has our strategy fared in this environment?

Tim Miller: Overall, it was a great fourth quarter for small caps as they experienced record returns during the period. The Fund’s strong performance during the quarter was driven by optimism and expectations for recovery against the backdrop of successful vaccine production and possible stimulus relief. (View Fund’s standardized performance.) Biotechnology and solar companies specifically had strong returns in the quarter. In fact, four of our stocks were up over 100% during the three-month period. During the quarter, we also made some changes by adding to information technology and financials exposure. We continue to seek opportunities in areas of the U.S. economy that should benefit from the recovery.

You take a balanced approach toward investing in small-cap growth companies by diversifying exposure across four risk buckets: Aggressive Growth, Accelerating Growth, Consistent Growth and Out-of-favor Growth. What are some examples of Fund holdings that fall into these different risk buckets?

Ken McQuade: One example of an aggressive growth holding in the industrials sector is Plug Power, Inc. This company is engaged in the development of hydrogen fuel cell systems that replace conventional batteries in equipment and electric-powered vehicles. With a total addressable market of trillions of dollars, there is a nearly unlimited number of applications for alternative energy. Given this scenario, we think Plug Power should experience a lot of momentum going forward. The company fits our style as it already has an established market in the forklift industry. There is a track record and evidence of its product having success in the marketplace. We think Plug Power can parlay its niche into larger markets like the automotive industry. The company’s valuation looks very extended as it is comparing the large total addressable market to the current revenue on a smaller market.

Brad Halverson: Five9, Inc., a leading provider of cloud call center software, is a holding we consider to be in the consistent growth bucket. This company appears well positioned for the shift from a physical call center model to a distributed call center model. While the market isn’t quite 15% penetrated at this point, we expect most, if not all of it, to move to the distributed call center model eventually. We think Five9 can consistently attain over 30% growth for the foreseeable time horizon. At some point, the company will probably graduate out of the small-cap range before the high growth phase ends.

Shift Four, a leading provider of integrated payment processing and technology solutions, is a holding we place in the accelerating growth bucket. We believe this company has the potential to grow north of 20% and that this growth should accelerate in the next couple of years.

Tim Miller: Fourth quarter 2020 also experienced a huge initial public offering market that really took off during the period. There were plenty of examples of these opportunities within the Fund. While the core of the Fund’s portfolio is held in names we consider to be in the consistent and accelerating growth buckets, the hunting ground for new opportunities is very strong right now with all the deal activity taking place.

How do interest rate spreads affect the Fund’s portfolio?

Tim Miller: The biggest macroeconomic factors we look at are spreads and rates and how they will affect valuations? We tend to own higher valuation stocks in the Fund. Interest rate spikes in fourth quarter spooked investors and put pressure on building-related stocks. It may have affected some of the higher growth software companies as well. Our macroeconomic expectation going forward is that interest rates will not rise – they may creep up from time to time – but they will stay relatively low, which should allow growth stocks to continue to perform.

What is your current view on industrials?

Ken McQuade: When the market went down due to COVID-19, we took advantage as strong industrials names dropped and became attractive. We sold more of the portfolio’s cyclical names to fund the move. The V-shaped recovery ended up being far more pronounced than expected, so that wasn’t the best move for the short term. However, for the long term, we feel strong about our outlook.

Tim Miller: The solar surge hurt us last year in industrials, but we have made a few adjustments and currently hold an overweight position in the sector. Additionally, we added a few economic stimulus plays and shifted our information technology weightings among our holdings. We are making moves to participate in the re-opening trade without buying low-quality companies. The companies in our portfolio need to meet our quality growth criteria. One area we haven’t moved into is the energy sector as hydrocarbon energy is in the crosshairs of the new administration in Washington.


Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through Feb. 1, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information 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.

Top 10 holdings as a % of net assets as of 12/31/2020: Biotech Swap 7/1/21 4.1, Five9, Inc. 3.5, CareDx, Inc. 3.1, Varonis Systems, Inc. 2.5, PetIQ, Inc. 2.3, Monolithic Power Systems, Inc. 2.2, Brink’s Company 2.2, Mercury Systems, Inc. 2.1, Vericel Corp. 2.1 and Q2 Holdings, Inc. 2.0.

The Russell 2000 Growth Index is an unmanaged index comprised of securities that represent the small cap sector of the stock market. It is not possible to invest directly in an index.

All information is based on Class I shares. Class I shares are only available to certain investors.

Risk factors: The value of the Fund’s shares will change, and you could lose money on your investment. Investing in small-cap stocks may carry more risk than investing in stocks of larger more well-established companies. The Fund may invest in Initial Public Offerings (IPOs), which can have a significant positive impact on the Fund’s performance that may not be replicated in the future. 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. Not all funds or fund classes may be offered at all broker/dealers. These and other risks are more fully described in the Fund’s prospectus.

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. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Timothy Miller, CFA
Kenneth G. McQuade
Bradley P. Halverson

Article Short Summary: 

In an unpredictable 2020, the lesson learned was to maintain the Fund’s core stock selection discipline. We believe the market ultimately rewards small caps that can deliver sales and earnings growth and returns on capital.

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Turning the page on 2020

CIO Insights – Turning the page on 2020


Economic snapback to fuel global growth. We have a very optimistic outlook for 2021, with above-consensus GDP calls around the globe. We expect global growth of over 6%, with growth in the U.S. and Europe of between 5% and 6%, while China and India could see growth of 9% or higher. We expect this growth to be driven by a rebound in economic activity as pent-up demand is unleashed with consumers able to again spend in areas of the economy that are currently impacted by the COVID-19 pandemic.

While there is no minimizing the economic pain the virus is causing, we fundamentally believe much of the weakness in the economy stems from a lack of opportunity to spend not a lack of ability to spend. Several sectors of the economy, such as entertainment, travel and restaurants, currently remain extremely restricted, keeping consumers from spending in these areas. However, consumers in aggregate continue to have disposable income sufficient to fuel their desired level of spending. This has elevated the savings rate to an unsustainable level. The pre-virus savings rate hovered around 7%, spiked above 30% during crisis and was running around 13% as of November. The most recent stimulus package will likely push the savings rate back up, further bolstering consumers as millions of people will see $600 stimulus checks and additional unemployment assistance. That relief is likely to help sustain consumer spending as we move toward a return to normalcy.

If we break out spending into durable goods, nondurable goods and services, the impact of pandemic-related spending restrictions becomes evident. Spending on durable goods is roughly 13% above pre-virus levels, while spending on nondurable goods is roughly 4% above. However, spending on services is still down roughly 6% since the onset of COVID-19. As we move through the year and vaccination levels lift us toward “herd immunity” resistance levels, we believe some service categories will start to normalize, which is likely to trigger a sharp upward inflection in growth. We expect to see the biggest rebound in sectors that have suffered the most under COVID-19 restrictions. Recreational travel should see strong demand once the public feels comfortable traveling again. However, we believe business travel will probably be slower to recover as corporate America has learned work can be done remotely. Movie theaters and other entertainment venues also are likely to bounce back as vaccination levels rise. Finally, we would highlight restaurants. Sadly, many eating establishments have not survived the pandemic, but those that did could see share gains in addition to strong demand.

We expect this snapback in growth to begin late in the first half of 2021 and extend into the second half of the year. This should be the strong point for growth not only in the U.S., but for developed markets globally as well as for China. We expect that larger emerging market economies will probably lag this return toward normalcy by about one quarter, while smaller emerging market countries will be the last to see a return to normal.

Monetary policy to remain stimulative. Despite our bullish outlook for growth, we expect global central banks will be very cautious coming out of this environment. Policymakers have made it clear they will err on the side of caution and not tighten preemptively, in order to avoid disrupting the recovery. The Federal Reserve (Fed) has made what we believe is a critical change in its framework for looking at maximum employment and inflation. The Fed will now look at employment through the lens of “broad-based and inclusive goals” instead of just targeting an aggregate unemployment rate. This involves examining employment rates among various ethnic and racial groups and trying to drive down the unemployment rates of these diverse groups.

On the inflation side, after having missed its 2% inflation goal in all but a handful of months over the past cycle, the Fed has now said it will allow inflation to run above its 2% target for “some time” to make up for time spent below target. Despite the anticipated enormous snapback in economic growth, we believe the Fed will leave interest rates unchanged, and to add stimulus by continuing quantitative easing through the end of 2021.

Georgia delivers the “blue wave”. Democrats were able to flip both U.S. Senate seats in Georgia’s special elections, giving Democrats control of the Senate by virtue of having 50 seats plus the vote of Vice President Kamala Harris to break ties. We expect further economic relief, including another stimulus check, as well as an extension and possible increase of the special unemployment payments, which are set to expire in mid-March. An infrastructure plan with a focus on renewable energy and green initiatives is also likely.

We also expect some tax increases, most likely targeting corporations, high income earners, and possibly capital gains and dividends. A closely divided Senate probably means that some of the more progressive, anti-business policies will not get through as centrist Democrats are unlikely to support them in the Senate. In addition, the Democrats’ majority in the U.S. House of Representatives has narrowed, which also could influence more progressive legislation.

Mixed results for asset classes at year’s end. Despite the tremendous challenges that 2020 brought, the market has seen a resurgence in risk appetite. Led by growth and large cap names, the S&P 500 Index posted a 16% return for the year. The small cap and cyclical side of the market saw a strong resurgence as the year drew to a close. In the last week of the year the S&P 500 Index, NASDAQ Composite and Russell 2000 Index posted all-time highs. However, corporate earnings presently are in a weak spot, with S&P 500 Index earnings for 2020 expected to be down close to 20%. Earnings were even more sharply impacted in the small cap and cyclical sectors of the market.

So why are we seeing these new highwater marks? We believe this shows the market has a risk-on attitude that we will get through this air pocket of economic activity caused by the latest virus resurgence, as COVID-19 vaccinations begin globally. The market is looking through to the 2021 recovery, expecting earnings to bounce back to the 2019 run rate and beyond. While uncertainty remains high, as evidenced by the still-elevated level of the CBOE Volatility Index, we are moving toward greater certainty and visibility as vaccine approvals and vaccination programs continue. In addition, the market has strong tailwinds due to fiscal and monetary policy that is set to remain in place.

From Bitcoin to special-purpose acquisition companies (SPACs), there are signs of froth in the market. However, with the broad market trading at 21 times forward earnings, we do not see this as a bubble. Some sectors of the market do have valuations that are quite demanding, and we would certainly expect some rebalancing of valuations. This does not undermine the broader underlying fundamentals of the market, which we believe is very investable at its current earnings multiple.

We believe equities are well positioned, especially versus the fixed income arena. Outside of China, negative real rates are the rule rather than the exception especially in developed markets. As a result, we believe it is prudent to be careful about fixed income instruments, especially those with long duration. However, you don’t need to “own the market” but pick your spots, which is the point of active management. Starting with an S&P 500 Index earnings yield of 4%, you can either buy less aggressively valued stocks or you can pick higher quality business models where the earnings yield is not higher, but confidence in the certainty and duration of that yield is higher.

From China to the U.S., we see internet and social media giants increasingly becoming a target of regulators. While we believe this type of attention is not likely to go away anytime soon, the anti-trust scrutiny is more reflective of strong business models and market power. The key to investing where there is increased regulatory scrutiny is having confidence in the management team to be effective in navigating and maintaining a company’s social license to operate.

In summary, while 2020 was a wild ride we did end up with 16% returns from the S&P 500 Index versus the long-term average of 8%. While we think this means there has been some pull-forward of returns, we still find the equity market appealing. While there are some excesses in the market, these excesses are creating opportunities which calls for active management.


Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through Jan. 5, 2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information 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: Investing involves risk and the potential to lose principal. Fixed-income securities are subject to interest rate risk and, as such, the value of such securities may fall as interest rates rise. 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.

The S&P 500® Index is a float-adjusted market capitalization weighted index that measures the large-capitalization of the U.S. equity market. The NASDAQ Composite is a stock market index that includes almost all stocks listed on the Nasdaq stock market. The Russell 2000® Index is a float-adjusted market capitalization weighted index that measures the performance of the small-cap segment of the US equity universe. The Russell 2000® Index is a subset of the Russell 3000® and includes approximately 2,000 of the smallest securities based on a combination of their market cap and current index membership. 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.

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Dan Hanson, CFA
Derek Hamilton

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As we move past the challenges of 2020, we are optimistic about the global economy and markets for 2021.

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Ivy VIP Corporate Bond

Market Sector Update

  • The fourth quarter saw a continued recovery in risk assets due to positive vaccine news, further stimulus measures, as well as the passing of certain risk events like the U.S. election and Brexit, resulting in domestic equities rallying over 12%.
  • The positive news drove U.S. Treasury yields meaningfully higher in the period. The yield on the 10-year U.S. Treasury rose 23 basis points (bps) to 0.91%, while the yield on the 2-year U.S. Treasury fell 1 bps to 0.12%. During the quarter, the yield curve steepened moderately as the difference between the 10-year U.S. Treasury and the 2-year U.S. Treasury rose 24 bps to 79 bps.
  • While the Federal Reserve (Fed) continued buying corporate bonds at a pace similar to where it ended the third quarter, the facility created by the Fed and the U.S. Treasury, was terminated in the quarter as the U.S. Treasury requested its funding back and determined that legally the facility expired 12/31/20. This facility drove the recovery in credit markets this year. The markets took the change in stride and focused instead on the positive vaccine and stimulus news. This led to the spread on the Portfolio’s benchmark, the Bloomberg Barclays U.S. Credit Index, to fall materially from 128 bps to 92 bps. High yield gained 6.45% as the spread on the Bloomberg Barclays U.S. Corporate High Yield Index fell from 517 bps to 360 bps, while leveraged loans gained 3.6%.
  • Investment-grade issuance fell from the blistering pace of the first three quarters of 2020 as most funding and refinancing desires were met prior in the year. Fourth quarter issuance of $267 billion was well below third quarter, but still up 15% over last year. Full-year issuance was $2.1 trillion, substantially above the $1.3 trillion issued during the entirety of 2019, and 43% higher than the prior record year of 2017. Issuance net of maturities has been even more dramatic with net issuance of $1.07 trillion year to date versus just $356 billion of net issuance for all of 2019.
  • Ratings actions marginally weakened in the fourth quarter with Standard & Poor’s upgrade-to-downgrade ratio in investment grade at 0.33 versus 0.39 in the third quarter and 1.12 in 2019. Fallen angel activity increased slightly to $23 billion in the fourth quarter from roughly $20 billion in the prior period.

Portfolio Strategy

  • The Portfolio had a positive return, however underperformed its benchmark.
  • The Portfolio’s duration fell slightly during the period and remains modestly under the benchmark’s duration of 8.55 years. Higher duration means higher price volatility for a given change in spreads as well as interest rates.
  • The Portfolio increased its allocation to BB and BBB rated securities, while decreasing its exposure to AA and A rated securities. The largest changes in sector positioning were increases in the communications and utility sectors and decreases in the industrial and basic materials sectors.

Outlook

  • As odd as it was, after one of the most volatile years in credit market history, the year ended very close to where it started with a path no one could have predicted. The immense response from fiscal and monetary authorities will continue to impact markets going forward and cannot be ignored. Nor can one ignore the fundamentals, which we have often talked about, and which remain incredibly weak for corporate credit markets. Particularly after the Fed backstop of the credit markets was eliminated during the quarter.
  • We believe the future has numerous material risks that will likely impact markets going forward. We remain in a pandemic, a situation that has been de-risked with the arrival of the vaccines, but plenty of uncertainty still remains on the timing, uptake and efficacy on variants of the virus.
  • We have a weak but strengthening economy, and significant policy uncertainty remains after the recent elections. Regarding fixed income markets, the recent stimulus and additional future stimulus are not as positive as they are for equities. The stimulus leads to a greater degree of duration supply that the market may struggle to absorb, particularly given the already upward pressure on rates from resurging inflation expectations.
  • We believe there is significant excess risk taking in the marketplace, a situation that in the past has brought meaningful volatility without the need for material macro deterioration. 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 2% for a 10-year bond to repurchase stock, pay dividends or embark on M&A. While such activity impacts specific credits, it also has macro implications for the market by creating an increased risk premium for re-leveraging conditions, as well worsening the supply and demand technicals.
  • Investment-grade fundamentals continue to be extremely weak with leverage remaining at record highs and duration in the market being near a record high. However, credit spreads sit at 92 bps for investment grade, well below their 20-year average of 145 bps. The reason for this disconnect between the fundamentals and valuations is the favorable technical picture and the search for yield driven by the Fed’s actions.
  • The technical backdrop continued to be favorable as supply in the quarter fell from the record pace of the prior two quarters and fund flows and foreign demand largely continued to be strong. Market forecasters largely believe that supply going forward is likely to be supportive. In aggregate, companies issued more than enough debt to shore up liquidity in the pandemic and subsequently refinanced a great deal of debt which suggests low issuance in the coming year. However, the wildcard remains the activity we mentioned above, M&A and re-leveraging, which we believe may surprise to the upside resulting in supply which is likely to exceed expectations.
  • Going forward, we believe there are likely to be more frequent periods of volatility that prevent spreads from rallying 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. For instance, the breakeven spread on the investment-grade market, which means the amount of spread widening that will wipe away a year’s worth of spread carry, is roughly 11 bps. Calendar year 2020 saw the index widen by 11 bps or more in a single day nine times. While 2021 is unlikely to be quite as volatile as 2020, we believe there will be plenty of volatility. We believe the best offense is a good defense to achieve sustained and attractive relative performance with current valuations.

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 Dec. 31, 2020, 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 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.

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.

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 Portfolio's shares will change, and you could lose money on your investment. An investment in the Portfolio 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 Portfolio'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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Article Related Management: 

Mark Beischel
Susan K. Regan

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Quarterly Fund Commentary

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