Market Sector Update

• The stock market ascended during the second quarter 2019 to an all-time high despite significant consternation on the economic growth outlook. Tariffs reentered the vernacular as both China and Mexico were threatened with increases, but by the end of the quarter the increases were repealed. Many developed nations stopped buying products from Huawei, a significant global technology company based in China, further showing strains in Chinese- U.S. relations. The global economy has shown signs of slowing, but it is difficult to decipher how much to attribute to the trade indecision versus other factors. Offsetting these fissures in the economic outlook, the Federal Reserve (Fed) signaled willingness to pivot from a neutral bias toward one appearing more accommodative. This put significant downward pressure on U.S. interest rates and drove other risk assets higher in value, including the stock market. In the second quarter, the Russell Midcap Index, the Fund’s benchmark, increased 4.13% following very strong gains in first quarter. Financials, communication services, industrials, information technology, health care, utilities, consumer discretionary and materials all produced positive returns, keeping with pace the overall market. Consumer staples and energy were the only sectors to trail the benchmark.
• Long-term interest rates declined more than 40 basis points during the quarter, ending the period at 2.0% on 10-Year US Treasuries. Despite falling yields in the fixed-income market, higher dividend yielding stocks continued to be out of favor. Those stocks with a dividend yield of greater than 2.9% (the top quintile of dividend yield) underperformed the benchmark by 230 basis points. This was a surprise to us given the competitive income that can now be found in the stock market from these big yielders.

Portfolio Strategy

• The Fund posted a positive return, outperforming its benchmark in the quarter. Sector allocation was a modest positive to relative performance. An underweight in real estate drove the allocation benefit but was slightly offset with a cash position from positive flows into the Fund.
• The consumer discretionary sector produced the best relative performance in the quarter, despite a significant overweight position to the slightly underperforming sector. Hasbro increased strongly on better-than-expected results with growth reemerging following the liquidation of Toys R Us in 2018. Service Corp., a funeral and cemetery operator, also saw nice gains in the quarter as volumes were better-than-feared following a strong flu-driven event comparison from first quarter 2018.
• Scotts Miracle-Gro extended its strong performance from last quarter into this quarter and drove outperformance within the materials sector. The company had a very difficult 2018 in its hydroponics business, which has seen a significant improvement in 2019 all while its base business of growing medium and seeds has shown little price elasticity despite significant increases to offset cost pressures. RPM International slightly outperformed in the quarter as management is executing on a plan to drive operational improvement and should produce significant margin expansion.
• The industrials sector was an area of relative weakness for the Fund during the quarter. Both Rockwell Automation and nVent, an electrical products manufacturer, lagged during the quarter due to concerns about the economic growth outlook. We remain favorable on both companies. Rockwell should continue to benefit from further penetration of industrial automation globally. nVent, a new purchase in the quarter, was recently spun-out of Pentair and we believe the company should see growth accelerate now with greater focus on its own business.

Outlook

• We continue to watch several key variables to determine positioning. These variables (domestic economic growth, change in interest rates, change in commodity prices and foreign economic growth) have remained consistent and continue to be monitored.
• While we still expect domestic economic growth in 2019, albeit slower than 2018, we have increased pessimism about the level of growth. We believe the broad uncertainty that has been generated from the ever-changing trade negotiations have likely slowed capital deployment from companies. We expect companies will attempt to accelerate plans to move manufacturing out of China, but don’t expect it to be a significant near-term positive to the U.S. Juxtaposed to the weaker industrials outlook, the consumer economy remains robust with solid wage and job growth and high levels of confidence. We believe the lower interest rate environment can provide more buying power to consumers with the ability to reaccelerate the U.S. housing market.
• We had been concerned about the increasing interest rates and the unintended consequences that could arise given how low and for how long rates had remained depressed. It appears the Fed has kicked the can down the road for “normalizing” the environment and thereby removing what we felt was one of the biggest risks to this cycle given the likely unnatural things that have occurred in the market due to the extended period rates have remained low. In fact, it appears interest rates will be lowered at least once this year. With this risk removed over the near-term, it should be more constructive for the market. We feel the fund can offer a very competitive income component relative to fixed income markets while providing the potential for income growth and better capital appreciation.
• We expect that the moderating inflationary pressures driven by commodity prices will surprise the market over the next six months. Many companies push through pricing with a lag relative to costs increases. Over the past 18 months, companies have been combating ever increasing raw materials. Over the next two quarters, we would expect pricing to have caught up to cost inflation, providing margin expansion opportunities for those companies that have pricing power. We expect this to most directly benefit those heavy users of steel, materials and freight as all have seen recent deflation. Oil prices remained fairly stable during second quarter. Tariffs remain a potential headwind but ascertaining the likelihood of implementation seems to be a fool’s errand.
• Much is still unknown across the globe. It appears China has been attempting to stimulate its economy and we expect we will see this produce accelerating growth over the coming months. As this occurs, it should have follow-on impacts in both Europe and Latin America. Brexit remains a potential risk event, but as the stakes are so high, we continue to expect a moderate outcome versus a more extreme exit. With the near-term removal of higher interest rates given actions by the Fed, it appears the U.S. is still the most stable of the global economies to invest; however, we expect global growth acceleration to closely match the U.S. economy throughout the year. The tactics of President Donald Trump still have the potential to concern the market, but thus far his actions have shown a deep awareness of any damping of the stock market.

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 June 30, 2019, 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 06/30/2019: Avery Dennison Corp. 3.1, Scotts Miracle-Gro Co. 3.0, Maxim Integrated Products, Inc. 3.0, Service Corp. International 2.9, Hasbro, Inc. 2.9, RPM International, Inc. 2.9, Encompass Health Corp. 2.9, Polaris Industries, Inc. 2.9, Broadridge Financial Solutions 2.8 and Arthur J. Gallagher & Co. 2.8. 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.

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.