Ivy IG International Small Cap Fund

Ivy IG International Small Cap Fund
12.31.17

Market Sector Update

  • International small cap equities continued to outperform their large cap counterparts over the quarter in what was an overall strong year for international markets in U.S. dollars. The outperformance of small caps over the course of 2017 was broad based, with both European and Asian small cap outperforming their large counterparts. The U.S. dollar continued to weaken over the quarter and has been weaker in each of the quarters in 2017.
  • The strongest performing sectors over the quarter were energy, materials and real estate, while utilities, healthcare and telecommunications underperformed. The energy sector was buoyed by continued strength in the underlying commodity markets. Regionally, Europe underperformed while Asia and Japan posted strong results.
  • Political developments included Japanese Prime Minister Abe achieving a two thirds majority in the general election and, in Catalonia’s regional election, pro-independence parties secured a majority position. In the U.S., the Senate Banking Committee approved Federal Reserve Governor Jerome Powell to take over as Chairman of the Central Bank.
  • Economic data remained strong over the quarter, with German manufacturing reaching record levels in December. The consistently positive economic data from the eurozone through 2017 supported the euro versus the U.S. dollar as the economic and interest rate divergence of recent years slowed.
  • While the global growth outlook remains positive and inflation expectations remain relatively low, the backdrop for equities remains supportive. Following a strong year for risk assets, we are conscious of the downside risks and continue to monitor the potential impact of tighter monetary and financial conditions as well as the maturity of the business cycle, particularly in the US. Political risks remain in Europe following Germany’s inconclusive election, uncertainty around Catalonian independence and Italian elections in March. We believe a faster-than-expected moderation in Chinese growth remains the largest potential risk to Asia.

Portfolio Strategy

  • The Fund delivered a positive return (before the effects of sales charges) and performed in line with the benchmark for the quarter. Individual holdings which had the most positive effect on performance included FinTech Group AG, which offers online securities trading, transaction processing and white label banking services for other financial companies; XLMedia plc, a market leading provider of digital marketing services; and Matsumotokiyoshi Holdings Co. Ltd., Japan’s largest drugstore chain which continues to benefit from its metro focus where foreign tourist demand remains strong (1.0%, 1.4% and 2.2% of Fund net assets, respectively).
  • Within Europe, the Fund remains overweight growth areas in the information technology and consumer space, while maintaining the pre-Brexit underweight to the U.K. We have a bias to the eurozone with significant country overweights in Germany, France and Ireland.
  • Within Asia, the Fund maintained its strategic overweight in Japan. Japan lagged in the first three quarters of the year despite strong earnings momentum and attractive valuation; however the recent October election saw Prime Minister Abe's Liberal Democratic Party maintain control of the Diet and removed a tail risk. The prospect of a continuation of pro-growth policies and political stability was greeted positively by the market over the ensuing months.
  • We are positive on the domestic outlook for Japan and have tilted the portfolio toward domestic-demand companies whose growth prospects we believe are undervalued. The Fund remains underweight Australia as we see numerous challenges facing the economy. The Australia weighting was further reduced during the quarter when we moved the energy weighting to zero following a strong rebound in the oil price from the July lows.

Outlook

  • We believe the improved outlook for global growth is supportive for international equities, as historically both European and Japanese markets have tended to outperform during such periods. For Europe, we continue to see a number of improving factors such as a return to positive loan growth, falling unemployment and improving economic lead indicators.
  • Within China, we continue to expect Chinese growth to moderate as the Communist Party seeks to right longstanding imbalances in the economy, principally an over-reliance on capital expenditure at the expense of household consumption, and as such our holdings tilt toward consumer and export companies. However we appreciate this represents a rather consensual view amongst foreign investors and remain vigilant in re-evaluating this position on a regular basis.
  • We will continue to search for opportunities at a company level where we believe the growth opportunity is not fully recognized by the market. Given the strong performance of risk markets over recent months, the risk of short-term corrections is always present; however we are optimistic on the outlook for the Fund. We believe the portfolio is well positioned across our holdings of perceived well-managed companies with strong growth prospects that trade at attractive valuations.

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 Dec. 31, 2017, 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 Fund is sub-advised by I.G. International Management Limited, which delegates to its subsidiary, I.G. Investment Management (Hong Kong) Limited, for additional portfolio management responsibilities. References to I.G. International Management Limited include both entities.

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