KEELEY Mid Cap Dividend Value Fund

Investor Class (A) Shares: KMDVX

Institutional Class (I) Shares: KMDIX

Manager Commentary and Attribution [PDF]

Fund Commentary - 2nd Quarter 2019

To Our Shareholders:

For the quarter ended June 30, 2019, the Keeley Mid Cap Dividend Value Fund’s net asset value (“NAV”) per Class A share rose 1.90% compared with a 3.19% gain for the Russell Mid Cap Value Index (RMCV). Year-to-date, the Fund is up 15.83% compared with a 18.02% gain for the benchmark.

Commentary

The market, as measured by the S&P 500 was up 17.4% through the first six months and 3.8% in the second quarter. While the second quarter gain was modest compared to the first quarter, the ending tally obscures the significant ups and downs we saw within the quarter.

The second quarter started off by maintaining the strong momentum it held exiting the first quarter and produced a 3.9% gain in April. That trend halted and reversed as April gave way to May. May saw the market take back all of April’s gains and a little more with a 6.6% decline. Just like the trend reversed when we changed the month in May, it did so again in June. June saw the market leap ahead by 6.9% to finish the quarter strong. The Russell Midcap index followed a similar up-down-up pattern.

So what drove the intra-quarter volatility? It is hard to be too certain, but we think that the continuing uncertainty regarding US trade policy and concerns about the impact this uncertainty is having on the global economy likely account for the ups and downs. A quarter or two ago, we would have added interest rate trends to this list, but we think that question has mostly been answered, at least for now. As we write this, the consensus view has developed that the Fed will cut rates at the end of July with potentially more on tap as the year progresses. This seems reasonable as an insurance cut.

The open questions around trade and the economy have been the bigger drivers recently. As it appears that Washington is making progress toward resolving our trade disputes with China and other countries, the market has tended to rally. When a solution seems further away, the market falters. In April, the market rallied as administration officials made a steady stream of proclamations that suggested that they were making progress. Despite positive messages, President Trump proposed additional tariffs on $300 billion of Chinese goods in early April. Markets reacted negatively to this development. Toward the end of the month, the President also threatened Mexico with new tariffs to try to gain assistance in fighting illegal immigration into the US.

June brought positive developments on trade as the tariffs on Mexico were shelved after it deployed troops to try to control its southern borders more effectively. In addition, the tone from the administration softened during June as the G20 meeting approached. At that meeting, President Trump and China’s President Xi agreed to a cease-fire in the year-old trade war to give the two countries a chance to reach a long-term agreement. We’ll see how things develop over the next several months, but it does not appear that we will get the quick resolution to this dispute that we had expected a few quarters ago.

While the de-escalation of trade tensions is a positive, the uncertainty has taken a toll on business confidence around the world. When we look at measures of business in a wide number of countries, we see it has deteriorated in all of them (USA, China, France, Germany, Italy, Australia and Japan). What remains to be seen is how these measures trend if we continue to get progress in trade negotiations. Are the slowdowns we are seeing just pauses to assess a developing situation? Or is it the beginning of something worse? Our inclination is that it is the former, but our level of confidence in this view is less than it was at the beginning of the year.

Portfolio Results

The Mid Cap Dividend Value Fund lagged in the quarter. This was discouraging in light of the fact that the Fund had two companies acquired during the quarter at significant premiums. This was offset by weak performance in some of the interest-sensitive sectors where our bias has been to own companies that would benefit from rising interest rates. With rates unlikely to go higher, at least in the near-term, we are reducing that tilt.

When we disaggregate relative performance into its components of Sector Allocation and Stock Selection, Stock Selection once again dominated and accounted for almost all the shortfall in relative performance. The Selection impact was positive in two sectors, neutral in two more, and negative in the other seven. The highlight was strong performance from the Fund’s Information Technology stocks, while Utilities, Financials, and Consumer Discretionary lagged the most.

Gains in the Technology sector were fueled by the acquisition of two of the Fund’s holdings: Cypress Semiconductor and Total System Services. These two stocks were also the two largest contributors to Fund performance so we will discuss them further below.

Materials was the other sector where Fund performance was materially better than that of the index. This was mostly driven by good stock gains in Vulcan Materials. Franco-Nevada, a more recent addition to the portfolio, also helped a little. The company invests in royalty streams from mining and oil production companies. We used the weakness in gold earlier in the year to add the stock to the portfolio and have been pleased so far.

The Utilities sector was the largest detector for the Fund during Q2. The weakness was concentrated in two stocks: NRG Energy and National Fuel Gas. Both stocks tend to be more sensitive to energy prices than the average utility. NRG is an independent power producer and sells some of its power based on electricity prices that can fluctuate. National Fuel, a natural gas distribution company, has significant natural gas production and pipeline businesses. Falling prices for natural gas can hurt its stock.

Financials, one of the leading sectors for the benchmark in the quarter, was the second biggest relative detractor for the Fund. The Fund’s life insurance stocks performed very well with double-digit gains in Ameriprise, Voya, and Lincoln National. Sector performance was held back, however, by holdings in asset-sensitive banks such as BOK Financial and Synovus Financial as well as trading firm Virtu Financial which performs better in periods of volatility.

The Fund’s investments in the Consumer Discretionary sector lagged the sector overall. While most of the underperformance can be attributed to Foot Locker (which we discuss below), Extended Stay America and Brunswick Corporation also held back performance. The former fell on the perception of delays in the company’s plans to split into two separate public companies while the latter was victim both to tariffs and to poor weather which delayed the boating season.

Industrials was the strongest sector in the Russell Midcap Value index and we failed to keep up in the sector despite performance that was better than the overall index. This was mostly due to double-digit declines in GrafTech and AO Smith. The former fell on weakness in steel prices while the latter fell on controversy related to its China operations.

The top three contributors in the quarter were:

Cypress Semiconductor (CY - $22.24 – NASDAQ) is a maker of semiconductors used in three distinct market segments: Internet of Things (IoT), high performance memory, and Universal Serial Bus connectors (USB). The company has done a nice job over the last several years expanding into new market segments, streamlining its cost structure, and rolling out new products. This has shown up in better financial results, but not as much in the stock. During the quarter, the hard work of the company and the patience of investors was rewarded when the company received a $23.85 all cash offer from Infineon.

Total System Services (TSS - $128.27 – NYSE) is a leading processor of credit and debit card transactions for both banks and merchants. TSS has been a long-time holding within the Keeley dividend funds as it was originally owned in the Keeley Small Cap Dividend Value Fund when it launched in late-2009. Through growth in electronic payments, marketshare gains, and strategic acquisitions, the company grew substantially. These efforts are being capped off (or more accurately continued under a different banner) through its acquisition for stock by Global Payments (GPN – NYSE). We are kind of sorry to see this one go.

Air Lease Corporation (AL - $41.34 – NYSE) is one of the leading lessors of commercial aircraft. Because this type of financing is more common in countries with less developed capital markets and banking systems, 95% of Air Leases carrier customers are outside the US. This tends to make Air Lease’s stock more sensitive to sentiment about global trade and the stability of emerging markets. The improving sentiment on global trade probably heled the stock in the quarter. In addition, Air Lease reported better than expected first quarter earnings despite some disruption from the inability of Boeing and Airbus to deliver aircraft on schedule. It remains an inexpensive stock with much of its near-term growth to come from as aircraft it has already leased out are delivered.

The three largest detractors in the quarter were:

Foot Locker (FL - $41.92 – NYSE) is leading athletic shoe and apparel retailer. The company’s stock fell this past quarter after posting disappointing first-quarter earnings, reducing full-year earnings guidance, and issuing below-consensus same-store sales guidance for the second quarter.  Foot Locker also bought back little stock in the first quarter, which pressured earnings, as share buybacks are part of its earnings growth algorithm.  Despite its less-than-stellar earnings release, Foot Locker has several quarters ahead with easy same-store sales comparisons.  Also, the company reaffirmed its guidance of mid-single-digit same-store sales growth for the full year. Furthermore, the turnaround at Nike, which is Foot Locker’s most important partner, continues to progress nicely.  Shares remain inexpensive, particularly given the strong longer-term targets that management issued at the March 28 analyst day.

NRG Energy (NRG - $35.12 – NYSE) is an independent producer of electricity with a portfolio of 44 Gigawatts (GW) of conventional generation as well as a seller of retail energy in deregulated markets. The stock underperformed in the quarter despite reporting solid results that exceeded analyst estimates across the board.  The stock was hit on concerns about power prices in the Texas market which is being partially fueled by NRG restarting its Gregory Plant.  Management continues to express confidence in the attractiveness of the Texas market and the near-term fundamental outlook by reaffirming full year guidance.  The company continues to be aggressive buying back stock completing $500 million of the $1 billion share repurchase program announced on the 4th quarter call.

SM Energy (SM - $12.52 – NYSE) is an oil and gas exploration company with its primary operations centered in the Permian basin. While Q1 production results were in line with expectations, SM reported Q1 capex that was greater than analyst estimates which suggested some degradation in the economics of its operations. This was perceived negatively despite the company warning analysts that 60% of its capex budget would be spent in the first half of the year. The decline in oil prices in May and early June also led to a broad industry pullback in E&P stocks. This was more severe in companies with high financial leverage like SM. Recently, SM preannounced better than expected production for Q2 and we believe it has a credible path to generating free cash flow next year. If we are right, its current valuation is too low. 

Conclusion

In conclusion, thank you for your investment in the KEELEY Mid Cap Dividend Value Fund. We will continue to work hard to justify your confidence and trust.

KEELEY Mid Cap Dividend Value Fund Standardized Performance Information

The performance reflected herein is for the Class A shares without load. "Without load" does not reflect the deduction of the maximum 4.50% sales fee (load), which reduces the performance quoted. Past performance does not guarantee future results. The performance data quoted represents past performance and current returns may be lower or higher. The investment return and principal will fluctuate so that an investor's shares, when redeemed, may be worth more or less than the original cost. Most current performance data may be obtained at www.KeeleyFunds.com.

The Fund's adviser has contractually agreed to waive a portion of its management fee or reimburse the Fund if total ordinary operating expenses during the current fiscal year as a percentage of the Fund's average net assets exceed 1.29% for Class A Shares and 1.04% for Class I Shares. The waiver excludes expenses related to taxes, interest charges, dividend expenses incurred on securities that a Fund sells short, litigation and other extraordinary expenses, brokerage commissions and other charges relating to the purchase and sale of portfolio securities. The waiver is in effect through February 28, 2020.

This summary represents the views of the portfolio managers as of 06/30/19. Those views may change, and the Fund disclaims any obligation to advise investors of such changes. For the purpose of determining the Fund's holdings, securities of the same issuer are aggregated to determine the weight in the Fund. Portfolio holdings are subject to change without notice and are not intended as recommendations of individual securities.

Risks: Smaller and medium-sized company stocks are more volatile and less liquid than larger, more established company securities. Additionally, dividend paying investments may not experience the same price appreciation as non-dividend paying investments. Portfolio companies may also choose not to pay a dividend or it may be less than anticipated.

Prior to investing, investors should carefully consider the Fund's investment objective, risks, charges and expenses as detailed in the prospectus and summary prospectus. To obtain a prospectus or a summary prospectus, call us at 800.533.5344 or visit www.keeleyfunds.com. The prospectus/summary prospectus should be read carefully before investing.

Performance attribution is commonly used to measure the quality of the separate decisions that go into the management of an investment portfolio compared to a benchmark index. This analysis tries to isolate the effect and measure the return contribution of market allocation, which analyzes the positive/negative impact of a portfolio's allocation to groupings such as geographic regions or market sectors, and stock selection, which analyzes the positive/negative impact of the portfolio manager's security ownership and weighting decisions within a wider grouping. The performance attribution data in this quarterly commentary was prepared by Keeley-Teton Advisors, LLC ("Keeley-Teton") using the following constraints: (1) Fund portfolio holdings are as of the beginning of each day; index constituents are as of the end of the day. That means that the Fund's holdings are not included until the day after acquisition (when it is included in the portfolio as of the beginning of the next business day), and a portfolio holding that is sold is included in the analysis through the end of the day on which it is sold, and that the values at which securities are included in the analysis are the values as of the beginning of the day. For the index, securities are included at their values at the end of the day. (2) The securities values used in the analysis are the prices used by Keeley-Teton Advisors, LLC ("Keeley-Teton") in its internal records for the Fund and the prices used by the index provider for the benchmark index. If a price from either of those sources is unavailable, pricing information from FactSet is used. Pricing information from the index provider or from FactSet may differ from the pricing information used by Keeley-Teton Advisors, LLC ("Keeley-Teton"). (3) For the purpose of assigning portfolio security holdings to a particular sector and/or industry, Keeley-Teton Advisors, LLC ("Keeley-Teton") assigns the securities in accordance with the sector and industry classifications of the Global Industry Classification Standard (GICS) developed by MSCI and Standard and Poor's (to the extent available) as a primary source and FactSet (to the extent available) as a secondary source for this information. In the event Keeley-Teton Advisors, LLC ("Keeley-Teton") securities information vendors do not classify a security's issuer to a particular sector or industry or if the published classification appears to be incorrect, Keeley-Teton Advisors, LLC ("Keeley-Teton") may classify the security's issuer according to its own judgment, using other securities information vendors, the company description and other publicly available information about the company's peer group. Sector and/or industry classifications may change over time. The attribution information provided in this commentary includes summaries of attribution by market sector. Attribution is not precise and should be considered to be an approximation of the relative contribution of each of the sectors considered. The information on performance by sector reflects the aggregated gross return of the Fund's securities. Contributions to the Fund's performance by sector (computed as described above) were compared against the contributions to the aggregate return of the stocks comprising the index, by sector, as reported by FactSet Databases. Holdings returns for this commentary are calculated as total returns, which reflect any dividends or income earned during the period. Prior to 9/30/16, holdings returns were based upon price percentage change.

The Global Industry Classification Standard ("GICS") was developed by and is the exclusive property and a service mark of MSCI Inc. ("MSCI") and Standard & Poor's, a division of The McGraw-Hill Companies, Inc. ("S&P") and is licensed for use by Keeley-Teton Advisors, LLC ("Keeley-Teton"). Neither MSCI, S&P nor any third party involved in making or compiling the GICS or any GICS classifications makes any express or implied warranties or representations with respect to such standard or classification (or the results to be obtained by the use thereof), and all such parties hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability and fitness for a particular purpose with respect to any of such standard or classification. Without limiting any of the foregoing, in no event shall MSCI, S&P, any of their affiliates or any third party involved in making or compiling the GICS or any GICS classifications have any liability for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of the possibility of such damages.

Data provided for performance attribution are estimates based on unaudited portfolio results. Performance contributors and detractors were not realized gains or losses for the Fund during the quarter. Market performance presented solely for informational purposes. The S&P 500 Index is designed to act as a barometer for the overall U.S. stock market. The index is unmanaged, consisting of 500 stocks that are chosen on the basis of market size, liquidity, and industry grouping. The S&P 500 is a market value weighted index with each stock’s weight in the index proportionate to its market value. The Russell 2000® Value Index is an unmanaged index that measures the performance of the small-cap value segment of the U.S. equity universe and includes those Russell 2000 companies with lower price-to-book ratios and lower forecasted growth values. The Russell 2000® Index is an unmanaged index that measures the performance of the smallest 2,000 companies by market capitalization of the Russell 3000® Index. The Russell 2500® Value Index is an unmanaged index that measures the performance of the small to mid-cap value segment of the U.S. equity universe and includes those Russell 2500 companies with lower price-to-book ratios and lower forecasted growth values. The Russell 2500® Index is an unmanaged index that measures the performance of the 2,500 smallest companies by market capitalization of the Russell 3000® Index. The Russell Midcap® Value Index is an unmanaged index that measures the performance of the mid-cap value segment of the U.S. equity universe and includes those Russell Midcap companies with lower price-to-book ratios and lower forecasted growth values. The Russell Midcap® Index is an unmanaged index that measures the performance of the 800 smallest companies by market capitalization of the Russell 1000® Index. The Russell 1000® Index is an unmanaged index that measures the performance of the 1,000 largest companies by market capitalization of the Russell 3000® Index. The Russell 3000® Value Index is an unmanaged index that measures the performance of the broad value segment of the U.S. equity universe and includes those Russell 3000 companies with lower price-to-book ratios and lower forecasted growth values. The Russell 3000® Index is an unmanaged index that measures the performance of the 3,000 largest U.S. companies by market capitalization. These Index figures do not reflect any deduction for fees, expenses or taxes, and are not available for direct investment. Securities in the Fund may not match those in the indexes and performance of the Fund will differ. The KEELEY All Cap Value Fund, KEELEY Small-Mid Cap Value Fund, KEELEY Small Cap Value Fund, KEELEY Small Cap Dividend Value Fund, and KEELEY Mid Cap Dividend Value are distributed by G.distributors, LLC.

The top ten holdings of KMDVX as of March 31, 2019 include Total System Services, Inc. (2.48%), Vulcan Materials Company (2.32%), Cypress Semiconductor Corporation (2.10%), ITT, Inc. (2.06%), FMC Corporation (2.03%), Air Lease Corporation Class A (2.01%), Oshkosh Corp (1.89%), Hudson Pacific Properties, Inc. (1.73%), BWX Technologies, Inc. (1.72%), Brixmor Property Group, Inc. (1.72%).

Investors should carefully consider the investment objectives, risks, charges and expenses of the Fund before investing. The prospectus, which contains more complete information about this and other matters, should be read carefully before investing. To obtain a prospectus, please call 800-422-3554 or visit keeleyfunds.com.