Market Sector Update

• Financial markets extended their broad ascent during third quarter with some indices reaching all-time highs. While the economic impact of COVID-19 remains uncertain, many companies have adjusted their cost structure and increased liquidity by taking advantage of fiscal and monetary programs decreasing the probability of the worst-case outcome. There continues to be areas of uncertainty with the focus on these two intertwined main factors: the evolution of the pandemic, and economic recovery aided by fiscal and monetary stimulus. This uncertainty was evident in economic data. After rising to a high of 14.7% in April, the unemployment rate fell to 7.9% in September. However, at the same time, both the labor force and participation rate dropped. Into the second half of the year, there has been uncertainty about the labor market recovery, as the pandemic has continued to weigh on businesses and employment. After taking aggressive measures in the first half of 2020, the Federal Reserve (Fed) pledged to hold the federal funds rate at its current 0-0.25% target range until inflation is at 2% and on track to moderately exceed 2% for some time. According to the latest economic projections from the central bankers, they expect to keep rates at zero through 2023. We are more dovish and expect interest rates to remain lower for longer than 2023. U.S. equities have recovered significantly from the March lows, and at record speed. After rising 24.6% in second quarter, the Russell Midcap Index (the Fund’s benchmark) rose another 7.5% in third quarter, approaching all-time highs seen last in February 2020. All sectors but energy generated positive returns in the quarter. Long-term interest rates were somewhat volatile through the quarter but ended the period flat at 0.7% on the 10-year US Treasury. The dividend payers continued to significantly underperform the non-dividend payers. This continues the trend that has been evident throughout most of 2020 despite a significantly lower interest rate environment, which should have benefitted income-producing equities particularly relative to fixed-income markets. In our view, given the evaporation of revenue for many sectors, dividend sustainability continues to be a significant concern.

Portfolio Strategy

• The Fund posted a positive return for the quarter but underperformed the benchmark for the period. Dividend income was additive to overall performance in the quarter. Stock selection explained the negative variance to performance as our allocation to high dividend-paying securities detracted considerably. Meanwhile, sector allocation contributed positively to performance as overweight positions both in consumer discretionary and materials benefitted performance.
• Communication services produced the worst relative performance in third quarter. While the sector outperformed the index, our stock selection weighed on performance. We own Cinemark, a movie theater operator in the U.S. and South America. After closing all theaters early in the year due to COVID-19, the theater chain re-opened locations in mid-July. There remains significant uncertainty surrounding Cinemark’s business because of the pandemic. With the clouded outlook for revenues, the broad concern is about the length of liquidity for Cinemark. We believe the company has the financial wherewithal to withstand the current environment and expect that business will return to pre-virus levels over the medium term.
• Consumer discretionary was also an area of weakness for the Fund. Our stock selection dragged on performance as allocation to the outperforming sector benefitted the portfolio. Garmin detracted on probable profit-taking despite significantly better than expected financial results. Our other holdings in consumer discretionary performed well but struggled to keep up with the sector’s strong returns.
• The real estate sector produced the best relative performance in the Fund as our underweight position to the underperforming sector added to the performance. Similarly, our underweight to utilities helped relative performance. Materials was also an area of strength for the Fund.

Outlook

• We continue to watch several key variables to determine Fund positioning. These variables (domestic economic growth, change in interest rates, change in commodity prices and foreign economic growth) have remained consistent since Fund inception and continue to be monitored.
• While second quarter gross domestic product (GDP) growth came in slightly stronger than expected and third quarter monthly data has painted a positive picture, we have become more concerned about the near-term GDP outlook. As discussed, the economic outlook is clouded by the path of COVID-19. Given the low base, we forecast third quarter GDP to jump to +32% quarter-on-quarter annualized. For fourth quarter, we have downgraded our GDP forecast to +3% from +6% previously and below current consensus of +5%. While we expect growth to rebound off the very low levels of second quarter, we think the last few months of 2020 will remain below 2019 levels, creating a headwind to revenue growth for the broad economy. While there are pockets of companies that are benefitting from the current environment, such as e-commerce, home improvement and remote working solutions, most companies continue to see the current environment as a significant challenge. It remains our belief that that the duration of the impact is the most important variable. Over the medium and long term, we expect company and consumer behavior to predominately revert to previous norms.
• As the virus works its way through humanity and we return to some level of normalcy, there is some potential for upward pressure on long-term interest rates given the significant government spending put in place to combat the economic pressures. The near-term focus within the equity and credit markets is on the duration and staying power of individual companies. As time passes, our expectation would be for rates to move higher off the current low base, but are unlikely to return to pre-virus levels given the anchoring put in place by the Fed. We anticipate being able to provide investors with a very competitive yield relative to the fixed-income markets over the near to medium term. Commodity prices changes have been relatively tame. With expanding production in many end markets, we should see some inflationary pressures, but broadly remained well supplied. This includes areas like oil where there remains significant excess capacity. While not a specific commodity, we do expect significant inflation from increased logistics costs with curtailed global airline capacity and tightening truck market. While pressures exist, it is unlikely to pose an issue to corporate profit margins. With countries re-opening, most of the world is seeing a resurgence in the number of coronavirus cases. While the second wave appears to be more contained in Asia, Europe has seen rising hospitalizations and deaths, prompting governments to impose more restrictions. Similar to the prospects in the U.S., the path of the virus and the accompanying vaccine remain key in a confident economic forecast.

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 Sept. 30, 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.

Top 10 holdings (%) as of 09/30/2020: C.H. Robinson Worldwide, Inc. 3.3, Packaging Corporation of America 3.1, Avery Dennison Corp. 3.1, Hasbro, Inc. 3.1, Discover Financial Services 3.1, Leggett & Platt, Inc. 3.0, Paychex, Inc. 3.0, Polaris, Inc. 3.0, Wyndham Destinations, Inc. 2.9 and Stanley Black & Decker, Inc. 2.9.

The Russell Midcap Index measures the performance of the mid-cap segment of the U.S. equity universe. It is not possible to invest directly in an index.

All information is based on Class I shares.

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

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