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Following the Principles of Islamic Finance

Quarterly Commentary

Q4 2012 · December 31, 2012


From a global economic perspective, 2012 closed on a pessimistic note. As the countries of southern Europe continue to struggle with high unemployment, deteriorating bank balance sheets and burdensome public debt, the European Commission has slashed its growth outlook for the region. Eurozone (countries sharing the common currency) GDP is projected to have contracted 0.4% in 2012 and is forecast to rise a desultory 0.1% in 2013 before expanding 1.4% in 2014.¹ Meanwhile, December's European Purchasing Managers' Index (PMI) of 46.1 was firmly in contraction territory.² We see no near-term resolution of the issues plaguing Europe and fully expect the drama surrounding Greece, Spain, Portugal, and Italy (the latter especially if Berlusconi recaptures the Italian premiership) to continue for several quarters, if not years.

Meanwhile, Japan's economy contracted by 0.9% in the third quarter.³ The weak performance, along with a number of broken promises regarding taxes, led voters to oust Prime Minister Noda of the Democratic Party of Japan and return former PM Shinzo Abe of the long-ruling Liberal Democratic Party to power. PM Abe has vowed to ramp up fiscal and monetary stimulus, and it will be an interesting economic experiment. Currency traders have provided an early indication, with the Japanese yen weakening 11% versus the U.S. dollar since speculation of an election and LDP victory began circulating in early October through year-end. In reaction, many Japanese exporters rallied strongly. Whether or not Abe's policies lead to any sustained return of economic vibrancy in Japan remains unanswered.

Emerging market giants China and Brazil saw growth slow in 2012, in the case of Brazil nearly to a standstill at 0.6% GDP expansion in Q3.4 One emerging market region to buck the trend of decelerating activity was Southeast Asia where Indonesia, the Philippines, Malaysia, and Thailand all registered solid growth rates. Slowing global economies have a negative effect on their export activities, but throughout Southeast Asia the opportunity to support growth through higher domestic consumption and development remains robust.

Quarter-to-Quarter Growth in Real GDP

Amid the global gloom one other region has been doing well — the United States of America – which has presented a bright spot of solid economic performance. Recently, the U.S. Bureau of Economic Analysis revised estimated third quarter GDP expansion higher by 0.4% to 3.1% following second quarter expansion of 1.3%.5 Indeed, the U.S. economy has expanded every quarter since Q3 2009.

In 2013 that track record looks certain to come under pressure as the November PMI report from the Institute for Supply Management (ISM) provided a reading of 49.5% (indicating contraction), a drop from 51.7% in October and the lowest reading since July 2009.6 Interestingly, consumer related sectors such as food, beverages, appliances, furniture, and computer and electronic products, reported expansion, while more industrially oriented activities, such as primary metals, transportation equipment, chemical products, and machinery, reported contraction.

Inevitably, developments within the economy are influenced by developments within politics, and the end of year news has not been positive. When Democrats and Republicans stalemated over negotiations on the debt ceiling in the summer of 2011 and could not agree to a "Grand Bargain" on the budget, they crafted (a word we use loosely) a deficit reduction agreement to go into effect at the start of 2013. This agreement contained a variety of provisions so abhorrent to one party or the other it was thought sensible minds would prevail and a compromise agreement would be reached. While there has been a compromise of sorts (as congress has risen to the challenge of partially addressing a crisis entirely of its own making) and the Bush tax cuts were made permanent for everyone earning less than $450,000, all questions of government spending reductions have been delayed for two months. Additionally, the payroll tax reduction has expired, meaning that every American with earned income will see an increase in taxes — an increase particularly burdensome for those making $114,000 or less due to the regressive nature of the tax. Frankly, it's impossible to imagine a situation in which less money in American pockets leads to anything other than reduced consumer expenditures and, given the importance of the consumer to the American economy, weaker GDP growth. Indeed, the non-partisan Congressional Budget Office had originally estimated that if all the tax and spending policies scheduled to take effect in January 2013 were implemented, real GDP would contract by 0.5% in 2013.7 Given that spending cuts are not immediately coming into force and lower tax rates have been extended for most (apart from the payroll tax) the impact should be less dramatic.

Just to make everything more interesting the debt ceiling will also be a subject of negotiation in the first half of 2013. The House has passed a short term measure which would extend the debt limit ceiling until May 18. The Senate is expected to vote in favor the bill.

Absent the political shenanigans surrounding the budget, there are reasons to be hopeful concerning the outlook for the U.S. economy. As everyone knows, the housing market was ground zero of the economic downturn, but over the past several quarters residential housing has made a positive contribution to real GDP. Equally, the drag on growth from state and local governments has diminished greatly and even turned slightly positive in Q3.

Contributions to Percent Change in Real GDP

However the U.S. economy performs in 2013, we should be careful to differentiate between economic and stock market performance. The Greek economy is projected by the OECD to have contracted 6.3% during 2012, while the Irish economy grew by 0.5%.8 Regardless, the Irish Stock Exchange Overall Index gained 17% for the year, while the Athens Stock Exchange Overall Index soared nearly double that rate, rising 33%. Among more significant economies, U.S. GDP growth is estimated to have more than doubled that of Germany in 2012 (2.2% compared to 0.95%)8 yet Germany's DAX index far out performed the S&P 500.

We mention these examples to illustrate a point. Long-term stock market appreciation requires long-term economic expansion, but in any given year the confluence of economic activity, earnings growth, valuation, politics, and "animal spirits" can lead to investment returns substantially different from what one might expect given a particular macro environment. Therefore, the best approach is to identify those companies with the strongest business models. Whether their strength derives from management quality, innovative products, a dominant competitive position, or some other factor, acquire them at attractive valuations and invest for returns over the cycle.


10 Largest Return Contributors Return Contribution
PPG Industries 65.7% 0.7%
Illinois Tool Works 33.6% 0.6%
Carlisle 34.6% 0.6%
Taiwan Semiconductor ADS 37.8% 0.6%
Eli Lilly 24.3% 0.5%
Pfizer 20.4% 0.4%
Canadian National Railway 17.9% 0.4%
Honeywell International 19.9% 0.4%
Colgate-Palmolive 15.9% 0.3%
McCormick & Co. 28.7% 0.3%
For the year ended December 31, 2012
10 Largest Return Detractors Return Contribution
Intel -12.0% -0.3%
Microchip Technology -7.2% -0.1%
Bristol-Myers Squibb -3.8% -0.1%
United States Steel -9.1% 0.0%
Freeport-McMoRan Copper & Gold -4.0% 0.0%
National Fuel Gas -6.1% 0.0%
Vodafone Group ADS -4.8% 0.0%
E.ON ADS -6.8% 0.0%
SK Telecom ADR 1.8% 0.0%
Sempra Energy 6.0% 0.0%
For the year ended December 31, 2012
Top Ten Holdings (as of 12/31/2012) Ticker % of Portfolio
Eli Lilly LLY 2.7%
Nike NKE 2.5%
Canadian National Railway CNI 2.5%
Colgate-Palmolive CL 2.5%
Illinois Tool Works ITW 2.4%
W.W. Grainger GWW 2.4%
Exxon Mobil XOM 2.4%
Pfizer PFE 2.4%
Carlisle CSL 2.3%
Honeywell International HON 2.2%
Total 24.3%

In Q4 the Amana Income Fund bucked the market's downturn, registering a positive return of 1.89% against a 0.38% decline in the S&P 500, an outperformance of 227 basis points. Despite the solid fourth quarter, the Fund lagged the benchmark for the year returning 9.65% versus 16.0% for S&P 500 Index. For the three and five-year periods ended December 31, 2012, the Fund returned 25.4% and 18.6%, respectively, compared to 36.3% and 8.6% for the S&P 500 Index. Over the past ten years the Fund has returned 185.5% versus 98.6% for the S&P 500.

A significant portion of the underperformance in 2012 relative to the S&P 500 is explained by two factors: cash and the absence of participation in the Financials sector. The Fund's cash position averaged 9.7% over the year, clearly a negative given the benchmark provided a 16% total return. Exiting 2012, the cash position stood at 1.9%. Meanwhile, the Financials sector, apart from being the second largest in the S&P 500, was also the strongest performing, gaining 28.9%, and our lack of exposure hampered relative performance. The Fund also suffered from an underweight allocation to the Consumer Discretionary sector, which was the second best performing sector for the year.

The Amana Income Fund does not hew to any benchmark weightings. Partially that is a function of our values-based investing, Financials being the most representative example. More to the point, it is a function of our stock selection ethos. The search for the best long-term investments can lead to significant over or underweight positions relative to benchmark weightings. In 2012, for example, the Fund was overweight Consumer Staples, Industrials and Materials, while being underweight Energy, Telecommunications Services, and Consumer Discretionary. In most cases the sector allocation worked to our detriment in 2012.



10 Largest Return Contributors Return Contribution
Apple 32.6% 1.3%
ASML Holding 85.6% 0.7%
Amgen 36.8% 0.7%
Trimble Navigation 37.7% 0.6%
TJX Companies 33.0% 0.6%
SAP ADS 55.4% 0.6%
PetSmart 34.9% 0.5%
Adobe Systems 33.3% 0.5%
Novo Nordisk ADS 44.1% 0.5%
Harris 40.2% 0.5%
For the year ended December 31, 2012
10 Largest Return Detractors Return Contribution
Humana -20.6% -0.6%
Hewlett-Packard -43.1% -0.5%
Best Buy -37.2% -0.3%
Infosys ADS -16.1% -0.3%
Intel -12.0% -0.2%
Norfolk Southern -12.7% -0.2%
Gentex -34.8% -0.2%
Barrick Gold -28.4% -0.2%
Anglo American ADR -12.0% -0.1%
Canon ADS -9.2% -0.1%
For the year ended December 31, 2012
Top Ten Holdings (as of 12/31/2012) Ticker % of Portfolio
Apple AAPL 4.9%
Google GOOG 2.8%
Amgen AMGN 2.6%
Intuit INTU 2.5%
Trimble Navigation TRMB 2.4%
Oracle ORCL 2.3%
Qualcomm QCOM 2.3%
Adobe Systems ADBE 2.3%
International Business Machines IBM 2.2%
Total 26.5%

In the fourth quarter of 2012 the Amana Growth Fund returned 0.03%, outpacing both the S&P 500 and Russell 1000 Growth returns of -0.38% and -1.32%, respectively. For all of 2012, however, the Fund gained 11.21%, lagging the S&P 500's 16.0% advance and the Russell 1000 Growth's 15.3% move. For the three and five-year periods ended December 31, 2012 the Fund returned 26.5% and 17.8%, respectively, compared to 36.3% and 8.6% for the S&P 500 Index. Over the past ten years the Fund has returned 202.4% versus 98.6% for the S&P 500.

Cash and our lack of exposure to the Financials sector were the largest contributors to portfolio underperformance. Cash obviously works as a drag in a rising market and our average cash weight for the year was 8.5%. The Fund finished the year with a cash position at 6.0%. The Financials sector is the second largest in the S&P 500 and performed well, leading to a negative allocation effect from our non-participation. The Fund's largest sector exposure was to Information Technology. We were overweight relative to the benchmark and the sector performed well with several representatives including Apple, ASML, SAP, and Adobe populating our list of top contributors. In contrast, there were also a few poor performers in the portfolio including Hewlett-Packard, Infosys, and Intel. As a result, some of the benefit of our allocation was eroded by selection.

Health Care is another large sector and the Fund was overweight with generally good results. Humana partially offset strong positive results from Amgen and Novo Nordisk.



10 Largest Return Contributors Return Contribution
Ford Otomotiv Sanayi 59.8% 0.9%
Aspen Pharmacare Holdings 56.1% 0.8%
M Dias Branco 36.3% 0.6%
CCR 52.9% 0.6%
Clicks Group 26.3% 0.6%
Kalbe Farma 52.5% 0.6%
KPJ Healthcare 28.5% 0.5%
Southern Copper 40.3% 0.5%
Bangkok Dusit Medical Services 31.3% 0.5%
VF 19.9% 0.4%
For the year ended December 31, 2012
10 Largest Return Detractors Return Contribution
Infosys ADR -17.5% -0.3%
MRV Engenharia -22.5% -0.2%
Petroleo Brasileiro ADR -15.4% -0.1%
Freeport-McMoRan Copper -3.6% -0.1%
Millicom Intl. Cellular -10.6% -0.1%
Jasa Marga (Persero) -9.0% -0.1%
Baidu ADR -8.1% -0.1%
Cia Paranaense Ener. ADR -23.3% -0.1%
Nidec ADR -17.6% -0.1%
Gold Fields ADR -8.3% -0.1%
For the year ended December 31, 2012
Top Ten Holdings (as of 12/31/2012) Ticker % of Portfolio
Telekomunikasi Indonesia ADS TLK 2.7%
MercadoLibre MELI 2.7%
Aspen Pharmacare Holdings APN SJ 2.4%
M. Dias Branco MDIA3 BZ 2.4%
Ford Otomotiv Sanayi FROTO TI 2.3%
LATAM Airlines ADS LFL 2.3%
Bangkok Dusit Medical Services BGH/R TB 2.2%
Clicks Group CLS SJ 2.2%
VF VFC 2.2%
Dr. Reddy's Laboratories ADS RDY 2.1%
Total 23.5%

In the fourth quarter of 2012 the Amana Developing World Fund returned 1.8%, lagging the benchmark MSCI Emerging Markets Index return of 5.6%. Over 2012 the Fund gained 6.7%, against the MSCI Emerging Markets Index return of 18.5%. For the three-year period ended December 31, 2012 the Fund returned 3.7% compared to 15.2% for the benchmark.

Emerging market performance varied widely in 2012 with markets such as Turkey, Thailand and the Philippines posting strong gains, while stock markets in three of the four BRIC (Brazil, Russia, India and China) countries experienced lackluster performance. India was the outlier gaining over 20%. With the MSCI Emerging Markets Index gaining 18.5% over 2012, the Amana Developing World Fund's relative performance was severely hampered by the large cash position, which averaged 39% over the course of the year. By year-end the cash position was reduced to 17.5% and we anticipate that the portfolio will be fully invested in the first quarter of 2013. As cash remained significant through the fourth quarter, performance also lagged over that period with the Fund gaining 1.8% versus 5.6% for the MSCI Emerging Markets Index. A second important factor in the underperformance was the absence of exposure to the Financials sector, which carries a 24% weight in the index and performed well.

Within those sectors where the Fund participated, stock selection was mixed with weak performance in Information Technology, Consumer Staples and Telecommunication, while positive stock selection occurred in Energy and Consumer Discretionary.


¹ European Commission Economic and Financial Affairs Autumn Economic Forecast

² Markit Eurozone Manufacturing PMI - Final Data News Release http://www.markiteconomics.com/MarkitFiles/Pages/ViewPressRelease.aspx?ID=10479

³ International Business Times, Japan's GDP Shrinks 0.9% in Q3, Bhaskar Prasad, November11, 2012. http://www.ibtimes.com/japans-gdp-shrinks-09-q3-870244

4 Bloomberg Business Week, Brazil GDP Grows at Half Forecast Pace as Investment Dives, David Biller, November 30, 2012. http://www.businessweek.com/news/2012-11-29/brazil-growth-seen-accelerating-even-as-investment-trails-demand

5 United States Department of Commerce, Bureau of Economic Analysis, GDP Growth Accelerates In Third Quarter, December 20, 2012. http://www.bea.gov/newsreleases/national/gdp/gdphighlights.pdf

6 Institute for Supply Management, November 2012 Manufacturing ISM Report On Business®, December 3, 2012. http://www.ism.ws/about/MediaRoom/newsreleasedetail.cfm?ItemNumber=23317

7 United States Congressional Budget Office, Economic Effects of Policies Contributing to Fiscal Tightening in 2013, November 8, 2012. http://www.cbo.gov/publication/43694

8 Organisation for Economic Co-operation and Development, Economic Outlook No 92, December 2012 http://stats.oecd.org/

Q4 2012 Performance

Average Annual Total Returns (Before Taxes) 10 Year 5 Year 3 Year 1 Year
As of December 31, 2012
Amana Income 11.06% 3.46% 7.84% 9.65%
S&P 500 Index 7.09% 1.66% 10.86% 16.00%
Russell 1000 Value Index 7.38% 0.59% 10.85% 17.51%
Amana Growth 11.70% 3.33% 8.16% 11.21%
S&P 500 Index 7.09% 1.66% 10.86% 16.00%
Russell 1000 Growth Index 7.56% 3.12% 11.34% 15.26%
Amana Developing World Fund¹ N/A N/A 1.21% 6.69%
MSCI Emerging Markets Index 16.38% -0.75% 4.83% 18.47%

As of the Funds' Prospectus dated September 14, 2012, the expense ratios were 1.20% for Amana Income, 1.13% for Amana Growth, and 1.63% for Amana Developing World.

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. 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 or summary prospectus.

The S&P 500 is an index comprised of 500 widely held common stocks considered to be representative of the U.S. stock market in general. The Russell 1000 Growth Index measures the performance of the large-cap growth segment of the U.S. equity universe. It includes those Russell 1000 Index companies with higher price-to-book ratios and higher forecasted growth values.The Russell 1000 Value Index measures the performance of the large-cap value segment of the U.S. equity universe. It includes those Russell 1000 Index companies with lower price-to-book ratios and lower expected growth values. The MSCI Emerging Markets Index, produced by Morgan Stanley Capital International, measures equity market performance in over 20 emerging market countries. 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.

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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.