Stocks rallied sharply in the fourth quarter, paring deep third-quarter losses and pushing the market to an essentially flat finish for the year. Most of the quarter's gains occurred in October, as investors hoped that European leaders would act decisively to stem the intensifying sovereign debt crisis. Stronger-than-expected economic data and good corporate earnings supported equities, but market volatility remained high through the end of the year, as European leaders made only incremental progress in addressing the debt crisis rather than bold, sweeping decisions. Concerns about the U.S. fiscal situation also lingered, as a bipartisan congressional super committee failed to reach a deficit reduction agreement, which could result in automatic federal budget cuts starting in January 2013.
Performance The Equity Income Fund returned 12.05% in the quarter compared with 11.82% for the S&P 500 Index and 12.24% for the Lipper Equity Income Funds Index. For the 12 months ended December 31, 2011, the fund returned −0.72% versus 2.11% for the S&P 500 Index and 2.66% for the Lipper Equity Income Funds Index. The fund's average annual total returns were −0.72%, −0.96%, and 4.07% for the 1-, 5-, and 10-year periods, respectively, as of December 31, 2011.The fund's expense ratio was 0.70% as of its fiscal year ended, December 31, 2010.
Current performance may be lower or higher than the quoted past performance, which cannot guarantee future results. Share price, principal value, and return will vary and you may have a gain or loss when you sell your shares.
The materials sector provided a boost to performance due to both stock selection and our heavy allocation to the group. One of the portfolio's largest positions is in the paper and forest products industry. This largely cyclical industry did well despite headwinds from increased raw materials costs and a sluggish economy. The portfolio's health care holdings were also beneficial. We favored pharmaceuticals since they tend to have strong cash flows and attractive dividends and are usually adept at finding ways to allocate capital and fill in pipelines. Stock selection in the information technology sector weighed on the fund's relative results. We generally view the information technology sector as cyclical, with many companies operating at different stages within their industry's own specific cycle, and we added to the sector during the quarter.
While the level of uncertainty is high, we remain cautiously optimistic. We do not believe the U.S. economy is heading into another recession; rather, the most likely outcome in our view is a "growth recession," characterized by low economic growth and high unemployment. In our view, the increased volatility in the equity market reflects the lack of conviction among investors as the European sovereign debt crisis and the widening U.S. budget deficit remain unresolved. Despite these concerns, we believe investors are pursuing an irrational quest for safety that has created opportunities for long-term equity investors, as high-quality companies with cyclical exposure and attractive dividend yields have traded down to attractive levels. We believe most of these companies are well positioned to persevere through difficult times