Waddell & Reed

Quarterly Fund Commentary


Ivy Small Cap Growth Fund (prospectus)
December 31, 2015


Manager(s):
Timothy J. Miller, CFA

Market Sector Update

  • After the drubbing in 3Q, the markets staged a respectable rally through November but then faded in December 2015. The one constant was volatility, and sector rotation was far too frequent to discern any sustainable trend.
  • For 4Q, large-cap stocks were the winner, and large-cap growth was the strongest style component. Small caps underperformed for the quarter and the year; but were consistent on a style basis, with small-cap growth outperforming value for both the quarter and the year.
  • Most of the style dispersion could be explained by the horrible year for the commodity/materials/energy sectors, which are heavier in the value indexes, as compared to a volatile, but positive year for the growth-oriented health care and technology stocks.
  • The domestic economy continued to chug along at a slow but steady pace. The usual 4Q jitters for the consumer and retailers was exacerbated this year by balmy weather east of the Mississippi, but in reality the post-holiday data showed that consumer spending remained healthy. There just weren’t many coats and boots bought in New York this Christmas.

Portfolio Strategy*

  • The Fund underperformed its benchmark, the Russell 2000 Growth Index, for the period ended Dec. 31, 2015. As mentioned in previous quarters, the Fund’s strategy was clearly skewing toward the higher quality, strong balance sheet, and more conservatively positioned growth companies, which paid off for the most part during 4Q.
  • The slight shortfall to the benchmark was attributed mostly to the strong rebound in the speculative biotech group. On an attribution basis, the lag was entirely attributed to the “allocation effect,” as stock selection was a positive contributor for the quarter.
  • The best contributors from a stock selection basis were in the consumer discretionary, consumer staples, technology and energy sectors. Specific names included Sonic Corp., Vail Resorts, Ultimate Software and Jack Henry. New positions established in the Federal IT services segment also performed well, including Booz, Allen & Hamilton, CACI and Science Applications International.
  • While energy performed poorly again in the quarter, the Fund’s stocks were actually up, including RSP Permian, Diamondback Energy and a trade in Bonanza Creek Energy that is no longer a holding in the Fund. The shortfall in health care was primarily biotech related, but a few stocks like Dexcom lagged the recovery. The Fund’s biotech swap position partially mitigated the shortfall.**/***

Outlook

  • Global turmoil and the uncertain economic situation in China, combined with the beginning of the Federal Reserve’s (Fed) quantative easing unwinding will likely keep pressure on the markets on a near-term basis. Hence the Fund’s conservative positioning seems appropriate.
  • Small-cap stocks historically have performed well in the early stages of a Fed rate hike cycle reflecting strong economic activity, so once the dust settles a bit overseas, we believe a more aggressive posture toward the technology, consumer and possibly energy sectors should be warranted.

*Top 10 holdings (%) as of 12/31/2015: Ultimate Software Group Inc. 4.1, Vail Resorts Inc. 3.9, Jack Henry & Associates, Inc. 3.1, Bank of the Ozarks Inc. 2.8, SVB Financial Group 2.7, AMN Healthcare Services 2.6, Watsco, Inc. 2.6, Sonic Corp. 2.5, DexCom, Inc. 2.4 and Manhattan Associates 2.3.

** The Fund invests in derivative instruments, primarily total return swaps, futures on domestic equity indexes and options, both written and purchased, in an attempt to increase exposure to various equity sectors and markets or to hedge market risk on individual equity securities.

** Such investments involve additional risks, as the fluctuations in the values of the derivatives may not correlate perfectly with the overall securities markets or with the underlying asset from which the derivative’s value is derived.

The opinions expressed in this commentary are those of the Fund’s manager and are current through Dec. 31, 2015. The manager’s views are subject to change at any time based on market and other conditions, and no forecasts can be guaranteed. Past performance is no guarantee of future results.

The Russell 2000 Growth Index measures the performance of the small-cap growth segment of the U.S. equity universe. It is not possible to invest directly in an index.

Risk factors. The value of the Fund’s shares will change, and you could lose money on your investment. Investing in small-cap stocks may carry more risk than investing in stocks of larger, more wellestablished companies. 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. 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.

Investors should consider the investment objectives, risks, charges and expenses of a fund carefully before investing. For a prospectus, or if available a summary prospectus, containing this and other information for the Ivy Funds, call your f nancial advisor or visit us online at www.ivyfunds.com. Please read the prospectus or summary prospectus carefully i before investing.

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