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Following the Principles of Islamic Finance

Quarterly Commentary

Q2 2013 · June 30, 2013


Everything appeared to be smooth sailing in global equity markets through the first four months of the year as major US indices notched double-digit returns. Several European markets performed well, Abe-nomics rocketed Japan, and Southeast Asia was on a tear. Suddenly, on May 23, talk of quantitative easing (QE) tapering and concerns regarding China's growth led Japan's broad Topix Index (TPX) to plummet nearly 7% in a single day and to fall more than 19% over three weeks before stabilizing in mid-June. Admittedly, Japan was in need of a breather. The TPX had soared 77% (in yen terms) since mid-November 2012 when investors began to believe that Shinzo Abe would win the premiership and initiate "extraordinary monetary policy" (or join the currency debasement race to the bottom depending on your point of view).

Stock Market 12/31/12 — 5/22/13 5/22/13 — 6/30/13
Japan Topix +25% -7%
US S&P 500 +17% -3%
UK FTSE 100 +10% -8%
German Dax +9% -6%
French CAC +11% -6%
Italian FTSE Milan +7% -12%
Spanish IBEX +3% -7%
Swiss Index +17% -5%
Brazilian Bovespa -8% -23%
Indian BSE500 -1% -11%
Russia RTS -3% -12%
China CS300 +6% -15%
Thai SET +22% -15%
Philippine PCOMP +28% -16%
Indonesian JCI +20% -8%
Singapore STI +7% -9%

Source: Bloomberg. All changes measured in USD.

Few markets emerged unscathed from Japan's reversal, but developed markets, especially the US, held up reasonably well as flight to quality kicked in. Germany and Switzerland have also done relatively better. Developed market equities were likely helped by the fact that investors viewed bonds as the easier call and raised cash from fixed income markets. In the emerging world, equity markets that had been performing well until Japan's drop were not spared the carnage. But even those emerging markets that had been performing poorly, such as Russia, Brazil and China, received no respite. As usually occurs, the flight to quality was also reflected in currency exchange rates as the dollar strengthened versus most currencies in the first half, with the US Dollar Index rising 5.4% in the first half of the year.

What might we expect going forward? Harking back to the issues that sparked the Japanese sell-off — QE tapering and China — we are sanguine regarding the former but concerned about the latter. It can certainly be argued that QE has thrown a spanner in the works of anticipating market direction. One key global concern today is growth, so when good industrial production numbers are released, as they recently were in the US,¹ markets react favorably. But if the economy becomes too strong the QE punchbowl will be pulled, so mediocre employment numbers are also treated as a positive. In an environment of what's good is good and what's bad is good, timing markets is a negative sum game. That being said, history gives us reason to welcome the end of extraordinary monetary policy. The table below shows that in seven of nine instances of Fed tightening dating back to 1959, the US stock market moved higher during the 12 months following the first interest rate hike, with a median 12-month gain of 8.5%.

Period Fed Funds Rate S&P Performance
Start End Start End 3-Month 6-Month 12-Month
7/1/1958 7/1/1959 0.7% 3.5% 10.8% 21.0% 29.9%
7/1/1961 7/1/1962 1.2% 2.7% 3.9% 5.5% -12.9%
2/1/1972 2/1/1973 3.3% 6.6% 2.3% 5.5% 8.5%
4/1/1977 4/1/1978 4.7% 6.9% 1.1% -5.4% -6.4%
7/1/1980 7/1/1981 9.0% 19.0% 8.7% 11.0% 7.8%
11/1/1987 11/1/1988 6.7% 8.4% 5.4% 4.5% 10.6%
3/1/1994 3/1/1995 3.3% 6.0% -1.9% 0.7% 6.3%
6/1/1999 6/1/2000 4.8% 6.5% -0.3% 8.0% 10.5%
8/1/2004 8/1/2005 1.4% 3.5% 7.3% 10.2% 12.4%
Average 4.1% 6.8% 7.4%
Median 3.9% 5.5% 8.5%
China: Power Consumption Growth

If we're comfortable with the end of QE, what is the likelihood the market will see gains? There are undoubtedly positive aspects to the US economic outlook. While the external environment remains difficult, the reduction in energy costs brought about by the shale gas revolution has been one factor among several pulling manufacturing activities back to the US. We have seen signs of recovery in the US housing market, with some of the hardest-hit regions rebounding strongly, although it's an open question how much of that activity has been driven by financial players versus end-users. State budgets have improved, offset to an extent by cuts to federal outlays. Current projections are that total federal discretionary spending in the financial year ending September 30 will fall roughly $70 billion from last year's level.² Finally, as we are all aware, taxes have risen. Adding up the pluses and minuses we emerge reasonably optimistic about the US economic outlook, leading us to the assumption that QE will indeed come to an end in our time. Despite the recent angst over such an eventuality, history suggests that a return to normalized monetary policy heralds a positive outlook for equity markets.

We are less enthusiastic about the "Middle Kingdom." China's economic statistics have been suspect for as long as they have been produced, but more reliable figures such as electricity consumption indicate a slowing economy.

The strong blip in consumption in Q4 2012 was most likely caused by the liquidity surge that preceded China's leadership transition. Since then demand has steadily declined and China's new leadership duo of Premier Li Keqiang and General Secretary of the Party Xi Jinping appear committed to reigning in the monetary excesses of the past at the expense of slower economic expansion (even if official GDP figures indicate otherwise). Premier Li is well regarded for his understanding of economic issues, and the consensus among those not in the business of shilling Chinese stocks or real estate is that China's future progress requires some bitter medicine today.

Additional support for a genuine slowdown in China's economic activity can be found in recent trade figures. The numbers released for June revealed a 3.1% year-over-year decline in exports, which is bad news for capacity utilization in an economy that sports a double-digit current account surplus. At the same time, imports slipped 0.7%.³ This was the second consecutive month of poor trade figures. A government crackdown on spurious invoicing to circumvent currency controls accounts for some of the decline but the trend remains clear.

SHIBOR Overnight Rate

Meanwhile, recent gyrations in the Shanghai Interbank Offered Rate put the lie to supposedly strong Chinese bank liquidity, although to what extent the government engineered the spike is a matter of speculation.

The lackluster outlook for China combined with desultory performance in other major developing countries such as India and Brazil, as well as Europe's continued exile to economic purgatory, do not paint a bright picture for hard commodities. Indeed, we have seen steady, albeit generally modest, declines in the prices of most hard commodities since mid-2011. Production increases in the wake of rapidly rising prices from the late 1990s through 2011 combined with waning demand growth may conspire to keep prices weak for some time to come.



As of June 30, 2013

Ten Largest Contributors Return Contribution
Microsoft 21.5% 0.45
W.W. Grainger 12.5% 0.31
Illinois Tool Works 14.1% 0.31
Intel 11.9% 0.23
Nike Class B 8.3% 0.22
Bristol-Myers Squibb 9.4% 0.21
PPG Industries 9.7% 0.19
GlaxoSmithKline ADR 7.7% 0.16
Dun & Bradstreet 17.0% 0.15
Honeywell International 5.8% 0.13
Ten Largest Detractors Return Contribution
Eli Lilly -12.8% -0.32
Carlisle -7.8% -0.18
Freeport-McMoRan Copper -13.0% -0.13
Phillips 66 -15.4% -0.13
Regal-Beloit -20.3% -0.12
Canadian National Railway -2.9% -0.07
Cenovus Energy -7.3% -0.07
EnCana -12.2% -0.07
Rockwell Automation -3.2% -0.06
McCormick & Co -3.9% -0.06
Top Ten Holdings Portfolio Weight
Nike Class B 2.8%
W.W. Grainger 2.7%
Bristol-Myers Squibb 2.5%
Illinois Tool Works 2.5%
Microsoft 2.5%
Colgate-Palmolive 2.4%
Pfizer 2.4%
Honeywell International 2.4%
PepsiCo 2.3%
Canadian National Railway 2.3%

In Q2 the Amana Income Fund trailed its benchmarks, rising 1.7% for the quarter versus 2.9% for the S&P 500, and 3.2% for the Russell 1000 Value Index. On a year-to-date basis the fund has gained 12.3% versus 13.8% for the S&P 500, and 15.9% for the Russell 1000 Value Index.

Portfolio sector allocation was negative in the quarter. Our average cash position of 3% had little bearing on fund performance, but the finance sector, which accounts for 16% of the S&P 500, performed strongly, providing the single largest contribution to index return. The effect was even more dramatic relative to the Russell 1000 Value Index in which the finance sector carries a 28% weight and provided over half the total index return for the quarter. Of course, the Amana Income Fund carries no exposure to the finance sector. Our overweight position in materials was the other major source of negative allocation effect. As discussed above, we are carefully reviewing our materials exposure in light of our outlook for the global economy in general, and China in particular.

Sector allocation is constrained by our investment criteria, as well as by our adherence to bottom-up stock selection. The latter shined through in Q2 as positive stock selection offset much of the allocation drag. While the materials sector continued to trend lower, our positions provided a positive return. Similarly, our return from information technology outpaced both benchmarks handily despite much lower exposure to the sector in the case of the S&P 500, and roughly similar exposure as the Russell Value 1000. Note Microsoft and Intel in the table at right as significant contributors to fund performance in the quarter. The only selection sore spot in the quarter was health care, which encompasses four of our ten largest positions. Eli Lilly weakened following a strong first quarter. Positive returns from Bristol-Myers Squibb and GlaxoSmithKline offset the losses, leaving us with a flat return, while the overall sector performed well in both benchmarks.



As of June 30, 2013

Ten Largest Contributors Return Contribution
Monster Beverage 27.3% 0.43
Google 10.9% 0.33
Akamai Technologies 20.6% 0.33
Cisco Systems 17.2% 0.32
Humana 22.5% 0.29
ASML Holding 17.4% 0.25
Intel 11.9% 0.20
PetSmart 8.1% 0.16
Union Pacific 8.8% 0.16
Johnson & Johnson 6.1% 0.14
Ten Largest Detractors Return Contribution
Apple -9.9% -0.41
Infosys ADR -22.7% -0.39
Trimble Navigation -13.2% -0.31
IBM -10.0% -0.25
Regal-Beloit -20.3% -0.23
Eli Lilly -12.8% -0.22
Qualcomm -8.3% -0.20
Fastenal -10.4% -0.20
Anglo American ADR -25.2% -0.20
Intuit -6.8% -0.18
Top Ten Holdings Portfolio Weight
Apple 3.8%
Google 3.6%
Amgen 3.1%
Adobe Systems 2.8%
Intuit 2.6%
Johnson & Johnson 2.5%
Church & Dwight 2.4%
PepsiCo 2.3%
Qualcomm 2.3%
Cisco Systems 2.3%

Second quarter performance for the Amana Growth Fund improved on a relative basis versus Q1 but continued to trail its benchmarks, dropping 0.5%, while the S&P 500 Index gained 2.9% and the Russell 1000 Growth Index rose 2.1%. Year-to-date the fund has gained 5.5% versus 13.8% for the S&P 500 and 11.8% for the Russell 1000 Growth Index.

Both sector allocation and stock selection negatively affected the Amana Growth Fund's performance for the quarter. From an allocation perspective our underweight exposure to the consumer discretionary sector and overweight position in information technology were most significant as the former outperformed, while the latter lagged. Stock selection was positive in consumer discretionary (and especially strong in consumer staples) but poor in information technology, which exacerbated the allocation effect. Good performance from Akamai, Google and Cisco was offset by weakness among Apple, Infosys, Trimble, and IBM.



As of June 30, 2013

Ten Largest Contributors Return Contribution
Western Digital 24.0% 0.44
VF Corp 15.6% 0.32
MercadoLibre 11.8% 0.31
Doctor Reddy's Labratories ADR 16.9% 0.31
Kalbe Farma 14.6% 0.27
Aspen Pharmacare Holdings 10.6% 0.23
KPJ Healthcare 13.2% 0.23
IOI 13.8% 0.15
Danone ADR 9.6% 0.14
Baidu ADR 7.8% 0.13
Ten Largest Detractors Return Contribution
LATAM Airlines Group ADR -22.3% -0.47
Southern Copper -26.1% -0.45
Infosys ADR -20.8% -0.38
Quimica Y Minera Chile ADR -26.7% -0.37
Impala Platinum ADR -36.1% -0.34
Genomma Lab Internacional -20.3% -0.33
Bangkok Dusit Medical Services -10.0% -0.28
CCR -20.9% -0.27
Gold Fields ADR -32.3% -0.26
Petroleo Brasileiro ADR -17.9% -0.22
Top Ten Holdings Portfolio Weight
MercadoLibre 3.1%
Telekomunikasi Indonesia ADS 2.6%
Bangkok Dusit Medical Services 2.6%
VF Corp 2.3%
Aspen Pharmacare Holdings 2.3%
Western Digital 2.3%
Ford Otomotiv Sanayi 2.2%
Kalbe Farma 2.0%
M. Dias Branco 2.0%
Dr. Reddy's Laboratories ADS 2.0%

In the first quarter of 2013 the Amana Developing World Fund benefited from below benchmark exposure to Brazil, Russia, China, and India, managing a small gain despite negative benchmark returns. In Q2, however, the fund was unable to withstand the sharp downdraft that buffeted emerging markets, losing 3.5% and bringing the year-to-date return to -1.4%. While disappointing, the fund continues to outperform the benchmark as the MSCI Emerging Markets Index cratered 7.9% in second quarter and has shed 9.6% for the first six months through the end of June.

Year-to-date performance has benefited from both allocation and selection, the former being an outgrowth of our bottom-up stock selection rather than a top-down macro strategy. In Q2 allocation was positive in all but two sectors: consumer discretionary and information technology. In both cases we are underweight the sectors relative to the benchmark, while each outperformed (were down less than) the overall index. The negative allocation effect in those two sectors was more than overcome by strong stock selection as the fund enjoyed positive returns from both groups. Western Digital, MercadoLibre (the Latin American eBay), and Chinese search engine Baidu drove our information technology returns, and each appears among our top ten contributors. VF Corp led consumer discretionary gains by rising 15% over the quarter.

As the table at right indicates, materials has been the worst performing sector. Our exposure is in line with the index, and four of our ten largest detractors reside in the sector. Energy, which has performed in a broadly similar fashion, brings the total to five of ten. Another poorly performing sector has been financials. From the perspective of contribution (return and weighting combined) it has been the heaviest anchor on index performance, and our absence from the group helped relative performance.

During the second quarter we visited Thailand, Indonesia and Malaysia, meeting with numerous company management teams and attending an investment conference in Kuala Lumpur, home to our Malaysia research office. We remain convinced that Southeast Asia continues to be the bright spot in a challenging global investment environment with its remarkably strong government, corporate, and personal balance sheets; excellent demographics; and several attractive long-term investment opportunities. The recent downturn provides an opportunity to raise exposure.


¹ Woellert, L. and Jamrisko, M. (2013, June 14). Industrial Output in US Unchanged as Utility Use Drops.
Bloomberg.com, http://www.bloomberg.com/news/2013-06-14/industrial-production-in-u-s-unchanged-as-utility-output-drops.html

² Weisman, J. (2013, July 7). In Congress, Gridlock and Harsh Consequences.
The New York Times, http://www.nytimes.com/2013/07/08/us/politics/in-congress-gridlock-and-harsh-consequences.html

³ Wassener, B. (2013, July 10). China's Trade Data Is Significantly Weaker Than Forecast.
The New York Times, http://www.nytimes.com/2013/07/11/business/global/chinas-trade-data-is-significantly-weaker-than-forecast.html

As of June 30, 2013

Average Annual Total Returns
(Before Taxes)
10 Year 5 Year 3 Year 1 Year 30-Day Yield Expense Ratio
Amana Income 11.40% 6.76% 15.06% 19.64% 1.66% 1.19%
S&P 500 Index 7.30% 7.01% 18.47% 20.60% n/a n/a
Russell 1000 Value Index 7.77% 6.66% 18.54% 25.35% n/a n/a
Amana Growth 10.89% 5.58% 12.25% 9.18% 0.56% 1.11%
S&P 500 Index 7.30% 7.01% 18.47% 20.60% n/a n/a
Russell 1000 Growth Index 7.39% 7.46% 18.69% 17.06% n/a n/a
Amana Developing World Fund¹ N/A N/A 1.26% 3.64% 0.69% 1.54%
MSCI Emerging Markets Index 13.66% -0.43% 3.38% 2.87% n/a n/a

Expense ratios shown are as of the Funds' most recent Prospectus dated July 19, 2013.

Performance data quoted represents past performance, is before any taxes payable by shareowners, and is no guarantee of future results. Current performance may be higher or lower than that stated herein. Performance current to the most recent month-end is available by calling toll-free 888/73-AMANA or visiting our Month-end Returns page. Average annual total returns are historical and include change in share value as well as reinvestment of dividends and capital gains, if any. The 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. Shares of a Fund may only be offered for sale through the Fund's prospectus or summary prospectus.

A Fund's 30-Day Yield is calculated by dividing the net invest income per share during the preceding 30 days by the net asset value per share on the last day of the period. The 30-Day Yield provides an estimate of a Fund's investment income rate, but may not equal the actual income distribution rate.

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 Value Index is a widely recognized index of large-cap value stocks. The Russell 1000 Growth index is a widely recognized index of large-cap growth stocks. 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 Few Words About Risk

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 Month-end Returns page, or call us toll-free at 888/73-AMANA (888-732-6262).

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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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.

The US Dollar Index indicates the general international value of the United States dollar by averaging the exchange rates between the dollar and other major world currencies. The Tokyo Stock Price Index is a capitalization-weighted index of all companies listed on the First Section of the Tokyo Stock Exchange. The UK FTSE 100 Index is a capitalization-weighted index of the 100 most highly capitalized companies traded on the London Stock Exchange. The German Stock Index is a total return index of 30 selected German blue chip stocks traded on the Frankfurt Stock Exchange. The CAC 40 Index is the most widely used indicator of the Paris market and reflects the performance of the 40 largest equities listed in France, measured by free-float market capitalization and liquidity. The FTSE MIB Index consists of the 40 most liquid and capitalized stocks listed on the Borsa Italiana. The Ibex 35 Index comprises the 35 most liquid stocks traded on the Spanish Continuous Market. The Swiss Market Index (SMI) is a capitalization-weighted index of the 20 largest and most liquid stocks of the SPI universe. The Brazil Ibovespa Index is a gross total return index weighted by traded volume and comprises the most liquid stocks traded on the Sao Paulo Stock Exchange. The S&P BSE 500 Index is a free-float weighted index that represents nearly 93% of the total market capitalization on BSE India exchange. The Russian MICEX Index is a capitalization-weighted composite index of the 50 most liquid Russian stocks on the Moscow Exchange. The CSI 300 Index is a free-float weighted index of 300 stocks listed on the Shanghai or Shenzhen Stock Exchanges in China. The Stock Exchange of Thailand Index is a capitalization-weighted index of stocks traded on the Stock Exchange of Thailand. The Philippine Stock Exchange PSEi Index is a capitalization-weighted index of stocks on Philippine Stock Exchange, representing the industrial, properties, services, holding firms, financial, mining and oil sectors. The Jakarta Composite Index is a capitalization-weighted index of all stocks listed on the Indonesia Stock Exchange. The Straits Times Index comprises the top 30 SGX Mainboard listed companies on the Singapore Exchange selected by full market capitalization. All indices shown are widely recognized unmanaged indices of common stock prices which reflect no deductions for fees, expenses or taxes. Investors can not invest directly in the indices.