Market Sector Update

• U.S. Treasury yields continued their climb higher in the quarter. The 2-year note increased 29 basis points (bps) to 2.82% and the 10-year note rose 20 bps to 3.06%. The Fund’s benchmark outperformed U.S. Treasuries reversing course from the previous two quarters.
• The Federal Reserve (Fed) hiked interest rates in September for the eighth time in this cycle, as expected. Currently, the upper range for the federal funds rate is 2.25%.
• Revised estimates showed second quarter GDP increased at a 4.2% growth rate. This was the strongest reading since 2014. President Trump’s pro-business policies and tax cuts are credited with improving business confidence, capital expenditures and overall output. Most of the incoming economic data exhibited strength including consumer confidence and the ISM manufacturing surveys.
• Issuance in the investment grade market was $277 billion in the quarter, roughly in line with the prior four-year average of $280 billion. Year-to-date issuance related to mergers and acquisitions (M&A) was $177 billion, which already exceeds the $143 billion total in 2017. Pending issuance for M&A is likely to drive total 2018 issuance for M&A to $230 billion, which would exceed the $221 billion issued in 2016, but well under the $275 billion in 2015. This type of funding is important to monitor as it often drives leverage trends higher.

Portfolio Strategy

• The general strategy has been to increase the Fund’s duration and quality. We made progress on this theme during the quarter, increasing duration from approximately 85-86% of the benchmark at the end of the June to approximately 94% of the benchmark at the end of September. The overall quality of the Fund has improved as we have been selectively selling BBB-rated and lower securities and adding higher rated investment grade securities.
• Liquidity has been a popular topic of late in relation to fixed income, most notably in corporate bonds. Liquidity has been top of mind when identifying potential corporate bond sales from the portfolio and candidates for purchase from the market.

Outlook

• The Fed is widely expected to raise rates again in December. Consensus is more difficult in 2019 and beyond, primarily because many believe we are close to the end of the hiking cycle. Another increase in December would put the rate at 2.50%. Many feel the terminal, or final fed funds rate, in this cycle could be around 3%. If that is true, it means there may only be a few hikes in 2019 or later.
• Tariffs and trade issues may bleed through into growth in the coming quarters and could cause the Fed to pause for a quarter or two. Time will tell if the President’s trade policies have a negative effect on growth in the third quarter. One thing Fed Chairman Powell has been transparent about is the fact that the incoming data will be used in determining the pace of rate hikes. He has been clear the Fed wishes to keep the recovery going while also keeping with the plan to normalize interest rates.
• We could see more market volatility in the fourth quarter as the midterm elections take place next month and could change the political landscape. Oil prices have been steadily rising. The labor market continues to be strong and labor costs appear to be rising finally. We will be watching to see if inflation remains tame.
• The outlook for spreads is balanced – on the positive side, relative valuation as investment grade spreads have underperformed that of equities, high yield and other risk assets, while the negative is the lack of improvement in leverage trends. Given that balance, we remain focused on high-level risk factors (overall duration and spread relative to the index), as well as sector and individual security selection. We are enthusiastic about our ability to pick credits with compelling relative value as well as idiosyncratic catalysts which should contribute positively to returns going forward.

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.

The Ivy VIP Bond portfolio was renamed Ivy VIP Corporate Bond on April 30, 2018.

Rick Perry served as a portfolio manager on the Portfolio until April 12, 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. Fixed income securities are subject to interest rate risk and, as such, the net asset value of the fund may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. These and other risks are more fully described in the Portfolio's prospectus. Not all funds or fund classes may be offered at all broker/ dealers.

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.