Market Sector Update

• Despite a volatile quarter, the MSCI EAFE Index rebounded in September to end the quarter down 1.07% in U.S. dollar terms. The U.S. dollar appreciated 2.6% against a basket of foreign currencies, creating a headwind for unhedged U.S.- based investors. The third quarter was met with multiple headwinds that have been escalating throughout the year. While signals are mixed, key global economic indicators further deteriorated, a potential sign of more systemic issues ahead. Time will tell if these slowdowns are transitory or true signs of a looming recession. Overall, we believe risk to economic growth is worrisome, and the geopolitical backdrop is further strained.
• In the face of slowing global growth, central banks around the world continued to follow a loose monetary policy path, with interest rate decreases and stimulus measures taking place in most major economies. The U.S. Federal Reserve eased rates; the European Central Bank reinitiated a bond buying program; and major emerging-market economies also moved forward with stimulus.
• The U.S.-China trade war continues to take its toll on economic activity as capital investment and manufacturing activity slowed in the U.S., Europe, and China. Through the quarter, the likelihood of an overarching deal between the U.S. and China all but evaporated, but there still remains a chance at a narrower trade deal. Europe entered the trade fray with tariffs being implemented between it and the U.S., a signal that tariffs continue to be a key sticking point for global trade. Finally, Brexit is closing in on key deadlines, which could lead to a likely extension and possible new referendum vote.
• Brent crude was down 6.6% during the quarter, despite a shock to oil markets. An attack on Saudi Arabia’s oil supply created a temporary lift to prices, but oil quickly retreated as Saudi Aramco reported supply would come back online sooner than expected.
• 10-year bond yields across the globe continued to move lower in the quarter, including those already in negative rate territory. German 10-year government bonds moved from -0.27% at the beginning of the third quarter to -0.59% at quarter end, after dipping as far as -0.72%. These levels reflect low growth expectations and the dovish central bank environment.

Portfolio Strategy

• Shifting market dynamics and increased volatility faired favorably for the Fund relative to its benchmark during the quarter. The Fund was down on an absolute basis, but outperformed the MSCI EAFE Index. Most of the Fund’s relative return was gained during July and August when volatility took hold of markets and many of the widely owned stocks, most of which the Fund does not own, fell the most. The Fund’s exposure to stocks that do not have a large presence in the index or in many of the peer group's portfolios created natural support as there were fewer sellers of these equities during the market’s flight out of stocks. The Fund’s tilt toward a defensive posture, resulting from a combination of defensively oriented stocks, currency positions and cash, contributed to performance, though stock selection was the key driver.
• Overall, positions in companies with relatively cheap valuations, yet stable fundamentals, found their footing during the quarter as earnings results surprised street expectations to the upside. From a sector standpoint, stock selection contributed most in consumer discretionary, industrials, and energy while financials and health care created the greatest drag. Sector allocation created a minor headwind to performance.
• On a country basis, stock selection drove returns. Additionally, currency exposure provided a small tailwind, but country allocation was a detractor. Stock selection was strongest in Japan and emerging markets, offsetting a difficult quarter in Europe ex-U.K.
• The most significant individual stock contributors to performance were Subaru Corp., Zozo, Inc. and Seven Generations Energy Ltd., Class A. After several quarters of lackluster earnings and execution issues, Subaru, a Japanese auto company with high brand recognition and a majority of sales in the U.S., reported a good quarter in August. Subaru’s execution issues appear to be behind them and that, along with the new product cycle, we feel will lead to strong sales growth and improved margins. Zozo, an online Japanese retailer, reported an earnings beat and received an acquisition bid during the quarter. Seven Generations, a Canadian oil and gas company, had been under considerable pressure over the last few years as oil prices have declined. With the stock trading at a depressed valuation, better than expected production and cash flow along with disciplined capital management and stock buybacks helped lead to a rally in the stock.
• The three worst performing stocks were SAP AG, Hong Kong Exchanges and Clearing Ltd. and Commerzbank AG. SAP, a large German software company, has been a strong performing enterprise software company in recent years. The stock pulled back with the broader software industry and on a slight earnings miss. That said, we believe it has an attractive relative valuation and their pipeline for supply management software is still strong and future “cloud” business remains robust. Hong Kong Exchanges struggled as U.S. – China trade tensions and social unrest in Hong Kong weighed on shares. We remain confident in this company’s future growth trajectory and, with an in-line multiple compared to peers, offers good value. Commerzbank suffered from lower yields and slowing global GDP, however, we believe it is an attractive asset with upside potential stemming from incremental improvement in German/global GDP growth.
• The Fund’s cash allocation, which remained about 7.5% during the quarter, and strategic currency positions contributed to performance. Cash provided a slight benefit, while a long Japanese yen and hedge on the Fund’s Chinese yuan exposure added roughly 25 basis points relative to the index. Both these currency positions are defensive in nature as they effectively neutralize the currency impact from an underweight to Japan and overweight to China.

Outlook

• The soap opera that has taken over the world’s politics and foreign relations continues. U.S.-China trade issues, Brexit, nationalism around the globe, and tension in the Middle East are ongoing and seem to have an outsized impact on the economic and market environment. Capital investment and industrial production have suffered, and economic growth now hangs in the balance of the consumer. It remains unclear how long the cycle will go on under these conditions, but the risks are greater. Accommodative central bank policy will likely remain the status quo as growth wanes and the risk of inflationary pressure is subdued. We believe this will help support markets. The overhang of the trade war may be temporarily lifted before year end, which would provide a sentiment boost to the market and perhaps open the doors for an improvement in manufacturing and capital investment. With that said, we believe any trade agreement will be met with additional tensions as time goes on.
• Due to the clear risks in the system, the Fund continues to have a defensive posture. Recent stock additions have been more focused on companies with defensive characteristics. Also, the Fund’s cash balance as well as currency positions should offset market volatility if it persists. International equites remain attractive on valuation and, as we witnessed this quarter, stocks that have been unjustly out-of-favor started to draw investor attention. Overtime, we believe owning companies at attractive relative valuations with solid fundamentals will bode well for our investors.

Top 10 equity holdings as a percent of net assets as of 09/30/2019: Nestle S.A., Registered Shares 2.8%, Total S.A. 2.7%, Airbus SE 2.2%, Tokio Marine Holdings, Inc. 2.2%, Subaru Corp. 2.2%, SAP AG 2.1%, DNB ASA 1.8%, Orange S.A. 1.8%, Zozo, Inc. 1.8% and Danone S.A. 1.7%. All information is based on Class I shares. MSCI EAFE is an unmanaged index comprised of securities that represent the securities markets in Europe, Australasia and the Far East. It is not possible to invest directly in an index.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. 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. 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.