An active, diversified approach for current income, capital appreciation

Ivy Mid Cap Income Opportunities Fund
05.05.20

Two broad shifts increasing income demand

Globally, there are two fundamental shifts happening in the current environment that are increasing the need for income-producing products. First, as baby boomers continue to retire from their work lives, the demand for investment income is likely to grow. According to the 2019 BlackRock Defined Contribution Pulse Survey, “plan participants are sharpening focus on how to secure crucial, ongoing retirement income.” Second, interest rates have been in a downward trend and most recently have hit record lows. This means that total return from fixed-income assets will not help bridge the $1 trillion funding gap¹ that 76 million baby boomers² are likely to face in pensions, health care and other benefits.

STOCKS COULD OFFER A COMPETITIVE INCOME SOURCE (%)
Chart Showing STOCKS COULD OFFER A COMPETITIVE INCOME SOURCE
Chart Showing STOCKS COULD OFFER A COMPETITIVE INCOME SOURCE

Source: Evercore ISI (Data 01/31/1995 through 03/31/2020). Past performance is no guarantee of future results.

Mid-cap stocks may provide opportunity for capital appreciation, income

In an environment where bond yields are at a record lows, we believe that stocks in the mid-cap universe may be well positioned to fill the income gap and provide an opportunity for capital appreciation. Generally, investors think that dividend-paying companies mostly exist in the large-cap universe. However, as shown below, there are numerous companies in the mid-cap universe that pay dividends.

Many mid-cap companies pay dividends
  Total companies with a dividend yield Companies with dividend yield > 0.5%

Russell Midcap Index

547

93.4%

Russell 1000 Index

712

94.0%

S&P 500 Index

422

94.5%

Source: FactSet and Ivy Investments.

An active approach to income growth, capital appreciation

In today’s environment where stocks are supported by expansionary monetary policy and cheap money³, we believe investing in an actively managed dividend portfolio with the potential to generate income and provide attractive growth characteristics is a sound approach. This is where the Ivy Mid Cap Income Opportunities Fund can fit into an investor’s portfolio.

The Fund was created to achieve a dual mandate of investing in companies that have the potential to grow their dividends and provide an opportunity for capital appreciation across all market cycles. Focused on companies in the mid-cap space, we invest in core growers at a stage in their lifecycles where they have enough earnings growth and are generating cash in excess of what is needed to grow organically that they can offer return of capital to shareholders. Since the Fund’s inception in October 2014, portfolio investments have provided nearly a 3% gross yield and have generated high single-digit income growth annually.

Dividend growers in the past, future

As shown in the chart below, dividend growers have generally been rewarded by the markets. Historically, within the Russell Midcap Index, the Fund’s benchmark, divided payers have tended to perform better than the index. This chart also shows the importance of avoiding those companies that don’t pay or eliminate dividends.

Overall, as interest rates remain low, investor demand for yield and income have become elevated and should remain so. In such an environment, we expect dividendpaying companies to become increasingly valuable. In our view, companies with strong cash flows, low payout ratios, and durable business models are in a favorable position to increase dividends and grow over time.

DIVIDEND STOCK RETURNS ACCORDING TO DIVIDEND PAYMENT TRENDS (%)
Chart Showing DIVIDEND STOCK RETURNS ACCORDING TO DIVIDEND PAYMENT TRENDS
Chart Showing DIVIDEND STOCK RETURNS ACCORDING TO DIVIDEND PAYMENT TRENDS

Source: Evercore ISI (Data: 12/31/1999 through 03/31/2020). Past performance is no guarantee of future results.

An active approach providing diversification into dividend-yielding stocks with growth characteristics

We think the foundation of a successful actively managed strategy within the mid-cap universe is a focus on companies that offer capital appreciation and have as history of dividend increases. Yields are an unappreciated aspect of the universe.

Through the Fund’s bottom-up investment process, we seek companies that have a current yield above 0.5% (as of 03/31/2020 — the lowest yielding security in the Fund is at 1.6%) and a track record of yield growth and earnings growth that can allow for upside potential in stock prices. As of 03/31/2020, the Fund’s largest overweight positions were in materials and consumer discretionary because these sectors offered a combination of competitive yield and income growth supported by underlying earnings growth. In the generally low-yielding consumer discretionary sector, Fund holdings as of 03/31/2020 had an average yield of 4.4% versus the lower yield in the sector in the index (see chart below).

Fund offers income growth, stock price appreciation

With interest rates at record lows, stocks appear well positioned to fill the income gap. While investors generally believe income-generating stocks are found within large caps, data shows that the mid-cap universe not only has a competitive stream of income payers and potential for growth, but it is also considerably underutilized.⁴ With such a backdrop, we believe the Ivy Mid Cap Income Opportunities Fund’s bottom-up active approach and dual mandate of income growth and capital appreciation may fill the income gap created by record low interest rates and the income needs of an aging population.

RUSSELL MIDCAP INDEX: DIVIDEND YIELD AND GROWTH BY SECTOR (%)
Chart Showing RUSSELL MIDCAP INDEX: DIVIDEND YIELD AND GROWTH BY SECTOR
Chart Showing RUSSELL MIDCAP INDEX: DIVIDEND YIELD AND GROWTH BY SECTOR

Source: Evercore ISI; Data as of 03/31/2020. Past performance is no guarantee of future results.

Fund Performance

Chart Showing covid-19-page-image

MarketWatch: Ivy Mid Cap Growth Fund

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¹https://www.pewtrusts.org/en/research-and-analysis/issue-briefs/2019/06/the-state-pension-funding-gap-2017

²https://www.prb.org/justhowmanybabyboomersarethere/

³ To support economic growth impacted by the coronavirus outbreak, the U.S. Federal Reserve re-started quantitative easing on 03/15/2020.

⁴ Source: FTSE Russell and Strategic Insight Simfund as of 12/31/2019. Mid-cap stocks make up 25% of the U.S. equity space. This indicates that some value is being left on the table. Equity mutual fund assets represent open end mutual funds, domestic mid-cap categories vs. all domestic equity categories. The Russell Midcap Index measures the performance of the mid-cap segment of the U.S. equity universe. The Russell 3000 Index measures tracks the performance of the 3,000 largest U.S.-traded stocks which represent about 98% of all U.S. incorporated equity securities. It is not possible to invest directly in an index.

Past performance is no guarantee of future results. 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 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.

Risk factors: The value of the Fund’s shares will change, and you could lose money on your investment. Investing in mid-cap stocks may carry more risk than investing in stocks of larger, more well-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. The Fund typically holds a limited number of stocks (generally 35 to 50). As a result, the appreciation or depreciation of any one security held by the Fund will have a greater impact on the Fund’s net asset value than it would if the Fund invested in a large number of securities. 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.

Class I shares are only available to certain types of investors.

The Russell Midcap Index measures the performance of the mid-cap segment of the U.S. equity universe. The Russell 1000 Index measures the performance of the large-capitalization segment of the U.S. equity universe. The S&P 500 Index measures the large-capitalization U.S. equity market. It is not possible to invest directly in an index.

Through July 31, 2021, IICO, IDI and/or WISC have contractually agreed to reimburse sufficient management fees, 12b-1 fees and/or shareholder servicing fees to cap the total annual ordinary fund operating expenses (which would exclude interest, taxes, brokerage commissions, acquired fund fees and expenses and extraordinary expenses, if any) as follows: Ivy Mid Cap Income Opportunities Fund Class I shares at 0.83%. Prior to that date, the expense limitation may not be terminated without the consent of the Board.