Janus Henderson Adaptive Global Allocation Fund (unaudited)

possibility of an increase in real rates leading to a sell-off in bonds. The market today is too focused on inflation fears. Yet, fixed income markets are already pricing in normalized inflation values with 10-year U.S. break-even inflation, for example, above 2.1%. Real rates, however, are still quite low in some major developed markets, with Germany being the key example. Inflation was the first step of the path towards normalization; real rates are the second – potentially more painful – step as they impact prices of all asset classes, from equities to commodities.

Investors must also be acutely aware of how rising interest volatility will impact the term premium of bonds. Thought rate volatility has not increased, when it does, investors will demand a greater risk premium to lend for longer tenors, and the term premium, which has eluded investors for the past several years should return.

How high interest rates head is a fear of many. But the real fear should be not where they head but how they get there. A violent chaotic path should breed fear, not a measured controlled path.

Investors must get conditioned to more volatile markets. The reason for this is the linkage between interest rates and volatility. Rates and volatility are tightly linked as both are sources of carry (a measure of excess income generated by the Fund’s holdings). Higher rates should lead to higher volatility as the historical source of carry for investors – bonds – finally start to offer more attractive yields, given steps by global central banks to normalize monetary policy. Other sources of carry, including volatility sales, will also have to offer more attractive relative yields to remain competitive. Higher Treasury yields are now luring investors away from selling volatility, a strategy that has been a factor in suppressing large price swings in stocks and bonds in recent years. While we have seen equity volatility increase, rate volatility should ultimately follow as central banks continue to remove monetary accommodation.

While the downside to every asset class has increased due to higher volatility, we believe that select emerging market (EM) equities such as Brazil appear particularly attractive relative to the alternatives. We see both a healthy US consumer and a stronger US dollar, which boasts competitiveness of EM exports. In eras past, a strong US dollar has derailed the public debt market of EM countries as US dollar debt swelled. But EM countries now are much more prudent in the currency risk they take when funding their liabilities, so a stronger US dollar can improve competitiveness without derailing balance sheets. A further tailwind from higher commodities prices stands to benefit major emerging markets that are significant exporters of raw materials.

During the period, with the aim of hedging certain exposures, the Fund used a series of derivative instruments including options, futures, swaps and forward exchange contracts. Since many of the derivatives we use, namely futures and certain options, are liquid, the Fund utilizes them as low-cost instruments to dynamically adjust exposures to desired targets. Other derivatives, including swaps and forward contracts, are also used to adjust portfolio exposures as conditions merit in a timely and/or cost-effective manner. This may lead to short positions in futures when exposures need to be adjusted downward. For the period, the Fund’s derivative exposure contributed to performance.

Please see the Derivative Instruments section in the “Notes to Financial Statements” for a discussion of derivatives used by the Fund.

OUTLOOK

The Fund is designed to operate at a level of risk consistent with the long-term average downside risk of a 60/40 portfolio. If the risk in markets today is much higher than average, then the Fund allocations will be adjusted away from 60/40 to an allocation that seeks to provide the targeted risk level.

While our signals over the past year consistently pointed to equities as being attractive, in the period’s closing weeks, our proprietary options-based tail risk model signals no compelling opportunities across asset classes with none offering large upside potential. The trade-off between the level of expected upside risk versus the level of expected downside risk is not particularly attractive for equities or any other asset class. However, on the bright side, we also do not see significant downside risk to stocks, suggesting that we aren’t near a left-tail tipping point just yet.

Thank you for investing in Janus Henderson Adaptive Global Allocation Fund.