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U.S. equity markets advanced during the fourth quarter of 2013 amid indications of an acceleration of economic growth. Investors appeared to be comfortable with the prospect that the U.S. Federal Reserve would begin to withdraw monetary accommodation via reduced monthly bond purchases. Indeed, the Fed announced on December 18 that it would start "tapering" at a modest pace during 2014. The outlook for other major global economies was decidedly mixed: the eurozone remained sluggish; Japan's growth rate decelerated despite an enormous stimulus program; and China's growth pace quickened amid government efforts to restructure the economy.
Credit-sensitive segments of the fixed-income market continued to outperform interest rate-sensitive groups in the fourth quarter. The high-yield bond market (as represented by the BofA Merrill Lynch High Yield Master II Constrained Index1) posted a 3.49% return for the quarter. The convertible bond market (as represented by the BofA Merrill Lynch All Convertibles Index2) posted a return of 6.02%, while the floating-rate loan market (as represented by the Credit Suisse Leveraged Loan Index3) returned 1.82%.
The Fed noted that "the economy continued to expand at a modest to moderate pace" between early October and mid-November, based on reports from the 12 Fed districts. The Fed said manufacturing activity expanded in most districts, with gains noted in the motor-vehicle and high-technology industries. Reports on retail spending were positive, though retailers reported being "hopeful, but cautious" ahead of the holiday season.4 The second estimate for the third quarter of 2013 showed that the economy grew by an annualized rate of 3.6%, above the previous estimate of 2.8%. Second-quarter 2013 growth was 2.5%.5
The Fund returned 6.32%, reflecting performance at the net asset value (NAV) of Class A shares, with all distributions reinvested, for the quarter ended December 31, 2013. The Fund's benchmark, the BofA Merrill Lynch All Convertibles, All Qualities Index,2 returned 6.02% in the same period. Average annual total returns, which reflect performance at the maximum 2.25% sales charge applicable to Class A share investments and include the reinvestment of all distributions, as of December 31, 2013, are: one year: 23.05%; five years: 14.30%; and 10 years: 5.86%. Expense ratio, gross: 1.13%, and net: 1.06%.
Performance data quoted represent past performance, which does not guarantee future results. Current performance may be higher or lower than the performance data quoted. The investment return and principal value of an investment in the fund will fluctuate so that shares, on any given day or when redeemed, may be worth more or less than their original cost. To obtain performance data current to the most recent month-end, call Lord Abbett at 1-888-522-2388 or visit us at www.lordabbett.com.
The consumer discretionary and technology sectors were the largest contributors to relative performance during the quarter. Within the consumer discretionary sector, United Rentals, Inc., an equipment rental company, benefited as the strengthening economy drove both higher utilization and higher gross margins for industrial equipment. Management noted that growth in nonresidential construction could continue to provide a strong backdrop for 2014. Selection within autos also was strong. Equity holding General Motors Co. continued to trend higher, as the company has recovered post its 2009 U.S. government bailout. GM has emerged with lower labor costs, less debt, and streamlined brand offerings. Within technology, semiconductor manufacturer Micron Technology, Inc. made gains this quarter; the company accomplished the acquisition of a competitor at favorable terms and benefited from pricing power in the mobile DRAM market. Within financials, Alliance Data Systems Corp. benefited from increasing revenue from its private-label business, which runs store-branded credit card programs, as credit card receivables rose.
The healthcare and industrials sectors were the largest detractors from relative performance during the quarter. Within healthcare, biopharmaceutical firm Amarin Corp. (Corsicanto Ltd.) detracted from relative performance as its drug Vascepa failed to receive Food and Drug Administration (FDA) approval for use in a broader patient population. The FDA requested further study on the drug. Within industrials, global engineering firm Chart Industries, Inc. reported disappointing earnings due to pricing and operational issues, and also set lower guidance for the future. Within the energy sector, Cobalt International Energy, Inc. sold off as the company reported that a new development field in Angola would provide higher gas content and lower liquid content than expected.
Please refer to www.lordabbett.com under the "Portfolio" tab for a complete list of holdings of the Fund, including the securities discussed above.
U.S. convertible issuance escalated in the fourth quarter, as new issuance grew to its highest level since the second quarter of 2008. A robust group of industries, led by the technology sector, raised $48 billion in capital in 2013, more than double the total raised in 2012, according to Barclays. Importantly, the bulk of capital raised in 2013 was for "offensive purposes," such as acquisition or expansion, rather than "defensive purposes," such as debt refinancing. As the economy improves and corporations become more acquisitive, we expect this favorable trend to continue.
We anticipate that the backdrop for the convertible market will remain strong: a domestic economic expansion should both support underlying equity valuations and increase convertible issuance. (Higher equity values reduce the potential dilution from convertible issuance, which could encourage corporations to favor equity-linked securities over straight debt issuance.) An expected gradual increase in interest rates should also increase the relative attractiveness of convertible issuance over straight debt for corporate issuers.
The convertible market has become more equity-sensitive, and, accordingly, we've taken steps to manage the portfolio's equity-valuation risk. We have been disciplined in trimming appreciated holdings and have added more "balanced" holdings to the portfolio.
The portfolio is positioned for an economic recovery environment. We are underweight yield-sensitive sectors relative to the benchmark, such as utilities and real estate investment trusts (REITs), which may become less attractive as interest rates drift higher, and have added to pro-cyclical names and growth names. After a year of strong small cap outperformance, we also rebalanced toward larger cap names.
Performance data quoted is historical. Past performance is not indicative of future results. Current performance may be higher or lower than the performance quoted. The investment return and principal value of an investment in the Fund will fluctuate so that shares, on any given day or when redeemed, may be worth more or less than their original cost. To obtain performance data current to the most recent quarter-end, go to quarter ending performance on our Website or call Lord Abbett at (888) 522-2388.
1 The Fund’s dividend yield is shown without sales charges (at NAV) and with maximum sales charges (at MOP). The Fund’s dividend yield takes into account any fee waiver or expense limitation arrangements, if any. Without such fee waivers or expense limitation arrangements, the Fund’s dividend yield would have been lower. Information regarding any fee waivers or expense limitation arrangements applicable to the Fund is provided with the Fund’s expense ratio information.
2 The Fund’s unsubsidized dividend yield is shown without sales charges (at NAV) and with maximum sales charges (at MOP). The Fund’s unsubsidized dividend yield reflects what the yield would have been without the effect of fee waivers or expense limitation arrangements.