The Japan Fund

Portfolio Manager Commentary as of 12/31/13
The Fund recorded a return of 2.09% in terms of Net Asset Value (NAV) per share during the quarterly review period from September 30, 2013 to December 31, 2013. Corresponding returns for the TOPIX index (the "benchmark") with gross dividends reinvested and for the MSCI Japan Index with gross dividends reinvested were both 1.99% in U.S. dollar terms. Therefore, the Fund outperformed the benchmark and the MSCI Japan Index by 0.10 % (10 basis points).

The Japanese equity market extended its rally during the review period. The TOPIX (including dividends) climbed 9.1% in local currency terms and hit a year-to-date high. Japanese companies revised their earnings guidance upwards at the announcement of the second quarter of 2013 results. The latest forecast in December shows that recurring profits of major Japanese companies could grow by 30% year-over-year (yoy) for fiscal year (FY) 2013 ending March 31, 2014 and could rise by a further 9% (yoy) for FY2014. On the other hand, the Japanese Yen has reached its weakest level for five-years relative to the U.S. dollar. The U.S. Federal Reserve’s move toward the gradual normalization of monetary policy, or the tapered withdrawal of its quantitative easing operations, and expectations that the Bank of Japan (BOJ) will extend the pace of its monetary base expansion from the existing JPY 60 to 70 trillion per year in 2014 have together pushed the Yen lower. The Yen depreciated against the U.S. dollar by 7.0% during the review period. Consequently, the TOPIX (including dividends) only advanced by around 2% in U.S. dollar terms, as noted above.

The Fund seeks long-term capital appreciation derived not only from value stocks but also from growth stocks. Considering this objective, Nomura Asset Management utilizes a "multi-manager" approach to managing the Fund’s investments. The Fund’s investments are initially allocated to three portfolio management teams who are responsible for the large cap value, large cap growth, and small cap blend strategies respectively. Decisions regarding the allocation of assets to a particular style are made by a dedicated asset allocation committee. Through this style diversification, Nomura Asset Management aims to capture the broader investment opportunities as well as ensuring that the portfolio is well diversified.

In terms of style allocation, we have maintained the existing strategy throughout this review quarter. At the end of December 2013, we allocated 52.5% of the equity position to large cap value, 37.5% to large cap growth, and 10.0% to the small cap blend strategy. The total equity portfolio consisted of 296 stocks at the end of December 2013. The five largest sector weightings are Industrials, Consumer Discretionary, Financials, Information Technology, and Materials. Within the top five sectors, the Fund held overweight exposures relative to the benchmark in the Industrials, Information Technology, and Materials sectors, and it held underweight exposures to the Consumer Discretionary and Financials sectors. The Fund’s outperformance of 0.10% against the benchmark for the quarter was the result of positive contributions from stock selection, while the style allocation effect was slightly negative.

While Japan’s real gross domestic product (GDP) growth rate has slowed to 1.1% quarter-on-quarter (qoq, annualized) in the third quarter of 2013 from the rapid pace of 4.5% (first quarter of 2013) and 3.6% (second quarter of 2013) seen earlier this year, the income environment for the Household sector has shown signs of gradual improvement, such as rising overtime payments and higher year-end bonuses at larger companies. Including the demand rush ahead of the consumption tax hike from 5% to 8% in April 2014, personal consumption could accelerate further in the first quarter of 2014. Afterwards, although Japan’s economy could dip temporarily due to the tax rate hike, any stagnation is expected to be limited and short lived thanks to the expansionary fiscal measures amounting to about 5 trillion yen ($51 billion, 1% of Japan’s Nominal GDP) and a recovery of capital investment in the corporate sector. We expect the Japanese economy to continue expanding, with a +1.8% (yoy) real GDP growth rate in calendar year (CY) 2014, following +1.7% (yoy) in CY2013.

Japan’s core inflation rate (consumer prices excluding fresh food) rose to 1.2% (yoy) in November 2013, the highest in five years. The Bank of Japan increased its purchases of Japanese bonds in April 2013 and maintained a substantial pace of monetary expansion, with a stated aim of lifting the core annual inflation rate to 2%. The aim is to generate sustained price gains that may eventually feed through into high wages, then into stronger spending by consumers who are no longer able to defer purchases as they wait for prices to fall. Ultimately, this may result in more vigorous investment and hiring by Japanese business. When the consumption tax hike comes into effect, the BOJ will present its balance sheet outlook for the end of 2015, and it is likely to emphasize the continuation of existing easing measures. Moreover, the BOJ is expected to step up its quantitative easing operations in 2014, such as boosting the pace of monetary base expansion from the existing JPY60-70 trillion per year to JPY90-100 trillion per year. This could help to improve the likelihood of achieving the inflation target of 2%. Currently, more than 50% of all listed Japanese companies have net cash on their balance sheets, which is much higher than the 20-30% typical in other countries. Aggressive monetary policy, flexible fiscal policy and Prime Minister Shinzo Abe’s promises of wide-raging structural reforms could contribute to reversing the drag on business and consumer spending induced by deeply embedded deflationary expectations.

Equity valuations in the Japanese stock market remain close to their historically low range. The price-to-earnings ratio (PER) based on current earnings forecasts for FY2014 is 15.1 times and the Price-to-book value ratio (PBR) is 1.43 times at the end of December 2013. In our assessment, Japan’s equity market valuations are still depressed and the growth potential of Japanese companies is not being discounted fairly due to the prolonged deflationary economic circumstances. The more convinced investors become that Japan can overcome deflation, the more fairly equity markets can discount the growth potential of Japanese companies. In our view, a return to normal equity valuations has only just started.

We believe the Japanese equity market is attractive from a long-term investment perspective, and in our judgment, there are many attractive stocks available in this market. We will maintain a well diversified Fund and select the most attractive candidates from among the value stocks, growth stocks and small-capitalization stocks using our extensive equity research capabilities.

This material contains the current opinions of the Fund's manager, which are subject to change without notice. It should not be considered investment advice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. There is no guarantee that these investment strategies will work under all market conditions, and each investor should evaluate their ability to invest for the long-term. Past performance is not a guarantee of future results. There is a risk of loss. Performance shown represents that of the Fund's Class A shares. Performance does not reflect any applicable front-end sales charge or redemption fees.

The Tokyo Stock Exchange Price Index (TOPIX) is an unmanaged capitalization weighted measure (adjusted in U.S. Dollars) of all shares listed on the first section of the Tokyo Stock Exchange. The MSCI Japan Index is a free-float weighted index that includes every listed security in the Japanese market. One cannot invest directly in an index. Price to earnings (PER) ratio is the valuation of a company's current share price relative to company earnings. Price to book value (PBR) is a ratio used to compare a stock's market value to its book value. Book value is the total asset of a company minus total liability.

The MSCI information contained in this material may only be used for your internal use, may not be reproduced or redisseminated in any form and may not be used as a basis for or a component of any financial instruments or products or indices. None of the MSCI information is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such. Historical data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction. The MSCI information is provided on an "as is" basis and the user of this information assumes the entire risk of any use made of this information. MSCI, each of its affiliates and each other person involved in or related to compiling, computing or creating any MSCI information (collectively, the "MSCI Parties") expressly disclaims all warranties (including, without limitation, any warranties of originality, accuracy, completeness, timeliness, non-infringement, merchantability and fitness for a particular purpose) with respect to this information. Without limiting any of the foregoing, in no event shall any MSCI Party have any liability for any direct, indirect, special, incidental, punitive, consequential (including, without limitation, lost profits) or any other damages.

Effective October 16, 2013, all of the Funds of Nomura Partners Funds, Inc. were closed to purchases and exchanges. Nomura advised the Board that it planned to exit the U.S.A. retail mutual fund business. Consequently, the Board has decided to close the Funds to purchases and exchanges while it considers the best course of action for each of the Funds. The Board will consider the best interests of the investors in each of the Funds and may decide to liquidate, merge, assign the advisory contract or to take another course of action for one or more of the Funds. Nomura has advised the Board that it will continue to manage the Funds during the transition and will take reasonable steps, in consultation with the Board, to ensure that investors are not adversely affected during the transition.


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