Financial services stocks were mostly flat in the third quarter. Favorable U.S. economic data and new stimulus measures in Europe and China were supportive, but falling long-term interest rates, which hurt the ability of banks to profit from the difference between deposit rates and rates for the loans they make, and concerns about sluggish global economic growth weighed on the sector.
The Financial Services Fund returned 0.48% in the quarter compared with 0.74% for the Russell 3000 Financial Index and −1.12% for the Lipper Financial Services Funds Index. For the 12 months ended September 30, 2014, the fund returned 13.34% versus 15.87% for the Russell 3000 Financial Index and 12.08% for the Lipper Financial Services Funds Index. The fund's average annual total returns were 13.34%, 11.53%, and 5.19% for the 1-, 5-, and 10-year periods, respectively, as of September 30, 2014. The fund's expense ratio was 0.88% as of its fiscal year ended December 31, 2013.
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Current performance may be lower or higher than the quoted past performance, which cannot guarantee future results.
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The fund remains positioned for a broad U.S. economic recovery. In a reversal from the second quarter, capital markets companies helped performance, especially security broker-dealers and trust banks. Money center banks contributed significantly to our results; we expect that higher interest rates, a pickup in loan growth, and more normalized levels of capital markets volatility will boost their earnings growth over the long term. Property and casualty insurance companies detracted from our performance, and we have continued trimming our exposure as valuations have generally become more expensive and as we continue to move into a "soft market" for pricing. Regional banks also weighed on our absolute returns.
Long-term interest rates have declined in 2014, which is contrary to what many expected when the Fed started tapering its asset purchases at the beginning of the year. While we do not know when rates will rise, we expect it will happen within our three-year investment horizon. An eventual rise in rates, along with higher capital markets volatility, should provide upside potential to select financial companies. As the Fed prepares to conclude its asset purchases, fundamental factors like corporate earnings, cash flow, and jobs growth should become more important in assessing the health of individual companies and the overall economy. The transition from a liquidity-driven to a fundamentals-driven market underscores the unique attributes of our investment strategy, which relies on rigorous analysis and careful stock selection.