Waddell & Reed

Quarterly Fund Commentary

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

Kenneth G. Gau

Market Sector Update

    • Several quarters ago we introduced the analogy “three yards and a cloud of dust” comparing football legend Woody Hayes’s run heavy style offense at Ohio State to the current market environment, suggesting that we should expect net positive yardage yet in small chunks, and also suggesting that not every play would generate positive yardage. • After encountering several negative return quarters in the market (2Q and 3Q for the Russell 2000 Value Index, Fund’s benchmark) this analogy was looking ill conceived, but in the 4Q the index did once again post a positive return. Unfortunately, the 4Q return wasn’t able to overcome the deficit created in the previous two quarters, hence the index finished down for the year. While we will stand by this analogy, we believe that positive market performance (yardage) will be more challenging to achieve in this current environment until oil and the U.S. dollar are less volatile. • In 4Q, the top performing benchmark sectors were technology, health care and utilities. The worst were energy, consumer discretionary and materials. On the surface nothing seems too shocking when looking at these sectors, but if you get below the surface and look at industries and individual stocks, it is far choppier than what the surface would suggest.

Portfolio Strategy*

    • The Fund performed nearly in line with the benchmark, before the effects of sales charges, in the quarter ended Dec. 31, 2015. • In terms of sectors, consumer staples, technology and consumer discretionary provided the greatest outperformance while materials, utilities and financials were the greatest laggards. • At the stock level, Diamond Foods contributed greater than 50 basis points to performance, and PRA Group and Flotek detracted over 50 basis points. • Overall, we felt quite satisfied that the Fund did a good job of protecting on the downside during the market slide in 3Q2015 and then hung in 4Q2015 during the market snap back.


    • After the struggle the markets experienced in 2015, it is clearly calling into question whether the bull market run, which is in its 82nd month (since March 2009) is approaching its end. Based on the length of past recoveries it is true that this recovery is longer than average, but this is also not a typical recovery in that the last recession was far more severe than most, and the recovery trajectory has been more gradual. • It would also be shocking to see a bear market develop just after the Fed raised rates. One thing that is for sure is that wherever we are in this current cycle it will continue to be heavily debated in the markets in the coming months, which will sustain the heighted volatility until there is greater clarity. • Based on the current uncertainty surrounding what stabilizes oil and slows the ascent of the U.S. dollar, it seems prudent to have a more defensive bias. With that said, we remain more focused on bottoms up research trying to identify companies that we believe are undervalued and have a catalyst to correct this mispricing rather than trying to pin point the exact turns in the market. • Identifying good companies over time has served our clients well, and we have yet to find a shortage of opportunities that fit the Fund’s investment process.


*Top 10 holdings (%) as of 12/31/2015: Diamond Foods 5.2, Bank United 4.0, Take-Two Interactive Software 3.7, TreeHouse Foods, Inc. 3.6, Webster Financial Corp. 3.5, LifePoint Hospitals 3.3, Great Plaines Energy 3.0, Smart & Final Stores 3.0, Monro Muffler Brake 2.8 and Carmike Cinemas 2.9.

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 Value Index measures the performance of the small-cap value segment of the U.S. equity universe. It is not possible to invest directly in an index.

Risk factors. he value of the Fund’s shares will change, and you could lose money on your investment. 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. The value of a security believed by the Fund’s manager to be undervalued may never reach what the manager believes to be its full value, or such security’s value may decrease. Investing in small-cap stocks may carry more risk than investing in stocks of larger, more well-established companies. 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 financial advisor or visit us online at www.ivyfunds.com. Please read the prospectus or summary prospectus carefully before investing.

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