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Following the Principles of Islamic Finance

Quarterly Commentary

Q3 2011 · September 30, 2011


The equity market rallied strongly into the end of the second quarter of 2011, and this trend initially continued into the current quarter. The S&P 500 quickly posted a 2.5% gain, going from 1,320 to 1,353, and then remained in a relatively calm and tight trading range.

This changed, however, as the market gave away to heavy selling pressure heading into the month of August. A steady flow of negative news out of Europe added to the shock of Standard & Poor's downgrade of U.S. debt from AAA to AA+ and was the main cause of much of the selling. At the outset selling pressure was quick and volatile, often accompanied by heavy volume. At its trough, the S&P 500 closed down -14.38% before retracing some of its losses, finally closing down -5.43% for the month of August.

September did not fare any better as the market continued to whip around headline news coming out of Europe and the lack of policy action by the Federal Reserve. However, it was encouraging, despite the volatility, that three of the major U.S. indices — S&P 500, Dow Jones Industrials, and NASDAQ Composite — all held their respective August lows.

Among the major equity sectors, Technology fared much better than one would expect during a market correction. The bounce from the August low saw Technology retrace much of its losses, and it lagged only two other sectors — Consumer Staples and Utilities — which are often thought of as defensive sectors.

The worst performing sector was Materials, down -24.52% for the quarter. This was followed closely by Financials (-22.79%), Industrials (-21.02%), and Energy (-20.46%) as the deep cyclical sectors were disproportionately punished due to the growing fear of a double dip recession.


With the market correcting -17.27% from the top this quarter, equities are starting to offer better valuations for long-term investors. We continue to maintain a view that the U.S. economy will continue to grow, albeit at low levels. However, Europe remains a wild card. How the sovereign debt crisis resolves itself will have significant influence on how our economy performs, and the extent of this impact is difficult to quantify.

Aside from the economic implications, headline risk from Europe matters because it has caused overall market volatility to increase, and during volatile times all securities tend to trade in same direction — their correlation tends to head toward 1. This phenomenon can hurt bottom-up value managers since their holdings tend to follow the market down despite attractive valuations and strong underlying fundamentals.

However, if European leaders are able to find a tenable long-term solution to the current problem, this will remove a significant risk premium from the market. Individual securities should then decouple from the overall market, and their share prices should better reflect their business dynamics. Further, the Federal Reserve's continued commitment to hold both short-term and long-term rates low should be supportive of equity valuations once European fiscal and monetary headline risks dissipate.



For the calendar quarter ended September 30, 2011, the Amana Income Fund had a total return of -14.15% as compared with -13.87% for its S&P 500 Index benchmark. The Amana Income Fund underperformed the S&P 500 Index by 118 basis points for the one-year period. For the three years ended September 30, 2011, the Fund outperformed the S&P 500 Index by 7.89%.

Portfolio Highlights

In the third quarter, Amana Income made modest portfolio adjustments to reduce the Fund's exposure to the Materials and Energy sectors, in part due to a shift in company-specific fundamentals, and also as a result of changes in overall market sentiment. Aside from these sectors, of note is the Fund's disposition of its entire position in McGraw-Hill. It was sold due to concerns over its rising political risk: Standard & Poor's is a division of McGraw-Hill, and following its downgrade of the country's creditworthiness, it has become the object of much scrutiny. Other notable names that were sold include Arch Coal (Materials), Rio Tinto (Materials), Energen (Energy), and BHP Billiton (Materials). The Fund added to its position in Emerson Electric during the quarter.

Despite reducing its weight in the Materials sector, the Amana Income Fund remains overweight relative to the S&P 500 Index. The other significant overweight is Industrials. The Fund continues to be underweight the Information Technology sector.

Best performers were dominated by defensive names in the Consumer Staples and Health Care sectors. Bristol-Myers Squibb, Kimberly Clark, General Mills, and Colgate-Palmolive were among the best performing names. The laggards included cyclicals such as US Steel, Tenaris, and Freeport-McMoRan Copper and Gold, as well as the German chemical company BASF.



Market volatility in the third quarter of 2011 highlighted Amana Growth's value orientation as the Fund posted strong relative performance. For the calendar quarter ended September 30, 2011, the Amana Growth Fund had a total return of -13.36%, outperforming its S&P 500 Index benchmark by 51 basis points. For the one-year period, the Amana Growth Fund underperformed the S&P 500 Index by -3.68%. For the three-year period ended September 30, 2011, the Fund outperformed the S&P 500 Index by 8.42%.

Portfolio Highlights

In the third quarter, Amana Growth made portfolio adjustments that resulted in a decrease in the Fund's exposure to some deep cyclical sectors. As with the Amana Income Fund, McGraw-Hill was sold entirely and the Fund also decreased its allocations to the Materials and Consumer Discretionary sectors. In these sectors, sales included Teck Resources, CONSOL Energy, Noble, and Rio Tinto. The Fund also sold American Eagle Outfitters and Coach, which brought our Consumer Discretionary allocation to 11.86%, compared to 10.69% for S&P 500.

Another notable name that was sold was China Mobile. The entire position was sold upon our return from a recent research trip to China, during which we met with China Mobile's management and confirmed the company's purchase of 20% of Shanghai Pudong Bank. Shanghai Pudong does not fit strategically with China Mobile's long-term growth prospects, nor does it comply with Amana Growth's investment mandates.

We are comfortable with the business fundamentals and capital liquidity of the remaining companies in Amana Growth's portfolio. Their ability to execute their business plans appears to remain solid, and earnings guidance continues to suggest as much. They should be well positioned to endure the current bout of market volatility.

Following modest defensive trades, the Fund remains overweight Information Technology, and consistent with its investment mandate, continues to have no exposure to the Financials sector. It is also underweight the Energy sector.

As with the Amana Income Fund the best performers for the third quarter were dominated by defensive names such as Church & Dwight, TJX, Eli Lilly and Clorox. However, a number of technology-oriented firms also provided support. These included Apple (the best performer among the holdings), Amazon.com, IBM and Google. Laggards included Agilent and Hewlett-Packard, both of which had poor earnings relative to guidance and a shake-up in the executive suite. The decline in energy prices also saw some oil and gas names sell off. These included Encana and Suncor Energy.



Most emerging markets suffered disproportionately from recent global sell-offs as increased volatility forced investors to reassess their risk appetite. During market volatility, emerging economies tend to be affected much more deeply than advanced economies since most of the developing world's capital markets are relatively small and illiquid. Once investors decide to sell their emerging markets exposures, lower levels of liquidity in these markets tend to exaggerate selling pressure due to an absence of buy-side bids. During the quarter, the Amana Developing World Fund was down -10.78% as compared with -22.49% for the MSCI Emerging Markets Index. The Developing World Fund's 11.70% outperformance relative to the index has also positively impacted longer-term performance. The Fund's one-year return was an impressive 6.55% in excess of its MSCI Emerging Markets benchmark.

Portfolio Highlights

Amana Developing World Fund came into the quarter with a significant cash position, and as a result experienced less volatility than many of its peers. With some of the available capital, the Fund took advantage of market volatility to initiate new positions and add to existing positions at attractive valuation levels.

Specifically, we initiated a position in Total Access Communication, a leading cellular service provider in Thailand. We also added to the Fund's position in LAN Airlines, the largest Latin American airline, as well as Turk Telekomunikasyon, Alamos Gold, VF Corp, Sasol, and Kalbe Farma. These companies operate solid, long-term business franchises in their respective markets and have operations located in fundamentally strong countries.

Given the low weighting of Health Care in the MSCI Emerging Markets Index benchmark (1.14%), it is not surprising that the Fund is overweight this sector. Even with its large cash reserve, the Fund is 4.81% overweight relative to the index. As with the other Amana Funds, the Amana Developing World Fund is underweight the Financial sector. This is significant as the Financials sector is by far the heaviest weighted sector in the MSCI Emerging Markets Index.

Best performers were diverse. The top performer was a Consumer Discretionary stock (VF Corp), followed by a number of companies in defensive sectors. These include Mead Johnson Nutrition (Consumer Staples), Colgate-Palmolive (Consumer Staples) and Telekomunik Indonesia (Telecommunications). Bottom performers, in terms of total return, included Basic Materials companies Tenaris, Freeport-McMoRan, Anglo American, and Southern Copper; and Energy companies Petro-Bras and Enersis; as well as holdings names spread across diverse sectors.

Top Ten Holdings

Amana Income Fund
Colgate-Palmolive 2.2%
Nike 2.2%
Eli Lilly 2.2%
Intel 2.2%
Exxon Mobil 2.1%
Procter & Gamble 2.1%
Bristol-Myers Squibb 2.1%
Novartis ADR 2.1%
Microsoft 2.1%
PepsiCo 2.1%
Total 21.4%
Other Portfolio Securities Mentioned
General Mills 1.9%
Kimberly Clark 1.8%
Emerson Electric 1.6%
Freeport-McMoRan Copper and Gold 1.0%
US Steel 0.5%
Tenaris ADR 0.2%
Positions Closed
McGraw-Hill 0.0%
Arch Coal 0.0%
Rio Tinto 0.0%
Energen 0.0%
BHP Billiton 0.0%
Amana Growth Fund
Apple 4.3%
Humana 2.7%
International Business Machines 2.5%
Hansen Natural 2.5%
Amazon.com 2.4%
Intuit 2.4%
Qualcomm 2.2%
Johnson & Johnson 2.1%
PepsiCo 2.1%
Intel 2.0%
Total 25.2%
Other Portfolio Securities Mentioned
Google 2.0%
TJX 1.9%
Agilent 1.6%
Church & Dwight 1.5%
Clorox 1.4%
Eli Lilly 1.3%
Hewlett-Packard 1.3%
Suncor Energy 1.0%
Encana 0.4%
Positions Closed
McGraw-HIll 0.0%
China Mobile 0.0%
Teck Resources 0.0%
CONSOL Energy 0.0%
Noble 0.0%
Rio Tinto 0.0%
American Eagle Outfitters 0.0%
Coach 0.0%
Other Securities Mentioned
Shanghai Pudong Bank 0.0%
Amana Developing World Fund
VF Corp 2.4%
Mead Johnson Nutrition 2.0%
LAN Airlines ADS 1.9%
Colgate-Palmolive 1.8%
KPJ Healthcare 1.8%
Sasol ADS 1.7%
Alamos Gold 1.7%
Millicom 1.6%
Dr. Reddy's Laboratories ADR 1.5%
Total Access Communication 1.5%
Total 17.9%
Other Portfolio Securities Mentioned
Telekomunik Indonesia ADS 1.5%
Anglo American ADR 1.2%
Kalbe Farma 1.2%
Enersis ADS 1.1%
Freeport-McMoRan Copper and Gold 0.8%
Turk Telekomunikasyon 0.8%
Tenaris ADR 0.7%
Petroleo Brasileiro ADR 0.6%
Southern Copper 0.6%
Positions Closed
China Mobile 0.0%

Q3 2011 Performance

Average Annual Total Returns (Before Taxes) 10 Year 5 Year 3 Year 1 Year
As of September 30, 2011
Amana Income 7.32% 3.78% 3.73% -0.04%
S&P 500 Index 2.81% -1.18% 1.23% 1.14%
Russell 1000 Value Index 3.36% -3.52% -1.53% -1.89%
Amana Growth 8.17% 2.82% 3.89% -2.54%
Russell 2000 Index 6.15% -1.01% -0.36% -3.53%
Russell 1000 Growth Index 2.93% 1.62% 4.69% 3.78%
Amana Developing World Fund¹ N/A N/A N/A -9.53%
MSCI Emerging Markets Index 16.01% 4.99% 6.44% -16.09%

As of the Funds' most recent Prospectus dated September 9, 2011, the expense ratios were 1.21% for Amana Income, 1.14% for Amana Growth, and 1.61% for Amana Developing World.

Please consider an investment's objectives, risks, charges and expenses carefully before investing. For this and other important information about the Amana Funds, please obtain and carefully read a free prospectus or summary prospectus from www.amanafunds.com or by calling toll-free 888/73-AMANA.

Distributor Saturna Brokerage Services, a wholly-owned subsidiary of Saturna Capital Corporation, investment adviser to the Amana Funds and Member FINRA / SIPC.

Performance data quoted herein represents past performance and does not guarantee future results. Investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. Current performance may be higher or lower than performance data quoted herein. Returns do not reflect the potential deduction of a 2% redemption fee on shares held less than 90 calendar days which if applied would have lowered quoted returns. The Funds cannot guarantee that their investment objectives will be met. Securities of the Fund may only be sold by offering the Fund's prospectus. The Russell, S&P 500, and Morgan Stanley ("MSCI") indices are widely recognized indices of common stock prices which reflect no deductions for fees, expenses or taxes. Investors cannot invest directly in the indices.

¹ The Amana Developing World Fund began operations September 28, 2009.

A Fund's performance depends primarily on what happens in the stock market. The market's behavior is often volatile, particularly in the short-term and in periods of unusual market occurrences. Because of this, the value of your investment will rise and fall, and you could lose money. For performance current to the most recent month-end, please ask your representative, visit our Average Annual Returns Page or call us toll-free at 888/73-AMANA (888-732-6262).

A Few Words About Risk

By diversifying its investments, each Fund seeks to reduce the risk of owning only a few securities. Diversification does not assure a profit or protect against a loss in a declining market. The Growth Fund typically invests in smaller and less seasoned companies than the Income Fund, which may lead to greater variability in the Growth Fund's returns. Growth stocks, which can be priced on future expectations rather than current results, may decline substantially when expectations are not met or general market conditions weaken.

The Funds may invest in non-U.S. companies and in foreign markets. Investing in foreign securities involves risks not typically associated directly with investing in U.S. securities. These risks include fluctuations in exchange rates of foreign currencies; less public information with respect to issuers of securities; less governmental supervision of exchanges, issuers, and brokers; and lack of uniform accounting, auditing, and financial reporting standards. There is also a risk of adverse political, social or diplomatic developments that affect investment in foreign countries.

Islamic principles restrict the Funds' ability to invest in certain stocks and market sectors, such as financial companies and fixed-income securities. This limits opportunities and may increase risk.

Important Disclaimers and Disclosure

This report is intended only for the information of the reader, and is not to be used for or considered as an offer or the solicitation of an offer to sell or buy any securities or other financial instruments of any kind, including without limitation, any mutual fund or other product offered, sponsored, created, or managed by Saturna Capital Corporation or its subsidiaries or affiliates ("Saturna"). This report is not intended for distribution to, or use by, any person or entity who is a citizen or resident of, or located in, any locality, state, country, or other jurisdiction in which such distribution, publication, availability, or use would be contrary to law or regulation or which would subject Saturna to any registration or licensing requirement within such jurisdiction.

This document should not be considered as providing investment advice or services, or any service offered by Saturna. Saturna may not have taken any steps to ensure that the securities referred to in this report are suitable for any particular investor. Saturna will not treat recipients as its customers by virtue of their reading or receiving the report.

Nothing in this report constitutes investment, legal, accounting or tax advice or a representation that any investment or strategy is suitable or appropriate to a particular investor's circumstances or otherwise constitutes a personal recommendation to any investor. Saturna does not offer advice on the tax consequences of any investment.

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Saturna does not provide tax, legal or accounting advice. Investors should consult their own tax, legal and accounting advisers before engaging in any transaction. In compliance with IRS requirements, recipients are notified that any discussion of U.S. federal tax issues contained or referred to herein is not intended or written to be used for the purpose of (A) avoiding penalties that may be imposed under the Internal Revenue Code; nor (B) promoting, marketing or recommending to another party any transaction or matter discussed herein.

Past performance does not imply or guarantee future performance, and no representation or warranty, express or implied is made regarding future performance. The price, and value of, and income from, any of the securities or financial instruments mentioned in this report can fall as well as rise. The value of foreign securities and financial instruments is subject to exchange rate fluctuation that may have a positive or adverse effect on the price or income of such securities or financial instruments. Investors in securities such as ADRs — the values of which are influenced by currency volatility — effectively assume this risk.