Market Sector Update

• Several of the political and macroeconomic drivers of the second quarter persisted into this quarter, although asset prices generally performed better.
• Trade tensions continued to increase, especially with China, despite the U.S. agreement with Mexico and Canada to update the North American Free Trade Agreement with the U.S.-Mexico-Canada Agreement.
• The new Italian government continued to threaten the status quo in the European Union (EU) by submitting a budget well beyond deficit limits, leading to Italy’s underperformance in both equity and fixed income markets.
• Chinese economic data continued to weaken a bit while the ruling Chinese Communist Party looked for ways to stimulate the economy, likely somewhat in an effort to soften the U.S.-led trade blows.
• U.S. yields continued to rise. The U.S. Federal Reserve (Fed) hiked interest rates late in the quarter for the third time this year. While the yield curve flattened a bit during the quarter, the 10-year yield rose.
• U.S. housing activity remained subdued again this quarter as rising rates offset wage growth and favorable demographics.
• U.S. equities generally outperformed other developed markets and emerging markets, with large-cap equities outperforming small caps and growth outperforming value.
• As noted, Italy led the European market underperformance. Developed market currencies generally weakened, as well, further damaging returns in U.S. dollar terms.
• Emerging markets continued their pullback, partially because of trade concerns and the knock-on effect of currency weakness. The currencies of Turkey and Argentina fell 32% and 43%, respectively, versus the U.S. dollar. The Indian rupee also stumbled 6% during the quarter as rising energy prices exacerbated a dual-deficit position.
• Fixed income markets were mixed, with longer-duration, dollar-denominated bonds and Treasuries reacting to higher long-term rates. Credit spreads in general were tighter, leading to outperformance in several areas of credit, including U.S. high yield and even emerging market hard currency aggregates.
• While crude oil prices rose during the quarter, commodities generally moved lower – often a feature of a time of a stronger U.S. dollar – including gold.

Portfolio Strategy

• The Portfolio had a positive return for the quarter that slightly trailed the positive return of its all-equity benchmark.
• The equity sleeve performed well in the Portfolio. It was led by investments in technology, including a relatively new position in Qualcomm that benefitted from mobile 5G positioning and increased share repurchases.
• Fixed income holdings in the diversifying sleeve overall contributed to performance. Credit helped the most, with both loans and bonds benefiting from solid security selection. A position in Argentina sovereign debt (U.S. dollar denominated) hurt performance a bit while Treasuries – held primarily for risk-diversification purposes – declined the most.
• Gold prices declined nearly 5% during the quarter and comprised about 4.6% of the Portfolio.

Outlook

• Our chief concern heading into this quarter was, and still remains, the disruption of global trade brought on by changes in U.S. policy. While we might agree with the long-term strategy of negotiating for a more level playing field for U.S. companies, as investors we fear the effects of disjointed supply lines and the potential evaporation of the disinflationary benefits of global competition.
• Given what appears to be a desire to position China as the main problem heading into the U.S. mid-term election, it has become more clear to us that a breakthrough deal is not immediately forthcoming. Unfortunately, the market’s consensus opinion appears to be reaching the same conclusion.
• We continued to reposition somewhat during the quarter, trimming large technology positions that had performed well, reducing equity exposure slightly while reinvesting in shorter-duration and floating-rate fixed income instruments. We will likely continue to do this at the margin, when warranted.
• We are wrestling with outperformance of U.S. equity markets at the expense of other developed and especially emerging markets, exacerbated and prolonged by the trade issues. Predicting the administration’s tactics, and even its overall aims, has proven difficult and we have no edge there. However, as valuations outside of the U.S. grow in relative attractiveness, we are likely to begin to shift exposure to those areas as we find opportunities.
• The Portfolio is currently positioned in the middle of our risk budget, where the expected volatility of the Fund is 80% of the expected volatility of its benchmark index. We don’t expect that to change dramatically as trade and interest rate risks battle with a strong U.S. economy and, for the most part, attractive fundamentals.

The opinions expressed are those of the Portfolio'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, 2018, 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 Equity Holdings as a percent of net assets as of 09/30/2018: Microsoft Corp., 2.98%; Pfizer, Inc., 2.43%; Amazon.com, Inc., 2.19%; AIA Group Ltd., 2.08%; Visa Inc., Class A, 2.06%; Airbus SE, 1.78%; Qualcomm, Inc., 1.73%; Home Depot (The), 1.56%; Intuit, Inc., 1.56%; Coca-Cola Co. (The), 1.55%.

W. Jeffery Surles, CFA, became a co-portfolio manager on the Fund on Feb. 5, 2018. Co-Portfolio Manager Cynthia Prince-Fox retired from the firm on April 30, 2018.

Risk factors: The value of the Portfolio’s shares will change, and you could lose money on your investment. An investment in the Portfolio is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. The Portfolio may allocate its assets among different asset classes of varying correlation around the globe. The Portfolio’s Equity Sleeve typically holds a limited number of stocks (generally 50 to 70). As a result, the appreciation or depreciation of any one security held by the Portfolio may have a greater impact on the Portfolio’s NAV than it would if it invested in a larger number of securities. 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. The Portfolio’s Diversifying Sleeve includes fixed-income securities, that are subject to interest-rate risk and, as such, the net asset value of the Portfolio may fall as interest rates rise. Investing in high-income securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Loans (including loan assignments, loan participations and other loan instruments) carry other risks, including the risk of insolvency of the lending bank or other intermediary. Loans may be unsecured or not fully collateralized may be subject to restrictions on resale and sometimes trade infrequently on the secondary market. The Portfolio may seek to hedge market risk via the use of derivative instruments. Such investments involve additional risks. Investing in commodities is generally considered speculative because of the significant potential for investment loss due to cyclical economic conditions, sudden political events, and adverse international monetary policies. Markets for commodities are likely to be volatile and the Portfolio may pay more to store and accurately value its commodity holdings than it does with the Portfolio’s other holdings. These and other risks are more fully described in the Portfolio's prospectus.

Annuities are long-term financial products designed for retirement purposes. Annuity and life insurance guarantees are based on the financial strength and claims-paying ability of the issuing insurance company. The guarantees have no bearing on the performance of a variable investment option. Variable investment options are subject to market risk, including loss of principal. There are charges and expenses associated with annuities and variable life insurance products, including mortality and expense risk charges, management fees, administrative fees, expenses for optional riders and deferred sales charges for early withdrawals. Withdrawals before age 59 1/2 may be subject to a 10% IRS tax penalty and surrender charges may apply.