Capital Income Fund (HWIIX)
The performance data quoted represents past performance and does not guarantee future results. Current performance may be lower or higher. Investment return and principal value of the fund will fluctuate, and shares may be worth more or less than their original cost when redeemed. Click quarter-end or month-end to obtain the most recent fund performance.
The U.S. equity market’s +12.59% return, as measured by the S&P 500 Index for the quarter ended March 31, 2012, was its best opening quarter since 1998, while the U.S. high yield market’s +5.15% return, as measured by the BofA Merrill Lynch U.S. High Yield Master II Index, was its best opening quarter since 2003. The advance was prompted by continued signs of a strengthening U.S. economy and the absence of new negative global macroeconomic developments. As short-term fears subsided and became a less prominent driver of investor behavior, we observed a shift in the market’s focus toward underlying fundamentals and valuations of individual securities. This type of shift has the ability to reduce the correlation of returns across securities which should form an environment conducive for bottom up, fundamental value investors.
Going forward, we remain optimistic regarding the equity and high yield market’s prospects due to considerable fundamental improvements exhibited across the corporate sector. Despite modest economic growth, companies have generated robust earnings and cash flows. Valuations continue to be compelling even after this quarter’s appreciation. Also, we believe the market’s affection for Treasuries is likely to recede as real yields at/below zero will eventually erode the purchasing power of institutional and individual investors alike. The rise in Treasury yields over the first quarter may well be a harbinger of this cautionary message.
With the lingering sovereign debt issues in Europe and the uncertain growth prospects in emerging markets, we are prepared to combat bouts of elevated volatility in the near/medium-term. During these episodes, we have found that the changes in security prices (i.e. volatility) are often not commensurate with the changes in real risk. Our experience has shown us that focusing on corporate fundamentals is the most effective course when navigating erratic waters; we attempt to mitigate risk through sound valuation support and an exhaustive assessment of underlying company risks.
Asset Allocation: The Hotchkis & Wiley Capital Income Fund (Class I) returned +7.11% during the quarter versus the S&P 500 Index return of +12.59% and the BofA Merrill Lynch U.S. Corporate, Government & Mortgage Index return of +0.29%. Disproportionately attractive equity valuations led us to overweight equities during the quarter, which helped performance.
Equities: High dividend payers underperformed low/non dividend payers considerably during the quarter, which hurt the performance of the equity portion of the Fund. About 16% of the S&P 500 Index is composed of companies that do not pay a dividend—this group returned +22% over the quarter. In contrast, about 8% of the S&P 500 Index is composed of companies with a dividend yield greater than 4%--this group returned +2% for the quarter. The Fund is considerably underweight the former and overweight the latter, which caused the equity portion of the Fund to lag the S&P 500 for the quarter.
Fixed Income: The high yield portion of the Fund outperformed the broad benchmark (BofA Merrill Lynch U.S. Corporate, Government & Mortgage Index) and the high yield benchmark (BofA Merrill Lynch U.S. High Yield Master II Index) for the quarter. All of the outperformance is attributed to positive credit selection as sector allocation was neutral. Positive credit selection in the basic industry, banking, and automotive sectors were the largest performance contributors over the quarter. Credit selection was positive or neutral in 16 of the 17 BofA Merrill Lynch industries. The only blemish was utilities, where we modestly underperformed the index.
Mutual fund investing involves risk. Principal loss is possible. Investments in debt securities typically decrease in value when interest rates rise. This risk is usually greater for longer-term debt securities. Investment by the fund in lower-rated and non-rated securities presents a greater risk of loss to principal and interest than higher-rated securities. The Fund may invest in derivative securities, which derive their performance from the performance of an underlying asset, index, interest rate or currency exchange rate. Derivatives can be volatile and involve various types and degrees of risks. Depending on the characteristics of the particular derivative, it could become illiquid. Investment in Asset Backed and Mortgage Backed Securities include additional risks that investors should be aware of such as credit risk, prepayment risk, possible illiquidity and default, as well as increased susceptibility to adverse economic developments. The Fund may invest in foreign as well as emerging markets which involve greater volatility and political, economic and currency risks and differences in accounting methods.
Fund holdings and/or sector allocations are subject to change and are not buy/sell recommendations. Current and future holdings are subject to risk.
The opinions expressed are those of the portfolio managers as of March 31, 2012 and may not be accurate reflections of their opinions after that date. There is no guarantee that any forecasts made will come to pass. The Fund may not continue to hold the securities mentioned and the Advisor has no obligation to disclose purchases or sales of these securities. Growth stocks typically are more volatile than value stocks; however, value stocks have a lower expected growth rate in earnings and sales. Past performance is no guarantee of future results.
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